
[Federal Register Volume 77, Number 92 (Friday, May 11, 2012)]
[Notices]
[Pages 27822-27825]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2012-11365]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-66934; File No. SR-CBOE-2012-040]


Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Notice of Proposed Rule Change Related to Permanent 
Approval of Its Pilot on FLEX Minimum Value Sizes

May 7, 2012.
    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 April 25, 2012, the Chicago Board Options Exchange, Incorporated 
(``Exchange'' or ``CBOE'') filed with the Securities and Exchange 
Commission (the ``Commission'') the proposed rule change as described 
in Items I and II 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\ 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

    The Exchange is proposing to make permanent its pilot program 
regarding minimum value sizes for Flexible Exchange Options (``FLEX 
Options'').\3\ The text of the rule proposal is available on the 
Exchange's Web site (http://www.cboe.org/legal), at the Exchange's 
Office of the Secretary and at the Commission.
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    \3\ FLEX Options provide investors with the ability to customize 
basic option features including size, expiration date, exercise 
style, and certain exercise prices. FLEX Options can be FLEX Index 
Options or FLEX Equity Options. In addition, other products are 
permitted to be traded pursuant to the FLEX trading procedures. For 
example, credit options are eligible for trading as FLEX Options 
pursuant to the FLEX rules in Chapters XXIVA and XXIVB. See CBOE 
Rules 24A.1(e) and (f), 24A.4(b)(1) and (c)(1), 24B.1(f) and (g), 
24B.4(b)(1) and (c)(1), and 28.17. The rules governing the trading 
of FLEX Options on the FLEX Request for Quote (``RFQ'') System 
platform are contained in Chapter XXIVA. The rules governing the 
trading of FLEX Options on the FLEX Hybrid Trading System platform 
are contained in Chapter XXIVB.
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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 self-regulatory organization 
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 those 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 parts of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and the 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    On January 28, 2010, the Exchange received approval of a rule 
change that, among other things, established a pilot program that 
eliminated minimum value sizes for FLEX Options. The pilot program is 
currently set to expire on the earlier of November 2, 2012 or the date 
on which the pilot program is approved on a permanent basis.\4\ The 
purpose of this rule change filing is to make the pilot program 
permanent.
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    \4\ At the same time the minimum value size pilot program was 
established, the Exchange also established a pilot program regarding 
permissible exercise settlement values for FLEX Index Options. 
Securities Exchange Act Release Nos. 61439 (January 28, 2010), 75 FR 
5831 (February 4, 2010) (SR-CBOE-2009-087) (Approval Order); 61676 
(March 9, 2010), 75 FR 13191 (March 18, 2010) (SR-CBOE-2010-026) 
(technical rule change to include original pilots' conclusion date 
of March 28, 2011 in the rule text); 64110 (March 24, 2011), 76 FR 
17463 (March 29, 2011) (SR-CBOE-2011-024) (extending the pilots 
through March 30, 2012); and 66701 (March 30, 2012), 77 FR 20673 
(April 5, 2012) (SR-CBOE-2012-027) (extending the pilots through the 
earlier of November 2, 2012 or the date on which the respective 
pilot program is approved on a permanent basis). The Exchange is not 
currently proposing permanent approval of the exercise settlement 
values pilot program for FLEX Index Options. Any such proposal would 
be the subject of a separate rule change filing.

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[[Page 27823]]

Background on the Pilot
    Prior to the initiation of the minimum value size pilot, the 
minimum value size requirements under CBOE Rules 24A.4 and 24B.4 were 
as follows:
     For opening transactions in any FLEX series in which there 
is no open interest at the time a FLEX RFQ or FLEX Order, as 
applicable, is submitted, the minimum value size was (i) for FLEX 
Equity Options, the lesser of 250 contracts or the number of contracts 
overlying $1 million in the underlying securities; and (ii) for FLEX 
Index Options, $10 million Underlying Equivalent Value. Under a prior 
pilot program (which was superseded by the minimum value size pilot 
program), the ``250 contracts'' component above had been reduced to 
``150 contracts.'' \5\
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    \5\ See Securities Exchange Act Release No. 57249 [sic] (March 
4, 2008), 73 FR 13058 (March 11, 2008) (SR-CBOE-2006-36) (approval 
of rule change that, among other things, established a pilot program 
that reduced the minimum number contracts required for a FLEX Equity 
Option opening transaction in an new series).
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     For a transaction in any currently-opened FLEX series 
resulting from an RFQ or from trading against the electronic book 
(other than FLEX Quotes responsive to a FLEX Request for Quotes and 
FLEX Orders submitted to rest in the electronic book), the minimum 
value size was (i) for FLEX Equity Options, the lesser of 100 contracts 
or the number of contracts overlying $1 million in the underlying 
securities in the case of opening transactions, and 25 contracts in the 
case of closing transactions; and (ii) for FLEX Index Options, $1 
million Underlying Equivalent Value in the case of both opening and 
closing transactions; or (iii) in either case the remaining underlying 
size or Underlying Equivalent Value on a closing transaction, whichever 
is less.
     The minimum value size for FLEX Quotes responsive to an 
RFQ and FLEX Orders (undecremented size) submitted to rest in the 
electronic book was 25 contracts in the case of FLEX Equity Options, 
and $1 million Underlying Equivalent Value in the case of FLEX Index 
Options, or in either case the remaining underlying size or Underlying 
Equivalent Value on a closing transaction, whichever is less. In 
addition, with respect to FLEX Index Appointed Market-Makers, FLEX 
Quotes and FLEX Orders (undecremented size) must have been for at least 
$10 million Underlying Equivalent Value or the dollar amount indicated 
in the Request for Quote (if applicable), whichever is less.
    Under the minimum value size pilot, these minimum value size 
requirements were eliminated.\6\ As mentioned above, the minimum value 
size pilot is currently set to expire on the earlier of November 2, 
2012 or the date on which the pilot program is approved on a permanent 
basis.
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    \6\ The provisions in CBOE Rules 24A.9(b) and 24B.9(c) that 
provide that every FLEX Quote entered by a FLEX Appointed Market-
Maker or a FLEX Qualified Market-Maker shall meet or exceed the 
minimum value size parameters set forth in CBOE Rules 
24A.4(a)(4)(iv) and 24B.4(a)(5)(iv), respectively, have not been/are 
not applicable during the duration of the pilot program. This is 
because all minimum value size requirements under CBOE Rules 
24A.4(a)(4) and 24B.4(a)(5) have been eliminated under the pilot 
program.
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Proposal

    CBOE is proposing to make the minimum value size pilot program 
permanent. CBOE believes the pilot program has been successful and well 
received by its membership and the investing public for the period that 
it has been in operation as a pilot.
    To accomplish this change, CBOE is proposing to eliminate the rule 
text describing the pilot program, which descriptions are contained in 
CBOE Rules 24A.4.01, FLEX Pilot Programs, and 24B.4.01, FLEX Pilot 
Programs; and to eliminate the rule text describing the minimum value 
size requirements, which descriptions are contained in CBOE Rules 
24A.4(a)(4) and 24B.4(a)(5) and cross-referenced in paragraph (b) of 
CBOE Rule 24A.9, FLEX Market-Maker Appointments and Obligations, and 
paragraph (c) of CBOE 24B.9, FLEX Market-Maker Appointments and 
Obligations.
    In conjunction with these changes, the Exchange is proposing 
certain non-substantive changes to reorganize the rule text. In 
particular, text from CBOE Rules 24A.4(a)(4)(i) and 24B.4(a)(5)(i) 
pertaining to the maximum fifteen (15) year term for a FLEX Option is 
proposed to be relocated and combined with the text of CBOE Rules 
24A.4(a)(2)(iv) and 24B.4(a)(2)(iv), respectively, which describe FLEX 
Option expiration date requirements. As modified, Rules 24A.4(a)(2)(iv) 
and 24B.4(a)(2)(iv) will state that the expiration date may be any 
business day specified as to day, month, and year, not to exceed a 
maximum of fifteen (15) years, except that a FLEX Index Option that 
expires on any business day that falls on, or within two business days 
of, a third Friday-of-the-month expiration day for any Non-FLEX Option 
other than a QIX option) (``Expiration Friday''), may only have an 
exercise settlement value on the expiration date determined by 
reference to the reported level of the index as derived from the 
opening prices of the component securities (``a.m. settlement'').\7\ 
Finally, the minimum percentage requirements for FLEX Appointed Market-
Maker responses to electronic Request for Quotes set forth in CBOE Rule 
24B.4(a)(5)(iv) will be relocated to CBOE Rule 24B.9(c) (and replace an 
existing cross-reference in Rule 24B.9(c) to Rule 24B.4(a)(5)(iv)). 
These changes are proposed simply to reorganize the rule text in light 
of the other changes being proposed. As noted above, the changes are 
not substantive.
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    \7\ The Exchange notes that the a.m. settlement limitation on 
permissible exercise settlement values for FLEX Index Options with 
an Expiration Friday expiration has been eliminated on a pilot 
basis. See CBOE Rules 24A.4.01 and 24B.4.01 and note 4, supra.
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    In support of approving the pilot program on a permanent basis, and 
as required by the pilot program's approval order, the Exchange has 
submitted to the Commission a pilot program report regarding the pilot, 
which details the Exchange's experience with the program. Specifically, 
the Exchange provided the Commission an annual report containing data 
and analysis of underlying equivalent values, open interest and trading 
volume, and analysis of the types of investors that initiated opening 
FLEX Equity and Index Options transactions (i.e., institutional, high 
net worth, or retail). The report was provided to the Commission on a 
confidential basis.
    The Exchange believes there is sufficient investor interest and 
demand in the pilot program to warrant its permanent approval. The 
Exchange believes that, for the period that the pilot has been in 
operation, the program has provided investors with additional means of 
managing their risk exposures and carrying out their investment 
objectives. Furthermore, as discussed in more detail below, the 
Exchange has not experienced any adverse market effects with respect to 
the pilot program.
    CBOE believes that eliminating the minimum value size requirements 
for all FLEX Options on a permanent basis is important and necessary to 
the Exchange's efforts to create a product and market that provides its 
membership and investors interested in FLEX-type options with an 
improved but comparable alternative to the over-the-counter (``OTC'') 
market in customized options, which can take on contract 
characteristics similar to FLEX Options but are not subject to the same 
restrictions. By making the pilot permanent, market participants will 
continue to have greater flexibility in determining whether to execute 
their customized options in an exchange environment or in the OTC 
market. CBOE believes market participants

[[Page 27824]]

benefit from being able to trade these customized options in an 
exchange environment in several ways, including, but not limited to the 
following: (i) Enhanced efficiency in initiating and closing out 
positions; (ii) increased market transparency; and (iii) heightened 
contra-party creditworthiness due to the role of The Options Clearing 
Corporation (``OCC'') as issuer and guarantor of FLEX Options. The 
Exchange also believes the pilot programs are wholly consistent with 
comments by Timothy F. Geithner, Secretary of the Treasury, to the U.S. 
Senate. In particular, Secretary Geithner has stated that:

    Market efficiency and price transparency should be improved in 
derivatives markets by requiring the clearing of standardized 
contracts through regulated [central counterparties] and by moving 
the standardized part of these markets onto regulated exchanges and 
regulated transparent electronic trade execution systems for OTC 
derivatives and by requiring development of a system for timely 
reporting of trades and prompt dissemination of prices and other 
trade information. Furthermore, regulated financial institutions 
should be encouraged to make greater use of regulated exchange-
traded derivatives. Competition between appropriately regulated OTC 
derivatives markets and regulated exchanges will make both sets of 
markets more efficient and thereby better serve end-users of 
derivatives.\8\
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    \8\ See letter from Secretary Geithner to the Honorable Harry 
Reid, United States Senate (May 13, 2009), located at http://www.financialstability.gov/docs/OTCletter.pdf.

    The Exchange believes that the elimination of the minimum value 
size requirements on a permanent basis would provide FLEX-participating 
Trading Permit Holders with greater flexibility in structuring the 
terms of FLEX Options that best comports with their and their 
customers' particular needs. In this regard, the Exchange notes that 
the minimum value size requirements were originally put in place over 
nineteen years ago to limit participation in FLEX Options to 
sophisticated, high net worth investors rather than retail 
investors.\9\ However, the Exchange believes the restriction is no 
longer necessary and is overly restrictive. The Exchange has also not 
experienced any adverse market effects with respect to the pilot 
program eliminating the minimum value size requirements. Again, based 
on the Exchange's experience to date and over the pilot period, the 
minimum value size requirements are too large to accommodate the needs 
of Trading Permit Holders and their customers--who may be 
institutional, high net worth or retail--that currently participate in 
the OTC market. In this regard, the Exchange notes that, prior to 
establishing the minimum value size pilot, it received numerous 
requests from broker-dealers representing institutional, high net worth 
and retail investors indicating that the minimum value size 
requirements prevented them from bringing transactions that are already 
taking place in the OTC market to an exchange environment. The Exchange 
believes that eliminating the minimum value size requirements on a 
permanent basis would further broaden the base of investors that use 
FLEX Options to manage their trading and investment risk, including 
investors that currently trade in the OTC market for customized 
options, where similar size restrictions do not apply. The Exchange 
also believes that this may open up FLEX Options to more retail 
investors. The Exchange does not believe this raises any unique 
regulatory concerns because existing safeguards--such as certain 
position limit, aggregation and exercise limit requirements, reporting 
requirements, and margin requirements--continue to apply.\10\ In 
addition, the Exchange notes that FLEX Options are subject to the 
options disclosure document (``ODD'') requirements of Rule 9b-1 \11\ 
under the Act.\12\ No broker or dealer can accept an order from a 
customer to purchase or sell an option contract relating to an options 
class that is the subject of a definitive ODD (including FLEX Options), 
or approve the customer's account for the trading of such an option, 
unless the broker or dealer furnishes or has furnished to the customer 
a copy of the definitive ODD. The ODD contains a description, special 
features, and special risks of FLEX Options. Lastly, similar to any 
other options, FLEX Options are subject to Trading Permit Holder 
organization supervision and suitability requirements, such as in CBOE 
Rules 9.8, Supervision of Accounts, and 9.9, Suitability of 
Recommendations.
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    \9\ See Securities Exchange Act Release Nos. 31361 (October 27, 
1992) 57 FR 52655 (November 4, 1992) (SR-CBOE-92-17)(notice of 
filing of proposed rule change relating to Flexible Exchange 
Options) and 31920 (February 24, 1993), 58 FR 12280 (March 3, 1993) 
(order approving SR-CBOE-92-17).
    \10\ The Exchange also notes that certain position limit, 
aggregation and exercise limit requirements continue to apply to 
FLEX Options in accordance with CBOE Rules 24A.7, Position Limits 
and Reporting Requirements, 24A.8, Exercise Limits, 24B.7, Position 
Limits and Reporting Requirements, and 24B.8, Exercise Limits. 
Additionally, all FLEX options remain subject to the position 
reporting requirements in paragraph (a) of CBOE Rule 4.13, Reports 
Related to Position Limits. CBOE Rule 4.13(a) provides that ``[i]n a 
manner and form prescribed by the Exchange, each Trading Permit 
Holder shall report to the Exchange, the name, address, and social 
security or tax identification number of any customer who, acting 
alone, or in concert with others, on the previous business day 
maintained aggregate long or short positions on the same side of the 
market of 200 or more contracts of any single class of option 
contracts dealt in on the Exchange. The report shall indicate for 
each such class of options, the number of option contracts 
comprising each such position and, in the case of short positions, 
whether covered or uncovered.'' For purposes of this Rule, the term 
``customer'' in respect of any Trading Permit Holder includes ``the 
Trading Permit Holder, any general or special partner of the Trading 
Permit Holder, any officer or director of the Trading Permit Holder, 
or any participant, as such, in any joint, group or syndicate 
account with the Trading Permit Holder or with any partner, officer 
or director thereof.'' CBOE Rule 4.13(d). Moreover, the Exchange and 
its Trading Permit Holder organizations each have the authority, 
pursuant to CBOE Rule 12.10, Margin Required is Minimum, to impose 
additional margin as deemed advisable.
    \11\ 17 CFR 240.9b-1.
    \12\ 15 U.S.C. 78a et seq.
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    In proposing the pilot itself and in now proposing to make it 
permanent, CBOE is cognizant of the need for market participants to 
have substantial options transaction capacity and flexibility to hedge 
their substantial investment portfolios, on the one hand, and the 
potential for adverse effects that the minimum value size restrictions 
were originally designed to address, on the other. However, the 
Exchange has not experienced any adverse market effects with respect to 
the pilot program. CBOE is also cognizant of the OTC market, in which 
similar restrictions on minimum value size do not apply. In light of 
these considerations and Secretary Geithner's comments on moving the 
standardized parts of OTC contracts onto regulated exchanges, CBOE 
believes that making the pilot permanent is appropriate and reasonable 
and will provide market participants with additional flexibility in 
determining whether to execute their customized options in an exchange 
environment or in the OTC market. 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 OCC as issuer and guarantor of FLEX Options.
    For the foregoing reasons, CBOE believes that the minimum value 
size pilot program is reasonable and appropriate, promotes just and 
equitable principles of trade, and facilitates transactions in 
securities while continuing to foster the public interest and investor 
protection, and therefore should be made permanent.

[[Page 27825]]

2. Statutory Basis
    The Exchange believes the proposed rule change is consistent with 
Section 6(b) of the Act \13\ in general and furthers the objectives of 
Section 6(b)(5) of the Act \14\ in particular in that it should promote 
just and equitable principles of trade, serve to remove impediments to 
and perfect the mechanism of a free and open market and a national 
market system, and protect investors and the public interest. 
Specifically, the Exchange believes that the permanent approval of the 
pilot program, which eliminates minimum value size requirements, would 
provide greater opportunities for investors to manage risk through the 
use of FLEX Options. Further, the Exchange notes that it has not 
experienced any adverse effects from the operation of the pilot 
program. The Exchange also believes that making the minimum value size 
pilot permanent does not raise any unique regulatory concerns. The 
Exchange also believes that the proposed rule change would continue to 
provide Trading Permit Holders and investors with additional 
opportunities to trade customized options in an exchange environment 
and subject to exchange-based rules, and investors would benefit as a 
result.
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    \13\ 15 U.S.C. 78f(b).
    \14\ 15 U.S.C. 78f(b)(5).
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B. Self-Regulatory Organization's Statement on Burden on Competition

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

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

    The Exchange neither solicited nor received comments on the 
proposal.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 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 self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove 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 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 email to rule-comments@sec.gov. Please include 
File Number SR-CBOE-2012-040 on the subject line.

Paper Comments

     Send paper comments in triplicate to Elizabeth M. Murphy, 
Secretary, Securities and Exchange Commission, 100 F Street NE., 
Washington, DC 20549-1090.
    All submissions should refer to File Number SR-CBOE-2012-040. This 
file number should be included on the subject line if email 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 Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. 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-CBOE-2012-040 and should be 
submitted on or before June 1, 2012.
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    \15\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\15\
Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2012-11365 Filed 5-10-12; 8:45 am]
BILLING CODE 8011-01-P


