[Federal Register Volume 88, Number 45 (Wednesday, March 8, 2023)]
[Notices]
[Pages 14416-14419]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2023-04683]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-97019; File No. SR-CBOE-2022-058]


Self-Regulatory Organizations; Cboe Exchange, Inc.; Order 
Approving a Proposed Rule Change To Amend Rule 10.3 Regarding Margin 
Requirements

March 2, 2023.

I. Introduction

    On November 14, 2022, Cboe Exchange, Inc. (the ``Exchange'' or 
``Cboe'') filed with the Securities and Exchange Commission (the 
``Commission''), pursuant to Section 19(b)(1) of the Securities 
Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to amend Cboe Rule 10.3 regarding 
margin requirements related to cash-settled index options written 
against exchange-traded funds (``ETF(s)'') that track the same index 
underlying the option. The proposed rule change was published for 
comment in the Federal Register on December 2, 2022.\3\ On January 10, 
2023, the Exchange consented to an extension of the time period in 
which the Commission must approve the proposed rule change, disapprove 
the proposed rule change, or institute proceedings to determine whether 
to approve or disapprove the proposed rule change to March 2, 2023. The 
Commission received no comment letters on the proposal. This order 
approves the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Exchange Act Release No. 96395 (Nov. 28, 2022), 87 FR 
74199 (Dec. 2, 2022) (``Notice'').
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II. Description of the Proposed Rule Change

    The Exchange proposed to amend Cboe Rule 10.3, which sets forth 
margin requirements, and certain exceptions to those requirements, 
applicable to security positions of Trading Permit Holders' (``TPHs'') 
customers. Specifically, the Exchange stated that Cboe Rule 10.3(c)(5) 
generally requires TPHs to obtain from a customer, and maintain, a 
margin deposit for short cash-settled index options in an amount equal 
to 100% of the current market value of the option plus 15% (if 
overlying a broad-based index) or 20% (if overlying a narrow-based 
index) of the amount equal to the index value multiplied by the index 
multiplier minus the amount, if any, by which the option is out-of-the-
money.\4\ The minimum margin required for such an option is 100% of the 
option current market value plus 10% of the index value multiplied by 
the index multiplier for a call or 10% of the exercise price multiplied 
by the index multiplier for a put.\5\
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    \4\ See Notice at 74201. According to the Exchange, the out-of-
the-money amount for a call is any excess of the aggregate exercise 
price of the option or warrant over the product of the current (spot 
or cash) index value and the applicable multiplier. The out-of-the-
money amount for a put is any excess of the product of the current 
(spot or cash) index value and the applicable multiplier over the 
aggregate exercise price of the option or warrant. See id. at 74201, 
n.8.
    \5\ See id. at 74201.
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    By contrast, Rule 10.3(c)(5)(C)(iii) provides that no margin is 
required for a call (put) option contract or warrant carried in a short 
position where there is carried in the same account a long (short) 
position in equivalent units of the underlying security,\6\ and no 
margin is required for a call (put) index option contract or warrant 
carried in a short position where there is carried in the same account 
a long (short) position in an (1) underlying stock basket,\7\ (2) index 
mutual fund, (3) index portfolio receipt (``IPR''),\8\ or (4) index 
portfolio

[[Page 14417]]

share (``IPS''),\9\ that is based on the same index underlying the 
index option or warrant and having a market value at least equal to the 
aggregate current index value.
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    \6\ The Exchange states that in computing margin on a position 
in the underlying security, (a) in the case of a call, the current 
market value to be used must not be greater than the exercise price 
and (b) in the case of a put, margin will be the amount required by 
Cboe Rule 10.3(b)(2), plus the amount, if any, by which the exercise 
price of the put exceeds the current market value of the underlying. 
See id. at 74201, n.3.
    \7\ The Exchange defines ``underlying stock basket'' to mean a 
group of securities that includes each of the component securities 
of the applicable index and which meets the following conditions: 
(a) the quantity of each stock in the basket is proportional to its 
representation in the index, (b) the total market value of the 
basket is equal to the underlying index value of the index options 
or warrants to be covered, (c) the securities in the basket cannot 
be used to cover more than the number of index options or warrants 
represented by that value and (d) the securities in the basket shall 
be unavailable to support any other option or warrant transaction in 
the account. See Cboe Rule 10.3(a)(7). See also Notice at 74201, 
n.4.
    \8\ The Exchange defines IPRs as securities that (a) represent 
an interest in a unit investment trust (``UIT'') which holds the 
securities that comprise an index on which a series of IPRs is 
based; (b) are issued by the UIT in a specified aggregate minimum 
number in return for a ``Portfolio Deposit'' consisting of specified 
numbers of shares of stock plus a cash amount; (c) when aggregated 
in the same specified minimum number, may be redeemed from the UIT, 
which will pay to the redeeming holder the stock and cash then 
comprising the Portfolio Deposit; and (d) pay holders a periodic 
cash payment corresponding to the regular cash dividends or 
distributions declared and paid with respect to the component 
securities of the stock index on which the IPRs are based, less 
certain expenses and other charges as set forth in the UIT 
prospectus. IPRs are ``UIT interests'' within the meaning of the 
Cboe's rules. See Cboe Rule 1.1. See also Notice at 74201, n.5. The 
Exchange defines a UIT Interest as any share, unit, or other 
interest in or relating to a unit investment trust, including any 
component resulting from the subdivision or separation of such an 
interest. See Cboe Rule 1.1. See also Notice at 74201, n.5.
    \9\ The Exchange defines IPSs as securities that (a) are issued 
by an open-end management investment company based on a portfolio of 
stocks or fixed income securities designed to provide investment 
results that correspond generally to the price and yield performance 
of a specified foreign or domestic stock index or fixed income 
securities index; (b) are issued by such an open-end management 
investment company in a specified aggregate minimum number in return 
for a deposit of specified number of shares of stock and/or a cash 
amount, or a specified portfolio of fixed income securities and/or a 
cash amount, with a value equal to the next determined net asset 
value; and (c) when aggregated in the same specified minimum number, 
may be redeemed at a holder's request by such open-end management 
investment company, which will pay to the redeeming holder stock 
and/or cash, or a specified portfolio of fixed income securities 
and/or cash with a value equal to the next determined net asset 
value. See Cboe Rule 1.1. See also Notice at 74201, n.6.
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    The Exchange stated that, in order for these exceptions to apply, 
in computing margin on positions in the underlying security, underlying 
stock basket, index mutual fund, IPR or IPS, as applicable, (1) in the 
case of a call, the current market value to be used must not be greater 
than the exercise price, and (2) in the case of a put, margin is the 
amount required by subparagraph (b)(2) of Rule 10.3, plus the amount, 
if any, by which the exercise price exceeds the current market 
value.\10\
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    \10\ See Notice at 74201.
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    The Exchange proposed to amend this exception to margin 
requirements applicable to short option positions or warrants on 
indexes that are offset by positions in an underlying stock basket, 
non-leveraged index mutual fund, or non-leveraged ETF (each, the 
``protection'') that is based on the same index as the option, as well 
as move it within Cboe Rule 10.3 to Rule 10.3(c)(5)(C)(iv)(e).
    Specifically, the proposed rule change provides that the margin 
requirement for an uncovered, short index option or warrant does not 
apply to a ``protected option or warrant position.'' The proposed rule 
change identifies a ``protected option'' as a strategy of writing an 
index option against a holding in an ETF based on the same index as the 
index option, and differentiates it from a ``covered call,'' which is a 
strategy of writing an option against a position in an underlying 
security.\11\ The proposed rule change also limits the margin exception 
to index options written against an underlying stock basket, non-
leveraged index mutual fund or non-leveraged ETF (compared to 
underlying stock basket, index mutual fund, IPR, or IPS under the 
current rule). The Exchange stated that it proposed to add the non-
leveraged limitation to clarify that the exception is not intended to, 
and does not apply to leveraged instruments.\12\ Additionally, the 
Exchange proposed to not include specific references to IPRs and IPSs 
in the proposed margin exception for protected options and 
warrants.\13\
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    \11\ See id. at 74201, n.12.
    \12\ See id. at 74201, n.11.
    \13\ See id. According to the Exchange, IPRs and IPSs are 
commonly referred to as ETFs. See id. at n.7.
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    The Exchange also proposed certain conditions that must be met in 
order for the proposed margin exception to apply. The first proposed 
condition to qualify for the exception is that the TPH must carry or 
establish in the same account as the protected option or warrant 
position protection with an absolute value of not less than 100% of the 
aggregate underlying index value at either the time the order that 
created the protected option or warrant position was entered or 
executed, or the close of business on the trading day the protected 
option or warrant position was created.\14\ The Exchange stated that 
the aggregate underlying index value used would be that which existed 
at the same point in time that the clearing broker selects to value the 
protection.\15\ According to the Exchange, this first condition 
corresponds to the concept of covered writing (such as writing a 
covered call).\16\
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    \14\ See proposed Cboe Rule 10.3(c)(5)(C)(iv)(e)(1).
    \15\ See Notice at 74202.
    \16\ See id.
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    The second proposed condition to qualify for the exception is that 
the absolute value of the protection must at no time be less than 95% 
of the aggregate underlying index value associated with the protected 
option or warrant position.\17\ According to the Exchange, this second 
proposed condition is intended to correspond to covered writing by 
requiring a market participant to maintain the protection in an amount 
close to the aggregate underlying index value associated with the 
protected option or warrant position.\18\ The Exchange stated that 
because the value of the protection typically will not track exactly 
the aggregate underlying index value (i.e., tracking error), the 95% 
threshold will require the absolute value of the protection to remain 
close to the aggregate underlying index value while effectively 
imposing a cap of 5% on how much the two values may diverge (i.e., the 
value of the protection may not be more than 5% less than the value of 
the aggregate underlying index value).\19\ According to the Exchange, 
if the absolute value of the protection falls below 95% of the 
aggregate underlying index value associated with the protected option 
or warrant position, the protected option or warrant position would be 
deemed uncovered and thus no longer eligible for the exception from the 
uncovered, short index option margin requirement.\20\ When that occurs, 
the Exchange stated that a clearing broker must either collect the 
required margin amount for the short index option or warrant position, 
require that the value of the protection be increased to 100% of the 
aggregate underlying index value, or liquidate the short index option 
or warrant position.\21\
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    \17\ See proposed Cboe Rule 10.3(c)(5)(C)(iv)(e)(2).
    \18\ See Notice at 74202.
    \19\ See id.
    \20\ See id.
    \21\ See id.
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    The third proposed condition to qualify for the exception is to 
maintain margin in an amount equal to the greater of: (a) the amount, 
if any, by which the aggregate underlying index value associated with 
the protected option or warrant position is above (below) the aggregate 
exercise price of the protected call (put) option or warrant position; 
or (b) the amount, if any, by which the absolute value of the 
protection is below the aggregate current underlying index value 
associated with the protected option or warrant (which would be subject 
to the 95% threshold imposed by the second proposed condition, as 
described above).\22\
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    \22\ See proposed Cboe Rule 10.3(c)(5)(C)(iv)(e)(3); Notice at 
74202.
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    The Exchange stated that the proposed margin requirement to cover 
any difference by which the underlying index value is above (below) the 
exercise price of a call (put), in aggregate, would capture any amount 
by which a protected option or warrant position is in-the-money (i.e., 
the amount the aggregate underlying index value exceeds the aggregate 
exercise price for a short call).\23\ Pursuant to this

[[Page 14418]]

proposed requirement, margin equivalent to the in-the-money amount of 
the protected option or warrant position would need to be held in the 
account with that position, which would then be available to offset any 
debit to that account in the event of an exercise of the protected 
option or warrant.\24\ The Exchange stated that this corresponds to 
current Cboe Rule 10.3(c)(5)(C)(iii)(c), which requires the value of 
the protection or underlying stock to be capped at the exercise price 
of a covered call for no additional margin to be required for that call 
position and that both approaches prevent any in-the-money amount from 
contributing equity to the account and being used to support other 
positions.\25\
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    \23\ See Notice at 74202.
    \24\ See id.
    \25\ See id.
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    According to the Exchange, the proposed alternative margin 
requirement to cover any difference by which the absolute value of the 
protection is below the aggregate underlying index value associated 
with the protected option or warrant would compensate for any tracking 
error.\26\ Pursuant to this proposed requirement, margin equivalent to 
the value of the divergence between the absolute value of the 
protection and the aggregate underlying index value would need to be 
maintained once a protected option or warrant position is created.\27\ 
However, the Exchange stated that this requirement would be rendered 
moot if the absolute value of the protection fell below 95% of the 
aggregate underlying index value associated with the protected option 
or warrant position, because the position at that point would be 
considered uncovered.\28\ To the extent equity is not available in the 
margin account to meet this requirement, the Exchange stated that a TPH 
can require its customer to deposit margin into the account.\29\ The 
Exchange stated that it believes this is more practical than requiring 
the value of the protection to be maintained at 100% of the aggregate 
underlying index value in actual shares (or applicable units) of the 
protection, as this would require continuous small transactions in the 
protection instrument to offset tracking differences (which are 
generally no larger than 2% according to the Exchange).\30\
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    \26\ See id.
    \27\ See id.
    \28\ See id.
    \29\ See id.
    \30\ See id.
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    Because there may be instances where margin requirements for the 
in-the-money amount and the tracking error may be duplicative,\31\ the 
Exchange proposed to require only the greater amount of the two to 
avoid requiring an unnecessarily high amount of margin.\32\
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    \31\ The Exchange stated that two out of a total of six possible 
combinations of underlying index value, exercise price and 
protection value would result in overlapping margin requirements as 
proposed. For all other combinations, the Exchange stated that one 
of the proposed margin requirement alternatives would be zero. See 
id. at 74202, n.13.
    \32\ See id. at 74202.
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    The proposed rule change also deletes Cboe Rule 
10.3(c)(5)(C)(iii)(b), as well as the cross-reference to such paragraph 
and the references to underlying stock basket, index mutual fund, IPR 
or IPS, as applicable, in current subparagraph (c), as those terms 
relate specifically to current subparagraph (b). Because this would 
leave only one section in Cboe Rule 10.3(c)(5)(C)(iii), the proposed 
rule change deletes subparagraph lettering and combines current 
subparagraph (iii)(a) and current subparagraph (iii)(c) into a single 
provision as subparagraph (iii) and makes corresponding conforming 
changes.\33\
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    \33\ See id. at 74203.
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    The proposed rule change also makes additional clarifying, non-
substantive changes in each subparagraph of Cboe Rule 10.3(c)(5)(C)(iv) 
to conform language in those subparagraphs to language used throughout 
Cboe Rule 10.3. Specifically, the proposed rule change amends the 
provision of each subparagraph to state that the minimum amount of 
required margin in the circumstances described in each subparagraph 
applies when the applicable long position is carried ``in the same 
account as'' the applicable short position, rather than ``also 
carried.'' This language is consistent with the language in, for 
example, current Cboe Rule 10.3(c)(5)(C)(iii), as margin requirements 
are determined generally based on positions held in the same 
account.\34\
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    \34\ See id.
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III. Commission Discussion and Findings

    After careful review, the Commission finds that the proposed rule 
change is consistent with the requirements of the Exchange Act and the 
rules and regulations thereunder applicable to a national securities 
exchange.\35\ In particular, the Commission finds that the proposed 
rule change is consistent with Section 6(b)(5) of the Exchange Act,\36\ 
which requires, among other things, that the rules of a national 
securities exchange be designed to prevent fraudulent and manipulative 
acts and practices, to promote just and equitable principles of trade, 
to foster cooperation and coordination with persons engaged in 
regulating, clearing, settling, processing information with respect to, 
and 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. The Commission also finds that the proposed rule change is 
consistent with Section 6(c)(3) of the Exchange Act,\37\ which 
authorizes, among other things, a national securities exchange to 
prescribe standards of financial responsibility or operational 
capability.
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    \35\ 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).
    \36\ 15 U.S.C. 78f(b)(5).
    \37\ 15 U.S.C. 78f(c)(3).
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    The Commission believes that the proposed rule change would 
establish a more tailored margin approach for protected options or 
warrant positions that reflects the differences between protected 
options and covered options, and that addresses the risks specific to 
protected options or warrant positions. For example, while both the 
protected option positions and covered option positions are subject to 
the risk of exercise where the price or value of the underlying is 
above (below) the exercise price for a call (put), covered options do 
not face the risk of ``tracking error.'' Consequently, by providing for 
margin requirements that are more tailored to the risks associated with 
protected options or warrant positions, the Commission believes that 
the proposed rule change will remove impediments to and perfect the 
mechanism of a free and open market and a national market system.
    More specifically, by revising the margin requirements for 
protected option or warrant positions, including requiring that certain 
conditions are met (as described above), and revising the types of 
products permitted to be used as protection (i.e., permitting only 
stock baskets, non-leveraged index mutual funds, and non-leveraged ETFs 
to function as protection), the Commission believes the proposed rule 
change will facilitate the use of protected options and warrants as the 
cost and operational burdens associated with these products under the 
current approach will be reduced. TPHs will no longer be required to 
purchase and deposit additional shares related to the underlying index, 
such as additional shares of an ETF, where the protection value is not 
at least equal to the aggregate underlying index value. Instead, TPHs 
will be permitted (subject

[[Page 14419]]

to the requirement that the deficiency not be greater than 5 percent) 
to post margin in the form of available equity in the margin account or 
cash or other marginable securities in order to remedy such a 
deficiency. As a result, TPHs will benefit from a reduction in 
transaction costs, and to the extent that equity in the margin account 
is utilized, TPHs will also benefit from a more straightforward process 
from an operational standpoint with respect to posting required margin.
    Lastly, the Commission believes that by imposing the requirement to 
post margin on protected options or warrant positions that equals the 
greater of the in-the-money amount of the option or warrant, or the 
amount by which the aggregate current underlying index value exceeds 
the absolute value of the protection, while also implementing a 
requirement that the protection be at all times at least 95% of the 
aggregate current underlying index value, the proposed rule change 
addresses the risks associated with protected options or warrant 
positions (e.g., the risk of exercise of a short position when the 
option or warrant is in-the-money and tracking error), and 
appropriately protects investors and the public interest.
    Accordingly, for the foregoing reasons, the Commission finds that 
this proposed rule change is consistent with the Exchange Act.

IV. Conclusion

    It is therfore ordered, pursuant to Section 19(b)(2) of the 
Exchange Act,\38\ that the proposed rule change (SR-CBOE-2022-058) be, 
and hereby is, approved.
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    \38\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\39\
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    \39\ 17 CFR 200.30-3(a)(12).
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Sherry R. Haywood,
Assistant Secretary.
[FR Doc. 2023-04683 Filed 3-7-23; 8:45 am]
BILLING CODE 8011-01-P


