
[Federal Register: March 11, 2008 (Volume 73, Number 48)]
[Notices]               
[Page 13058-13060]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr11mr08-115]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-57429; File No. SR-CBOE-2006-36]

 
Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Order Granting Approval of Proposed Rule Change, as 
Modified by Amendments No. 1, 2, and 3 Thereto, to Modify the Minimum 
Value Size for an Opening Transaction in a Currently-Opened FLEX Equity 
Series and to Establish a Pilot Program that Reduces the Minimum Number 
of Contracts Required for a FLEX Equity Option Opening Transaction in a 
New Series

March 4, 2008.

I. Introduction

    On April 14, 2006, 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 Actof 1934 (``Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to make changes to the minimum 
value size for an opening transaction in a currently-opened FLEX Equity 
series and to establish a one-and-a-half-year pilot program that 
reduces the minimum number of contracts required for a FLEX Equity 
Option opening transaction in a new series (``Pilot Program'').\3\ On 
December 24, 2007, CBOE filed Amendments No. 1 and 2 to the proposed 
rule change.\4\ The amended proposed rule change was published for 
comment in the Federal Register on January 24, 2008.\5\ The Commission 
received no comments on the proposal. On March 3, 2008, CBOE filed 
Amendment No. 3 to the proposed rule change.\6\ This order approves the 
proposed rule change, as modified by Amendments No. 1, 2, and 3.
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    \1\ 15 U.S.C. 78s(b)(l).
    \2\ 17 CFR 240.19b-4.
    \3\ CBOE defines the term ``FLEX Equity Option'' to mean an 
option on a specified underlying equity security that is subject to 
the rules in Chapters 24A and 24B. See CBOE Rule 24A.1(e) and CBOE 
Rule 24B.1(f), respectively.
    \4\ Amendment No. 1 replaced and superseded the original filing 
in its entirety. Amendment No. 2 replaced and superseded Amendment 
No. 1 in its entirety.
    \5\ See Securities Exchange Act Release No. 57161 (January 16, 
2008), 73 FR 4293 (January 24, 2008).
    \6\ Amendment No. 3 is a technical amendment that corrects a 
typographical error in the proposed rule language and is not subject 
to notice and comment.
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II. Description of the Proposal

    CBOE is proposing to reduce the minimum value size for an opening 
transaction (other than FLEX Quotes responsive to a FLEX Request for 
Quotes) in any FLEX Equity Option \7\ series in which there is no open 
interest at the time the Request for Quotes is submitted on a pilot 
basis for one-and-a-half years. Currently, the minimum opening 
transaction value size in the case of a FLEX Equity Options in a newly 
established series is the lesser of (i) 250 contracts or (ii) the 
number of contracts overlying $1 million in the underlying 
securities.\8\ Under the Pilot Program, the Exchange proposes to reduce 
the ``250 contracts'' component to ``150 contracts;'' the $1 million 
underlying value component will continue to apply unchanged.\9\ If the 
Exchange were to propose an extension, expansion, or permanent 
implementation of the Pilot Program, the Exchange would submit, along 
with a filing proposing any necessary amendments to the Pilot Program, 
a pilot program report. The report would be submitted to the Commission 
at least ninety days prior to the expiration date of the one-and-a-half 
year Pilot Program.
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    \7\ FLEX Equity Options are flexible exchange-traded options 
contracts which overlie equity securities. FLEX Equity Options 
provide investors with the ability to customize basic option 
features including size, expiration date, exercise style, and 
certain exercise prices.
    \8\ Under this formula, an opening transaction in a FLEX Equity 
series in a stock priced at $40 or more would reach the $1 million 
limit before it would reach the contract size limit, i.e., 250 
contracts times the multiplier (100) times the stock price ($40) 
equals $1 million in underlying value. For a FLEX Equity series in a 
stock priced at less than $40, the 250 contract size limit applies.
    \9\ Under this proposed formula, an opening transaction in a 
FLEX Equity series in a stock priced at approximately $66.67 or more 
would reach the $1 million limit before it would reach the contract 
size limit, i.e., 150 contracts times the multiplier (100) times the 
stock price ($66.67) equals just over $1 million in underlying 
value. For a FLEX Equity series in a stock priced at less than 
$66.67, the 150 contract size limit would apply.
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    Given that FLEX Equity Option transactions can occur in increments 
of 100 or more contracts in subsequent opening transactions,\10\ the 
Exchange believes it is reasonable to permit the initial series opening 
transaction size to

[[Page 13059]]

be 150 contracts (or $1 million in underlying value, whichever is 
less). The Exchange believes that the proposed reduction of the minimum 
value size for opening a series provides FLEX-participating members 
with greater flexibility in structuring the terms of FLEX Equity 
Options that best comports with their and their customers' particular 
needs. The Exchange notes that the opening size requirement for FLEX 
Equity Options was originally put in place to limit participation in 
FLEX Equity Options to sophisticated, high net worth investors rather 
than retail investors.\11\ According to CBOE, it has recently received 
requests from broker-dealers representing institutional clients that 
the minimum value size for opening transactions be reduced. In 
proposing the reduction of the 250 contract component to 150 contracts, 
CBOE stated in its filing that it is cognizant of the desire to 
continue to provide both the requisite amount of investor protection 
that the minimum opening size requirement was originally designed to 
achieve, as well as the need for market participants to have the 
flexibility to serve their customers' particular investment needs.
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    \10\ Specifically, the minimum value size for a transaction in 
any currently-opened FLEX Equity Option series is 100 contracts in 
the case of opening transactions and 25 contracts in the case of 
closing transactions (or any lesser amount in a closing transaction 
that represents the remaining underlying size, whichever is less). 
Additionally, the minimum value size for a FLEX Quote entered in 
response to a Request for Quotes in FLEX Equity Options is the 
lesser of 25 contracts or the remaining underlying size in a closing 
transaction. See Exchange Rules 24A.4(a)(4)(iii)--(iv) and 
24B.4(a)(5)(iii)--(iv). A ``FLEX Quote'' refers to (i) FLEX bids and 
offers entered by Market-Makers and (ii) orders to purchase and 
orders to sell FLEX Options entered by Exchange members other than 
Market-Makers, in each case in response to a Request for Quotes. See 
CBOE Rules 24A.1(h) and 24B.1(k).
    \11\ The existing customer base for FLEX Options includes both 
institutional investors and high net worth individuals.
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    The Exchange also believes that modifying the minimum opening 
transaction value size in this way will further broaden the base of 
institutional investors that use FLEX Equity Options to manage their 
trading and investment risk, including investors that currently trade 
in the over-the-counter (``OTC'') market for customized options which 
can take on contract characteristics similar to FLEX Options but for 
which similar opening size restrictions do not apply. CBOE believes 
market participants benefit from being able to trade these customized 
options in an exchange environment in several ways, including, but not 
limited to, enhanced efficiency in initiating and closing out 
positions; increased market transparency; and heightened contra-party 
creditworthiness due to the role of The Options Clearing Corporation as 
issuer and guarantor of FLEX Equity Options.
    Finally, the Exchange is also proposing to modify the minimum value 
size for an opening transaction in a currently-opened FLEX Equity 
series (other than FLEX Quotes responsive to a FLEX Request for 
Quotes). Presently, the minimum transaction value size for an opening 
transaction in a currently-opened series is 100 contracts. The Exchange 
is proposing to modify the minimum size formula to the lesser of (i) 
100 contracts or (ii) the number of contracts overlying $1 million in 
the underlying securities. This change would only impact those FLEX 
Equity series in which the underlying stock is trading at more than 
$100.\12\
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    \12\ Under this proposed formula, a transaction in a currently-
opened FLEX Equity series in a stock priced at more than $100 would 
reach the $1 million limit before it would reach the contract size 
limit, i.e., 100 contracts times the multiplier (100) times the 
stock price ($100) equals $1 million in underlying value. Telephone 
conference between Jennifer Lamie, Assistant General Counsel, CBOE, 
and Kristie Diemer, Special Counsel, Division of Trading and 
Markets, Commission, on February 28, 2008 clarifying that the 
underlying stock price would have to be trading at ``more than 
$100'' versus ``$100 or more'' to meet a $1 million limit before the 
100 contract size limit. (``February 28 Telephone Conversation.'')
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    The FLEX minimum size requirements for subsequent opening 
transactions in a currently-opened series is higher for certain stocks 
priced over $100 than the minimum size needed to initially open the 
series in similarly priced stocks. The Exchange therefore believes 
that, this change is necessaryfor there to be consistency between the 
minimum size requirements for new series and currently-opened series 
when the underlying stock is trading at more than $100.\13\
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    \13\ For example, a new FLEX Equity series in a stock trading at 
$110 could open with an initial transaction size of 91 contracts, 
i.e., 91 contracts times the multiplier (100) times the stock price 
($110) equals just over $1 million in underlying value. Once the 
series is opened, absent the proposed change, any further opening 
transactions would require a minimum contract size of 100 contracts, 
despite the fact that with the stock price of $110, this would be 
valued at $1.1 million, more than the value of the initial opening 
transaction.
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III. Discussion and Commission Findings

    The Commission has carefully reviewed the proposed rule change and 
finds that it is consistent with the requirements of the Act and the 
rules and regulations thereunder applicable to a national securities 
exchange.\14\ In particular, the Commission finds that the proposed 
rule change is consistent with section 6(b)(5) of the Act,\15\ which, 
among other things, requires that the rules of a national securities 
exchange be designed to promote just and equitable principles of trade, 
to foster cooperation and coordination with persons engaged in 
regulating 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.
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    \14\ In approving this proposed rule change, the Commission has 
considered the proposed rule's impact on efficiency, competition, 
and capital formation. See 15 U.S.C. 78c(f).
    \15\ 15 U.S.C. 78f(b)(5).
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    The Commission believes that the proposed rule change, in reducing 
the minimum opening size from 250 contracts to 150 contracts (or an 
underlying value of $1 million, whichever is less) in an initial 
opening transaction, should allow CBOE to better meet the needs of 
investors in the FLEX Equity Options market. The requirements as 
proposed, however, should still be significant enough to limit FLEX 
Equity Options to institutional and high net worth customers, the 
intended customers, rather than retail investors. In addition, the 
Commission agrees with the Exchange that the proposal to lower the 
opening size may allow more market participants to benefit from trading 
customized-type options in the Exchange's FLEX Equity Options market as 
opposed to the OTC market. As noted above, some of the benefits of 
trading on an exchange may include, among others, enhanced efficiency 
in initiating and closing out positions; increased market transparency; 
and heightened contra-party creditworthiness due to the role of The 
Options Clearing Corporation as issuer and guarantor of FLEX Equity 
Options.
    As noted above, the proposal to reduce the minimum number of 
contracts required for a FLEX Equity Option in an initial opening 
transaction is being approved on a one-and-a-half-year pilot basis. The 
Commission has requested that CBOE provide a report to it should CBOE 
wish to extend the Pilot Program or implement the change on a permanent 
basis. At a minimum, the report must provide (i) data and analysis on 
the open interest and trading volume in FLEX Equity Options for which 
series were opened with a minimum opening size of 150 to 249 contracts 
and less than $1 million in underlying value; and (ii) analysis on the 
types of investors that initiated opening FLEX Equity Options 
transactions (i.e., institutional, high net worth, or retail, if any). 
The report, along with any filing to extend or permanently implement 
the Pilot Program,\16\ should be submitted to the Commission at least 
ninety days prior to the expiration date of the one-and-a-half-year 
Pilot Program.
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    \16\ CBOE agreed to submit any related filing (in addition to 
the report) at least ninety days prior to the expiration of the 
Pilot Program in the February 28 Telephone Conversation. See supra, 
note 12.
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    The report should provide the Commission with information on 
whether the intended customers (institutional and high net worth) are 
in fact the investors utilizing the lower

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opening contract requirement in the FLEX Equity Options market, as well 
as whether the lower opening size has increased liquidity in FLEX 
Equity Options. Based on the report's information, the Commission 
should be able to determine whether the Pilot Program should be 
extended or approved on a permanent basis, consistent with the Act.
    The Commission also believes that the aspect of the proposal that 
modifies the minimum value size for an opening transaction in a 
currently-opened FLEX Equity series (other than FLEX Quotes responsive 
to a FLEX Request for Quotes) to the lesser of (i) 100 contracts or 
(ii) the number of contracts overlying $1 million in the underlying 
securities is also consistent with the Act and the rules and 
regulations thereunder. The Commission agrees with the Exchange that 
this change will provide consistency between the minimum size 
requirements for opening transactions in both new series and currently-
opened series when the underlying stock is trading at more than $100. 
The change avoids the result that, for situations where the underlying 
stock is priced over $100, the effect of current CBOE rules is to 
require a higher opening amount for currently-opened series than for 
newly established series.

IV. Conclusion

     It is therefore ordered, pursuant to section 19(b)(2) of the 
Act,\17\ that the proposed rule change (SR-CBOE-2006-36), as modified 
by Amendments No. 1, 2, and 3, be, and hereby is, approved with respect 
to the minimum value size for an opening transaction in a currently-
opened FLEX Equity series (other than FLEX Quotes responsive to a FLEX 
Request for Quotes) and to establish a Pilot Program for one-and-a-
half-years with respect to the reduced minimum number of contracts 
required for a FLEX Equity Option Opening transaction in a new series.
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    \17\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\18\
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    \18\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
 [FR Doc. E8-4748 Filed 3-10-08; 8:45 am]

BILLING CODE 8011-01-P
