[Federal Register Volume 63, Number 75 (Monday, April 20, 1998)]
[Notices]
[Pages 19554-19555]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-10340]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-39856; File No. SR-Phlx-97-63]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change and Amendment No. 1 Thereto by the Philadelphia Stock Exchange, 
Inc. to Amend its Method of Calculating Initial and Maintenance Margin 
Requirements for Foreign Currency Options

April 13, 1998.
    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 December 22, 1997, the Philadelphia Stock Exchange, Inc. (``Phlx'' 
or ``Exchange'') 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 the Phlx. 
On February 20, 1998, the Phlx filed a Letter Amendment to the proposed 
rule change.\3\ The Phlx filed Amendment No. 1 to the proposed rule 
change on April 6, 1998.\4\ The Commission is publishing this notice to 
solicit comments on the proposed rule change, as amended, from 
interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Letter from Michele R. Weisbaum, Vice President and 
Associate General Counsel, Phlx, to Sharon Lawson, Senior Special 
Counsel, Division of Market Regulation (``Division''), Commission, 
dated February 19, 1998 (``Letter Amendment''). In the Letter 
Amendment, the Phlx proposes to amend its proposed rule change to: 
(1) conduct margin reviews quarterly rather than semi-annually; (2) 
monitor currencies monthly when the confidence level falls to 
between 97% and 97.5% until the confidence level exceeds 97.5% for 
two consecutive months, rather than just one month; and (3) revise 
Rule 722 to exclude the actual margin level for each currency and to 
note that instead, the Phlx will distribute membership circulars 
announcing the margin levels that are derived pursuant to Commentary 
.16 of Rule 722.
    \4\ See Letter from Nandita Yagnik, Counsel, Phlx, to Sharon 
Lawson, Senior Special Counsel, Division, Commission, dated April 3, 
1998 (``Amendment No. 1''). Amendment No. 1 incorporates the 
original proposed rule change and Letter Amendment into a Rule 19b-4 
notice.
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I. Self-Regulatory Organization's Statement of the Terms of 
Substance of the Proposed Rule Change

    The Phlx proposes to amend Phlx Rule 722 to codify its method of 
calculating initial and maintenance customer margin requirements for 
foreign currency options. Under proposed new Commentary .16 to Rule 
722, the Exchange would calculate the margin requirements for each 
foreign currency separately, rather than determining one margin level 
for all foreign currencies based upon the historical pricing 
information for all foreign currencies together.
    The complete text of the proposed rule change is available at the 
Office of the Secretary, Phlx and at the Commission.

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

    In its filing with the Commission, the Phlx 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 Phlx 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
    Currently, the Exchange calculates the margin requirement for 
customers that assume short foreign currency option positions by adding 
4% of the current market value of the underlying foreign currency 
contract to the option premium price less an adjustment for the out-of-
the-money amount of the option contract.\5\ The 4% add-on percentage 
was adopted in 1986 and provided for initial margin which would cover 
the aggregate underlying foreign currencies' historical volatility over 
a seven day period with a 95% confidence level over the latest nine 
month period.\6\ This add-on percentage is now reviewed by the Exchange 
every quarter to assure that it provides for a 97.5% confidence level 
over a five day period. Recently, the Exchange has listed new foreign 
currency options such as the Spanish peseta and the Italian lira \7\ 
and has received approval to trade options on the Mexican peso.\8\ In 
determining the appropriate margin levels for these new currencies, the 
Commission has indicated that it believes that the Exchange should set 
margin levels for each foreign currency option independently and that 
it should state its specific procedure for setting these levels in its 
rules. The purpose of this proposal is to address this issue by 
adopting new foreign currency options margin procedures as proposed in 
Commentary .16 to Rule 722.
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    \5\ This 4% ``add-on'' percentage is applicable to the following 
foreign currencies: Australian dollar, British pound, Canadian 
dollar, German mark, European Currency Unit, French franc, Japanese 
yen and Swiss franc. The Spanish peseta and the Italian lira 
currently have a 7% add-on percentage and the Mexican peso has an 
add-on percentage of 17%.
    \6\ See Securities Exchange Act Release No. 22469 (September 26, 
1985) 50 FR 40663 (October 4, 1985) (order approving File Nos. SR-
Amex-84-29, SR-CBOE-84-27, SR-NASD-85-15, SR-PSE-84-20, SR-Phlx-84-
32 and SR-Phlx-85-18 and establishing a uniform margin system for 
options products).
    \7\ See Securities Exchange Act Release No. 36255 (September 20, 
1995) 60 FR 50229 (September 28, 1995) (order approving File Nos. 
SR-Phlx-95-20 and SR-Phlx-95-21).
    \8\ See Securities Exchange Act Release No. 39460 (December 17, 
1997) 62 FR 67425 (December 24, 1997) (order approving File No. SR-
Phlx-97-22).
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    The Exchange is proposing to determine the applicable add-on 
percentage by reviewing, on a quarterly calendar basis,\9\ five-day 
price changes over the preceding three-year period for each underlying 
currency and set the add-on percentage at a level which would have 
covered those price changes at least 97.5% of the time (``confidence 
level''). If the results of subsequent reviews show that the current 
margin level provides a confidence level below 97%, the Exchange will 
increase the margin requirement for that individual currency up to a 
98% confidence level. If the confidence level is between 97% and 97.5%, 
the margin level will remain the same but will be subject to monthly 
follow-up reviews until the confidence level exceeds 97.5% for two 
consecutive months.\10\ If during the course of the monthly follow-up 
reviews, the confidence level drops below 97%, the margin level will be 
increased to a 98% level and if it exceeds 97.5% for two consecutive 
months, the currency will be taken off monthly reviews and will

[[Page 19555]]

be put back on the quarterly review cycle. If the currency exceeds 
98.5%, the margin level will be reduced to a 98% confidence level. 
Finally, in order to account for large price movements outside the 
margin level, if the review shows that the currency had a price 
movement, either positive or negative, greater than two times the 
margin level, the margin requirement would be set at a level to meet a 
99% confidence level (``extreme outlier test'').
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    \9\ Although the Phlx initially proposed semi-annual margin 
reviews, in Amendment No. 1, the Phlx proposes to amend Commentary 
.16(b) of Rule 722 to require margin reviews to be conducted 
quarterly, on the 15th of January, April, July and October of each 
year. See Amendment No. 1, supra note 4.
    \10\ As initially proposed, it was unclear whether monthly 
margin reviews would be required once the confidence level equaled 
97.5%. Amendment No. 1 makes clear that the confidence level must 
exceed 97.5% for two consecutive months before the currency will no 
longer be reviewed monthly. See Amendment No. 1, supra note 4.
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    The quarterly reviews will be conducted promptly following the 15th 
of January, April, July and October of each year. In addition to the 
routine reviews described above, the Exchange continues to have 
authority to impose a higher margin level at any time in between 
reviews if market conditions so warrant.\11\ At this time, the margin 
levels for Tier I, II, and III customized cross rate options will 
remain the same.
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    \11\ See Phlx Rule 772(i)(8).
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    Finally, the Phlx proposes to revise Rule 722 so that while the 
calculation methodology will be outlined in Commentary .16, the actual 
margin level for each currency will not be stated. Instead, the 
Exchange will distribute circulars to the membership announcing the 
margin levels that are derived pursuant to the methodology in 
Commentary .16 to Rule 722. In addition, any time that a particular 
margin level changes based on a review or otherwise pursuant to Rule 
722, the new margin requirement will be announced via circular to the 
membership.\12\
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    \12\ As initially proposed, all changes to the add-on 
percentages for individual currencies set forth in Phlx Rule 722 
would have required a proposed rule change to be filed with the 
Commission pursuant to Section 19(b)(3)(A) of the Act. As changes to 
the margin levels for individual currencies will not require changes 
to Phlx Rule 722 and instead, will be announced to the Phlx 
membership via circular, such changes will not trigger a requirement 
to subject a 19(b)(3)(A) filing to the Commission. Telephone 
conversation between Nandita Yagnik, Counsel, Phlx, and Deborah 
Flynn, Division, Commission, on April 13, 1998.
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2. Statutory Basis
    The Exchange believes that the proposed rule change is consistent 
with Section 6 of the Act \13\ in general, and in particular, with 
Section 6(b)(5),\14\ in that it is designed to promote just and 
equitable principles of trade, prevent fraudulent and manipulative acts 
and practices, to foster cooperation and coordination with persons 
engaged in regulating, clearing, settling, processing information with 
respect to, and facilitating transactions in securities, to remove 
impediments to and perfect the mechanism of a free and open market and 
a national market system, as well as to protect investors and the 
public interest by establishing margin levels for foreign currency 
options which reflect the specific risks associated with each 
individual currency.
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    \13\ 15 U.S.C. 78f.
    \14\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Phlx 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 either solicited or received.

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 or such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the Phlx 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, as amended, is consistent with the Act. Persons making written 
submissions should file six copies thereof with the Secretary, 
Securities and Exchange Commission, 450 Fifth Street, NW, Washington, 
DC 20549. 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 in the Commission's Public Reference Section, 450 Fifth Street, 
NW, Washington, DC 20549. Copies of such filing will also be available 
for inspection and copying at the principal office of the Phlx. All 
submissions should refer to File No. SR-Phlx-97-63 and should be 
submitted by May 11, 1998.

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\15\
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    \15\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-10340 Filed 4-17-98; 8:45 am]
BILLING CODE 8010-01-M