Federal Register / Vol. 65, No. 205 / Monday, October 23, 2000 / Notices 63275

11 17 CFR 200.30–3(a)(12).

1 15 U.S.C. 78s(b)(1).

2 17 CFR 240.19b–4.

3 In Amendment No. 1, NASD Regulation

proposes to amend the proposed rule language.

Specifically, Amendment No. 1 clarifies that if the

equity in a customer’s margin account falls below

applicable requirements, an NASD member firm

can force the sale of any of the securities in any of

the customer’s accounts held at the firm and such

liquidations are not limited to the customer’s

margin account. Additionally, NASD Regulation

deletes the phrase ‘‘under the law’’ from its original

filing to clarify that maintenance margin

requirements are requirements of self-regulatory

organizations. See Letter from Alden S. Adkins,

General Counsel and Senior Vice President, NASD

Regulation, to Katherine A. England, Assistant

Director, Division of Market Regulation,

Commission, dated September 25, 2000.

Commission, 450 Fifth Street, NW.,

Washington, DC 20549–0609. Copies of

the submission, all subsequent

amendments, all written statements

with respect to the proposed rule

change that are filed 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 at

the Commission’s Public Reference

Room. Copies of the filing will also be

available for inspection and copying at

the principal office of the Exchange. All

submissions should refer to File No.

SR–CHX–00–32 and should be

submitted by November 13, 2000.

For the Commission, by the Division of

Market Regulation, pursuant to delegated

authority.11

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 00–27135 Filed 10–20–00; 8:45 am]

BILLING CODE 8010–01–M

SECURITIES AND EXCHANGE

COMMISSION

[Release No. 34–43441; File No. SR–NASD–

00–55]

Self-Regulatory Organizations; Notice

of Filing of Proposed Rule Change by

the National Association of Securities

Dealers, Inc. Relating to the Delivery

Requirement of a Margin Disclosure

Statement to Non-Institutional

Customers

October 12, 2000.

Pursuant to section 19(b)(1) of the

Securities Exchange Act of 1934

(‘‘Act’’) 1 and Rule 19b–4 thereunder,2

notice is hereby given that on

September 5, 2000, the National

Association of Securities Dealers, Inc.

(‘‘NASD’’ or ‘‘Association’’), through its

wholly owned subsidiary, NASD

Regulation, Inc. (‘‘NASD Regulation’’),

filed with the Securities and Exchange

Commission (‘‘SEC’’ or ‘‘Commission’’),

the proposed rule change as described

in Items I, II, and III below, which Items

have been prepared by NASD

Regulation. On September 26, 2000, the

NASD submitted Amendment No. 1 to

the proposed rule change.3 The

Commission is publishing this notice to

solicit comments on the proposed rule

change from interested persons.

I. Self-Regulatory Organization’s

Statement of the Terms of Substance of

the Proposed Rule Change

NASD Regulation is proposing to add

a new NASD Rule 2341 to require its

members to deliver to their noninstitutional customers, prior to or at the

opening of a margin account, a specified

disclosure statement that discusses the

operation of margin accounts and the

risk associated with trading on margin.

NASD Regulation also proposes to

require NASD members to deliver the

specified disclosure statement to their

non-institutional customers with margin

accounts on an annual basis. Below is

the test of the proposed rule change.

Proposed new language is in italics.

Rule 2341. Margin Disclosure Statement

(a) No member shall open a margin

account, as specified in Regulation T of

the Board of Governors of the Federal

Reserve System, for or on behalf of a

non-institutional customer, unless, prior

to or at the time of opening the account,

the member has furnished to the

customer, individually, in writing or

electronically, the following margin

disclosure statement:

Your brokerage firm is furnishing this

document to you to provide some basic

facts abut purchasing securities on

margin, and to alert you to the risks

involved with trading securities in a

margin account. Before trading stocks in

a margin account, you should carefully

review the margin agreement provided

by your firm. Consult your firm

regarding any questions or concerns you

may have with your margin accounts.

When you purchase securities, you

may pay for the securities in full or you

may borrow part of the purchase price

from your brokerage firm. If you choose

to borrow funds from your firm, you will

open a margin account with the firm.

The securities purchased are the firm’s

collateral for the loan to you. If the

securities in your account decline in

value, so does the value of the collateral

supporting your loan and, as a result the

firm can take action, such as issue a

margin call and/or sell securities in any

of your accounts held with the member,

in order to maintain the required equity

in the account.

It is important that you fully

understand the risks involved in trading

securities on margin. These risks

include the following:

• You can lose more funds than you

deposit in the margin account A decline

in the value of securities that are

purchased on margin may require you

to provide additional funds to the firm

that has made the loan to avoid the

forced sale of those securities or other

securities in your account(s).

• The firm can force the sale of

securities in your account(s). If the

equity in your account falls below the

maintenance margin requirements of

the firm’s higher ‘‘house’’ requirements,

the firm can sell the securities in any of

your accounts held at the firm to cover

the margin deficiency. You also will be

responsible for any short fall in the

account after such a sale.

• The firm can sell your securities

without contacting you. Some investors

mistakenly believe that a firm must

contact them for a margin call to be

valid, and that the firm cannot liquidate

securities in their accounts to meet the

call unless the firm has contacted them

first, This is not the case. Most firms will

attempt to notify their customers of

margin calls, but they are not required

to do so. However, even if a firm has

contacted a customer and provided a

specific date by which the customer can

meet a margin call, the firm can still

take necessary steps to protect its

financial interests, including

immediately selling the securities

without notice to the customer.

• You are not entitled to choose

which securities in your account(s) are

liquidated or sold to meet a margin call.

Because the securities are collateral for

the margin loan, the firm has the right

to decide which security to sell in order

to protect its interests.

• The firm can increase its ‘‘house’’

maintenance margin requirements at

any time and is not required to provide

you advance written notice. These

changes in firm policy often take effect

immediately and may result in the

issuance of a maintenance margin call.

Your failure to satisfy the call may

cause the member to liquidate or sell

securities in your account(s).

• You are not entitled to an extension

of time on a margin call. While an

extension of time to meet margin

requirements may be available to

customers under certain conditions, a

customer does not have a right to the

extension.

63276 Federal Register / Vol. 65, No. 205 / Monday, October 23, 2000 / Notices

4See On-Line Trading, Better Investor Protection

Information Needed, Report to Congressional

Requesters, GAO, GGD–00–43 (May 2000) (the

‘‘GAO Report’’). According to the GAO Report,

between January 1998 and June 1999, 140 marginrelated complaints concerning on-line trading firms

were submitted to the SEC.

5These firms represented less than 10 percent of

the total estimated number of firms that offer online trading. However, they accounted for about 90

percent of the on-line trading volume during early

1999.

6Rule 10b–16 under the Act (‘‘SEC Rule 10b–16’’)

requires broker-dealers that extend credit to

customers to finance securities transactions to

furnish, in writing, specified information regarding

the terms of the loan. These disclosures must be

made on both an initial and periodic basis. For

example, at the time a customer opens a margin

account, the broker-dealer must provide the

customer with a written statement disclosing,

among other things, the annual rate of interest, the

method of computing interest, and what other

credit charges may be imposed.

7Those firms that provided clear indications of

the type of account to be opened offered their

customers the option on the web site to choose

either a cash or margin account, or both. However,

those firms that automatically opened margin

accounts only offered new customers a choice with

respect to account ownership, such as joint or

individual account.

8 12 CFR 220 et seq.

9NASD Rule 2520 governs margin requirements.

(b) Members shall, with a frequency of

not less than once a calendar year,

deliver individually, in writing or

electronically, the disclosure statement

described in paragraph (a) to all noninstitutional customers with margin

accounts.

(c) In lieu of providing the margin

disclosure statement specified in

paragraph (a), a member may provide to

the customer an alternative disclosure

statement, provided that the alternative

disclosure statement shall be

substantially similar to the disclosure

statement specified in paragraph (a).

(d) For purposes of this Rule, the term

‘‘non-institutional customer’’ means a

customer that does not qualify as an

‘‘institutional account’’ under Rule

3110(c)(4).

II. Self-Regulatory Organization’s

Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule

Change

In its filing with the Commission,

NASD Regulation 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.

NASD Regulation 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

a. Background. The recent growth in

the level of customer margin account

balances, coupled with the increase in

customer inquiries and complaints to

NASD Regulation and SEC staffs

relating to the handling of margin

accounts, has raised concerns as to

whether investors understand the

operation and risks associated with

margin trading. NASD Regulation

believes that investors’ misconceptions

about margin requirements, particularly

with respect to maintenance margin,

may cause investors to underestimate

the risks of margin trading and to

misunderstand the operation of and

reasons for margin calls.

In this regard, a recent report issued

by the General Accounting Office

(‘‘GAO’’) noted that the SEC has

determined from the customer

complaints it has received that many

investors who traded on-line did not

understand margin requirements.4 The

lack of disclosures relating to when

firms would sell securities in a margin

account to cover margin loans was

among the leading margin-related

complaints that the SEC received.

The GAO Report also collected and

summarized information from 12 online broker-dealers.5 All of the on-line

firms contacted did provide their

customers the limited information

currently required on margin trading.6

Some firms also provided additional

information relating to margin, such as

requirements for account opening,

procedures for selling securities to cover

account losses, or special requirements

for volatile stocks. However, nearly half

of the firms contacted automatically

opened margin accounts for new

customers without providing the

customer information relating to the

risks associated with margin trading. At

three firms that automatically 7 opened

margin accounts, customers would find

out about their account type only if they

read and understood their account

agreements, which SEC staff indicated

were written in legal language and may

be difficult for investors to understand.

Three of the 12 on-line broker-dealers

contacted did take ‘‘extra measures’’ to

ensure that their customers understood

that stocks could be sold to cover

outstanding loans in a margin account.

These firms included information on

their web sites that explained that

accounts could be liquidated in fastmoving markets before the customary

period.

The GAO Report concluded that

better investor protection information,

including information relating to margin

requirements, was needed on web sites

of some on-line broker-dealers. In this

regard, the GAO Report recommended

that the SEC ensure that broker-dealers

with on-line trading systems include

accurate and complete information on

their web sites regarding, among other

things, margin requirements.

b. Specific Areas of Concern. Based

on customer complaints and inquiries it

has received, NASD Regulation

identified several areas associated with

margin trading that may have generated

confusion and misunderstanding

between NASD customers and members.

These include:

i. Margin Calls—Notification. Some

investors hold the mistaken belief that

their broker-dealer must contact them

for a margin call to be valid, and that

their broker-dealer cannot liquidate

securities in their account to meet the

call unless a specified number of days

have passed and/or the broker-dealer

has contacted the customer. There are

no such restrictions in Regulation T8 of

the Board of Governors of the Federal

Reserve System or NASD Rule 2520.9

Moreover, securities that have been

purchased on margin by a customer are

collateral for the margin loan and are,

therefore, subject to the security claim

of the broker-dealer until the customer

fully pays for the securities. Thus, if a

broker-dealer believes that the collateral

for the margin loan is at risk, the brokerdealer is entitled to take any steps

necessary to protect its financial

interests, including immediate

liquidation without notice to the

customer. Some broker-dealers will

attempt to notify their customers of

margin calls, but they are not required

to do so. However, even if a brokerdealer has contacted a customer and

provided a specific date by which the

customer can meet a margin call, the

broker-dealer can still take necessary

steps to protect its financial interests,

including immediate liquidation,

without further notice to the customer.

ii. Extensions of time on margin calls.

Some investors believe they are

automatically entitled to an extension of

time to meet margin calls. While an

extension of time to meet initial margin

requirements may be available to the

customer under certain conditions, it is

only granted if the clearing firm chooses

to request an extension from its

Designated Examining Authority; the

customer does not have a right to an

automatic extension.

In addition, some investors believe

that when a maintenance margin call

Federal Register / Vol. 65, No. 205 / Monday, October 23, 2000 / Notices 63277

10See Amendment No. 1, supra note 3.

11 Id.

12NASD Regulation represents that it will

determine whether an alternative disclosure

statement contains substantially identical

information as required by the proposed NASD

Rule 2341 at its examination of the particular NASD

firm. Telephone conversation between Stephanie

Dumont, Counsel, NASD Regulation, and Hong-anh

Tran, Special Counsel, Division, Commission,

September 28, 2000.

13The term ‘‘non-institutional customer’’ would

mean a customer that does not qualify as an

‘‘institutional account’’ under NASD Rule 311(c)(4).

NASD Rule 3110(c)(4) defines ‘‘institutional

account’’ to mean the account of: (1) a bank, savings

and loan association, insurance company, or

registered investment company; (2) an investment

adviser registered either with the Commission

under Section 203 of the Investment Advisers Act

of 1940 or with a state securities commission (or

agency or office performing similar functions); or

(3) any other entity (whether a natural person,

corporation, partnership, trust, or otherwise) with

total assets of at least $50 million.

14Members would be required to deliver the

disclosure statement to each customer individually.

A member firm posting the disclosure statement on

its web site would not fulfill the proposed delivery

requirements.

15NASD Regulation represents that an NASD

member firm may choose to deliver the disclosure

statement or other opening account documentaiton

on a separate page of, or as an attachment to, the

margin agreement. Telephone conversation between

Stephanie Dumont, Counsel, NASD Regulation, and

Sapna Patel, Law Clerk, Division, Commission,

October 12, 2000.

16 15 U.S.C. 78o–3(b)(6).

has been issued they are entitled to one

or more extensions of time to meet the

call; however, there is no mechanism for

extending maintenance margin calls. If

the customer fails to meet a

maintenance margin call, the brokerdealer can, under certain circumstances,

take a charge to its net capital in lieu of

collecting the call, but the broker-dealer

is not required to do so, and the

customer has no right to demand it.

iii. Right to dictate which security is

liquidated. Some investors believe that

they have the right to control which

securities are liquidated to meet a

maintenance margin call if there is more

than one security in the NASD

customer’s accounts.10 There is no

provision in the margin rules that gives

the customer the right to control

liquidation decisions. As discussed

above, because the securities are

collateral for the margin loan, the

broker-dealer has the right to control the

disposition of the collateral in order to

protect its interests. In this regard, the

broker-dealer may choose which

securities in the margin account, or any

other account held by NASD member on

behalf of the customer, to liquidate, and

this selection need not relate to factors

associated with the individual

customer.11 For example, the NASD

broker-dealer may choose a particular

security in a customer’s account to

liquidate based on a high concentration

of the security held by customers firmwide.

iv. NASD members raising their

maintenance margin requirements.

Some NASD members have increased

their ‘‘house’’ maintenance margin

requirements as a result of concerns

about the volatility and extreme price

run-ups on certain stocks, the risks to

their customers, and the NASD

member’s own potential exposure to

losses from margin defaults. These

changes in policy often take effect

immediately and may result in the

issuance of a maintenance margin call.

A customer’s failure to satisfy the call

will usually cause the NASD member to

liquidate a portion of the customer’s

account.

Some investors believe that an NASD

member must provide thirty days

written notice before implementing this

type of change. While SEC Rule 10b-16

requires members to disclose to

customers the credit terms (interest rates

and methods of calculating interest) for

margin transactions and requires

advance written notice of such changes,

it does not require advance notice of the

amount of margin required.

C. Proposed Requirements. Although

NASD Regulation recognizes that some

NASD members are providing

additional disclosures to customers

relating to margin, the content of these

disclosures is not consistent from firm

to firm and may not always be in a form

that is understandable to investors.

Thus, NASD Regulation proposes to

implement a new NASD Rule 2341 that

would require NASD members to

deliver a disclosure statement that

includes all the ‘‘bulleted’’ information

as specified in the proposed NASD Rule

2341, or a substantially identical

disclosure statement 12 to their noninstitutional customers.13 NASD

members would be required to deliver

the mandated disclosure statement, in

writing or electronically, to customers

individually,14 prior to or at the opening

of a margin account. NASD Regulation

also would require NASD members to

deliver the mandated disclosure

statement annually to all of their noninstitutional customers with margin

accounts. NASD members would be

required to provide the mandated

disclosure statement to existing margin

customers at the time the NASD

member is required to send the next

annual statement to the customer

(following the effective date of the rule

change), but not to exceed 180 days

following the effective date of the rule

change.

The mandated margin disclosure

statement would: (1) Describe the

operation of a margin account; (2)

emphasize that customers should

carefully review their margin

agreements; and (3) clarify some of the

risks associated with margin trading,

including among others, that the

customer can lose more funds than

initially deposited, the firm can force

the sale of the securities in the

customer’s account(s) held by the firm

without notice to the customer, the firm

can dictate which security is selected

for liquidation, and the customer is not

entitled to an extension of time on a

margin call.

NASD members would be permitted

to develop an alternative margin

disclosure statement, provided that the

alternative disclosure statement is

substantially similar to the mandated

disclosure statement and incorporates

all of the relevant concepts. Under the

proposed rule change, disclosure at or

prior to the opening of the account

would be made in a separate document,

even if an NASD member firm chooses

to deliver the margin disclosure

statement as part of or within the

margin agreement or other opening

account documentation.15 However,

with respect to the annual disclosure

statement requirement, NASD members

would be permitted to provide the

margin disclosure statement within

other documentation, such as the

customer account statement.

NASD Regulation intends to

announce the effective date of the

proposed rule change in a Notice to

Members to be published no later than

60 days following Commission approval

of the proposed rule change. The

effective date will be 30 days following

publication of the Notice to Members

announcing Commission approval of the

proposed rule change. With respect to

the annual delivery requirement,

members would be required to provide

the margin disclosure statement to each

existing margin customer at the time the

member is required to send the next

annual statement to the NASD customer

(following the effective date of the rule

change), but not to exceed 180 days

following the effective date of the rule

change.

2. Statutory Basis

NASD Regulation beleives that the

proposed rule change is consistent with

Section 15A(b)(6) 16 of the Act, in that

the proposed rule change is designed to

prevent fraudulent and manipulative

acts and practices, to promote just and

equitable principles of trade, and, in

general, to protect investors and the

public interest. NASD Regulation

63278 Federal Register / Vol. 65, No. 205 / Monday, October 23, 2000 / Notices

17 17 CFR 200.30–3(a)(12).

1 15 U.S.C. 78s(b)(1).

2A copy of NSCC’s proposed rule change, the

attached exhibits, and amendments are available at

the Commission’s Public Reference Section and the

principal office of NSCC.

3The Commission has modified the text of the

summaries prepared by NSCC.

believes that the proposed rule change

will provide non-institutional

customers, who may have margin

accounts with NASD members, with a

better understanding of the operation of

a margin account and the risks

associated with margin trading.

B. Self-Regulatory Organization’s

Statement on Burden on Competition

NASD Regulation does not believe

that the proposed rule change will result

in any burden on competition that is not

necessary or appropriate in furtherance

of the purposes of the Act.

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,

including whether the proposed rule

change is consistent with the Act. The

Commission is specifically soliciting

comments on whether the proposed

disclosure is sufficient and nonmisleading, or whether changes to the

disclosure statement should be made.

For example, the Commission is

concerned that the proposed rule

language would not require NASD

member firms to disclose to customers

that any and all assets, including

securities or any other property the

customer has on account at the member

firm and any of its affiliates, whether

carried individually or jointly with

others, may, depending on the margin

agreement, be used by the broker-dealer

to satisfy a maintenance margin call.

Should broker-dealer disclose this fact?

Are other changes to the proposed

disclosure merited? Persons making

written submissions should file six

copies thereof with the Secretary,

Securities and Exchange Commission,

450 Fifth Street, NW., Washington, DC

20549–0609. Copies of the submission,

all subsequent amendments, all written

statements with respect to the proposed

rule change that are filed 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 the

Commission’s Public Reference Room.

Copies of such filing will also be

available for inspection and copying at

the principal office of the NASD. All

submissions should refer to File No.

SR–NASD–00–55 and should be

submitted by November 13, 2000.

For the Commission, by the Division of

Market Regulation, pursuant to delegated

authority.17

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 00–27138 Filed 10–20–00; 8:45 am]

BILLING CODE 8010–01–M

SECURITIES AND EXCHANGE

COMMISSION

[Release No. 34–43447; File No. SR–NSCC–

00–05]

Self-Regulatory Organizations;

National Securities Clearing

Corporation; Notice of Filing of

Proposed Rule Change Related to

Mutual Fund Services

October 16, 2000.

Pursuant to section 19(b)(1) of the

Securities Exchange Act of 1934

(‘‘Act’’),1 notice is hereby given that on

April 7, 2000, National Securities

Clearing Corporation (‘‘NSCC’’) filed

with the Securities and Exchange

Commission (‘‘Commission’’) the

proposed rule change and on April 19,

2000, and May 8, 2000, amended the

proposed rule change as described in

Items I, II, and III below, which items

have been prepared primarily by

NSCC.2 The Commission is publishing

this notice to solicit comments on the

proposed rule change from interested

parties.

I. Self-Regulatory Organization’s

Statement of the Terms of Substance of

the Proposed Rule Change

The proposed rule change will modify

NSCC’s rules to permit additional types

of investment products to be processed

through NSCC’s Mutual Fund Services.

II. Self-Regulatory Organization’s

Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule

Change

In its filing with the Commission,

NSCC 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. NSCC has prepared

summaries, set forth in sections (A), (B),

and (C) below, of the most significant

aspects of these statements.3

(A) Self-Regulatory Organization’s

Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule

Change

1. Purpose

NSCC participants who utilize

NSCC’s Defined Contribution Clearance

and Settlement Service of NSCC’s

Mutual Fund Services and who

recognize the value of processing

investment product transactions

through NSCC have requested that

NSCC permit additional types of

investment products regulated under

state insurance laws or federal or state

banking laws to be eligible for

processing through NSCC’s Mutual

Fund Services. Examples of ‘‘Investment

Funds’’ include stable value funds,

separate account group guaranteed

investment contracts (which are

regulated as group annuities), and

collective bank investment trust. Asset

classes of these types are typically

included in defined contribution

retirement plans and thus their

inclusion in Mutual Fund Services will

benefit third party administrator

(‘‘TPA’’) members and other

participants by standardizing their

processing of these Investment Funds in

the same manner as mutual funds are

now processed under NSCC’s mutual

fund services. Standardized processing

will permit defined contribution plan

administrators to provide Investment

Fund products to defined contribution

plan clients without the systems or

manual processing infrastructure and

related costs required by the current

processing methods.