[Federal Register Volume 70, Number 217 (Thursday, November 10, 2005)]
[Notices]
[Pages 68501-68503]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 05-22454]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-52738; File No. SR-NYSE-2004-39]


Self-Regulatory Organizations; New York Stock Exchange, Inc.; 
Notice of Filing of Proposed Rule Change and Partial Amendment No. 1 To 
Amend Exchange Rule 431 (Margin Requirements)

November 4, 2005.
    Pursuant to section 19(b)(1) \1\ of the Securities Exchange Act of 
1934 (the ``Exchange Act'') \2\ and Rule 19b-4 thereunder,\3\ notice is 
hereby given that on July 12, 2004, the New York Stock Exchange, Inc. 
(the ``Exchange'' or ``NYSE'') filed with the Securities and Exchange 
Commission (``SEC'' or the ``Commission'') the proposed rule change and 
on September 29, 2005, filed a partial amendment to its proposed rule 
change \4\ as described in Items I, II and III below, which Items have 
been prepared by the Exchange. The Commission is publishing this notice 
to solicit comments on the proposed rule change from interested 
persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 15 U.S.C. 78s et seq.
    \3\ 17 CFR 240.19b-4.
    \4\ SR-NYSE-204-39: Amendment No. 1. The NYSE, in coordination 
with the Chicago Board Options Exchange, Incorporated (``CBOE''), 
filed the partial amendment to conform the complex options spreads 
strategies to which its rule amendments apply to those of the CBOE.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange is proposing amendments to Rule 431 (Margin 
Requirements) that will recognize specific additional complex option 
spread strategies and set margin requirements commensurate with the 
risk of such spread strategies. These complex spread strategies are a 
combination of two or more basic option spreads that are already 
covered under Exchange Rule 431. In addition, the Exchange is proposing 
the elimination of the two-dollar standard exercise price interval 
limitation for listed options and certain terminology with respect to 
``permitted offsets,'' as defined in its Rule.

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 Exchange 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
    On July 12, 2004, the Exchange filed with the Securities and 
Exchange Commission proposed rule change to Rule 431, filed as SR-NYSE-
2004-39, that would recognize specific additional complex option spread 
strategies and set margin requirements commensurate with the risk of 
such spread strategies. The purpose of this filing is to amend SR-NYSE-
2004-39.\5\
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    \5\ At the request of the NYSE, the Commission staff clarified 
that the Exchange filed a partial amendment. Telephone conversation 
between Al Lucks, Managing Director, Member Firm Regulation, NYSE, 
and Matthew Comstock, Branch Chief, Division of Market Regulation 
(``Division''), on November 4, 2005.
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    These complex spread strategies are a combination of two or more 
basic option spreads that are already covered under Exchange Rule 431. 
In addition, the Exchange is proposing the elimination of the two-
dollar standard exercise price interval limitation for listed options 
and certain terminology with respect to ``permitted offsets'' as 
defined in Rule 431.
Background
    Rule 431 prescribes minimum maintenance margin requirements for 
customer accounts held at members and member organizations. In April 
1996, the Exchange established a Rule 431 Committee (the ``Committee'') 
to assess the adequacy of Rule 431 on an ongoing basis, review margin 
requirements, and make recommendations for change. The Exchange's Board 
of Directors has approved a number of proposed amendments resulting 
from the Committee's recommendations since it was established. 
Similarly, the Committee has recommended the proposed amendments 
discussed below. The proposed amendments described below have been 
developed in conjunction with the Chicago Board Options Exchange 
(``CBOE'').
Complex Option Spreads
    The Exchange is proposing amendments to Rule 431 to recognize 
certain additional complex option spread strategies that are the net 
result of combining two or more spread strategies that are currently 
recognized in the Exchange's margin rules. The netting of contracts in 
option series common to each of the currently recognized spreads in an 
aggregation reduces it to the complex spread strategies noted below.
    Basic option spreads can be paired in such ways that they offset 
each other in terms of risk. The total risk of the combined spreads is 
less than the sum of the risk of both spread positions if viewed as 
stand-alone strategies. The specific complex spread strategies listed 
below are structured using the same principles as, and are essentially 
expansions of, the advanced spreads currently allowed in Rule 431.
    Currently, Rule 431 recognizes and prescribes margin requirements 
for advanced spread strategies known as the ``butterfly spread'' \6\ 
and the ``box

[[Page 68502]]

spread.'' \7\ However, these option spreads are limited in scope. The 
Exchange's proposal seeks to expand upon the types of pairings that 
would qualify for butterfly spread and box spread treatment.
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    \6\ NYSE Rule 431(f)(2)(C) defines a ``butterfly spread'' as an 
aggregation of positions in three series of either puts or calls all 
having the same underlying component or index, and time of 
expiration, and based on the same aggregate current underlying 
value, where the interval between the exercise price of each series 
is equal, which positions are structured as either: (A) A ``long 
butterfly spread'' in which two short options in the same series are 
offset by one long option with a higher exercise price and one long 
option with a lower exercise price of (B) a ``short butterfly 
spread'' in which two long options in the same series offset one 
short option with a higher exercise price and one short option with 
a lower exercise price.
    \7\ NYSE Rule 431(f)(2)(C) defines a ``box spread'' as an 
aggregation of positions in a long call and short put with the same 
exercise price (``buy side'') coupled with a long put and short call 
with the same exercise price (``sell side'') all of which have the 
same underlying component or index and time of expiration, and are 
based on the same aggregate current underlying value, and are 
structured as: (A) A ``long box spread'' in which the sell side 
exercise price exceeds the buy side exercise price or, (B) a ``short 
box spread'' in which the buy side exercise price exceeds the sell 
side exercise price.
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    Exchange Rule 431(f)(2)(G)(i) recognizes ``calendar spreads,'' \8\ 
also known as ``time spreads,'' yet it is not identified as such. The 
Exchange proposes to define this term as ``the sale of one option and 
the simultaneous purchase of an option with a more distant expiration 
date, both specifying the same underlying component with the same 
exercise price where the long options do not expire before the short 
option with the longest term expiration'' in the definition section of 
the Rule (NYSE 431(f)(2)(C)) since some of the complex spreads it wants 
to recognize in this proposal will include this component of spread 
strategies.
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    \8\ NYSE Rule 431(f)(2)(G)(i) states: Where a call that is 
issued by a registered clearing agency is carried ``long'' for a 
customer's account and the account is also ``short'' a call issued 
by a registered clearing agency, expiring on or before the date of 
expiration of the ``long'' listed call and specifying the same 
underlying component, the margin required on the ``short'' call 
shall be the lower of (1) the margin required pursuant to 
(f)(2)(D)(i) or (2) the amount, if any, by which the exercise price 
of the ``long'' call exceeds the exercise price of the ``short'' 
call. Where a put that is issued by a registered clearing agency is 
carried ``long'' for a customer's account and the account is also 
``short'' a put issued by a registered clearing agency, expiring on 
or before the date of expiration of the ``long'' listed put and 
specifying the same underlying component, the margin required on the 
``short'' put shall be the lower of (1) the margin required pursuant 
to (f)(2)(D)(i) or (2) the amount, if any, by which the exercise 
price of the ``short'' put exceeds the exercise price of the 
``long'' put.
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    To be eligible for the margin requirements set forth below, a 
complex spread must be consistent with one of the seven patterns 
specified below. The expiration months and the sequence of the exercise 
prices must correspond to the same pattern, and the intervals between 
the exercise prices must be equal.
    Members and member organizations will be required to obtain initial 
and maintenance margin for the subject complex spreads, whether 
established outright or through netting, of not less than the sum of 
the margin required on each basic spread in the equivalent aggregation.
    The basic requirements are as follows: (a) The complex spreads must 
be carried in a margin account; (b) European-style \9\ options are 
prohibited for complex spread combinations having a long option series 
that expires after the other option series (that is, those that involve 
a time spread such as items 5, 6 and 7 below.) Only American-style \10\ 
options may be used in these combinations. Additionally, the intervals 
between exercise prices must be equal, and each complex spread must 
comprise four option series, with the exception of item 4 below, which 
must comprise three option series.
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    \9\ A European-style option is an option contract that can be 
exercised only on its expiration date.
    \10\ An American-style option is an option contract that can be 
exercised at any time between the date of purchase and its 
expiration date.
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    The sum of the margin required on each currently recognized spread 
in each of the applicable aggregations renders a margin requirement for 
the subject complex spread strategies as stated below. The additional 
complex option strategies and maintenance margin requirements are as 
follows:
    (1) A Long Condor Spread is comprised of two long Butterfly 
Spreads. The proposal requires initial and maintenance margin of full 
cash payment of the net debit incurred when this spread strategy is 
established. Full payment of the net debit incurred will cover any 
potential risk to the carrying broker-dealer.
    (2) A Short Iron Butterfly Spread is comprised of one long 
Butterfly Spread and one short Box Spread. The establishment of a long 
Butterfly Spread results in a margin requirement equal to the net debit 
incurred. The establishment of a short Box Spread requires margin equal 
to the aggregate difference between the exercise prices. The net 
proceeds from the sale of short option components may be applied to the 
margin requirement. Accordingly, to cover the risk to the carrying 
broker-dealer, the proposal requires a deposit of the aggregate 
exercise price differential. The net credit received may be applied to 
the deposit required.
    (3) A Short Iron Condor Spread is comprised of two long Butterfly 
Spreads and one short Box Spread. The establishment of long Butterfly 
Spreads results in a margin requirement equal to the net debit 
incurred. The establishment of a short Box Spread requires margin equal 
to the difference in the strike price. Accordingly, to cover the risk 
to the carrying broker-dealer, the proposal requires a deposit of the 
aggregate exercise price differential. The net credit received may be 
applied to the deposit required.
    (4) A Long Calendar Butterfly Spread is comprised of one long 
Calendar Spread and one long Butterfly Spread. The proposal requires 
initial and maintenance margin of full cash payment of the net debit 
incurred when this spread strategy is established. Full payment of the 
net debit incurred will cover any potential risk to the carrying 
broker-dealer.
    (5) A Long Calendar Condor Spread is comprised of one long Calendar 
Spread and two long Butterfly Spreads. The proposal requires initial 
and maintenance margin of full cash payment of the net debit incurred 
when this spread strategy is established. Full payment of the net debit 
incurred will cover any potential risk to the carrying broker-dealer.
    (6) A Short Calendar Iron Butterfly Spread is comprised of one long 
Calendar Spread plus one long Butterfly Spread and one short Box 
Spread. To cover the risk to the carrying broker-dealer, the proposal 
requires a deposit of the aggregate exercise price differential. The 
net credit received may be applied to the deposit required.
    (7) A Short Calendar Iron Condor Spread is comprised of one Long 
Calendar Spread plus two long Butterfly Spreads and one short Box 
Spread. To cover the risk to the carrying broker-dealer, the proposal 
requires a deposit of the aggregate exercise price differential. The 
net credit received may be applied to the deposit required.
    The purpose and benefit is to set levels of margin that more 
precisely represent the actual net risk of the option positions in the 
account and to enable customers to implement these strategies more 
efficiently.
Permitted Offsets
    Currently, Exchange Rule 431(f)(2)(J) limits permitted offsets \11\ 
for specialists and market makers in options to option series that are 
``in-or-at-the-money.'' \12\ Recently, various options exchanges have 
provided for the listing of options with one-dollar strike intervals in 
a number of classes. As a result, the use

[[Page 68503]]

of securities to hedge option series that have one-dollar strike 
intervals has unintentionally become more restrictive.
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    \11\ NYSE Rule 431(f)(2)(J) defines a permitted offset position 
as, in the case of an option in which a specialist makes a market, a 
position in the underlying asset or other related assets, and in the 
case of other securities in which a specialist makes a market, a 
position in options overlying the securities in which a specialist 
makes a market.
    \12\ NYSE Rule 431(f)(2)(J) defines the term ``in or at the 
money'' as the current market price of the underlying security is 
not more than two standard exercise intervals below (with respect to 
a call option) or above (with respect to a put option) the exercise 
price of the option.
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    The proposed rule change will remove the two-dollar standard 
exercise price interval limitation for listed options and the 
definition of ``in-or-at-the-money.'' As proposed, Rule 431(f)(2)(J) 
would require permitted offset transactions be effected for specialist 
or market-making purposes such as hedging, risk reduction, rebalancing 
of positions, liquidation, or accommodation of customer orders, or 
other similar specialist or market-making purposes, while prohibiting 
trading in an underlying security that is not related to specialist or 
market making option activities, or that does not constitute a 
reasonable hedge.
    Since clearing firms have risk monitoring systems that alert them 
to unhedged positions and haircut requirements pursuant to Rule 15c3-
1\13\ of the Exchange Act \14\ perform a similar function as NYSE 
margin requirements relative to providing adequate risk coverage to 
broker-dealers, the Exchange believes that the elimination of the two-
dollar standard exercise price limitation and definition of ``in-or-at-
the-money'' will not diminish the ``safety and soundness'' protections 
that Rule 431 provides.
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    \13\ 17 CFR 240.15c3-1.
    \14\ 15 U.S.C. 78a.
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2. Statutory Basis
    The basis for the proposed rule change is the requirement under 
section 6(b)(5) \15\ of the Exchange Act that the rules of the Exchange 
be 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. In addition, section 6(b)(5) 
of the Exchange Act requires the rules of an exchange to foster 
cooperation and coordination with persons engaged in regulating 
transactions in securities.
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    \15\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change will 
impose any burden on competition that is not necessary or appropriate 
in furtherance of the purposes of the Exchange Act

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

    The Exchange has neither solicited nor received written comments on 
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 reason for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (a) By order approve the 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. Comments may be 
submitted by any of the following methods:

Electronic Comments

    <bullet> Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
    <bullet> Send an e-mail to <a href="/cdn-cgi/l/email-protection#5022253c357d333f3d3d353e2423102335337e373f26"><span class="__cf_email__" data-cfemail="b1c3c4ddd49cd2dedcdcd4dfc5c2f1c2d4d29fd6dec7">[email protected]</span></a>. Please include 
File Number SR-NYSE-2004-39 on the subject line.

Paper Comments

    <bullet> Send paper comments in triplicate to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549-9303.

All submissions should refer to File Number SR-NYSE-2004-39. This file 
number should be included on the subject line if e-mail is used. To 
help the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). 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, 100 F Street, 
NE., Washington, DC 20549. Copies of the filing also will be available 
for inspection and copying at the principal office of the Exchange. All 
comments received will be posted without change; the Commission does 
not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly. All 
submissions should refer to File Number SR-NYSE-2004-39 and should be 
submitted on or before December 1, 2005.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.
Jonathan G. Katz,
Secretary.
[FR Doc. 05-22454 Filed 11-9-05; 8:45 am]
BILLING CODE 8010-01-P


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