Document ID: SEC-2006-0132-0001
Agency: sec
Document Type: Notice
Title: Self-regulatory organizations; proposed rule changes: National Association of Securities Dealers, Inc.
Posted Date: 2006-02-06T05:00Z

[Federal Register: February 6, 2006 (Volume 71, Number 24)]
[Notices]               
[Page 6117-6119]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr06fe06-94]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-53189; File No. SR-NASD-2006-007]

 
Self-Regulatory Organizations; National Association of Securities 
Dealers, Inc; Notice of Filing of Proposed Rule Change Relating to 
Position Limits and Position Reporting Obligations for Conventional 
Index and Equity Options

January 30, 2006.
    Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 
(``Exchange Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby 
given that on January 23, 2006, the National Association of Securities 
Dealers, Inc. (``NASD'') 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 NASD. 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\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    NASD is proposing to amend NASD Rule 2860 to: (a) Revise the 
definition of the term ``underlying index'' to include indexes 
underlying standardized index options and other indexes that meet 
certain specified criteria; and (b) allow members to calculate the 
position limits, in accordance with volume and float criteria specified 
by the options exchanges, for conventional equity options overlying 
securities that are part of the FTSE All-World Index Series.\3\ The 
text of the proposed rule change is available on the NASD's Web site 
(http: //http://www.nasd.com), at the NASD's principal office, and at the 

Commission's Public Reference Room.
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    \3\ The Financial Times and the London Stock Exchange operate 
the FTSE All-World Index Series, which covers approximately 30 
different countries and over 1900 stocks.
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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 NASD 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
    Amendment to Definition of ``Underlying Index'': NASD Rule 2860 
governs the activities of members in standardized and conventional 
options contracts. Paragraph (b)(5) of Rule 2860 imposes a position-
reporting obligation on members when they or their customers establish 
options positions that exceed certain thresholds. Specifically, members 
are required to file, or cause to be filed, a report with NASD with 
respect to each account that establishes an aggregate position of 200 
or more contracts on the same side of the market covering the same 
underlying security or index. The current definition of ``underlying 
index'' is limited to an index upon which a Nasdaq index option is 
based.\4\ Since Nasdaq no longer trades any index options, this 
definition fails to require members to report positions in conventional 
index options. The proposed rule change would require members to report 
positions in conventional \5\ index options and would require access 
firms to report position limits in standardized index options.\6\ In

[[Page 6118]]

a separate filing, in connection with NASD's proposed rule changes to 
reflect Nasdaq's separation from NASD following the Commission's 
approval of Nasdaq as a national securities exchange,\7\ NASD has 
proposed to amend Rule 2860 to remove all references to Nasdaq.\8\
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    \4\ Nasdaq briefly traded stock index options in the mid-1980s.
    \5\ A ``conventional option'' is an option contract not issued 
or subject to issuance by the Options Clearing Corporation. See Rule 
2860(b)(2)(N).
    \6\ As noted in Notice to Members 01-01, the options position 
reporting requirements are applicable to all standardized options 
positions established by ``access'' firms or their customers and all 
conventional options positions established by members or their 
customers. Access firms, in this context, are understood to be NASD 
members that conduct a business in standardized options but are not 
themselves members of the options exchange upon which such options 
are listed and traded.
    \7\ See In the Matter of the Application of the Nasdaq Stock 
Market LLC, Securities Exchange Act Release No. 53128 (January 13, 
2006), 71 FR 3550 (January 23, 2006) (File No. 10-131).
    \8\ See Securities Exchange Act Release No. 52049 (July 15, 
2005), 70 FR 42398 (July 22, 2005) (SR-NASD-2005-087).
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    To require members to report members' and customers' positions in 
conventional index options, NASD proposes amending the definition of 
``underlying index'' to mean an index underlying a ``standardized index 
option'' or ``conventional index option.'' In addition, the proposed 
rule change would define the terms ``standardized index option'' and 
``conventional index option.'' Under the proposed rule change, the 
definition of ``underlying index'' would include indexes such as the 
S&P 500, Dow Jones Industrial Average, and the Nasdaq 100, because 
these indexes underlie standardized index options that are issued, or 
subject to issuance, by the Options Clearing Corporation.
    The proposed rule change also would amend the definition of 
``underlying index'' to include certain indexes that do not underlie 
standardized index options but that meet specified criteria. The 
proposed criteria for customized indexes are based upon the standards 
in place at the options exchanges for listing narrow-based index 
options.\9\ The purpose of these criteria is to exclude from the 
definition of ``underlying index'' indexes that are so narrowly 
constructed that they are the economic equivalent of, or have 
attributes of, an equity option on common stock. These criteria also 
serve to prevent the creation of an index so narrow as to subvert 
position limit requirements, which do not apply to conventional index 
options.\10\
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    \9\ See, e.g., Chicago Board Options Exchange (``CBOE'') Rule 
24.2(b).
    \10\ See NASD Notice to Members 94-46 (June 1994).
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    Under the proposed rule change, a member would have the burden of 
demonstrating that an index meets the specified criteria before it 
would be considered a ``conventional index option.'' Thus, members 
should maintain detailed records to be able to demonstrate promptly, 
upon a request from NASD, that a particular ``conventional index 
option'' meets the necessary criteria. Members also should be aware 
that options based on a security that do not meet the definition of 
``conventional index option'' would continue to be subject to position 
limits and position reporting requirements as if the non-conforming 
index were deconstructed into its equity security components.
    Position Limits for Conventional Equity Options Overlying Certain 
Foreign Securities: The proposed rule change also addresses the need 
for members to identify position limits for conventional equity options 
on securities that do not underlie a standardized equity option. Under 
Rule 2860(b)(3)(viii), the position limits for conventional equity 
options are the same as the limits for the standardized equity options 
overlying the same security. For example, if standardized equity 
options on ABC have a position limit of 75,000 contracts, then 
conventional equity options on ABC also have a position limit of 75,000 
contracts. On the other hand, for an option on an equally liquid 
foreign security such as DEF, for which there are no standardized 
equity options, a member must obtain prior approval from NASD staff for 
any position limit in excess of 13,500 contracts (the base limit in the 
absence of a pilot program \11\). Obtaining prior approval could place 
a significant burden on a member's ability to execute transactions with 
customers given the time difference between the foreign market and the 
U.S. market and the time frame in which customers typically desire to 
trade.
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    \11\ The six national securities exchanges that list and trade 
options have adopted pilot rules establishing higher position limits 
for standardized options. These pilots expire between February 23, 
2006 and March 3, 2006. See infra note 12.
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    The proposed rule change would allow members to calculate on their 
own the position limits for conventional equity options overlying 
securities that are part of the FTSE All-World Index Series using the 
volume and float criteria (as measured during the most recent six-month 
period) established by the option exchanges' rules.\12\ The position 
limit levels are described in the chart below:
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    \12\ See Commentary .07 to American Stock Exchange Rule 904, 
section 7(c) of Chapter III of the Boston Options Exchange Rules, 
Interpretation .02 to CBOE Rule 4.11; International Securities 
Exchange Rule 412(d); Commentary .06 to Pacific Exchange Rule 6.8; 
Commentary .05 to Philadelphia Stock Exchange Rule 1001.

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    Options position limit                      Criteria
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22,500 (or 50,000 during the   Trading volume of 20,000,000 shares; or
 pilot period).                 trading volume of 15,000,000 shares, and
                                40,000,000 shares currently outstanding.
31,500 (or 75,000 during the   Trading volume of 40,000,000 shares; or
 pilot period).                 trading volume of 30,000,000 shares, and
                                120,000,000 shares currently
                                outstanding.
60,000 (or 200,000 during the  Trading volume of 80,000,000 shares; or
 pilot period).                 trading volume of 60,000,000 shares, and
                                240,000,000 shares currently
                                outstanding.
75,000 (or 250,000 during the  Trading volume of 100,000,000 shares; or
 pilot period).                 trading volume of 75,000,000 shares, and
                                300,000,000 shares currently
                                outstanding.
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    NASD has chosen the FTSE All-World Index Series \13\ in part 
because the Commission staff has deemed securities in the predecessor 
to this index of foreign securities to receive comparable treatment to 
U.S. equity securities under the securities haircut provisions of the 
Commission's net capital rule as set forth in Rule 15c3-1 under the 
Exchange Act,\14\ and the Federal Reserve Board recognizes this index 
for determining whether stocks are eligible for margin treatment.\15\ 
Under the proposed rule change, a member would make a post-trade notice 
filing-within

[[Page 6119]]

one business day--to NASD staff providing the necessary trade data and/
or current float data to support the member's position limit 
calculation. Thus, in the example above, a conventional equity option 
on DEF would be subject to a position limit of 75,000 contracts rather 
than 13,500 contracts because the underlying securities' 
characteristics meet the volume and float thresholds established by the 
options exchanges necessary to raise the position limits from 13,500 
contracts to 75,000 contracts, provided the member makes the necessary 
filing within the prescribed time.
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    \13\ In the event NASD designates another index in addition to 
or instead of the FTSE All-World Index Series, NASD will publish the 
designation of the new applicable index in a Notice to Members and 
provide members at least 30 days written notice of the change.
    \14\ Letter to Dominic A. Carone, Capital Committee Chairman, 
Securities Industry Association from Michael Macchiaroli, Assistant 
Director, Division of Market Regulation, Commission, dated August 
13, 1993. See 1993 SEC No-Act LEXIS 967 (Aug. 13, 1993).
    \15\ See section 220.11(c) and (d) of Regulation T, 12 CFR part 
220.11(c) and (d). See also 69 FR 10601 (March 8, 2004) (removing 
certain foreign securities from the list of securities that meet the 
financial requirements of section 220.11(c) and (d) of Regulation 
T).
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    Under the proposed rule change, NASD staff would review the 
member's notice filing, and, if the staff determined that a member 
incorrectly assigned a position limit, it would notify the firm and 
instruct the firm to reduce its position promptly to fall below the 
appropriate limits determined by the NASD staff.
    NASD would 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, if the Commission approves this proposal. The 
effective date would be 30 days following publication of the Notice to 
Members announcing any Commission approval.
2. Statutory Basis
    NASD believes that the proposed rule change is consistent with the 
provisions of section 15A(b)(6) of the Exchange Act,\16\ which 
requires, among other things, that NASD's rules must 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. NASD believes that amending the 
definition of ``underlying index'' would ensure more complete reporting 
of options positions. NASD also believes that permitting members to 
calculate position limits for certain foreign securities would enable 
members to effect options transaction in such securities without 
unnecessary delay.
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    \16\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    NASD does not believe that the proposed rule change would result in 
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

    Written comments were neither solicited nor 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 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 NASD 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 Exchange Act. Comments may be submitted 
by any of the following methods.

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml.
); or     Send an e-mail to rules-comments@sec.gov. Please include 

File No. SR-NASD-2006-007 on the subject line.

Paper Comments

     Send paper comments in triplicate to Nancy M. Morris, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549-1090.
    All submissions should refer to File No. SR-NASD-2006-007. 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 Room. Copies of such 
filing will also be available for inspection and copying at the 
principal office of the NASD. 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 No. SR-NASD-2006-007 and should be submitted on or before February 
27, 2006.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\17\
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    \17\ 17 CFR 200.30-3(a)(12).
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Nancy M. Morris,
Secretary.
[FR Doc. E6-1541 Filed 2-3-06; 8:45 am]

BILLING CODE 8010-01-P