[Federal Register Volume 62, Number 37 (Tuesday, February 25, 1997)]
[Notices]
[Pages 8467-8469]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-4611]


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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-38308; File No. SR-Amex-96-44]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change and Amendment Nos. 1 and 2 Thereto by the American Stock 
Exchange, Inc. Relating to the Listing and Trading of Options on 
Exchange-Traded Fund Shares

February 19, 1997.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on November 
21, 1996, the American Stock Exchange, Inc. (``Amex'' or ``Exchange'') 
filed with the Securities and Exchange Commission (``Commission'') the 
proposed rule change as described in Items I, II, and III below, which 
Items have been prepared by the Amex. On January 16, 1997, the Exchange 
filed Amendment No. 1 to the proposal.\1\ On February 19, 1997, the 
Exchange filed Amendment No. 2 to the proposed rule change.\2\ The 
Commission is publishing this notice to solicit comments on the 
proposed rule change and Amendment Nos. 1 and 2 from interested 
persons.
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    \1\ In Amendment No. 1, the Exchange states: (1) that the 
proposal is limited to the listing and trading of options on those 
exchange-traded fund shares that have received approval from the 
Commission; and (2) the Exchange will list and trade options on 
exchange-traded funds shares that hold foreign country securities 
only if: (i) the Exchange has a market information sharing agreement 
with the primary exchange for each of the securities held by the 
fund, or (ii) the fund is classified as a diversified fund as that 
term is defined by Section 5(b) of the Investment Company Act of 
1940 and the securities held in the fund are issued by issuers based 
in five or more countries. See letter from Claire P. McGrath, 
Managing Director and Special Counsel, Derivative Securities, Amex, 
to Ivette Lopez, Assistant Director, Office of Market Supervision 
(``OMS'', Division of Market Regulation (``Division''), Commission, 
dated January 15, 1997. (``Amendment No. 1'').
    \2\ Amendment No. 2 supersedes and replaces Amendment No. 1 to 
the extent that it modifies proposed Commentary .06(4) to state that 
the Amex will list and trade options on exchange-traded fund shares 
that hold foreign country securities only if: (i) the exchange has 
an effective surveillance sharing agreement with the primary 
exchange for each of the securities held by the fund, or (ii) the 
fund is classified as a diversified fund as that term is defined by 
Section 5(b) of the Investment Company Act of 1940 and the 
securities held in the fund are issued by issuers based in five or 
more countries. The Exchange defines an ``effective surveillance 
sharing agreement'' as an agreement that would permit the Exchange 
to obtain trading information relating to the securities held by the 
fund including the identity of the customers transacting in those 
securities. See letter from Claire P. McGrath, Managing Director and 
Special Counsel, Amex, to Ivette Lopez, Assistant Director, OMS, 
Division, Commission, dated February 18, 1997 (``Amendment No. 2'').
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Amex proposes the adoption of rules to permit the trading of 
options on securities representing interests in open-end, exchange-
listed investment companies that hold securities constituting or based 
on an index or a portfolio of securities.
    The text of the proposed rule change is available at the Office of 
the Secretary, the Amex, and at the Commission.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, the Exchange included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. The Amex has prepared summaries, set forth in sections 
A, B, and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    The purpose of the proposed rule change is to provide for the 
trading of options on exchange-listed securities representing interests 
in open-end unit investment trusts or open-end management investment 
companies that hold securities based on an index or a portfolio of 
securities (referred to hereinafter as ``Exchange-Traded Fund Shares'' 
or ``Fund Shares'').\3\
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    \3\ Currently, the Exchange trades unit investment trust 
securities known as Portfolio Depositary Receipts <SUP>SM (``PDRs'') 
based on the Standard & Poor's 500<Register> Composite Stock Price 
Index and the Standard & Poor's MidCap 400 Index <SUP>TM. In 
addition, the Exchange trades Index Fund Shares which are issued by 
an open-end management investment company consisting of seventeen 
separate series known as World Equity Benchmark Shares <SUP>SM 
(``WEBS'') based on seventeen foreign equity market indexes. PDRs 
and WEBS are listed on the Amex pursuant to Rule 1000, et seq. and 
Rule 1000A et seq., respectively, and trade like shares of common 
stock.
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    As noted above, a characteristic of all Exchange-Traded Fund Shares 
is that they are open-ended, and new shares may be created on any 
business day at a cost related to the net asset value in a transaction 
with the fund itself. The ability of the seller of a call on any of 
these Fund Shares to deliver upon exercise will thus be a function of 
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[[Page 8468]]

availability of shares from the fund itself (which is itself a function 
of the creation mechanism and the shares underlying the index or 
portfolio) and not of the bid/ask spread, trading volume, or the 
portfolio size of the fund. Exchange-Traded Fund Shares are also 
redeemable on any business day, at a price related to the net asset 
value. Consequently, the ability to liquidate shares received on the 
exercise of a put will be a function of the ability to redeem the 
shares from the fund (which is itself a function of the creation 
mechanism and the shares underlying the index or portfolio), not the 
bid/ask spread, trading volume, or the portfolio size of the fund.
    Options on Exchange-Traded Fund Shares are proposed to be traded on 
the Exchange pursuant to the same rules and procedures that apply 
generally to trading in options on equity securities or indexes of 
equity securities. However, the Exchange proposes some different 
listing criteria for options on Exchange-Traded Fund Shares and intends 
to have each option contract cover 1000 Exchange-Traded Fund Shares. 
Also, reflecting the open-ended nature of the Fund Shares, the Exchange 
is not proposing any position or exercise limits to apply to options on 
Exchange-Traded Fund Shares.
    The listing standards proposed for options on Exchange-Traded Fund 
Shares are set forth in proposed Commentary .06 under Exchange Rule 915 
and in proposed Commentary .08 under Exchange Rule 916. These 
standards, which provide for the listing of European-style options 
only, are substantially the same as those that apply to the initial and 
continued listing of the Fund Shares pursuant to Exchange Rules 1002 
and 1002A. Conforming the listing standards for options on Exchange-
Traded Fund Shares to the listing standards that apply to Fund Shares 
themselves will assure that whenever there is trading in the underlying 
Fund Shares, options on these same Fund Shares will also be available. 
The Exchange believes that the contemporaneous availability of both 
options and Fund Shares is particularly necessary for Fund Shares on 
indexes or portfolios of securities when there already exist Fund 
Shares based on the same or a similar index or portfolio of securities. 
It is expected that Fund Shares with underlying options will be more 
useful to investors seeking to modify their risk in such Fund Shares, 
the underlying indices, markets or market segments. Demand for and 
creation of Fund Shares with overlying options is likely to exceed 
demand for and creation of Fund Shares without overlying options on the 
same or a similar index or portfolio of securities. Correspondingly, a 
new fund without options will have a difficult time competing with an 
established fund with overlying options. A new fund based on a Japanese 
index, for example, would encounter major obstacles in achieving a 
reasonable size when in competition with an established fund that has 
overlying options if the new fund does not have options. The Exchange's 
proposed listing standards provide that if a particular series of 
Exchange-Traded Fund Shares should cease to trade on an exchange or as 
national market securities in the over-the-counter market, there will 
be no opening transactions in the options on the Fund Shares, and all 
such options will trade on a liquidation-only basis.
    The Amex believes the availability of these options will be 
beneficial to investors, since options will permit investors to adjust 
the risks and rewards of investing in the unit investment trust or fund 
to their individual needs. Options also will add depth and liquidity to 
the market for Exchange-Traded Fund Shares by permitting market makers 
in that market to hedge the risks of their market-making activities 
efficiently. Options traders and market makers, in turn, will obtain 
liquidity from the market in Fund Shares and the market in the 
underlying securities represented in the portfolio.
    Reflecting the open-ended nature of Exchange-Traded Fund Shares, 
maintenance or continued listing standards for these Fund Shares do not 
include criteria based on either the number of Fund Shares outstanding 
or trading volume.\4\ Similarly, the Exchange believes it is neither 
necessary nor appropriate to apply traditional position or exercise 
limits to Fund Share options, and it is proposing to amend Rules 904 
and 905 to provide that these limits shall not ordinarily apply. Since 
it should always be possible to create more Fund Shares at a cost 
related to their net asset value by tendering a specified in-kind 
deposit of the securities that constitute the underlying index or 
portfolio and/or cash, there is no meaningful limit on the available 
supply underlying Fund Shares. The diversification inherent in the 
satisfaction of regulated investment company requirements for pass-
through tax treatment of dividends and other income insures that the 
market value of the shares underlying any fund will be very large. 
Accordingly, the Exchange believes there is no need for option position 
and exercise limits to protect the underlying market against squeezes 
and other attempts at manipulation, or inadvertent market disruption 
stemming from temporary supply and demands imbalances. The Amex 
believes the proposed Exchange-Traded Fund Shares options' European-
style exercise (which gives the option seller ample advance knowledge 
of the time and size of any possible exercise transaction), physical 
settlement of the option, Creation Unit size share and/or cash 
deposits, and a substantial underlying market in the securities held by 
the Fund, combine to insure against successful attempts at manipulation 
or material market disruptions stemming from trading activity in the 
Fund Shares, multiple Creation Unit sized baskets of portfolio 
securities, or options on Fund Shares. Furthermore, in the absence of 
any maintenance or continued listing requirements in the underlying 
market that call for a minimum number of outstanding Exchange-Traded 
Fund Shares or for minimum trading volume, the Exchange believes that 
position and exercise limits would not be meaningful or useful as a 
percentage of any of these measures. For these reasons, and to assure 
that as long as there is trading in the underlying Fund Shares there 
can also be trading in the related options, the Exchange is not 
proposing any position or exercise limits for Fund Shares options. The 
Exchange reserves the right, however, to impose position and exercise 
limits if, for reasons not now conceivable, such limits should ever be 
needed in the interest of fair and orderly markets in the options, the 
underlying Fund Shares, or the portfolio securities underlying the Fund 
Shares.
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    \4\ As set forth in Rules 1002 and 1002A, the Exchange 
establishes a minimum number of units to be outstanding before 
trading in a series of Exchange-Traded Fund Shares may commence. 
Although there is no comparable maintenance standard, as a practical 
matter there can never be trading in a series of Fund Shares in 
which there is less than one Creation Unit outstanding, since Fund 
Shares may only be created and redeemed in Creation Unit size, and 
if the last outstanding Creation Unit should ever be redeemed, the 
series (and options on that series) will cease to trade.
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    Reflecting that the underlying portfolios of Exchange-Traded Fund 
Shares are diversified and generally less volatile than a typical 
component of the portfolios, it is also proposed that each option 
contract cover 1000 Exchange-Traded Fund Shares and that the minimum 
strike price intervals for options on Exchange-Traded Fund Shares will 
be $2.50 where the strike price is $200 or less, and $5.00 where the 
strike price is over $200. These are comparable to the strike price 
intervals applicable to index options having strike prices at about the 
level expected for Fund Share options.
    The proposed margin requirements for options on Exchange-Traded 
Fund

[[Page 8469]]

Shares are at the same levels that apply to options generally under 
Exchange Rule 462, except, reflecting the diversified nature of the 
underlying portfolios represented by the Fund Shares, minimum margin 
must be deposited and maintained equal to 100% of the current market 
value of the option plus 15% of the market value of equivalent units of 
the underlying security value. In this respect, the margin requirements 
proposed for options on Exchange-Traded Fund Shares are comparable to 
margin requirements that currently apply to broad-based index options 
under Exchange Rule 462.
    The Exchange believes it has the necessary systems capacity to 
support the additional series of options that would result from the 
introduction of Fund options, and it has been advised that the Options 
Price Reporting Authority (``OPRA'') also will have the capacity to 
support these additional series now that it has implemented an 
additional outgoing high speed line from the OPRA processor.\5\
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    \5\ See letter from Joseph P. Corrigan, Executive Director, 
OPRA, to Ivette Lopez, Assistant Director, OMS, Division, 
Commission, dated November 8, 1996.
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2. Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6(b) of the Act, in general, and furthers the objectives 
of Section 6(b)(5) in particular, in that it is designed to prevent 
fraudulent and manipulative acts and practices, to promote just and 
equitable principles of trade, and is not designed to permit unfair 
discrimination between customers, issuers, brokers or dealers.

B. Self-Regulatory Organization's Statement on Burden on Competition

    The Amex does not believe that the proposed rule change will impose 
any inappropriate burden on competition.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants or Others

    No written comments were solicited or received with respect to the 
proposed rule change.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:

(A) by order approve such proposed rule change, or
(B) institute proceedings to determine whether the proposed rule change 
should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing. Persons making written submissions 
should file six copies thereof with the Secretary, Securities and 
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. 
Copies of the submission, all subsequent amendments, all written 
statements with respect to the proposed rule change that are filled 
with the Commission, and all written communications relating to the 
proposed rule change between the Commission and any person, other than 
those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for inspection and 
copying in the Commission's Public Reference Section, 450 Fifth Street, 
N.W., Washington, D.C. Copies of such filing will also be available for 
inspection and copying at the principal office of the Amex. All 
submissions should refer to File No. SR-Amex-96-44 and should be 
submitted by March 18, 1997.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\6\
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    \6\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-4611 Filed 2-24-97; 8:45 am]
BILLING CODE 8010-01-M