[Federal Register Volume 73, Number 56 (Friday, March 21, 2008)]
[Notices]
[Pages 15236-15239]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E8-5705]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-57503; File No. SR-BSE-2008-10]
Self-Regulatory Organizations; Boston Stock Exchange, Inc.;
Notice of Filing and Immediate Effectiveness of Proposed Rule Change To
Create a Delta Hedging Exemption From Equity Options Position Limits
March 14, 2008.
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 February 27, 2008, the Boston Stock Exchange, Inc. (``BSE'' or
``Exchange'') filed with the Securities and Exchange Commission
(``Commission'') the proposed rule change as described in Items I and
II below, which Items have been substantially prepared by BSE. The
Exchange has filed the proposal as a ``non-controversial'' rule change
pursuant to Section 19(b)(3)(A) of the Act \3\ and Rule 19b-4(f)(6)
thereunder,\4\ which renders it effective upon filing with the
Commission. 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.
\3\ 15 U.S.C. 78s(b)(3)(A).
\4\ 17 CFR 240.19b-4(f)(6).
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
BSE proposes to amend the rules of the Boston Options Exchange
(``BOX''). The proposal would create a new exemption from equity
options position and exercise limits for positions held by BOX
Participants under the BOX Rules. The text of the proposed rule change
is available at BSE, the Commission's Public Reference Room, and http://www.bostonstock.com.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, BSE 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. BSE 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
The purpose of the proposed rule change is to permit expanded hedge
positions pursuant to a carefully crafted delta hedge exemption from
equity options position limits in Section 7 of Chapter III of the BOX
Rules.
All options traded on BOX are subject to position and exercise
limits, as provided under Sections 7 and 9 of Chapter III of the BOX
Rules. Position limits are imposed, generally, to maintain fair and
orderly markets for options and other securities by limiting the amount
of control one or more
[[Page 15237]]
affiliated persons or entities may have over one particular options
class or the security or securities that underlie that options class.
BOX Rules also contain various hedge exemptions to allow certain hedged
positions in excess of the applicable standard position limit.\5\
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\5\ See Section 8 of Chapter III of the BOX Rules (Exemptions
from Position Limits).
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In recent years, options exchanges have increased the size of
options position and exercise limits, as well as the size and scope of
available hedge exemptions to the applicable position limits.\6\ These
hedge exemptions generally require a one-to-one hedge, i.e., one stock
option contract must be hedged by the number of shares underlying the
options contract, typically 100 shares. In practice, however, many
firms do not hedge their options positions in this manner. Instead,
these firms engage in what is commonly known as ``delta hedging.''
Delta hedging varies the number of shares of the underlying security
used to hedge an options position based upon the relative sensitivity
of the value of the option contract to a change in the price of the
underlying security.\7\
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\6\ See, e.g., Securities Exchange Act Release Nos. 55176
(January 25, 2007), 72 FR 4741 (February 1, 2007) (SR-CBOE-2007-08);
51244 (February 23, 2005), 70 FR 10010 (March 1, 2005) (SR-CBOE-
2003-30); and 45603 (March 20, 2002), 67 FR 14751 (March 27, 2002)
(SR-CBOE-00-12).
\7\ For example, a stock option contract with a delta of .5 will
move $0.50 for every $1.00 move in the underlying stock.
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BOX proposes to adopt a new exemption from equity options position
and exercise limits \8\ for positions held by BOX Participants and
certain of their affiliates that are ``delta neutral'' \9\ under a
``permitted pricing model'' (as defined below), subject to certain
conditions (``Exemption''). The proposed Exemption would only apply to
equity stock options and options on exchange-traded funds (``ETFs'').
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\8\ The proposed rule change does not change the BOX Rules
options exercise limits in Section 9 of Chapter III of the BOX Rules
(Exercise Limits) because such exercise limits only apply to the
extent that position limits under Section 7 of Chapter III of the
BOX Rules are imposed. Thus, as delta neutral positions would be
exempt from position limits under the proposed rule change, such
positions also would be exempt from exercise limits. Similarly, for
positions held that are not delta neutral, only the option contract
equivalent of the net delta of such positions would be subject to
exercise limits.
\9\ The term ``delta neutral'' would be defined as an equity
option position that is hedged, in accordance with a permitted
pricing model, by a position in the underlying security or one or
more instruments relating to the underlying security, for the
purpose of offsetting the risk that the value of the option position
will change in response to incremental changes in the price of the
security underlying the option position. See proposed Section
8(b)(i) of Chapter III of the BOX Rules.
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Any equity position that is not delta neutral would be subject to
position and exercise limits, subject to the availability of other
exemptions. Only the ``option contract equivalent of the net delta'' of
such position would be subject to the appropriate position limit.\10\
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\10\ Under the proposed rule, ``option contract equivalent of
the net delta'' would mean the net delta divided by the number of
shares underlying the option contract. ``Net delta'' would mean, at
any time, the number of shares (either long or short) required to
offset the risk that the value of an equity option position will
change with incremental changes in the price of the security
underlying the option position, as determined in accordance with a
permitted pricing model. See proposed Section 8(b)(ii) of Chapter
III of the BOX Rules.
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Only financial instruments relating to the security underlying an
equity options position could be included in any determination of an
equity options position's net delta, or in determining whether the
options position is delta neutral. In addition, BOX Participants could
not use the same equity or other financial instrument position in
connection with more than one hedge exemption. Therefore, a stock
position used as part of a delta hedging strategy could not also serve
as the basis for any other equity hedge exemption.
Permitted Pricing Model. Under the proposed rule, the calculation
of the delta for any equity option position, and the determination of
whether a particular equity option position is delta neutral, must be
made using a permitted pricing model. A ``permitted pricing model'' is
defined in proposed Section 8(b)(iii) of Chapter III, to mean the
pricing model maintained and operated by the Options Clearing
Corporation (``OCC'') and the pricing models used by: (i) A Participant
or its affiliate subject to consolidated supervision by the Commission
pursuant to Appendix E of Rule 15c3-1 under the Act; (ii) a financial
holding company (``FHC'') or a company treated as an FHC under the Bank
Holding Company Act of 1956, or its affiliate subject to consolidated
holding company group supervision;\11\ (iii) a Commission-registered
OTC derivatives dealer; \12\ and (iv) a national bank.\13\
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\11\ The pricing model of an FHC or of an affiliate of an FHC
would have to be consistent with: (i) The requirements of the Board
of Governors of the Federal Reserve System (``FRB''), as amended
from time to time, in connection with the calculation of risk-based
adjustments to capital for market risk under capital requirements of
the FRB, provided that the Participant or affiliate of a Participant
relying on this exemption in connection with the use of such model
is an entity that is part of such company's consolidated supervised
holding company group; or (ii) the standards published by the Basel
Committee on Banking Supervision, as amended from time to time and
as implemented by such company's principal regulator, in connection
with the calculation of risk-based deductions or adjustments to or
allowances for the market risk capital requirements of such
principal regulator applicable to such company--where ``principal
regulator'' means a member of the Basel Committee on Banking
Supervision that is the home country consolidated supervisor of such
company--provided that the Participant or affiliate of a Participant
relying on this exemption in connection with the use of such model
is an entity that is part of such company's consolidated supervised
holding company group. See proposed Section 8(b)(iii)(3) of Chapter
III of the BOX Rules.
\12\ The pricing model of a Commission-registered OTC
derivatives dealer would have to be consistent with the requirements
of Appendix F to Rules 15c3-1 and 15c3-4 under the Act, as amended
from time to time, in connection with the calculation of risk-based
deductions from capital for market risk thereunder. Only an OTC
derivatives dealer and no other affiliated entity (including a
Participant) would be able to rely on this part of the Exemption.
See proposed Section 8(b)(iii)(4) of Chapter III of the BOX Rules.
\13\ The pricing model of a national bank would have to be
consistent with the requirements of the Office of the Comptroller of
the Currency, as amended from time to time, in connection with the
calculation of risk-based adjustments to capital for market risk
under capital requirements of the Office of the Comptroller of the
Currency. Only a national bank and no other affiliated entity
(including a Participant) would be able to rely on this part of the
Exemption. See proposed Section 8(b)(iii)(5) of Chapter III of the
BOX Rules.
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Aggregation of Accounts. Participants and non-Participant
affiliates relying on the Exemption would be required to ensure that
the permitted pricing model is applied to all positions in or relating
to the security underlying the relevant options position that are owned
or controlled by the Participant, or its affiliates.
However, the net delta of an options position held by an entity
entitled to rely on the Exemption, or by a separate and distinct
trading unit of such entity, could be calculated without regard to
positions in or relating to the security underlying the option position
held by an affiliated entity or by another trading unit within the same
entity, provided that: (i) the entity demonstrates to the satisfaction
of Boston Options Exchange Regulation (``BOXR''), the regulatory
subsidiary of BSE, that no control relationship, as defined in Section
7(e) of Chapter III of the BOX Rules, exists between such affiliates or
trading units, and (ii) the entity has provided BOXR written notice in
advance that it intends to be considered separate and distinct from any
affiliate, or, as applicable, which trading units within the entity are
to be considered separate and distinct from each other for purposes of
the Exemption.\14\
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\14\ See proposed Section 8(b)(iv)(2) of Chapter III of the BOX
Rules.
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Any Participant or non-Participant affiliate relying on the
Exemption would be required to designate, by prior written notice to
BOXR, each trading unit or entity whose options positions
[[Page 15238]]
are required by BOX Rules to be aggregated with the options positions
of such Participant or non-Participant affiliate relying on the
Exemption for purposes of compliance with BOX position or exercise
limits.\15\
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\15\ See proposed Section 8(b)(iv)(3) of Chapter III of the BOX
Rules.
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Obligations of Participants and Affiliates. Any Participant relying
on the Exemption would be required to provide a written certification
to BOXR that it is using a permitted pricing model as defined in BOX
Rules for purposes of the Exemption. In addition, by such reliance,
such Participant would authorize any other person carrying for such
Participant an account including, or with whom such Participant has
entered into, a position in or relating to a security underlying the
relevant option position to provide to BOXR or OCC such information
regarding such account or position as BOXR or OCC may request as part
of BOXR's confirmation or verification of the accuracy of any net delta
calculation under this Exemption.\16\
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\16\ See proposed Section 8(b)(v)(1) of Chapter III of the BOX
Rules.
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The options positions of a non-Participant affiliate relying on the
Exemption would have to be carried by a Participant with which it is
affiliated.\17\ A Participant carrying an account that includes an
equity option position for a non-Participant affiliate that intends to
rely on the Exemption would be required to obtain from such non-
Participant affiliate a written certification that it is using a
permitted pricing model as defined in the BOX Rules for purposes of the
Exemption.\18\
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\17\ See proposed Section 8(b)(v)(2) of Chapter III of the BOX
Rules.
\18\ In addition, the Participant would be required to obtain
from such non-Participant affiliate a written statement confirming
that such non-Participant affiliate: (a) Is relying on the
Exemption; (b) will use only a permitted pricing model for purposes
of calculating the net delta of its option positions for purposes of
the Exemption; (c) will promptly notify the Participant if it ceases
to rely on the Exemption; (d) authorizes the Participant to provide
to BOXR or the OCC such information regarding positions of the non-
Participant affiliate as BOXR or OCC may request as part of BOXR's
confirmation or verification of the accuracy of any net delta
calculation under the Exemption; and (e) if the non-Participant
affiliate is using the OCC model, has duly executed and delivered to
BOXR such documents as Participant may require as a condition to
reliance on the Exemption. See proposed Section 8(b)(v)(3) of
Chapter III of the BOX Rules.
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Reporting. Under proposed Section 8(b)(vi) of Chapter III of the
BOX Rules, each Participant relying on the Exemption would be required
to report, in accordance with Section 10 of Chapter III of the BOX
Rules, (i) all equity option positions (including those that are delta
neutral) that are reportable thereunder, and (ii) on its own behalf or
on behalf of a designated aggregation unit pursuant to Section 8(c)(iv)
of Chapter III, for each such account that holds an equity option
position subject to the Exemption in excess of the levels specified in
Section 7, the net delta and the options contract equivalent of the net
delta of such position. The Exchange and other self-regulatory
organizations are working on modifying the Large Options Position
Report system and/or OCC reports to allow a Participant to indicate
that an equity options position is delta neutral.
Records. Under proposed Section 8(b)(vii) of Chapter III of the BOX
Rules, each Participant relying on the Exemption would be required to
(i) retain, and would be required to undertake reasonable efforts to
ensure that any non-Participant affiliate of the Participant relying on
the exemption retains, a list of the options, securities and other
instruments underlying each options position net delta calculation
reported to the BOXR hereunder, and (ii) produce such information to
BOXR upon request.
Reliance on Federal Oversight. As provided under proposed Section
8(b)(iii) of Chapter III of the BOX Rules, a permitted pricing model
includes proprietary pricing models used by Participants and affiliates
that have been approved by the Commission, the FRB or another federal
financial regulator. In adopting the proposed Exemption, the Exchange
would be relying upon the rigorous approval processes and ongoing
oversight of a federal financial regulator. The Exchange notes that it
would not be under any obligation to verify whether a Participant's or
its affiliate's use of a proprietary pricing model is appropriate or
yielding accurate results.
The Exchange will announce the operative date of the proposed rule
change in a regulatory circular to be published no later than 30 days
after the Commission issues a release regarding the proposal herein, or
such later date as may be necessary to ensure completion of the
required technology changes by the OCC and the Securities Industry
Automation Corporation.
2. Statutory Basis
The Exchange believes the proposed rule change is consistent with
Section 6(b) of the Act,\19\ in general, and furthers the objectives of
Section 6(b)(5) of the Act,\20\ in particular, in that it is designed
to promote just and equitable principles of trade, to prevent
fraudulent and manipulative acts and practices, 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 Exchange believes that the proposed delta neutral-based
hedge exemption from equity options position and exercise limits is
appropriate in that it is based on a widely accepted risk management
method used in options trading. Also, the Commission has previously
stated its support for recognizing options positions hedged on a delta
neutral basis as properly exempted from position limits.\21\
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\19\ 15 U.S.C. 78f(b).
\20\ 15 U.S.C. 78f(b)(5).
\21\ See Securities Exchange Act Release No. 40594 (October 23,
1998), 63 FR 59362, 59380 (November 3, 1998) (S7-30-97) (adopting
rules relating to OTC Derivatives Dealers).
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B. Self-Regulatory Organization's Statement on Burden on Competition
The Exchange does not believe that the proposed rule change will
impose any burden on competition that is 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
No written comments were either solicited or received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Because the foregoing rule change does not: (1) Significantly
affect the protection of investors or the public interest; (2) impose
any significant burden on competition; and (3) become operative for 30
days after the date of this filing, or such shorter time as the
Commission may designate, it has become effective pursuant to Section
19(b)(3)(A) of the Act \22\ and Rule 19b-4(f)(6) thereunder.\23\
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\22\ 15 U.S.C. 78s(b)(3)(A).
\23\ 17 CFR 240.19b-4(f)(6).
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A proposed rule change filed under 19b-4(f)(6) normally may not
become operative prior to 30 days after the date of filing.\24\
However, Rule 19b-4(f)(6)(iii) \25\ permits the Commission to designate
a shorter time if such action
[[Page 15239]]
is consistent with the protection of investors and the public interest.
The Exchange has requested that the Commission waive the 30-day
operative delay. The Commission believes that waiving the 30-day
operative delay is consistent with the protection of investors and the
public interest because such waiver would allow the Exchange to
implement the delta hedging exemption from equity options position
limits without needless delay. The Commission notes that it recently
approved a substantially similar proposal filed by the Chicago Board
Options Exchange, Incorporated.\26\ The Commission believes that BSE's
proposal to create a delta hedging exemption from equity options
position limits raises no new issues. For these reasons, the Commission
designates the proposed rule change to be operative upon filing with
the Commission.\27\
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\24\ 17 CFR 240.19b-4(f)(6)(iii). In addition, Rule 19b-
4(f)(6)(iii) requires that a self-regulatory organization submit to
the Commission written notice of its intent to file the proposed
rule change, along with a brief description and text of the proposed
rule change, at least five business days prior to the date of filing
of the proposed rule change, or such shorter time as designated by
the Commission. The Exchange has satisfied the five-day pre-filing
notice requirement.
\25\ Id.
\26\ See Securities Exchange Act Release No. 56970 (December 14,
2007), 72 FR 72428 (December 20, 2007) (SR-CBOE-2007-99).
\27\ For the purposes only of waiving the 30-day operative
delay, the Commission has considered the proposed rule's impact on
efficiency, competition, and capital formation. See 15 U.S.C.
78c(f).
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At any time within 60 days of the filing of such proposed rule
change the Commission may summarily abrogate such rule change if it
appears to the Commission that such action is necessary or appropriate
in the public interest, for the protection of investors or otherwise in
furtherance of the purposes of the Act.
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 e-mail to [email protected]. Please include
File Number SR-BSE-2008-10 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 Number SR-BSE-2008-10. 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, 100 F Street, NE.,
Washington, DC 20549, on official business days between the hours of 10
a.m. and 3 p.m. Copies of the filing also will be available for
inspection and copying at the principal office of BSE. 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-BSE-2008-10 and should be
submitted on or before April 11, 2008.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\28\
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\28\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
[FR Doc. E8-5705 Filed 3-20-08; 8:45 am]
BILLING CODE 8011-01-P