

[Federal Register: September 11, 2007 (Volume 72, Number 175)]
[Notices]               
[Page 51878-51880]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr11se07-112]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-56350; File No. SR-CBOE-2007-79]

 
Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Order Granting Accelerated Approval of Proposed Rule 
Change and Amendment No. 1 Thereto To Eliminate Position and Exercise 
Limits for Options on the Russell 2000 Index, and To Specify That 
Certain Reduced-Value Options on Broad-Based Security Indexes Have No 
Position and Exercise Limits

September 4, 2007.

I. Introduction

    On July 17, 2007, the Chicago Board Options Exchange, Incorporated 
(``CBOE'' or ``Exchange'') filed with the Securities and Exchange 
Commission (``Commission''), pursuant to section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to eliminate position and 
exercise limits for options on the Russell 2000 Index (``RUT'') and to 
specify that reduced-value options on broad-based security indexes for 
which full-value options have no position and exercise limits similarly 
have no position and exercise limits. On August 2, 2007, the Exchange 
filed Amendment No. 1 to the proposed rule change. The proposed rule 
change was published for comment in the Federal Register on August 9, 
2007 for a 15-day comment period.\3\ The Commission received no 
comments on the proposed rule change. This order approves the proposed 
rule change, as modified by Amendment No. 1, on an accelerated basis.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release No. 56191 (August 2, 
2007), 72 FR 44894.
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II. Description of the Proposal

    CBOE proposes to amend Rules 24.4 and 24.5 to eliminate position 
and exercise limits for options on RUT, a broad-based security index. 
In connection with this change, RUT options would be subject to 
specific reporting requirements and additional margin provisions 
imposed by CBOE with respect to options on the Standard & Poor's 500 
Index (``SPX''), the Standard & Poor's 100 Index (``OEX''), the Dow 
Jones Industrial Average (``DJX''), and the Nasdaq-100 Index (``NDX''), 
other broad-based index options that, under the Exchange's current 
rules, are not subject to position and exercise limits.
    The Exchange notes that in approving the elimination of position 
and exercise limits for SPX, OEX, DJX, and NDX options, the Commission 
considered the enormous capitalization of each of these indexes and the 
deep and liquid markets for the securities underlying each index that 
significantly reduced concerns of market manipulation or disruption in 
the underlying markets.\4\ CBOE noted that the market capitalization of 
RUT, as of the date of filing of the proposed rule change, was $1.73 
trillion and the average daily trading volume (``ADTV''), in the 
aggregate, for the component securities of RUT, for the period as of 
three months prior to the date of filing of the proposed rule change, 
was 535 million shares. For the same period, the ADTV for options on 
RUT was 79,000 contracts.
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    \4\ See Securities Exchange Act Release Nos. 44994 (October 26, 
2001), 66 FR 55722 (November 2, 2001) (SR-CBOE-2001-22) (``SPX/OEX/
DJX Permanent Approval Order''); and 52650 (October 21, 2005), 70 FR 
62147 (October 28, 2005) (SR-CBOE-2005-41) (``NDX Approval Order'') 
(collectively, ``SPX/OEX/DJX/NDX Approval Orders''). See also 
Securities Exchange Act Release No. 40969 (January 22, 1999), 64 FR 
4911 (February 1, 1999) (SR-CBOE-98-23) (``SPX/OEX/DJX Pilot 
Approval Order'').
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    The Exchange also states that in the SPX/OEX/DJX/NDX Approval 
Orders, the Commission noted that the financial requirements imposed by 
both the Exchange and the Commission serve to address any concerns that 
an Exchange member or its customer(s) may try to maintain an 
inordinately large unhedged position in the index options. CBOE notes 
that these same financial requirements would apply equally to RUT 
options. The Exchange further notes that it has the authority to impose 
additional margin upon accounts maintaining underhedged positions and 
is able to monitor accounts to determine when such action is warranted. 
As noted in the Exchange's rules, the clearing firm carrying such an 
account would be subject to capital charges under Rule 15c3-1 under the 
Act \5\ to the extent of any resulting margin deficiency.\6\
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    \5\ 17 CFR 240.15c3-1.
    \6\ See Interpretation and Policy .04 to CBOE Rule 24.4.
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    CBOE indicates that the Commission, in the SPX/OEX/DJX/NDX Approval 
Orders, relied substantially on the Exchange's ability to provide 
surveillance and reporting safeguards to detect and deter trading 
abuses arising from the elimination of position and exercise limits on 
SPX, OEX, DJX, and NDX options. The Exchange represents that it 
monitors the trading in RUT options in the same manner as trading in 
SPX, OEX, DJX, and NDX options and that the current CBOE surveillance 
procedures are adequate to continue monitoring RUT options. In 
addition, the Exchange intends to impose a reporting requirement on 
CBOE members or member organizations (other than CBOE market-makers) 
that trade RUT options. This reporting requirement, which is currently 
imposed on members who trade SPX, OEX, and NDX options, would require 
members or member organizations who maintain in excess of 100,000 RUT 
option contracts on the same side of the market, for their own accounts 
or for the account of customers, to report information as to whether 
the positions are hedged and provide documentation as to how such 
contracts are hedged, in a manner and form required by the Exchange's 
Department of Market Regulation.\7\ The Exchange also would be 
permitted to specify other reporting requirements, as well as the limit 
at which the reporting requirement may be triggered.\8\
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    \7\ See Interpretation and Policy .03 to CBOE Rule 24.4. The 
reporting requirement for DJX options is triggered at 1 million 
contracts.
    \8\ Id.
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    In addition, CBOE proposes to amend Rule 24A.7 relating to the 
trading of FLEX broad-based index options to eliminate position and 
exercise limits on FLEX RUT options, and to adopt for FLEX RUT options 
the same 100,000 contract reporting requirement and the additional 
margin provisions that currently apply to FLEX SPX, OEX, and NDX 
options. The Exchange believes that eliminating position and exercise 
limits for RUT options and FLEX RUT options is consistent with CBOE 
rules relating to similar broad-based indexes and also would allow CBOE 
members and their customers greater hedging and investment 
opportunities.
    The Exchange notes that it lists and trades several reduced-value 
options on broad-based indexes for which the Exchange also lists and 
trades full-value options (e.g., Mini-SPX Index (``XSP'') options, 
Mini-Russell 2000 Index (``RMN'') options, and Mini-Nasdaq-100 Index 
(``MNX'') options). The Exchange states that when it received approval 
to list and trade reduced-value options on broad-based indexes, the 
proscribed position and exercise limits were equivalent to the reduced-
value contract

[[Page 51879]]

factor (e.g., 10) multiplied by the applicable position and exercise 
limits for the full-value option on the same broad-based index. In 
other words, the Exchange's existing rules applicable to position and 
exercise limits for full-value broad-based index options are used to 
calculate the position and exercise limits for reduced-value options.
    Conversely, when the Exchange's rules specifically state that 
certain full-value broad-based index options have no position and 
exercise limits, the same equally applies to reduced-value options on 
those same broad-based indexes. The Exchange proposes to amend Rules 
24.4 and 24.5 in order to codify this provision. In addition, because 
position and exercise limits for reduced-value options are aggregated 
with full-value options for purposes of determining compliance with 
position and exercise limits, the Exchange proposes to amend Rules 24.4 
and 24A.7 to reflect that such aggregation will apply when calculating 
reporting requirements.
    Finally, the Exchange proposes to make technical changes to Rules 
24.4, 24.5, and 24A.7 to specify that there are no position and 
exercise limits for European-Style Exercise S&P 100 Index options 
(``XEO'') and FLEX XEO options, and to add XEO options to the position 
reporting and margin rules.\9\ The Exchange notes that the only 
difference between OEX and XEO options is the manner in which the 
respective contracts are exercised (i.e. American-style versus 
European-style).
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    \9\ See Securities Exchange Act Release No. 44556 (July 16, 
2001), 66 FR 38046 (July 20, 2001) (SR-CBOE-2001-39) (``XEO Approval 
Order'').
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III. Discussion

    After careful review, the Commission finds that the proposed rule 
change is consistent with the requirements of the Act and the rules and 
regulations thereunder that are applicable to a national securities 
exchange.\10\ In particular, the Commission believes the proposed rule 
change is consistent with the requirements of section 6(b)(5) of the 
Act, which requires that the rules of a national securities exchange be 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principals of trade, to foster cooperation 
and coordination with persons engaged in facilitating transactions in 
securities, to remove impediments to and perfect the mechanism of a 
free and open market and a national market system, and in general to 
protect investors and the public interest.\11\
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    \10\ In approving this proposed rule change, the Commission 
notes that it has considered the proposed rule's impact on 
efficiency, competition, and capital formation. See 15 U.S.C. 
78c(f).
    \11\ 15 U.S.C. 78f(b)(5). [FEDREG][VOL]*[/VOL][NO]*[/
NO][DATE]*[/DATE][NOTICES][NOTICE][PREAMB][AGENCY]*[/
AGENCY][SUBJECT]*[/SUBJECT][/PREAMB][SUPLINF][HED]*[/HED]
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    Since the inception of standardized options trading, the options 
exchanges have had rules imposing limits on the aggregate number of 
options contracts that a member or customer could hold or exercise. 
These rules are intended to prevent the establishment of options 
positions that can be used or might create incentives to manipulate or 
disrupt the underlying market so as to benefit the holder of the 
options position.
    The Commission notes that it continues to believe that the 
fundamental purposes of position and exercise limits remain valid. 
Nevertheless, the Commission believes that experience with the trading 
of index options as well as enhanced reporting requirements and the 
Exchange's surveillance capabilities have made it possible to approve 
the elimination of position and exercise limits on certain broad-based 
index options. Thus, in 2001, the Commission approved a CBOE proposal 
to eliminate permanently position and exercise limits for options on 
SPX, OEX, and DJX,\12\ and, in 2005, the Commission approved a CBOE 
proposal to eliminate permanently position and exercise limits for 
options on NDX.\13\ The Commission believes that the considerations 
upon which it relied in approving the elimination of position and 
exercise limits for SPX, OEX, DJX, and NDX options equally apply with 
respect to options on RUT.
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    \12\ See SPX/OEX/DJX Permanent Approval Order, supra note 4.
    \13\ See NDX Approval Order, supra note 4.
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    As noted by CBOE, the market capitalization of RUT as of the date 
of filing of the proposal was $1.73 trillion. The ADTV for the period 
as of three months prior to the date of filing of the proposed rule 
change for all underlying components of the index was 535 million 
shares. The Commission believes that the enormous market capitalization 
of RUT and the deep, liquid market for the underlying component 
securities significantly reduce concerns regarding market manipulation 
or disruption in the underlying market. Removing position and exercise 
limits for RUT options may also bring additional depth and liquidity, 
in terms of both volume and open interest, to RUT options without 
significantly increasing concerns regarding intermarket manipulation or 
disruption of the options or the underlying securities.
    In addition, the Commission believes that financial requirements 
imposed by both the Exchange and the Commission adequately address 
concerns that a CBOE member or its customer may try to maintain an 
inordinately large unhedged position in RUT options. Current risk-based 
haircut and margin methodologies serve to limit the size of positions 
maintained by any one account by increasing the margin and/or capital 
that a member must maintain for a large position held by itself or by 
its customer.\14\ Under the proposal, CBOE also would have the 
authority under its rules to impose a higher margin requirement upon an 
account maintaining an under-hedged position when it determines a 
higher requirement is warranted. As noted in the CBOE rules, the 
clearing firm carrying the account would be subject to capital charges 
under Rule 15c3-1 under the Act to the extent of any margin deficiency 
resulting from the higher margin requirement.
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    \14\ See SPX/OEX/DJX Pilot Approval Order, supra note 4.
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    In approving the elimination of position and exercise limits for 
options on the SPX, OEX, DJX, and NDX, the Commission took note of the 
enhanced surveillance and reporting safeguards that CBOE had adopted to 
allow it to detect and deter trading abuses that might arise as a 
result.\15\ CBOE represents that it monitors trading in RUT options in 
much the same manner as trading in SPX, OEX, DJX, and NDX options. 
These safeguards, including the 100,000-contract reporting requirement 
described above, would allow CBOE to monitor large positions in order 
to identify instances of potential risk and to assess and respond to 
any market concerns at an early stage. In this regard, the Commission 
expects CBOE to take prompt action, including timely communication with 
the Commission and other marketplace self-regulatory organizations 
responsible for oversight of trading in component stocks, should any 
unanticipated adverse market effects develop. Moreover, as previously 
noted, the Exchange has the flexibility to specify other reporting 
requirements, as well as to vary the limit at which the reporting 
requirements may be triggered.
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    \15\ See id. and NDX Approval Order, supra note 4.
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    The Commission further notes that in eliminating position and 
exercise limits for FLEX RUT options, CBOE is adopting the same 
additional rules for these options that currently exist for FLEX SPX, 
OEX, and NDX options.

[[Page 51880]]

    In addition, the Commission notes that the Exchange's existing 
rules applicable to position and exercise limits for full-value broad-
based index options are used to calculate the position and exercise 
limits for reduced-value options. The Exchange proposes to amend its 
rules for those specified broad-based index options that do not have 
position and exercise limits to specifically state that there will not 
be position and exercise limits on the reduced-value options on those 
same broad-based index options. The Exchange also proposes to amend its 
rules to state that reduced-value options will be aggregated with full-
value options when calculating reporting requirements.
    The Exchange also is making technical corrections to its rules to 
reflect that there are no position and exercise limits for XEO options. 
The Commission notes that position and exercise limits for XEO options 
were previously eliminated and CBOE is simply updating its rules to 
reflect this fact.\16\
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    \16\ See XEO Approval Order, supra note 9; see also SPX/OEX/DJX 
Permanent Approval Order, supra note 4.
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    The Commission finds good cause, consistent with section 19(b)(2) 
of the Act,\17\ to grant accelerated approval of the proposed rule 
change prior to the thirtieth day after the date of publication of 
notice thereof in the Federal Register. The Commission notes, as stated 
above, that RUT has similar characteristics to the other broad-based 
indexes for which position and exercise limits have been eliminated for 
options on those indexes. Specifically, the Commission believes that 
the enormous market capitalization of RUT and the deep, liquid market 
for the underlying component securities significantly reduce concerns 
regarding market manipulation or disruption in the underlying market. 
The Commission received no comments regarding the proposed rule change 
and the Commission believes that the proposed rule change raises no new 
regulatory issues of material concern. The Commission believes that 
accelerating approval of the proposed rule change will allow CBOE 
members and their customers greater hedging and investment 
opportunities with respect to RUT options without further delay.
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    \17\ 15 U.S.C. 78s(b)(2).
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IV. Conclusion

    It is therefore ordered, pursuant to section 19(b)(2) of the 
Act,\18\ that the proposed rule change (SR-CBOE-2007-79), as modified 
by Amendment No. 1, be, and it hereby is, approved on an accelerated 
basis.
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    \18\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\19\
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    \19\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
 [FR Doc. E7-17784 Filed 9-10-07; 8:45 am]

BILLING CODE 8010-01-P
