Joint Final Rules: Application of the Definition of Narrow-Based Security Index to Debt Securities Indexes and Security Futures on Debt Securities, 39534-39543 [06-6136]
Download as PDF
<![CDATA[
39534
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
Dated: July 3, 2006.
Matthew S. Borman,
Deputy Assistant Secretary for Export
Administration.
[FR Doc. 06–6123 Filed 7–12–06; 8:45 am]
BILLING CODE 3510–33–C
COMMODITY FUTURES TRADING
COMMISSION
17 CFR Part 41
RIN 3038 AB86
I. Introduction
SECURITIES AND EXCHANGE
COMMISSION
17 CFR Part 240
[Release No. 34–54106; File No. S7–07–06]
RIN 3235–AJ54
Joint Final Rules: Application of the
Definition of Narrow-Based Security
Index to Debt Securities Indexes and
Security Futures on Debt Securities
Commodity Futures Trading
Commission and Securities and
Exchange Commission.
ACTION: Joint final rules.
wwhite on PROD1PC61 with RULES
AGENCIES:
SUMMARY: The Commodity Futures
Trading Commission (‘‘CFTC’’) and the
Securities and Exchange Commission
(‘‘SEC’’) (together, the ‘‘Commissions’’)
are adopting a new rule and amending
an existing rule under the Commodity
Exchange Act (‘‘CEA’’) and adopting
two new rules under the Securities
Exchange Act of 1934 (‘‘Exchange Act’’).
The rules will modify the applicable
statutory listing standards requirements
to permit security futures to be based on
individual debt securities or a narrowbased security index composed of such
securities. In addition, these rules and
rule amendment will exclude from the
definition of ‘‘narrow-based security
index’’ debt securities indexes that
satisfy specified criteria. A future on a
debt securities index that is excluded
from the definition of narrow-based
security index will not be a security
future and may trade subject to the
exclusive jurisdiction of the CFTC.
EFFECTIVE DATE: August 14, 2006.
FOR FURTHER INFORMATION CONTACT:
CFTC: Elizabeth L. Ritter, Deputy
General Counsel, at 202/418–5052, or
Julian E. Hammar, Counsel, at 202/418–
5118, Office of General Counsel; or
Thomas M. Leahy, Jr., Associate
Director, Product Review, at 202/418–
5278, Division of Market Oversight,
Commodity Futures Trading
Commission, Three Lafayette Centre,
1155 21st Street, NW., Washington, DC
20581.
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
SEC: Yvonne Fraticelli, Special
Counsel, at 202/551–5654; or Leah
Mesfin, Special Counsel, at 202/551–
5655, Office of Market Supervision,
Division of Market Regulation,
Securities and Exchange Commission,
100 F Street, NE., Washington, DC
20549–6628.
SUPPLEMENTARY INFORMATION: The
Commissions are adopting Rule 41.15
and amending Rule 41.21 under the
CEA,1 and adding Rule 3a55–4 and Rule
6h–2 under the Exchange Act.2
A. Background
Futures contracts on single securities
and on narrow-based security indexes
(collectively, ‘‘security futures’’) are
jointly regulated by the CFTC and the
SEC.3 The definition of narrow-based
security index under both the CEA and
the Exchange Act sets forth the criteria
for such joint regulatory jurisdiction.
Futures on indexes that are not narrowbased security indexes are subject to the
exclusive jurisdiction of the CFTC.
Under the CEA and the Exchange Act,
an index is a narrow-based security
index if it meets any one of four
criteria.4 Further, the CEA and
Exchange Act provide that,
notwithstanding the statutory criteria,
an index is not a narrow-based security
index if a contract of sale for future
delivery on the index is traded on or
subject to the rules of a board of trade
and meets such requirements as are
jointly established by rule, regulation, or
order of the Commissions.5
The statutory definition of narrowbased security index was designed
primarily for indexes composed of
equity securities, not debt securities.6
For example, while three criteria in the
narrow-based security index definition
1 All references to the CEA are to 7 U.S.C. 1 et
seq.
2 All references to the Exchange Act are to 15
U.S.C. 78a et seq.
3 See Section 1a(31) of the CEA, 7 U.S.C. 1a(31);
Section 3(a)(55)(A) of the Exchange Act, 15 U.S.C.
78c(a)(55)(A).
4 The four criteria are as follows: (1) It has nine
or fewer component securities; (2) any one of its
component securities comprises more than 30% of
its weighting; (3) any group of five of its component
securities together comprise more than 60% of its
weighting; or (4) the lowest weighted component
securities comprising, in the aggregate, 25% of the
index’s weighting have an aggregate dollar value of
average daily trading volume (‘‘ADTV’’) of less than
$50 million (or in the case of an index with 15 or
more component securities, $30 million). See
Section 1a(25)(A)(i)–(iv) of the CEA, 7 U.S.C.
1a(25)(A)(i)–(iv); Section 3(a)(55)(B)(i)–(iv) of the
Exchange Act, 15 U.S.C. 78c(a)(55)(B)(i)–(iv).
5 See Section 1a(25)(B)(vi) of the CEA, 7 U.S.C.
1a(25)(B)(vi); Section 3(a)(55)(C)(vi) of the Exchange
Act, 15 U.S.C. 78c(a)(55)(C)(vi).
6 Debt securities include notes, bonds,
debentures, or evidences of indebtedness.
PO 00000
Frm 00022
Fmt 4700
Sfmt 4700
evaluate the composition and weighting
of the securities in the index, another
criterion evaluates the liquidity of an
index’s component securities. The
liquidity criterion in the statutory
definition of narrow-based security
index, which is important for indexes
composed of common stock, is not an
appropriate criterion for indexes
composed of debt securities because
debt securities generally do not trade in
the same manner as equity securities. In
particular, because few debt securities
meet the ADTV criterion in the statutory
definition of narrow-based security
index, most indexes composed of debt
securities, regardless of the number or
amount of underlying component
securities in the index, would fall
within the statutory definition of
narrow-based security index.
On April 10, 2006, the Commissions
proposed rules 7 that would exclude
debt securities indexes that satisfied
certain criteria from the statutory
definition of narrow-based security
index. Futures on debt securities
indexes that satisfy the criteria of the
exclusion would not be security futures
and thus would be subject to the
exclusive jurisdiction of the CFTC. In
addition, the proposed rules and rule
amendment would modify the statutory
listing standards to permit the trading of
security futures on single debt securities
and narrow-based security indexes
composed of debt securities.
The Commissions received comment
letters on the proposed rules from two
futures exchanges, the Chicago
Mercantile Exchange (‘‘CME’’) and the
Board of Trade of the City of Chicago
(‘‘CBOT’’),8 and from the Futures
Industry Association (‘‘FIA’’).9 All of the
commenters generally supported the
Commissions’ proposal. The CME and
the CBOT requested the opportunity for
public comment on the listing standards
7 See Securities Exchange Act Release No. 53560
(March 29, 2006), 71 FR 18030 (April 10, 2006)
(‘‘Proposing Release’’).
8 See letter from Craig S. Donohue, Chief
Executive Officer, CME, to Jean A. Webb, Secretary,
CFTC, and Jonathan G. Katz, Secretary, SEC, dated
April 25, 2006 (‘‘CME Letter’’); letter from Bernard
Dan, CBOT, to Jean A. Webb, Secretary, CFTC, and
Nancy M. Morris, Secretary, SEC, dated May 10,
2006 (‘‘CBOT Letter’’).
9 See letter from John M. Damgard, President,
FIA, to Jean A. Webb, Secretary, CFTC, and Nancy
M. Morris, Secretary, SEC, dated May 16, 2006
(‘‘FIA Letter’’). In addition, the FIA supported the
comments of the CME and the CBOT and urged the
Commissions to propose a regulatory standard
governing the offer and sale of security futures
contracts on indexes composed of non-U.S. equities
that trade on or are subject to the rules of exchanges
or boards of trade located outside of the United
States. Because the proposed rules did not relate to
indexes composed of non-U.S. equities, the
Commissions are not addressing this comment in
this release.
E:\FR\FM\13JYR1.SGM
13JYR1
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
that would apply to security futures on
debt securities and indexes composed of
debt securities.10 In addition, the CBOT
suggested that the Commissions reduce
the minimum remaining outstanding
principal amount requirement from
$250,000,000 to $100,000,000.11
The FIA asked the Commissions to
confirm that: (1) A debt security index
that meets the criteria in the rules
would be broad-based even if the index
included products or instruments that
are not securities; and (2) in a debt
securities index that includes both
exempted securities and securities that
are not exempted securities, it would be
necessary to take into account only
securities that are not exempted
securities in determining compliance
with the criteria in the rules.12 These
comments are discussed more fully
below.
B. Overview of Adopted Rules
After careful consideration, the
Commissions have determined to adopt
the rules and rule amendment largely as
proposed, with changes to address
certain issues raised by the commenters.
The Commissions believe it is
appropriate to exclude certain debt
securities indexes from the statutory
definition of narrow-based security
index using criteria that differ in certain
respects from the criteria applicable to
indexes composed of equity securities.
The Commissions believe that such
modified criteria for debt securities
indexes are necessary or appropriate in
the public interest and consistent with
the protection of investors because the
criteria recognize the differences
between equity and debt and would
permit security futures to be based on
debt securities indexes.13 In particular,
the Commissions believe that the
modified criteria addressing
diversification and public information
about, and market familiarity with, the
issuers of the securities underlying a
debt securities index will reduce the
likelihood that a future on such an
index would be readily susceptible to
manipulation and thus are more
appropriate criteria for debt securities
indexes.
1. CEA Rule 41.21 and Exchange Act
Rule 6h–2
wwhite on PROD1PC61 with RULES
The Commissions are amending CEA
Rule 41.21 and adopting Exchange Act
Rule 6h–2 to modify the statutory listing
standards for security futures to permit
10 See CME Letter, supra note 8, at 2; CBOT
Letter, supra note 8, at 3–4.
11 See CBOT Letter, supra note 8; at 2–3.
12 See FIA Letter, supra note 9, at 2.
13 See 15 U.S.C. 78mm(a)(1).
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
the trading of security futures based on
debt securities that are notes, bonds,
debentures, or evidences of
indebtedness and indexes composed of
such securities.
2. CEA Rule 41.15 and Exchange Act
Rule 3a55–4
The Commissions are adopting CEA
Rule 41.15 and Exchange Act Rule
3a55–4, which exclude from the
definition of narrow-based security
index any debt securities index that
satisfies certain criteria. Specifically,
CEA Rule 41.15 and Exchange Act Rule
3a55–4 provide that a debt securities
index will not be considered a narrowbased security index for purposes of
Section 3(a)(55) of the Exchange Act and
Section 1a(25) of the CEA if: (1) Each
index component is a security that is a
note, bond, debenture, or evidence of
indebtedness; (2) the index is comprised
of more than nine securities issued by
more than nine non-affiliated issuers;
(3) the securities of any issuer included
in the index do not comprise more than
30% of the index’s weighting; (4) the
securities of any five non-affiliated
issuers included in the index do not
comprise more than 60% of the index’s
weighting; and (5) the issuer of a
security included in an index satisfies
certain requirements.
For securities that are not exempted
securities, CEA Rule 41.15 and
Exchange Act Rule 3a55–4 require that
the issuer of a component security: (1)
Be required to file reports pursuant to
section 13 or 15(d) of the Exchange Act;
(2) have worldwide market value of its
outstanding common equity held by
non-affiliates of $700 million or more;
(3) have outstanding securities that are
notes, bonds, debentures, or evidences
of indebtedness with a total remaining
principal amount of at least $1 billion;
or (4) be a government of a foreign
country or a political subdivision of a
foreign country.
In addition, CEA Rule 41.15 and
Exchange Act Rule 3a55–4 require each
security of an issuer included in an
index to have a total remaining
principal amount outstanding of at least
$250,000,000. Alternatively, to respond
to the CBOT’s comment, the final rule
permits a municipal security in the
index to have only $200,000,000 total
remaining principal amount outstanding
if the issuer of such municipal security
has outstanding debt securities with a
total remaining principal amount of at
least $1 billion.
CEA Rule 41.15 and Exchange Act
Rule 3a55–4 provide a de minimis
exception from the issuer eligibility and
minimum outstanding principal balance
criteria if a predominant percentage of
PO 00000
Frm 00023
Fmt 4700
Sfmt 4700
39535
the securities comprising the index’s
weighting satisfy all of the applicable
criteria.
In addition, in response to the FIA’s
comments, the Commissions are adding
an alternative provision that would
permit exempted securities that are debt
securities (other than municipal
securities) to be excluded from an index
in determining whether such index is
not a narrow-based security index under
the rules.
Finally, CEA Rule 41.15 and
Exchange Act Rule 3a55–4 contain a
definition of ‘‘control’’ solely to assess
affiliation among issuers for purposes of
determining satisfaction of the criteria
established in the rules.
II. Discussion of Final Rules
A. Modification of the Statutory Listing
Standards Requirements for Security
Futures Products
The Commodity Futures
Modernization Act of 2000 14 amended
the Exchange Act. and the CEA by,
among other things, establishing the
criteria and requirements for listing
standards for securities on which
security futures products can be based.
The Exchange Act 15 provides that it is
unlawful for any person to effect
transactions in security futures products
that are not listed on a national
securities exchange or a national
securities association registered
pursuant to Sections 6(a) or 15A(a),
respectively, of the Exchange Act.16 The
Exchange Act 17 further provides that
such exchange or association is
permitted to trade only security futures
products that conform with listing
standards filed with the SEC and that
meet the criteria specified in Section
2(a)(1)(D)(i) of the CEA.18 The CEA 19
states that no board of trade shall be
designated as a contract market with
respect to, or registered as a derivatives
transaction execution facility (‘‘DTEF’’)
for, any contracts of sale for future
delivery of a security futures product
unless the board of trade and the
applicable contract met the criteria
specified in that section. Similarly, the
Exchange Act 20 requires that the listing
standards filed with the SEC by an
14 Pub.
L. 106–554, 114 Stat. 2763 (2000).
6(h)(1) of the Exchange Act, 15 U.S.C.
15 Section
78f(h)(l).
16 15 U.S.C. 78f(a) and 78o–3(a).
17 Section 6(h)(2) of the Exchange Act, 15 U.S.C.
78f(h)(2).
18 7 U.S.C. 2(a)(1)(D)(i).
19 Section 2(a)(1)(D)(i) of the CEA, 7 U.S.C.
2(a)(1)(D)(i).
20 Section 6(h)(3) of the Exchange Act, 15 U.S.C.
78f(h)(3).
E:\FR\FM\13JYR1.SGM
13JYR1
39536
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
wwhite on PROD1PC61 with RULES
exchange or association meet specified
requirements.
In particular, the Exchange Act 21 and
the CEA 22 require that, except as
otherwise provided in a rule, regulation,
or order, a security future must be based
upon common stock and such other
equity securities as the Commissions
jointly determine appropriate. A
security future on a debt security or a
debt securities index currently would
not satisfy this requirement.
The Exchange Act and the CEA,
however, provide the Commissions with
the authority to jointly modify this
requirement to the extent that the
modification fosters the development of
fair and orderly markets in security
futures products, is necessary or
appropriate in the public interest, and is
consistent with the protection of
investors.23 Pursuant to this authority,
the Commissions have determined that
it is appropriate in the public interest
and consistent with the protection of
investors to amend CEA Rule 41.21 and
adopt Exchange Act Rule 6h–2 to permit
the trading of security futures based on
debt securities that are notes, bonds,
debentures, or evidences of
indebtedness and indexes composed of
such securities. This modification is
necessary to allow the listing and
trading of new and potentially useful
financial products.
Security futures on debt securities or
indexes composed of debt securities
must also conform with the listing
standards of the national securities
exchange or national securities
association on which they trade. The
Exchange Act requires, among other
things, that such listing standards be no
less restrictive than comparable listing
standards for options traded on a
national securities exchange or national
securities association.24 In addition, the
issuer of any security underlying the
security future, including each
component security of a narrow-based
security index, would have to be subject
to the reporting requirements of the
Exchange Act due to the requirement
that the security be registered under
Section 12 of the Exchange Act.25 The
listing standards for a security future
also must require that trading in the
security future not be readily
21 Section 6(h)(3)(D) of the Exchange Act, 15
U.S.C. 78f(h)(3)(D).
22 Section 2(a)(1)(D)(i)(III) of the CEA, 7 U.S.C.
2(a)(I)(D)(i)(III).
23 Section 6(h)(4)(A) of the Exchange Act,
15U.S.C. 78f(h)(4)(A); Section 2(a)(1)(D)(v)(I) of the
CEA, 7 U.S.C. 2(a)(1)(D)(v)(I).
24 Section 6(h)(3)(C) of the Exchange Act, 15
U.S.C. 78f(h)(3)(C).
25 Section 2(a)(l)(D)(i)(I) of the CEA, 7 U.S.C.
2(a)(l)(D)(i)(I); Section 6(h)(3)(A) of the Exchange
Act, 15 U.S.C. 78f(h)(3)(A).
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
susceptible to manipulation of the price
of such security future, nor to causing
or being used in the manipulation of the
price of an underlying security, option
on such security, or option on a group
or index including such securities.26
Because these listing standards will
continue to provide important investor
protections and safeguards against such
products being readily susceptible to
manipulation or causing or being used
in the manipulation of any underlying
security or option on such underlying
security or securities, the Commissions
believe that new Exchange Act Rule 6h–
2 and the amendments to CEA Rule
41.21 will foster the development of fair
and orderly markets in security futures
products, are appropriate in the public
interest, and are consistent with the
protection of investors.
B. Rules Excluding Certain Debt
Securities Indexes From the Definition
of Narrow-Based Security Index
The Commissions are adopting new
CEA Rule 41.15 and Exchange Act Rule
3a55–4, which exclude from the
statutory definition of narrow-based
security index any debt securities index
that satisfies certain criteria. A futures
contract on such an index would not be
a security future and thus would be
subject to the exclusive jurisdiction of
the CFTC. The Commissions believe
that the criteria in the rules, including
the requirements relating to the
maximum weighting and concentration
of securities of an issuer in an index, the
eligibility conditions for issuers, and the
minimum remaining outstanding
principal amount requirement should
reduce the likelihood that a future on
such an index would be readily
susceptible to manipulation or could be
used to manipulate the market for the
underlying debt securities.27
1. Index Composed Solely of Debt
Securities
The new rules require that, for an
index to qualify for the exclusion from
the definition of ‘‘narrow-based security
index,’’ each component security of the
index must be a security 28 that is a note,
bond, debenture, or evidence of
26 Section 2(a)(l)(D)(i)(VII) of the CEA, 7 U.S.C.
2(a)(l)(D)(i)(VII); Section 6(h)(3)(H) of the Exchange
Act, 15 U.S.C. 78f(h)(3)(H).
27 Although broad-based debt securities indexes
that meet the criteria in the rules should have a
reduced likelihood of being readily susceptible to
manipulation, such indexes also must be
determined to be not readily susceptible to
manipulation, in accordance with Section
2(a)(1)(C)(ii)(II) of the CEA, 7 U.S.C. 2(a)(1)(C)(ii)(II).
28 The term ‘‘security’’ is defined in Section
2(a)(1) of the Securities Act of 1933 (the ‘‘Securities
Act’’), 15 U.S.C. 77b(a)(1), and Section 3(a)(10) of
the Exchange Act, 15 U.S.C. 78c(a)(10).
PO 00000
Frm 00024
Fmt 4700
Sfmt 4700
indebtedness.29 Further, none of the
securities of an issuer included in the
index may be an equity security, as
defined in Section 3(a)(11) of the
Exchange Act and the rules adopted
thereunder.30 Thus, any security index
that includes an equity security will not
qualify for the exclusion for indexes
composed of debt securities.31
The FIA asked the Commissions to
confirm that a debt security index that
meets the criteria in the rules would be
broad-based even if the index included
products or instruments that ar not
securities.32 The Commissions’
proposed rules required that each
component security of an index be a
security that is a note, bond, debenture,
or evidence of indebtedness. The
Commissions did not propose or solicit
comment on whether, and to what
extent, indexes that include instruments
that are not securities should be
excluded from the definition of narrowbased security index and have not, to
date, considered the regulatory
implications of so excluding futures on
indexes composed of different product
classes. Accordingly, the Commissions
are adopting these requirements as
proposed without permitting indexes
under the criteria to include products or
instruments that are not securities.
2. Number and Weighting of Index
Components
The exclusion also includes
conditions relating to the minimum
number of securities of non-affiliated
issuers that must be included in an
index and the maximum permissible
weighting of securities in the index. The
new rules provide that, for an index to
qualify for the exclusion:
• The index must be composed of
more than nine securities issued by
more than nine non-affiliated issuers; 33
29 See Exchange Act Rule 3a55–4(a)(1); CEA Rule
41.15(a)(1). The federal securities laws do not
contain a single definition of ‘‘debt security.’’ The
Commissions, therefore, are using the terms found
in the Trust Indenture Act of 1939, 15 U.S.C. 77aaa–
bbb (which governs debt securities of all types), to
define the debt securities for purposes of these rules
and rule amendment.
30 15 U.S.C. 78c(a)(11). See Exchange Act Rule
3a55–4(a)(2); CEA Rule 41. 15(a)(2). A security
convertible into an equity security is an equity
security under the Exchange Act and the Securities
Act.
31 Indexes that include both equity and debt
securities would be subject to the criteria for
narrow-based security indexes enumerated in
Section 1a(25) of the CEA and Section 3(a)(55) of
the Exchange Act.
32 See FIA Letter, supra note 9, at 2. The FIA
letter did not elaborate on what these other
products or instruments might be.
33 See Exchange Act Rule 3a55–4(a)(3); CEA Rule
41.15(a)(3).
E:\FR\FM\13JYR1.SGM
13JYR1
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
wwhite on PROD1PC61 with RULES
• The securities of any issuer cannot
comprise more than 30% of the index’s
weighting; 34 and
• The securities of any five nonaffiliated issuers cannot comprise more
than 60% of the index’s weighting.35
The foregoing conditions are virtually
identical to the criteria contained in the
Exchange Act and the CEA that apply in
determining if a security index would
not be a narrow-based security index.36
In addition, the new rules provide
that the term ‘‘issuer’’ includes a single
issuer or group of affiliated issuers.37 An
issuer would be affiliated with another
issuer for purposes of the exclusion if it
controls, is controlled by, or is under
common control with, that other issuer.
The rules define control, solely for
purposes of the exclusion, to mean
ownership of 20% or more of an issuer’s
equity or the ability to direct the voting
of 20% or more of an issuer’s voting
equity.38 The definition of control will
apply solely to CEA Rule 41.15 and
Exchange Act Rule 3a55–4 and is
designed to provide a clear standard for
determining control and affiliation for
purposes of the exclusion. Determining
whether issuers are affiliated is
important in assessing whether an index
satisfies the conditions in the rules
adopted today because the debt
securities of all affiliated issuers
included in an index must be
aggregated.
The number and weighting criteria
require that an index meet minimum
diversification conditions with regard to
both issuers and the underlying
securities. These criteria provide that for
purposes of weighting, all debt
securities of all affiliated issuers
included in the index are aggregated so
that the indexes are not concentrated in
the securities of a small number of
issuers and their affiliates. These criteria
are important elements of the
Commissions’ determination that the
rules are consistent with the protection
of investors because they reduce the
34 See Exchange Act Rule 3a55–4(a)(4); CEA Rule
41. 15(a)(4).
35 See Exchange Act Rule 3a55–4(a)(5); CEA Rule
41. 15(a)(5).
36 See supra note 4.
37 See Exchange Act Rule 3a55–4(b); CEA Rule
41.15(b).
38 While the definition of affiliate under the
federal securities laws is generally a facts-andcircumstances determination based on the
definition of affiliate contained in such laws, see,
e.g. , Securities Act Rule 405, 17 CFR 230.405;
Exchange Act Rule 12b–2, 17 CFR 240.12b–2,
certain rules under the Exchange Act contain a 20%
threshold for purposes of determining a
relationship between two or more entities. See, e.g.,
Exchange Act Rule 13d–1(c), 17 CFR 240.13d–1(c);
Securities Exchange Act Release No. 39538 (January
12, 1998), 63 FR 2854 (January 16, 1998). See also
Rule 3–05 under Regulation S–X, 17 CFR 210.3–05.
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
likelihood that a future on such a debt
securities index would be overly
dependent on the price behavior of a
component single security, small group
of securities or issuers, or group of
securities issued by affiliated parties.
3. Issuer or Security Eligibility Criteria
New CEA Rule 41.15 and Exchange
Act Rule 3a55–4 require that, for an
index to qualify for the exclusion from
the definition of narrow-based security
index, the issuer of each component
security that is not an exempted security
under the Exchange Act and the ,rules
thereunder must satisfy one of the
following:
• The issuer is required to file reports
pursuant to Sections 13 or 15(d) of the
Exchange Act; 39
• The issuer has a worldwide market
value of its outstanding common equity
held by non-affiliates of $700 million or
more; or
• The issuer has outstanding
securities that are notes, bonds,
debentures, or evidences of
indebtedness having a total remaining
principal amount of at least $1 billion.
These issuer eligibility criteria are
aimed at conditioning the exclusion for
a debt securities index from the
definition of narrow-based security
index on the public availability of
information about the issuers of the
securities included in the index. For
example, an issuer that is required to
file reports pursuant to Sections 13 or
l5(d) of the Exchange Act 40 makes
regular and public disclosure through
its Exchange Act filings. For issuers that
are not required to file reports with the
SEC under the Exchange Act, the
Commissions similarly believe that
issuers having worldwide equity market
capitalization of $700 million or $1
billion in outstanding debt are likely to
have public information available about
them.41 Accordingly, the issuer
eligibility criteria are designed to
provide that, other than with respect to
exempted securities in the index, the
debt securities index includes debt
securities of issuers for which public
information is available, thereby
reducing the likelihood that an index
qualifying for the exclusion would be
readily susceptible to manipulation.
Under the rules adopted by the
Commissions today, the issuer
eligibility criteria do not apply to index
components that are exempted
securities, as defined in the Exchange
U.S.C. 78m and 78o(d).
U.S.C. 78m and 78o.
41 These thresholds are similar to ones the SEC
recently adopted in its Securities Offering Reform
rules. See Securities Act Release No. 8591 (July 19,
2005), 70 FR 44722 (August 3, 2005).
PO 00000
39 15
40 15
Frm 00025
Fmt 4700
Sfmt 4700
39537
Act,42 or to an issuer that is a
government of a foreign country or a
political subdivision of a foreign
country. The Commissions believe that
it is appropriate to allow indexes
qualifying for the exclusion to include
exempted securities and the debt
obligations of foreign countries and
their political subdivisions. Current law
permits futures on individual exempted
debt securities, other than municipal
securities, and on certain foreign
sovereign debt obligations.43 Because a
future may be based on one of these
exempted debt securities, the
Commissions believe that it is
reasonable and consistent with the
purposes of the CEA and the Exchange
Act to allow futures to be based on
indexes composed of such debt
securities.
4. Minimum Principal Amount
Outstanding
The rules require that, for a securities
index to qualify for the exclusion, each
index component, other than a
municipal security in certain cases,
must have a total remaining principal
amount of at least $250,000,000.
Although trading in most debt securities
is limited, trading volume is generally
larger for debt securities with
$250,000,000 or more in total remaining
principal amount outstanding.44 The
new rules do not require that the
securities included in the index have an
investment grade rating. Nor do the
rules require particular trading volume,
due to the generally lower trading
activity in the debt markets compared to
the equity markets. Trading activity in
a debt security generally increases as the
principal amount of the debt security
increases. However, non-investmentgrade debt securities generally trade
more frequently than investment-grade
debt securities. As a result of the type
of trading activity that occurs in the
42 See 15 U.S.C. 78c(a)(12). While issuers of
exempted securities are not subject to the same
issuer eligibility conditions, other existing rules and
regulatory regimes applicable to most of such
issuers provide for ongoing public information
about such issuers. See, e.g. Exchange Act Rule
15c2–12, 17 CFR 240.15c2–12.
43 Section 2(a)(1)(C)(iv) of the CEA, 7 U.S.C.
2(a)(1)(C)(iv), prohibits any person from entering
into a futures contract on any security except an
exempted security under Section 3(a)(12) of the
Exchange Act, 15 U.S.C. 78c(a)(12), other than a
municipal security, as defined in Section 3(a)(29) of
the Exchange Act, 15 U.S.C. 78c(a)(29). In addition,
Exchange Act Rule 3a12–8, 17 CFR 240.3a12–8,
deems the debt obligations of specified foreign
governments to be exempted securities for the
purpose of permitting the offer, sale, and
confirmation of futures contracts on those debt
obligations in the United States.
44 This is based on data obtained from the Trace
Reporting and Compliance Engine (TRACE)
database supplied by NASD.
E:\FR\FM\13JYR1.SGM
13JYR1
wwhite on PROD1PC61 with RULES
39538
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
debt markets, the Commissions do not
believe that trading volume is an
appropriate criterion for determining
whether a debt securities index is
narrow-based. Instead, the Commissions
are adopting a minimum principal
amount criterion which is intended,
together with the other criteria in the
rules adopted today geared to the debt
securities market, to provide a substitute
criterion for trading volume.
Accordingly, the Commissions believe
that including a minimum remaining
principal amount criterion, together
with the other criteria, will decrease the
likelihood that a future on an index
qualifying for the exclusion from the
definition of narrow-based security
index would be readily susceptible to
manipulation.
The CBOT urged the Commissions to
reduce the minimum remaining
outstanding principal amount threshold
from $250,000,000 to $100,000,000.45
The CBOT presented data indicating
that only a small number of municipal
debt securities are issued in principal
amounts exceeding $250,000,000 and
argued that it would be difficult to
construct an index qualifying for the
exclusion composed of municipal
securities. The CBOT believed a
$100,000,000 threshold was appropriate
because it would make it-more likely
that an exchange would be able to
identify a sufficient number of
municipal debt securities to be included
in an index. The CBOT did not provide
any data regarding other debt securities
or any data or arguments to demonstrate
how its proposed $100,000,000
threshold was consistent with the
principle that an index based on
municipal debt securities meeting its
threshold would not be readily
susceptible to manipulation.
The Commissions intend the
$250,000,000 threshold to be a proxy for
the statutory trading volume criterion
for equity securities. As discussed
above, trading activity in a debt security
generally increases as the principal
amount of the debt security increases.
The $250,000,000 threshold is not
designed to maximize the number of
securities that may be included in an
index qualifying for an exclusion from
the definition of narrow-based security
index. Rather, by limiting an index
primarily to more liquid securities, this
criterion increases the likelihood that
information about such securities will
be publicly available and that the
securities will have a larger market
following. The $250,000,000 threshold,
together with the other criteria, is
designed to reduce the likelihood that
45 See
CBOT Letter, supra note 8, at 2–3.
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
the index would be readily susceptible
to manipulation.
The Commissions are addressing the
CBOT’s comment in the final rules by
adopting an alternate test for municipal
securities. A municipal security could
either: (1) Meet the original
$250,000,000 threshold; or (2) meet the
following two-part test: (a) The security
has a remaining principal amount
outstanding of $200,000,000; and (b) the
issuer of the security has outstanding
securities that are notes, bonds,
debentures, or evidences of
indebtedness having a total remaining
principal amount of at least $1 billion.46
As discussed above, the Commissions
believe that issuers with $1 billion or
more in outstanding debt are likely to be
followed in the market, and that
information about such issuers is more
likely to be publicly available.47
Providing an alternate lower threshold
for principal amount outstanding
should provide some flexibility in
constructing indexes that include
municipal securities by expanding the
number of municipal securities issues
that could be eligible. At the same time,
the alternate $200,000,000 threshold is
designed to reduce the likelihood that
the market for a security is not highly
illiquid and thus more readily
susceptible to manipulation.48
Furthermore, the requirement that the
issuer of the security have total debt
outstanding of at least $1 billion
increases the likelihood that
information about the issuer and its
securities will be publicly available. The
availability of such information should
reduce the likelihood that the issuer’s
securities—including those with a
minimum principal amount outstanding
of $200,000,000—would be readily
susceptible to manipulation.
5. De Minimis Exception
As the Commissions proposed, the
final rules exclude an index from the
definition of ‘‘narrow-based security
index’’ even if certain of the issuers of
the underlying securities do not meet
the issuer eligibility and the securities
do not meet the minimum outstanding
principal balance requirements.
46 CEA Rule 41.15(a)(l)(vii)(B); Exchange Act Rule
3a55–4(a)(1)(vii)(B).
47 See supra note 41 and accompanying text.
48 In a 2004 study of the municipal securities
market, the SEC staff found that, over a 10.5-month
period, one-third of municipal issuers had no trades
in their debt securities and two-thirds of municipal
issuers had 25 or fewer trades in their securities.
Only 2% of municipal issuers had 1,000 or more
trades in their securities during that 10.5-month
period. See Office of Economic Analysis, Office of
Municipal Securities, and Division of Market
Regulation, Report on Transactions in Municipal
Securities (2004), at 17.
PO 00000
Frm 00026
Fmt 4700
Sfmt 4700
Specifically, an index will still qualify
for the exclusion even if an issuer does
not satisfy the eligibility criteria
described above 49 or the securities do
not have $250,000,000, or, for municipal
securities of issuers with at least $1
billion in outstanding principal amount
of debt, $200,000,000 in remaining
principal amount, as applicable, if:
• All securities of such issuer
included in the index represent less
than 5% of the index’s weighting; 50 and
• Securities comprising at least 80%
of the index’s weighting satisfy the
issuer eligibility and minimum
outstanding principal balance criteria.51
The Commissions believe that an
index that includes a very small
proportion of securities and issuers that
do not satisfy certain of the above
criteria should nevertheless be excluded
from the definition of narrow-based
security index. To satisfy the exclusion,
both the 5% and the 80% weighting
thresholds must be met at the time of
the assessment. The 5% weighting
threshold is designed to provide that
issuers and securities not satisfying
certain of the criteria will comprise only
a very small portion of the index. The
80% weighting threshold is designed to
provide that a predominant percentage
of the securities and the issuers in the
debt securities index satisfy the criteria.
By allowing debt securities indexes that
include debt securities of a small
number of issuers and securities that do
not satisfy certain of the criteria to
qualify for the exclusion, the de minimis
exception provides some flexibility in
constructing an index or determining
whether a debt securities index satisfies
the exclusion. The Commissions believe
that the de minimis exemption is
appropriate for indexes that are
predominantly composed of securities
that satisfy the specified criteria, and
that providing such flexibility is
consistent with the protection of
investors and is not likely to increase
the possibility that an index that
qualifies for the exclusion would be
readily susceptible to manipulation.
49 See
supra notes 28–46 and accompanying text.
determining whether the 5% threshold is
met, all securities of an issuer and its affiliates
would be aggregated because of the potential for
concentrated risk of the index in a limited group of
issuers.
51 The 80% calculation is based on the entire
index’s weighting without subtracting issuers that
are not required to satisfy the issuer eligibility
criteria and minimum outstanding principal
amount criteria. This is important to ensure that a
predominant percentage of the index satisfies the
required criteria.
50 In
E:\FR\FM\13JYR1.SGM
13JYR1
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
6. Indexes That Include Exempted
Securities
The FIA asked the Commissions to
confirm that, in an index that includes
exempted securities and securities that
are not exempted securities, only
securities that are not exempted
securities must be taken into account in
determining compliance with the rules’
criteria.52 To address the FIA’s comment
and to clarify the treatment of an index
that includes both exempted debt
securities and debt securities that are
not exempted securities, the final rules
permit, but do not require, certain of the
index’s exempted debt securities (other
than municipal securities) to be
excluded from the index in determining
whether the index is not a narrow-based
security index under the rules.53
Persons making the determination
regarding the appropriate treatment
under the rules of a debt security index
that includes both exempted and nonexempted debt securities may use either
test for determining whether the debt
security index is not narrow-based.
Under the alternative method for
determining whether a debt security
index is not narrow-based, exempted
debt securities (other than municipal
securities) may be excluded from the
application of the rule criteria. If
exempted debt securities are excluded
from the application of the rule criteria,
the remaining portion of the index must
satisfy each of the rule’s criteria without
taking into account the portion of the
index composed of the exempted debt
securities in order for the index as a
whole to not be a narrow-based security
index under the rules.
The Commissions believe this new
provision is consistent with the
objective and intent of the proposed
rules. The Commissions also believe it
responds to the FIA’s request for
clarification of the treatment of indexes
that include exempted securities and
securities that are not exempted
securities.
wwhite on PROD1PC61 with RULES
C. Tolerance Period
Section 1a(25)(B)(iii) of the CEA 54
and Section 3(a)(55)(C)(iii) of the
Exchange Act 55 provide that, under
certain conditions, a future on a security
index may continue to trade as a broadbased index future, even when the
index temporarily assumes
characteristics that would render it a
narrow-based security index under the
statutory definition. An index qualifies
52 See
FIA Letter, supra note 9, at 2.
CEA Rule 41.15(a)(2); Exchange Act Rule
3a55–4(a)(2).
54 7 U.S.C. 1a(25)(B)(iii).
55 15 U.S.C. 78c(a)(55)(C)(iii).
53 See
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
for this tolerance and therefore is not a
narrow-based security index if: (1) A
future on the index traded for at least 30
days as an instrument that was not a
security future before the index
assumed the characteristics of a narrowbased security index; and (2) the index
does not retain the characteristics of a
narrow-based security index for more
than 45 business days over three
consecutive calendar months.56
In addition, current CEA Rule 41.12 57
and Exchange Act Rule 3a55–2 58
address the circumstance when a broadbased security index underlying a future
becomes narrow-based during the first
30 days of trading. In such case, the
future does not meet the requirement of
having traded for at least 30 days to
qualify for the tolerance period granted
by Section 1a(25)(B)(iii) of the CEA 59
and Section 3(a)(55)(C)(iii) of the
Exchange Act.60 These rules, however,
provide that the index will nevertheless
be excluded from the definition of
narrow-based security index throughout
that first 30 days, if the index would not
have been a narrow-based security
index had it been in existence for an
uninterrupted period of six months
prior to the first day of trading.
III. Listing Standards for Security
Futures on Debt Securities
The listing standards requirements for
security futures are set forth in Section
2(a)(1)(D)(i) of the CEA 61 and Section
6(h)(3) of the Exchange Act.62 Among
other things, the listing standards for
security futures products must be no
less restrictive than comparable listing
standards for options traded on a
national securities exchange or national
securities association,63 and the listing
standards must require that trading in
the security futures product not be
readily susceptible to manipulation of
the price of the security futures product,
or to causing or being used in the
manipulation of the price of an
underlying security, option on such
56 If the index becomes narrow-based for more
than 45 days over three consecutive calendar
months, the statute then provides an additional
grace period of three months during which the
index is excluded from the definition of narrowbased security index. See Section 1a(25)(D) of the
CEA, 7 U.S.C. 1a(25)(D); Section 3(a)(55)(E) of the
Exchange Act, 15 U.S.C. 78c(a)(55)(E).
57 17 CFR 41.12.
58 17 CFR 240.3a55–2.
59 7 U.S.C. 1a(25)(B)(iii).
60 15 U.S.C. 78c(a)(55)(C)(iii).
61 7 U.S.C. 2(a)(1)(D)(i).
62 15 U.S.C. 78f(h)(3).
63 See Section 6(h)(3)(C) of the Exchange Act, 15
U.S.C. 78f(h)(3)(C).
PO 00000
Frm 00027
Fmt 4700
Sfmt 4700
39539
security, or option on a group or index
including such securities.64
The CME and CBOT urged the SEC to
publish for comment the listing
standards that would apply to security
futures on debt securities.65 The
commenters maintained that interested
parties should have an opportunity to
provide meaningful comment on the
listing standards for such security
futures.
As noted above, the Exchange Act and
the CEA require that the listing
standards for security futures be no less
restrictive than comparable listing
standards for exchange-traded
options.66 This statutory standard does
not require that the SEC adopt rules.
Instead, the Exchange Act contemplates
that exchanges proposing to list and
trade security futures products must file
proposed rule changes that include
listing standards that, among other
things, are consistent with this
standard.67 Currently, the only debt
securities on which options trade are
U.S. Treasury securities.68 The SEC,
however, recently published for
comment a proposed rule change by the
Chicago Board Options Exchange to list
options on certain corporate debt
securities.69 The SEC would welcome
comments from the CME and others on
the CBOE’s proposal, particularly as it
relates to comparable listing standards
for security futures on debt securities.
IV. Paperwork Reduction Act
CFTC: The Paperwork Reduction Act
of 1995 (‘‘PRA’’),70 imposes certain
requirements on federal agencies
(including the CFTC) in connection
with their conducting or sponsoring any
collection of information as defined by
the PRA. The rule and rule amendment
do not require a new collection of
information on the part of any entities.
SEC: The PRA does not apply because
new Exchange Act Rules 3a55–4 and
6h–2 do not impose any new ‘‘collection
of information’’ requirements within the
meaning under the PRA.
64 See Section 2(a)(1)(D)(i)(VII) of the CEA, 7
U.S.C. 2(a)(1)(D)(i)(VII); Section 6(h)(3)(H) of the
Exchange Act, 15 U.S.C. 78f(h)(3)(H).
65 See CME Letter, supra note 8, at 2; CBOT
Letter, supra note 8, at 3–4.
66 See supra note 63.
67 A proposed rule change must, among other
things, satisfy the substantive requirements of
Section 6 of the Exchange Act and the procedural
requirements of Section 19 of the Exchange Act.
68 See CBOE Rule 21.1 et seq.
69 See Securities Exchange Act Release No. 53935
(June 2, 2006), 71 FR 34174 (June 13, 2006).
70 44 U.S.C. 3501 et seq.
E:\FR\FM\13JYR1.SGM
13JYR1
wwhite on PROD1PC61 with RULES
39540
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
V. Costs and Benefits of Final Rules
CFTC: Section 15(a) of the CEA 71
requires the CFTC to consider the costs
and benefits of its actions before issuing
new regulations under the CEA. By its
terms, Section 15(a) does not require the
CFTC to quantify the costs and benefits
of new regulations or to determine
whether the benefits of the regulations
outweigh their costs. Rather, Section
15(a) requires the CFTC to ‘‘consider the
cost and benefits’’ of the subject rules in
light of five broad areas of market and
public concern: (1) Protection of market
participants and the public; (2)
efficiency, competitiveness, and
financial integrity of futures markets; (3)
price discovery; (4) sound risk
management practices; and (5) other
public interest considerations. The
CFTC may, in its discretion, give greater
weight to any one of the five
enumerated areas of concern and may,
in its discretion, determine that,
notwithstanding its costs, a particular
rule is necessary or appropriate to
protect the public interest or to
effectuate any of the provisions or to
accomplish any of the purposes of the
CEA.
The rule and rule amendment will
foster the protection of market
participants and the public by
establishing criteria for futures on
broad-based debt securities indexes that
will reduce the likelihood that these
products would be readily susceptible
to manipulation. The statutory listing
standards for security futures provide
for similar protection of market
participants with regard to security
futures on narrow-based debt securities
indexes and individual debt securities
that will be made available for listing
and trading pursuant to the final rules.
In addition, the rule and rule
amendment will encourage the
efficiency and competitiveness of
futures markets by permitting the listing
for trading of new and potentially useful
products on debt securities and security
indexes. In the absence of the rule and
rule amendment, futures on debt
securities indexes that meet the
proposed criteria for non-narrow-based
security index treatment, as well as
security futures on narrow-based debt
securities indexes and individual debt
securities, would be prohibited.
Efficiencies will also be achieved
because the rule and rule amendment,
in establishing criteria for broad-based
debt securities indexes, take into
consideration the characteristics of such
indexes and the issuers of the
underlying debt securities that render
71 7
U.S.C. 15(a).
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
joint SEC and CFTC regulation
unnecessary. By not subjecting futures
on debt securities indexes that meet the
criteria to joint SEC and CFTC
regulation, the costs for listing such
products will be minimized.
The rule and rule amendment will
have no material impact from the
standpoint of imposing costs or creating
benefits, on price discovery, sound risk
management practices, or any other
public interest considerations.
Although exchanges may incur costs
in order to determine whether a debt
securities index meets the criteria to be
considered broad-based established by
the rules, the CFTC believes that these
costs are outweighed in light of the
factors and benefits discussed above.
SEC: New Exchange Act Rule 6h–2
permits a national securities exchange
to list and trade security futures based
on a security that is a note, bond,
debenture, or evidence of indebtedness
or on a narrow-based index composed of
such securities. New Exchange Act Rule
3a55–4 excludes from the definition of
‘‘narrow-based security index’’ those
debt securities indexes that satisfy
certain criteria.
A. Benefits
The benefits of new Exchange Act
Rules 6h–2 and 3a55–4 are related to the
benefits that will accrue as a result of
expanding the range of securities on
which security futures and other index
futures may be based. By permitting the
trading of security futures based on debt
securities or debt securities indexes and
excluding certain indexes based on debt
securities from the definition of narrowbased security index, new Exchange Act
Rule 6h–2 permits a greater variety of
financial products to be listed and
traded that potentially could facilitate
price discovery and the ability to hedge.
New Exchange Act Rule 3a55–4
provides clear, objective criteria for
excluding from the jurisdiction of the
SEC futures contracts on certain debt
securities indexes. By providing an
objective rule to determine when a debt
securities index is not a narrow-based
securities index for purposes of the
Exchange Act Section 3(a)(55), new
Exchange Act Rule 3a55–4 alleviates
any additional regulatory costs of dual
CFTC and SEC jurisdiction where it is
appropriate to do so. Futures contracts
on debt securities indexes that do not
meet the criteria in Exchange Act Rule
3a55–4 for the exclusion from the
definition of narrow-based debt security
index will be subject to the joint
jurisdiction of the SEC and CFTC.
Futures on debt securities indexes that
do meet the criteria for the exclusion,
however, will be subject to the exclusive
PO 00000
Frm 00028
Fmt 4700
Sfmt 4700
jurisdiction of the CFTC and may be
traded only on designated contract
markets and registered DTEFs. Investors
generally will benefit from the new
rules by having a wider choice of
financial products to buy and sell. The
amount of the benefit will likely be
correlated to the volume of trading in
these new instruments.
B. Costs
In complying with the new rules, a
national securities exchange, national
securities association, designated
contract market, registered DTEF, or
foreign board of trade (each a ‘‘listing
market’’) that wishes to list and trade
futures contracts based on debt
securities indexes will incur certain
costs.72 A listing market that wishes to
list and trade such a futures contract
will be required to ascertain whether the
underlying debt securities index is or is
not a narrow-based debt security index,
according to the criteria set forth in Rule
3a55–4, and thus whether a future on
such debt security index is subject to
the exclusive jurisdiction of the CFTC or
to the joint jurisdiction of the SEC and
CFTC. This analysis will have to be
performed at the initial listing and
monitored periodically to ensure
continued compliance under new
Exchange Act Rule 3a55–4. The SEC
notes, however, that in the absence of
new Exchange Act Rule 3a55–4, a listing
market desiring to list futures on a debt
securities index would still have to bear
the costs associated with performing a
similar analysis under the statutory
definition of narrow-based security
index. The costs associated with new
Exchange Act Rule 3a55–4 would
largely replace the costs of performing
an analysis under the statutory
definition of narrow-based security
index for debt securities indexes and,
therefore, there is little or no cost
increase.
The determination of whether a debt
securities index is excluded from the
definition of narrow-based debt security
index will require listing markets to
make certain calculations based on the
type of issuer and concentration of the
security in the index, including
calculations, as appropriate, relating to
the issuer eligibility provisions,73 the
72 In the Proposing Release, supra note 7, the
Commissions requested comment on the costs and
benefits associated with the proposed rules and rule
amendment but did not receive any specific cost or
benefit data in response.
73 The issuer eligibility calculations for issuers of
non-exempted securities, non-Exchange Act
reporting issuers, or issuers that are not foreign
governments could include the worldwide market
value of outstanding common equity held by nonaffiliates of such issuer or the aggregate remaining
E:\FR\FM\13JYR1.SGM
13JYR1
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
wwhite on PROD1PC61 with RULES
total outstanding principal of each of
the underlying securities, and
calculations related to the weighting of
each of the securities in the index. A
listing market may incur costs if it
contracts with an outside party to
perform these calculations. In addition,
a listing market may incur costs
associated with obtaining and accessing
appropriate data from an independent
third-party vendor. For example, a
listing market may be required to pay
certain fees to a vendor to acquire the
necessary information. Furthermore, if
these calculations require data that are
not readily available, particularly if
foreign data are needed, a listing market
may possibly incur additional costs to
obtain such data.
Market participants that elect to create
debt securities indexes for trading
futures thereon will also incur nonregulatory costs associated with
constructing these products. Such costs
will be the ordinary costs of doing
business.
VI. Consideration of Burden on
Competition, and Promotion of
Efficiency, Competition, and Capital
Formation
SEC: Section 3(t) of the Exchange
Act 74 requires the SEC, when engaged
in a rulemaking that requires it to
consider or determine whether an action
is necessary or appropriate in the public
interest, to consider whether the action
will promote efficiency, competition,
and capital formation. Section 23(a)(2)
of the Exchange Act 75 requires the SEC,
in adopting rules under the Exchange
Act, to consider the impact any rule will
have on competition. In particular,
Section 23(a)(2) of the Exchange Act
prohibits the SEC from adopting any
rule that will impose a burden on
competition not necessary or
appropriate in furtherance of the
purposes of the Exchange Act. In the
Proposing Release, the SEC requested
comment on these statutory
considerations and received none that
addressed them specifically.
New Exchange Act Rule 6h–2 will
permit the listing and trading of security
futures based on debt securities and
narrow-based debt securities indexes.
New Exchange Act Rule 3a55–4 sets
forth clear methods and guidelines for a
listing market to distinguish futures
contracts on debt securities indexes that
are subject to joint jurisdiction of the
SEC and CFTC from futures contracts on
debt securities indexes that are subject
principal amount of outstanding debt of such
issuer.
74 15 U.S.C. 78c(f).
75 15 U.S.C. 78w(a)(2).
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
to the exclusive jurisdiction of the
CFTC. The SEC believes that the new
rules, by allowing listing markets to list
and trade new financial products, will
promote efficiency and competition.
The new rules will create opportunities
for listing markets to compete in the
market for such new products and
perhaps to create new products that will
compete with existing products. The
resulting increased competition and
more efficient markets should not have
an adverse impact on capital formation.
VII. Regulatory Flexibility Act
Certifications
CFTC: The Regulatory Flexibility Act
(‘‘RFA’’) 76 requires federal agencies, in
promulgating rules, to consider the
impact of those rules on small entities.
The rules herein will affect contract
markets and registered DTEFs. The
CFTC previously established certain
definitions of Itsmall entities It to be
used by the CFTC in evaluating the
impact of its rules on small entities in
accordance with the RFA.77 In its
previous determinations, the CFTC has
concluded that contract markets and
DTEFs are not small entities for the
purpose of the RFA.78
SEC: In the Proposing Release, the
Commission certified, pursuant to
Section 605(b) of the RFA 79 that new
Exchange Act Rules 3a55–4 and 6h–2
would not have a significant economic
impact on a substantial number of small
entities. The Commission solicited
comment as to the nature of any impact
on small entities, including empirical
data to support the extent of such
impact costs and benefits associated
with the proposed amendment, and no
comments were received.
VIII. Statutory Authority
Pursuant to the CEA and the
Exchange Act, and, particularly,
Sections 1a(25)(B)(vi) and 2(a)(1)(D) of
the CEA 80 and Sections 3(a)(55)(C)(vi),
3(b), 6(h), 23(a), and 36 of the Exchange
Act,81 the Commissions are adopting
Rule 41.15 and amendments to Rule
41.21 under the CEA,82 and Rules 3a55–
4 and 6h–2 under the Exchange Act.83
U.S.C. 601 et seq.
47 FR 18618 (April 20, 1982).
78 See 47 CFR 18618, 18619 (April 20, 1982)
(discussing contract markets); 66 FR 42256, 42268
(August 10, 2001) (discussing DTEFs).
79 5 U.S.C. 605(b).
80 7 U.S.C. 1a(25)(B)(vi) and 2(a)(1)(D).
81 15 U.S.C. 78c(a)(55)(C)(vi), 78c(b), 78f(h),
78w(a), and 78mm.
82 17 CFR 41.15 and 41.21.
83 17 CFR 250.3a55–4 and 240.6h–2.
PO 00000
76 5
77 See
Frm 00029
Fmt 4700
Sfmt 4700
39541
IX. Text of Adopted Rules
List of Subjects
17 CFR Part 41
Security futures products.
17 CFR Part 240
Securities.
Commodity Futures Trading
Commission
In accordance with the foregoing,
Title 17, chapter I, part 41 of the Code
of Federal Regulations is amended as
follows:
I
PART 41—SECURITY FUTURES
PRODUCTS
1. The authority citation for part 41
continues to read as follows:
I
Authority: Sections 206, 251 and 252, Pub.
L. 106–554, 114 Stat. 2763, 7 U.S.C. 1a, 2, 6f,
6j, 7a–2, 12a; 15 U.S.C. 78g(c)(2).
Subpart B—Narrow-Based Security
Indexes
I
2. Add § 41.15 to read as follows:
§ 41.15 Exclusion from definition of
narrow-based security index for indexes
composed of debt securities.
(a) An index is not a narrow-based
security index if:
(1)(i) Each of the securities of an
issuer included in the index is a
security, as defined in section 2(a)(1) of
the Securities Act of 1933 and section
3 (a)(10) of the Securities Exchange Act
of 1934 and the respective rules
promulgated thereunder, that is a note,
bond, debenture, or evidence of
indebtedness;
(ii) None of the securities of an issuer
included in the index is an equity
security, as defined in section 3(a)(11) of
the Securities Exchange Act of 1934 and
the rules promulgated thereunder;
(iii) The index is comprised of more
than nine securities that are issued by
more than nine non-affiliated issuers;
(iv) The securities of any issuer
included in the index do not comprise
more than 30 percent of the index’s
weighting;
(v) The securities of any five nonaffiliated issuers included in the index
do not comprise more than 60 percent
of the index’s weighting;
(vi) Except as provided in paragraph
(a)(1)(viii) of this section, for each
security of an issuer included in the
index one of the following criteria is
satisfied:
(A) The issuer of the security is
required to file reports pursuant to
section 13 or section 15(d) of the
Securities Exchange Act of 1934;
E:\FR\FM\13JYR1.SGM
13JYR1
wwhite on PROD1PC61 with RULES
39542
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
(B) The issuer of the security has a
worldwide market value of its
outstanding common equity held by
non-affiliates of $700 million or more;
(C) The issuer of the security has
outstanding securities that are notes,
bonds, debentures, or evidences of
indebtedness having a total remaining
principal amount of at least $1 billion;
(D) The security is an exempted
security as defined in section 3(a)(12) of
the Securities Exchange Act of 1934 and
the rules promulgated thereunder; or
(E) The issuer of the security is a
government of a foreign country or a
political subdivision of a foreign
country; and
(vii) Except as provided in paragraph
(a)(1)(viii) of this section, for each
security of an issuer included in the
index one of the following criteria is
satisfied:
(A) The security has a total remaining
principal amount of at least
$250,000,000; or
(B) The security is a municipal
security (as defined in section 3(a)(29)
of the Securities Exchange Act of 1934
and the rules promulgated thereunder)
that has a total remaining principal
amount of at least $200,000,000 and the
issuer of such municipal security has
outstanding securities that are notes,
bonds, debentures, or evidences of
indebtedness having a total remaining
principal amount of at least $1 billion;
and
(viii) Paragraphs (a)(1)(vi) and
(a)(1)(vii) of this section will not apply
to securities of an issuer included in the
index if:
(A) All securities of such issuer
included in the index represent less
than five percent of the index’s
weighting; and
(B) Securities comprising at least 80
percent of the index’s weighting satisfy
the provisions of paragraphs (a)(1)(vi)
and (a)(1)(vii) of this section.
(2)(i) The index includes exempted
securities, other than municipal
securities as defined in section 3(a)(29)
of the Securities Exchange Act of 1934
and the rules promulgated thereunder,
that are:
(A) Notes, bonds, debentures, or
evidences of indebtedness; and
(B) Not equity securities, as defined in
section 3(a)(11) of the Securities
Exchange Act of 1934 and the rules
promulgated thereunder; and
(ii) Without taking into account any
portion of the index composed of such
exempted securities, other than
municipal securities, the remaining
portion of the index would not be a
narrow-based security index meeting all
the conditions under paragraph (a)(1) of
this section.
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
(b) For purposes of this section:
(1) An issuer is affiliated with another
issuer if it controls, is controlled by, or
is under common control with, that
issuer.
(2) For purposes of this section,
‘‘control’’ means ownership of 20
percent or more of an issuer’s equity, or
the ability to direct the voting of 20
percent or more of the issuer’s voting
equity.
(3) The term ‘‘issuer’’ includes a
single issuer or group of affiliated
issuers.
Subpart C—Requirements and
Standards for Listing Security Futures
Products
3. Amend § 41.21 by:
a. Removing ‘‘or’’ at the end of
paragraph (a)(2)(i);
I b. Removing ‘‘; and,’’ at the end of
paragarph (a)(2)(ii) and adding ‘‘, or’’ in
its place;
I c. Adding paragrahph (a)(2)(iii);
I d. Removing ‘‘or’’ at the end of
paragraph (b)(3)(i);
I e. Removing ‘‘; and,’’ at the end of
paragraph (b)(3)(ii) and adding ‘‘, or’’ in
its place; and
I f. Adding paragarph (b)(3)(iii).
The revisions and additions read as
follows:
I
I
§ 41.21 Requirements for underlying
securities.
(a) * * *
(2) * * *
(iii) A note, bond, debenture, or
evidence of indebtedness; and
*
*
*
*
*
(b) * * *
(3) * * *
(iii) A note, bond, debenture, or
evidence of indebtedness; and
*
*
*
*
*
Securities and Exchange Commission
In accordance with the foregoing,
Title 17, chapter II, part 240 of the Code
of Federal Regulations is amended as
follows:
I
PART 240—GENERAL RULES AND
REGULATIONS, SECURITIES
EXCHANGE ACT OF 1934
1. The authority citation for part 240
continues to read, in part, as follows:
I
Authority: 15 U.S.C. 77c, 77d, 77g, 77j,
77s, 77z–2, 77z–3, 77eee, 77ggg, 77nnn,
77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i, 78j,
78j–1, 78k, 78k–1, 78l, 78m, 78n, 78o, 78p,
78q, 78s, 78u–5, 78w, 78x, 78ll, 78mm, 79q,
79t, 80a–20, 80a–23, 80a–29, 80a–37, 80b–3,
80b–4, 80b–11, and 7201 et seq.; and 18
U.S.C. 1350, unless otherwise noted.
*
*
*
*
*
2. Section 240.3a55–4 is added to read
as follows:
I
PO 00000
Frm 00030
Fmt 4700
Sfmt 4700
§ 240.3a55–4 Exclusion from definition of
narrow-based security index for indexes
composed of debt securities.
(a) An index is not a narrow-based
security index if:
(1)(i) Each of the securities of an
issuer included in the index is a
security, as defined in section 2(a)(1) of
the Securities Act of 1933(15 U.S.C.
77b(a)(1)) and section 3(a)(10) of the Act
(15 U.S.C. 78c(a)(10)) and the respective
rules promulgated thereunder, that is a
note, bond, debenture, or evidence of
indebtedness;
(ii) None of the securities of an issuer
included in the index is an equity
security, as defined in section 3(a)(11) of
the Act (15 U.S.C. 78c(a)(11)) and the
rules promulgated thereunder;
(iii) The index is comprised of more
than nine securities that are issued by
more than nine non-affiliated issuers;
(iv) The securities of any issuer
included in the index do not comprise
more than 30 percent of the index’s
weighting;
(v) The securities of any five nonaffiliated issuers included in the index
do not comprise more than 60 percent
of the index’s weighting;
(vi) Except as provided in paragraph
(a)(1)(viii) of this section, for each
security of an issuer included in the
index one of the following criteria is
satisfied:
(A) The issuer of the security is
required to file reports pursuant to
section 13 or section 15(d) of the Act (15
U.S.C. 78m and 78o(d));
(B) The issuer of the security has a
[Worldwide market value of its
outstanding common equity held by
non-affiliates of $71 million or more;
(C) The issuer of the security has
outstanding securities that are notes,
bonds, debentures, or evidences of
indebtedness having a total remaining
principal amount of at least $1 billion;
(D) The security is an exempted
security as defined in section 3(a)(12) of
the Act (15 U.S.C. 78c(a)(12)) and the
rules promulgated thereunder; or
(E) The issuer of the security is a
government of a foreign country or a
political subdivision of a foreign
country;
(vii) Except as provided in paragraph
(a)(1)(viii) of this section, for each
security of an issuer included in the
index one of the following criteria is
satisfied
(A) The security has a total remaining
principal amount of at least
$250,000,000; or
(B) The security is a municipal
security, as defined in section 3(a)(29) of
the Act (15 U.S.C. 78c(a)(29)) and the
rules promulgated thereunder that has a
total remaining principal amount of at
E:\FR\FM\13JYR1.SGM
13JYR1
Federal Register / Vol. 71, No. 134 / Thursday, July 13, 2006 / Rules and Regulations
least $200,000,000 and the issuer of
such municipal security has outstanding
securities that are notes, bonds,
debentures, or evidences of
indebtedness having a total remaining
principal amount of at least $1 billion;
and
(viii) Paragraphs (a)(1)(vi) and
(a)(1)(vii) of this section will not apply
to securities of an issuer included in the
index if:
(A) All securities of such issuer
included in the index represent less
than 5 percent of the index’s weighting;
and
(B) Securities comprising at least 80
percent of the index’s weighting satisfy
the provisions of paragraphs (a)(1)(vi)
and (a)(1)(vii) of this section; or
(2)(i) The index includes exempted
securities, other than municipal
securities, as defined in section 3(a)(29)
of the Act and the rules promulgated
thereunder, that are:
(A) Notes, bonds, debentures, or
evidences of indebtedness; and
(B) Not equity securities, as defined in
section 3(a)(11) of the Act (15 U.S.C.
78c(a)(11)) and the rules promulgated
thereunder; and
(ii) Without taking into account any
portion of the index composed of such
exempted securities, other than
municipal securities, the remaining
portion of the index would not be a
narrow-based security index: meeting
all the conditions under paragraph (a)(1)
of this section.
(b) For purposes of this section:
(1) An issuer is affiliated with another
issuer if it controls, is controlled by, or
is under common control with, that
issuer.
(2) For purposes of this section,
control means ownership of 20 percent
or more of an issuer’s equity, or the
ability to direct the voting of 20 percent
or more of the issuer’s voting equity.
(3) The term issuer includes a single
issuer or group of affiliated issuers.
I 3. Section 240.6h–2 is added to read
as follows:
§ 240.6h–2 Security future based on note,
bond, debenture, or evidence of
indebtedness.
wwhite on PROD1PC61 with RULES
A security future may be based upon
a security that is a note, bond,
debenture, or evidence of indebtedness
or a narrow-based security index
composed of such securities.
By the Commodity Futures Trading
Commission.
Eileen A. Donovan,
Acting Secretary.
By the Securities and Exchange
Commission.
VerDate Aug<31>2005
17:17 Jul 12, 2006
Jkt 208001
Dated: July 6, 2006.
J. Lynn Taylor,
Assistant Secretary.
[FR Doc. 06–6136 Filed 7–12–06; 8:45 am]
39543
HHS.
Final rule; technical
amendment.
Approval of this supplemental
ANADA did not require review of
additional safety or effectiveness data or
information. Therefore, a freedom of
information summary is not required.
FDA has determined under 21 CFR
25.33(a)(1) that this action is of a type
that does not individually or
cumulatively have a significant effect on
the human environment. Therefore,
neither an environmental assessment
nor an environmental impact statement
is required.
This rule does not meet the definition
of ‘‘rule’’ in 5 U.S.C. 804(3)(A) because
it is a rule of ‘‘particular applicability.’’
Therefore, it is not subject to
congressional review requirements in 5
U.S.C. 801–808.
List of Subjects in 21 CFR Part 520
BILLING CODE 8040–01–M
DEPARTMENT OF HEALTH AND
HUMAN SERVICES
Food and Drug Administration
21 CFR Part 520
Oral Dosage Form New Animal Drugs;
Clindamycin Liquid
AGENCY:
Food and Drug Administration,
ACTION:
The Food and Drug
Administration (FDA) is amending the
animal drug regulations to reflect
approval of a supplemental abbreviated
new animal drug application (ANADA)
filed by Virbac AH, Inc. The
supplemental ANADA provides for an
expanded dose range and revised
wording of indications for the oral use
of clindamycin hydrochloride liquid in
dogs and cats for the treatment of
certain bacterial diseases.
DATES: This rule is effective July 13,
2006.
SUMMARY:
FOR FURTHER INFORMATION CONTACT:
Daniel A. Benz, Center for Veterinary
Medicine (HFV–104), Food and Drug
Administration, 7500 Standish Pl.,
Rockville, MD 20855, 301–827–0223, email: daniel.benz @fda.hhs.gov.
SUPPLEMENTARY INFORMATION: Virbac
AH, Inc., 3200 Meacham Blvd., Ft.
Worth, TX 76137, filed a supplement to
ANADA 200–291 for CLINSOL
(clindamycin hydrochloride) Liquid.
The supplement provides for an
expanded dose range and revised
wording of indications for the oral use
of clindamycin hydrochloride liquid in
dogs and cats for the treatment of
certain bacterial diseases. The
supplemental ANADA is approved as of
June 12, 2006, and the regulations are
amended in § 520.447 (21 CFR 520.447)
to reflect the approval and a current
format.
In addition, FDA has found that a
2003 change of sponsorship for
CLINSOL Liquid (68 FR 55823,
September 29, 2003) is not reflected in
the Code of Federal Regulations.
Accordingly, § 520.447 is being revised
to reflect the correct sponsor drug
labeler code. This action is being taken
to improve the accuracy of the
regulations.
PO 00000
Frm 00031
Fmt 4700
Sfmt 4700
Animal drugs.
Therefore, under the Federal Food,
Drug, and Cosmetic Act and under
authority delegated to the Commissioner
of Food and Drugs and redelegated to
the Center for Veterinary Medicine, 21
CFR part 520 is amended as follows:
I
PART 520—ORAL DOSAGE FORM
NEW ANIMAL DRUGS
1. The authority citation for 21 CFR
part 520 continues to read as follows:
I
Authority: 21 U.S.C. 360b.
2. In § 520.447, revise the section
heading and paragraphs (b), (d)(1)(i),
(d)(1)(ii), (d)(2)(i), and (d)(2)(ii) to read
as follows:
I
§ 520.447
Clindamycin solution.
*
*
*
*
*
(b) Sponsors. See Nos. 000009,
051311, and 059130 in § 510.600(c) of
this chapter.
*
*
*
*
*
(d) * * *
(1) * * *
(i) Amount. Wounds, abscesses, and
dental infections: 2.5 to 15 mg per
pound (/lb) body weight every 12 hours
for a maximum of 28 days.
Osteomyelitis: 5.0 to 15 mg/lb body
weight every 12 hours for a minimum of
28 days.
(ii) Indications for use. For the
treatment of skin infections (wounds
and abscesses) due to susceptible strains
of coagulase-positive staphylococci
(Staphylococcus aureus or S.
intermedius), deep wounds and
abscesses due to susceptible strains of
Bacteroides fragilis, Prevotella
melaninogenicus, Fusobacterium
necrophorum, and Clostridium
perfringens; dental infections due to
susceptible strains of S. aureus, B.
fragilis, P. melaninogenicus, F.
E:\FR\FM\13JYR1.SGM
13JYR1
]]>Agencies
[Federal Register Volume 71, Number 134 (Thursday, July 13, 2006)]
[Rules and Regulations]
[Pages 39534-39543]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 06-6136]
=======================================================================
-----------------------------------------------------------------------
COMMODITY FUTURES TRADING COMMISSION
17 CFR Part 41
RIN 3038 AB86
SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
[Release No. 34-54106; File No. S7-07-06]
RIN 3235-AJ54
Joint Final Rules: Application of the Definition of Narrow-Based
Security Index to Debt Securities Indexes and Security Futures on Debt
Securities
AGENCIES: Commodity Futures Trading Commission and Securities and
Exchange Commission.
ACTION: Joint final rules.
-----------------------------------------------------------------------
SUMMARY: The Commodity Futures Trading Commission (``CFTC'') and the
Securities and Exchange Commission (``SEC'') (together, the
``Commissions'') are adopting a new rule and amending an existing rule
under the Commodity Exchange Act (``CEA'') and adopting two new rules
under the Securities Exchange Act of 1934 (``Exchange Act''). The rules
will modify the applicable statutory listing standards requirements to
permit security futures to be based on individual debt securities or a
narrow-based security index composed of such securities. In addition,
these rules and rule amendment will exclude from the definition of
``narrow-based security index'' debt securities indexes that satisfy
specified criteria. A future on a debt securities index that is
excluded from the definition of narrow-based security index will not be
a security future and may trade subject to the exclusive jurisdiction
of the CFTC.
EFFECTIVE DATE: August 14, 2006.
FOR FURTHER INFORMATION CONTACT:
CFTC: Elizabeth L. Ritter, Deputy General Counsel, at 202/418-5052,
or Julian E. Hammar, Counsel, at 202/418-5118, Office of General
Counsel; or Thomas M. Leahy, Jr., Associate Director, Product Review,
at 202/418-5278, Division of Market Oversight, Commodity Futures
Trading Commission, Three Lafayette Centre, 1155 21st Street, NW.,
Washington, DC 20581.
SEC: Yvonne Fraticelli, Special Counsel, at 202/551-5654; or Leah
Mesfin, Special Counsel, at 202/551-5655, Office of Market Supervision,
Division of Market Regulation, Securities and Exchange Commission, 100
F Street, NE., Washington, DC 20549-6628.
SUPPLEMENTARY INFORMATION: The Commissions are adopting Rule 41.15 and
amending Rule 41.21 under the CEA,\1\ and adding Rule 3a55-4 and Rule
6h-2 under the Exchange Act.\2\
---------------------------------------------------------------------------
\1\ All references to the CEA are to 7 U.S.C. 1 et seq.
\2\ All references to the Exchange Act are to 15 U.S.C. 78a et
seq.
---------------------------------------------------------------------------
I. Introduction
A. Background
Futures contracts on single securities and on narrow-based security
indexes (collectively, ``security futures'') are jointly regulated by
the CFTC and the SEC.\3\ The definition of narrow-based security index
under both the CEA and the Exchange Act sets forth the criteria for
such joint regulatory jurisdiction. Futures on indexes that are not
narrow-based security indexes are subject to the exclusive jurisdiction
of the CFTC. Under the CEA and the Exchange Act, an index is a narrow-
based security index if it meets any one of four criteria.\4\ Further,
the CEA and Exchange Act provide that, notwithstanding the statutory
criteria, an index is not a narrow-based security index if a contract
of sale for future delivery on the index is traded on or subject to the
rules of a board of trade and meets such requirements as are jointly
established by rule, regulation, or order of the Commissions.\5\
---------------------------------------------------------------------------
\3\ See Section 1a(31) of the CEA, 7 U.S.C. 1a(31); Section
3(a)(55)(A) of the Exchange Act, 15 U.S.C. 78c(a)(55)(A).
\4\ The four criteria are as follows: (1) It has nine or fewer
component securities; (2) any one of its component securities
comprises more than 30% of its weighting; (3) any group of five of
its component securities together comprise more than 60% of its
weighting; or (4) the lowest weighted component securities
comprising, in the aggregate, 25% of the index's weighting have an
aggregate dollar value of average daily trading volume (``ADTV'') of
less than $50 million (or in the case of an index with 15 or more
component securities, $30 million). See Section 1a(25)(A)(i)-(iv) of
the CEA, 7 U.S.C. 1a(25)(A)(i)-(iv); Section 3(a)(55)(B)(i)-(iv) of
the Exchange Act, 15 U.S.C. 78c(a)(55)(B)(i)-(iv).
\5\ See Section 1a(25)(B)(vi) of the CEA, 7 U.S.C.
1a(25)(B)(vi); Section 3(a)(55)(C)(vi) of the Exchange Act, 15
U.S.C. 78c(a)(55)(C)(vi).
---------------------------------------------------------------------------
The statutory definition of narrow-based security index was
designed primarily for indexes composed of equity securities, not debt
securities.\6\ For example, while three criteria in the narrow-based
security index definition evaluate the composition and weighting of the
securities in the index, another criterion evaluates the liquidity of
an index's component securities. The liquidity criterion in the
statutory definition of narrow-based security index, which is important
for indexes composed of common stock, is not an appropriate criterion
for indexes composed of debt securities because debt securities
generally do not trade in the same manner as equity securities. In
particular, because few debt securities meet the ADTV criterion in the
statutory definition of narrow-based security index, most indexes
composed of debt securities, regardless of the number or amount of
underlying component securities in the index, would fall within the
statutory definition of narrow-based security index.
---------------------------------------------------------------------------
\6\ Debt securities include notes, bonds, debentures, or
evidences of indebtedness.
---------------------------------------------------------------------------
On April 10, 2006, the Commissions proposed rules \7\ that would
exclude debt securities indexes that satisfied certain criteria from
the statutory definition of narrow-based security index. Futures on
debt securities indexes that satisfy the criteria of the exclusion
would not be security futures and thus would be subject to the
exclusive jurisdiction of the CFTC. In addition, the proposed rules and
rule amendment would modify the statutory listing standards to permit
the trading of security futures on single debt securities and narrow-
based security indexes composed of debt securities.
---------------------------------------------------------------------------
\7\ See Securities Exchange Act Release No. 53560 (March 29,
2006), 71 FR 18030 (April 10, 2006) (``Proposing Release'').
---------------------------------------------------------------------------
The Commissions received comment letters on the proposed rules from
two futures exchanges, the Chicago Mercantile Exchange (``CME'') and
the Board of Trade of the City of Chicago (``CBOT''),\8\ and from the
Futures Industry Association (``FIA'').\9\ All of the commenters
generally supported the Commissions' proposal. The CME and the CBOT
requested the opportunity for public comment on the listing standards
[[Page 39535]]
that would apply to security futures on debt securities and indexes
composed of debt securities.\10\ In addition, the CBOT suggested that
the Commissions reduce the minimum remaining outstanding principal
amount requirement from $250,000,000 to $100,000,000.\11\
---------------------------------------------------------------------------
\8\ See letter from Craig S. Donohue, Chief Executive Officer,
CME, to Jean A. Webb, Secretary, CFTC, and Jonathan G. Katz,
Secretary, SEC, dated April 25, 2006 (``CME Letter''); letter from
Bernard Dan, CBOT, to Jean A. Webb, Secretary, CFTC, and Nancy M.
Morris, Secretary, SEC, dated May 10, 2006 (``CBOT Letter'').
\9\ See letter from John M. Damgard, President, FIA, to Jean A.
Webb, Secretary, CFTC, and Nancy M. Morris, Secretary, SEC, dated
May 16, 2006 (``FIA Letter''). In addition, the FIA supported the
comments of the CME and the CBOT and urged the Commissions to
propose a regulatory standard governing the offer and sale of
security futures contracts on indexes composed of non-U.S. equities
that trade on or are subject to the rules of exchanges or boards of
trade located outside of the United States. Because the proposed
rules did not relate to indexes composed of non-U.S. equities, the
Commissions are not addressing this comment in this release.
\10\ See CME Letter, supra note 8, at 2; CBOT Letter, supra note
8, at 3-4.
\11\ See CBOT Letter, supra note 8; at 2-3.
---------------------------------------------------------------------------
The FIA asked the Commissions to confirm that: (1) A debt security
index that meets the criteria in the rules would be broad-based even if
the index included products or instruments that are not securities; and
(2) in a debt securities index that includes both exempted securities
and securities that are not exempted securities, it would be necessary
to take into account only securities that are not exempted securities
in determining compliance with the criteria in the rules.\12\ These
comments are discussed more fully below.
---------------------------------------------------------------------------
\12\ See FIA Letter, supra note 9, at 2.
---------------------------------------------------------------------------
B. Overview of Adopted Rules
After careful consideration, the Commissions have determined to
adopt the rules and rule amendment largely as proposed, with changes to
address certain issues raised by the commenters. The Commissions
believe it is appropriate to exclude certain debt securities indexes
from the statutory definition of narrow-based security index using
criteria that differ in certain respects from the criteria applicable
to indexes composed of equity securities. The Commissions believe that
such modified criteria for debt securities indexes are necessary or
appropriate in the public interest and consistent with the protection
of investors because the criteria recognize the differences between
equity and debt and would permit security futures to be based on debt
securities indexes.\13\ In particular, the Commissions believe that the
modified criteria addressing diversification and public information
about, and market familiarity with, the issuers of the securities
underlying a debt securities index will reduce the likelihood that a
future on such an index would be readily susceptible to manipulation
and thus are more appropriate criteria for debt securities indexes.
---------------------------------------------------------------------------
\13\ See 15 U.S.C. 78mm(a)(1).
---------------------------------------------------------------------------
1. CEA Rule 41.21 and Exchange Act Rule 6h-2
The Commissions are amending CEA Rule 41.21 and adopting Exchange
Act Rule 6h-2 to modify the statutory listing standards for security
futures to permit the trading of security futures based on debt
securities that are notes, bonds, debentures, or evidences of
indebtedness and indexes composed of such securities.
2. CEA Rule 41.15 and Exchange Act Rule 3a55-4
The Commissions are adopting CEA Rule 41.15 and Exchange Act Rule
3a55-4, which exclude from the definition of narrow-based security
index any debt securities index that satisfies certain criteria.
Specifically, CEA Rule 41.15 and Exchange Act Rule 3a55-4 provide that
a debt securities index will not be considered a narrow-based security
index for purposes of Section 3(a)(55) of the Exchange Act and Section
1a(25) of the CEA if: (1) Each index component is a security that is a
note, bond, debenture, or evidence of indebtedness; (2) the index is
comprised of more than nine securities issued by more than nine non-
affiliated issuers; (3) the securities of any issuer included in the
index do not comprise more than 30% of the index's weighting; (4) the
securities of any five non-affiliated issuers included in the index do
not comprise more than 60% of the index's weighting; and (5) the issuer
of a security included in an index satisfies certain requirements.
For securities that are not exempted securities, CEA Rule 41.15 and
Exchange Act Rule 3a55-4 require that the issuer of a component
security: (1) Be required to file reports pursuant to section 13 or
15(d) of the Exchange Act; (2) have worldwide market value of its
outstanding common equity held by non-affiliates of $700 million or
more; (3) have outstanding securities that are notes, bonds,
debentures, or evidences of indebtedness with a total remaining
principal amount of at least $1 billion; or (4) be a government of a
foreign country or a political subdivision of a foreign country.
In addition, CEA Rule 41.15 and Exchange Act Rule 3a55-4 require
each security of an issuer included in an index to have a total
remaining principal amount outstanding of at least $250,000,000.
Alternatively, to respond to the CBOT's comment, the final rule permits
a municipal security in the index to have only $200,000,000 total
remaining principal amount outstanding if the issuer of such municipal
security has outstanding debt securities with a total remaining
principal amount of at least $1 billion.
CEA Rule 41.15 and Exchange Act Rule 3a55-4 provide a de minimis
exception from the issuer eligibility and minimum outstanding principal
balance criteria if a predominant percentage of the securities
comprising the index's weighting satisfy all of the applicable
criteria.
In addition, in response to the FIA's comments, the Commissions are
adding an alternative provision that would permit exempted securities
that are debt securities (other than municipal securities) to be
excluded from an index in determining whether such index is not a
narrow-based security index under the rules.
Finally, CEA Rule 41.15 and Exchange Act Rule 3a55-4 contain a
definition of ``control'' solely to assess affiliation among issuers
for purposes of determining satisfaction of the criteria established in
the rules.
II. Discussion of Final Rules
A. Modification of the Statutory Listing Standards Requirements for
Security Futures Products
The Commodity Futures Modernization Act of 2000 \14\ amended the
Exchange Act. and the CEA by, among other things, establishing the
criteria and requirements for listing standards for securities on which
security futures products can be based. The Exchange Act \15\ provides
that it is unlawful for any person to effect transactions in security
futures products that are not listed on a national securities exchange
or a national securities association registered pursuant to Sections
6(a) or 15A(a), respectively, of the Exchange Act.\16\ The Exchange Act
\17\ further provides that such exchange or association is permitted to
trade only security futures products that conform with listing
standards filed with the SEC and that meet the criteria specified in
Section 2(a)(1)(D)(i) of the CEA.\18\ The CEA \19\ states that no board
of trade shall be designated as a contract market with respect to, or
registered as a derivatives transaction execution facility (``DTEF'')
for, any contracts of sale for future delivery of a security futures
product unless the board of trade and the applicable contract met the
criteria specified in that section. Similarly, the Exchange Act \20\
requires that the listing standards filed with the SEC by an
[[Page 39536]]
exchange or association meet specified requirements.
---------------------------------------------------------------------------
\14\ Pub. L. 106-554, 114 Stat. 2763 (2000).
\15\ Section 6(h)(1) of the Exchange Act, 15 U.S.C. 78f(h)(l).
\16\ 15 U.S.C. 78f(a) and 78o-3(a).
\17\ Section 6(h)(2) of the Exchange Act, 15 U.S.C. 78f(h)(2).
\18\ 7 U.S.C. 2(a)(1)(D)(i).
\19\ Section 2(a)(1)(D)(i) of the CEA, 7 U.S.C. 2(a)(1)(D)(i).
\20\ Section 6(h)(3) of the Exchange Act, 15 U.S.C. 78f(h)(3).
---------------------------------------------------------------------------
In particular, the Exchange Act \21\ and the CEA \22\ require that,
except as otherwise provided in a rule, regulation, or order, a
security future must be based upon common stock and such other equity
securities as the Commissions jointly determine appropriate. A security
future on a debt security or a debt securities index currently would
not satisfy this requirement.
---------------------------------------------------------------------------
\21\ Section 6(h)(3)(D) of the Exchange Act, 15 U.S.C.
78f(h)(3)(D).
\22\ Section 2(a)(1)(D)(i)(III) of the CEA, 7 U.S.C.
2(a)(I)(D)(i)(III).
---------------------------------------------------------------------------
The Exchange Act and the CEA, however, provide the Commissions with
the authority to jointly modify this requirement to the extent that the
modification fosters the development of fair and orderly markets in
security futures products, is necessary or appropriate in the public
interest, and is consistent with the protection of investors.\23\
Pursuant to this authority, the Commissions have determined that it is
appropriate in the public interest and consistent with the protection
of investors to amend CEA Rule 41.21 and adopt Exchange Act Rule 6h-2
to permit the trading of security futures based on debt securities that
are notes, bonds, debentures, or evidences of indebtedness and indexes
composed of such securities. This modification is necessary to allow
the listing and trading of new and potentially useful financial
products.
---------------------------------------------------------------------------
\23\ Section 6(h)(4)(A) of the Exchange Act, 15U.S.C.
78f(h)(4)(A); Section 2(a)(1)(D)(v)(I) of the CEA, 7 U.S.C.
2(a)(1)(D)(v)(I).
---------------------------------------------------------------------------
Security futures on debt securities or indexes composed of debt
securities must also conform with the listing standards of the national
securities exchange or national securities association on which they
trade. The Exchange Act requires, among other things, that such listing
standards be no less restrictive than comparable listing standards for
options traded on a national securities exchange or national securities
association.\24\ In addition, the issuer of any security underlying the
security future, including each component security of a narrow-based
security index, would have to be subject to the reporting requirements
of the Exchange Act due to the requirement that the security be
registered under Section 12 of the Exchange Act.\25\ The listing
standards for a security future also must require that trading in the
security future not be readily susceptible to manipulation of the price
of such security future, nor to causing or being used in the
manipulation of the price of an underlying security, option on such
security, or option on a group or index including such securities.\26\
Because these listing standards will continue to provide important
investor protections and safeguards against such products being readily
susceptible to manipulation or causing or being used in the
manipulation of any underlying security or option on such underlying
security or securities, the Commissions believe that new Exchange Act
Rule 6h-2 and the amendments to CEA Rule 41.21 will foster the
development of fair and orderly markets in security futures products,
are appropriate in the public interest, and are consistent with the
protection of investors.
---------------------------------------------------------------------------
\24\ Section 6(h)(3)(C) of the Exchange Act, 15 U.S.C.
78f(h)(3)(C).
\25\ Section 2(a)(l)(D)(i)(I) of the CEA, 7 U.S.C.
2(a)(l)(D)(i)(I); Section 6(h)(3)(A) of the Exchange Act, 15 U.S.C.
78f(h)(3)(A).
\26\ Section 2(a)(l)(D)(i)(VII) of the CEA, 7 U.S.C.
2(a)(l)(D)(i)(VII); Section 6(h)(3)(H) of the Exchange Act, 15
U.S.C. 78f(h)(3)(H).
---------------------------------------------------------------------------
B. Rules Excluding Certain Debt Securities Indexes From the Definition
of Narrow-Based Security Index
The Commissions are adopting new CEA Rule 41.15 and Exchange Act
Rule 3a55-4, which exclude from the statutory definition of narrow-
based security index any debt securities index that satisfies certain
criteria. A futures contract on such an index would not be a security
future and thus would be subject to the exclusive jurisdiction of the
CFTC. The Commissions believe that the criteria in the rules, including
the requirements relating to the maximum weighting and concentration of
securities of an issuer in an index, the eligibility conditions for
issuers, and the minimum remaining outstanding principal amount
requirement should reduce the likelihood that a future on such an index
would be readily susceptible to manipulation or could be used to
manipulate the market for the underlying debt securities.\27\
---------------------------------------------------------------------------
\27\ Although broad-based debt securities indexes that meet the
criteria in the rules should have a reduced likelihood of being
readily susceptible to manipulation, such indexes also must be
determined to be not readily susceptible to manipulation, in
accordance with Section 2(a)(1)(C)(ii)(II) of the CEA, 7 U.S.C.
2(a)(1)(C)(ii)(II).
---------------------------------------------------------------------------
1. Index Composed Solely of Debt Securities
The new rules require that, for an index to qualify for the
exclusion from the definition of ``narrow-based security index,'' each
component security of the index must be a security \28\ that is a note,
bond, debenture, or evidence of indebtedness.\29\ Further, none of the
securities of an issuer included in the index may be an equity
security, as defined in Section 3(a)(11) of the Exchange Act and the
rules adopted thereunder.\30\ Thus, any security index that includes an
equity security will not qualify for the exclusion for indexes composed
of debt securities.\31\
---------------------------------------------------------------------------
\28\ The term ``security'' is defined in Section 2(a)(1) of the
Securities Act of 1933 (the ``Securities Act''), 15 U.S.C.
77b(a)(1), and Section 3(a)(10) of the Exchange Act, 15 U.S.C.
78c(a)(10).
\29\ See Exchange Act Rule 3a55-4(a)(1); CEA Rule 41.15(a)(1).
The federal securities laws do not contain a single definition of
``debt security.'' The Commissions, therefore, are using the terms
found in the Trust Indenture Act of 1939, 15 U.S.C. 77aaa-bbb (which
governs debt securities of all types), to define the debt securities
for purposes of these rules and rule amendment.
\30\ 15 U.S.C. 78c(a)(11). See Exchange Act Rule 3a55-4(a)(2);
CEA Rule 41. 15(a)(2). A security convertible into an equity
security is an equity security under the Exchange Act and the
Securities Act.
\31\ Indexes that include both equity and debt securities would
be subject to the criteria for narrow-based security indexes
enumerated in Section 1a(25) of the CEA and Section 3(a)(55) of the
Exchange Act.
---------------------------------------------------------------------------
The FIA asked the Commissions to confirm that a debt security index
that meets the criteria in the rules would be broad-based even if the
index included products or instruments that ar not securities.\32\ The
Commissions' proposed rules required that each component security of an
index be a security that is a note, bond, debenture, or evidence of
indebtedness. The Commissions did not propose or solicit comment on
whether, and to what extent, indexes that include instruments that are
not securities should be excluded from the definition of narrow-based
security index and have not, to date, considered the regulatory
implications of so excluding futures on indexes composed of different
product classes. Accordingly, the Commissions are adopting these
requirements as proposed without permitting indexes under the criteria
to include products or instruments that are not securities.
---------------------------------------------------------------------------
\32\ See FIA Letter, supra note 9, at 2. The FIA letter did not
elaborate on what these other products or instruments might be.
---------------------------------------------------------------------------
2. Number and Weighting of Index Components
The exclusion also includes conditions relating to the minimum
number of securities of non-affiliated issuers that must be included in
an index and the maximum permissible weighting of securities in the
index. The new rules provide that, for an index to qualify for the
exclusion:
The index must be composed of more than nine securities
issued by more than nine non-affiliated issuers; \33\
---------------------------------------------------------------------------
\33\ See Exchange Act Rule 3a55-4(a)(3); CEA Rule 41.15(a)(3).
---------------------------------------------------------------------------
[[Page 39537]]
The securities of any issuer cannot comprise more than 30%
of the index's weighting; \34\ and
---------------------------------------------------------------------------
\34\ See Exchange Act Rule 3a55-4(a)(4); CEA Rule 41. 15(a)(4).
---------------------------------------------------------------------------
The securities of any five non-affiliated issuers cannot
comprise more than 60% of the index's weighting.\35\
---------------------------------------------------------------------------
\35\ See Exchange Act Rule 3a55-4(a)(5); CEA Rule 41. 15(a)(5).
The foregoing conditions are virtually identical to the criteria
contained in the Exchange Act and the CEA that apply in determining if
a security index would not be a narrow-based security index.\36\
---------------------------------------------------------------------------
\36\ See supra note 4.
---------------------------------------------------------------------------
In addition, the new rules provide that the term ``issuer''
includes a single issuer or group of affiliated issuers.\37\ An issuer
would be affiliated with another issuer for purposes of the exclusion
if it controls, is controlled by, or is under common control with, that
other issuer. The rules define control, solely for purposes of the
exclusion, to mean ownership of 20% or more of an issuer's equity or
the ability to direct the voting of 20% or more of an issuer's voting
equity.\38\ The definition of control will apply solely to CEA Rule
41.15 and Exchange Act Rule 3a55-4 and is designed to provide a clear
standard for determining control and affiliation for purposes of the
exclusion. Determining whether issuers are affiliated is important in
assessing whether an index satisfies the conditions in the rules
adopted today because the debt securities of all affiliated issuers
included in an index must be aggregated.
---------------------------------------------------------------------------
\37\ See Exchange Act Rule 3a55-4(b); CEA Rule 41.15(b).
\38\ While the definition of affiliate under the federal
securities laws is generally a facts-and-circumstances determination
based on the definition of affiliate contained in such laws, see,
e.g. , Securities Act Rule 405, 17 CFR 230.405; Exchange Act Rule
12b-2, 17 CFR 240.12b-2, certain rules under the Exchange Act
contain a 20% threshold for purposes of determining a relationship
between two or more entities. See, e.g., Exchange Act Rule 13d-1(c),
17 CFR 240.13d-1(c); Securities Exchange Act Release No. 39538
(January 12, 1998), 63 FR 2854 (January 16, 1998). See also Rule 3-
05 under Regulation S-X, 17 CFR 210.3-05.
---------------------------------------------------------------------------
The number and weighting criteria require that an index meet
minimum diversification conditions with regard to both issuers and the
underlying securities. These criteria provide that for purposes of
weighting, all debt securities of all affiliated issuers included in
the index are aggregated so that the indexes are not concentrated in
the securities of a small number of issuers and their affiliates. These
criteria are important elements of the Commissions' determination that
the rules are consistent with the protection of investors because they
reduce the likelihood that a future on such a debt securities index
would be overly dependent on the price behavior of a component single
security, small group of securities or issuers, or group of securities
issued by affiliated parties.
3. Issuer or Security Eligibility Criteria
New CEA Rule 41.15 and Exchange Act Rule 3a55-4 require that, for
an index to qualify for the exclusion from the definition of narrow-
based security index, the issuer of each component security that is not
an exempted security under the Exchange Act and the ,rules thereunder
must satisfy one of the following:
The issuer is required to file reports pursuant to
Sections 13 or 15(d) of the Exchange Act; \39\
The issuer has a worldwide market value of its outstanding
common equity held by non-affiliates of $700 million or more; or
The issuer has outstanding securities that are notes,
bonds, debentures, or evidences of indebtedness having a total
remaining principal amount of at least $1 billion.
These issuer eligibility criteria are aimed at conditioning the
exclusion for a debt securities index from the definition of narrow-
based security index on the public availability of information about
the issuers of the securities included in the index. For example, an
issuer that is required to file reports pursuant to Sections 13 or
l5(d) of the Exchange Act \40\ makes regular and public disclosure
through its Exchange Act filings. For issuers that are not required to
file reports with the SEC under the Exchange Act, the Commissions
similarly believe that issuers having worldwide equity market
capitalization of $700 million or $1 billion in outstanding debt are
likely to have public information available about them.\41\
Accordingly, the issuer eligibility criteria are designed to provide
that, other than with respect to exempted securities in the index, the
debt securities index includes debt securities of issuers for which
public information is available, thereby reducing the likelihood that
an index qualifying for the exclusion would be readily susceptible to
manipulation.
---------------------------------------------------------------------------
\39\ 15 U.S.C. 78m and 78o(d).
\40\ 15 U.S.C. 78m and 78o.
\41\ These thresholds are similar to ones the SEC recently
adopted in its Securities Offering Reform rules. See Securities Act
Release No. 8591 (July 19, 2005), 70 FR 44722 (August 3, 2005).
---------------------------------------------------------------------------
Under the rules adopted by the Commissions today, the issuer
eligibility criteria do not apply to index components that are exempted
securities, as defined in the Exchange Act,\42\ or to an issuer that is
a government of a foreign country or a political subdivision of a
foreign country. The Commissions believe that it is appropriate to
allow indexes qualifying for the exclusion to include exempted
securities and the debt obligations of foreign countries and their
political subdivisions. Current law permits futures on individual
exempted debt securities, other than municipal securities, and on
certain foreign sovereign debt obligations.\43\ Because a future may be
based on one of these exempted debt securities, the Commissions believe
that it is reasonable and consistent with the purposes of the CEA and
the Exchange Act to allow futures to be based on indexes composed of
such debt securities.
---------------------------------------------------------------------------
\42\ See 15 U.S.C. 78c(a)(12). While issuers of exempted
securities are not subject to the same issuer eligibility
conditions, other existing rules and regulatory regimes applicable
to most of such issuers provide for ongoing public information about
such issuers. See, e.g. Exchange Act Rule 15c2-12, 17 CFR 240.15c2-
12.
\43\ Section 2(a)(1)(C)(iv) of the CEA, 7 U.S.C. 2(a)(1)(C)(iv),
prohibits any person from entering into a futures contract on any
security except an exempted security under Section 3(a)(12) of the
Exchange Act, 15 U.S.C. 78c(a)(12), other than a municipal security,
as defined in Section 3(a)(29) of the Exchange Act, 15 U.S.C.
78c(a)(29). In addition, Exchange Act Rule 3a12-8, 17 CFR 240.3a12-
8, deems the debt obligations of specified foreign governments to be
exempted securities for the purpose of permitting the offer, sale,
and confirmation of futures contracts on those debt obligations in
the United States..
---------------------------------------------------------------------------
4. Minimum Principal Amount Outstanding
The rules require that, for a securities index to qualify for the
exclusion, each index component, other than a municipal security in
certain cases, must have a total remaining principal amount of at least
$250,000,000. Although trading in most debt securities is limited,
trading volume is generally larger for debt securities with
$250,000,000 or more in total remaining principal amount
outstanding.\44\ The new rules do not require that the securities
included in the index have an investment grade rating. Nor do the rules
require particular trading volume, due to the generally lower trading
activity in the debt markets compared to the equity markets. Trading
activity in a debt security generally increases as the principal amount
of the debt security increases. However, non-investment-grade debt
securities generally trade more frequently than investment-grade debt
securities. As a result of the type of trading activity that occurs in
the
[[Page 39538]]
debt markets, the Commissions do not believe that trading volume is an
appropriate criterion for determining whether a debt securities index
is narrow-based. Instead, the Commissions are adopting a minimum
principal amount criterion which is intended, together with the other
criteria in the rules adopted today geared to the debt securities
market, to provide a substitute criterion for trading volume.
Accordingly, the Commissions believe that including a minimum remaining
principal amount criterion, together with the other criteria, will
decrease the likelihood that a future on an index qualifying for the
exclusion from the definition of narrow-based security index would be
readily susceptible to manipulation.
---------------------------------------------------------------------------
\44\ This is based on data obtained from the Trace Reporting and
Compliance Engine (TRACE) database supplied by NASD.
---------------------------------------------------------------------------
The CBOT urged the Commissions to reduce the minimum remaining
outstanding principal amount threshold from $250,000,000 to
$100,000,000.\45\ The CBOT presented data indicating that only a small
number of municipal debt securities are issued in principal amounts
exceeding $250,000,000 and argued that it would be difficult to
construct an index qualifying for the exclusion composed of municipal
securities. The CBOT believed a $100,000,000 threshold was appropriate
because it would make it-more likely that an exchange would be able to
identify a sufficient number of municipal debt securities to be
included in an index. The CBOT did not provide any data regarding other
debt securities or any data or arguments to demonstrate how its
proposed $100,000,000 threshold was consistent with the principle that
an index based on municipal debt securities meeting its threshold would
not be readily susceptible to manipulation.
---------------------------------------------------------------------------
\45\ See CBOT Letter, supra note 8, at 2-3.
---------------------------------------------------------------------------
The Commissions intend the $250,000,000 threshold to be a proxy for
the statutory trading volume criterion for equity securities. As
discussed above, trading activity in a debt security generally
increases as the principal amount of the debt security increases. The
$250,000,000 threshold is not designed to maximize the number of
securities that may be included in an index qualifying for an exclusion
from the definition of narrow-based security index. Rather, by limiting
an index primarily to more liquid securities, this criterion increases
the likelihood that information about such securities will be publicly
available and that the securities will have a larger market following.
The $250,000,000 threshold, together with the other criteria, is
designed to reduce the likelihood that the index would be readily
susceptible to manipulation.
The Commissions are addressing the CBOT's comment in the final
rules by adopting an alternate test for municipal securities. A
municipal security could either: (1) Meet the original $250,000,000
threshold; or (2) meet the following two-part test: (a) The security
has a remaining principal amount outstanding of $200,000,000; and (b)
the issuer of the security has outstanding securities that are notes,
bonds, debentures, or evidences of indebtedness having a total
remaining principal amount of at least $1 billion.\46\ As discussed
above, the Commissions believe that issuers with $1 billion or more in
outstanding debt are likely to be followed in the market, and that
information about such issuers is more likely to be publicly
available.\47\ Providing an alternate lower threshold for principal
amount outstanding should provide some flexibility in constructing
indexes that include municipal securities by expanding the number of
municipal securities issues that could be eligible. At the same time,
the alternate $200,000,000 threshold is designed to reduce the
likelihood that the market for a security is not highly illiquid and
thus more readily susceptible to manipulation.\48\ Furthermore, the
requirement that the issuer of the security have total debt outstanding
of at least $1 billion increases the likelihood that information about
the issuer and its securities will be publicly available. The
availability of such information should reduce the likelihood that the
issuer's securities--including those with a minimum principal amount
outstanding of $200,000,000--would be readily susceptible to
manipulation.
---------------------------------------------------------------------------
\46\ CEA Rule 41.15(a)(l)(vii)(B); Exchange Act Rule 3a55-
4(a)(1)(vii)(B).
\47\ See supra note 41 and accompanying text.
\48\ In a 2004 study of the municipal securities market, the SEC
staff found that, over a 10.5-month period, one-third of municipal
issuers had no trades in their debt securities and two-thirds of
municipal issuers had 25 or fewer trades in their securities. Only
2% of municipal issuers had 1,000 or more trades in their securities
during that 10.5-month period. See Office of Economic Analysis,
Office of Municipal Securities, and Division of Market Regulation,
Report on Transactions in Municipal Securities (2004), at 17.
---------------------------------------------------------------------------
5. De Minimis Exception
As the Commissions proposed, the final rules exclude an index from
the definition of ``narrow-based security index'' even if certain of
the issuers of the underlying securities do not meet the issuer
eligibility and the securities do not meet the minimum outstanding
principal balance requirements. Specifically, an index will still
qualify for the exclusion even if an issuer does not satisfy the
eligibility criteria described above \49\ or the securities do not have
$250,000,000, or, for municipal securities of issuers with at least $1
billion in outstanding principal amount of debt, $200,000,000 in
remaining principal amount, as applicable, if:
---------------------------------------------------------------------------
\49\ See supra notes 28-46 and accompanying text.
---------------------------------------------------------------------------
All securities of such issuer included in the index
represent less than 5% of the index's weighting; \50\ and
---------------------------------------------------------------------------
\50\ In determining whether the 5% threshold is met, all
securities of an issuer and its affiliates would be aggregated
because of the potential for concentrated risk of the index in a
limited group of issuers.
---------------------------------------------------------------------------
Securities comprising at least 80% of the index's
weighting satisfy the issuer eligibility and minimum outstanding
principal balance criteria.\51\
---------------------------------------------------------------------------
\51\ The 80% calculation is based on the entire index's
weighting without subtracting issuers that are not required to
satisfy the issuer eligibility criteria and minimum outstanding
principal amount criteria. This is important to ensure that a
predominant percentage of the index satisfies the required criteria.
---------------------------------------------------------------------------
The Commissions believe that an index that includes a very small
proportion of securities and issuers that do not satisfy certain of the
above criteria should nevertheless be excluded from the definition of
narrow-based security index. To satisfy the exclusion, both the 5% and
the 80% weighting thresholds must be met at the time of the assessment.
The 5% weighting threshold is designed to provide that issuers and
securities not satisfying certain of the criteria will comprise only a
very small portion of the index. The 80% weighting threshold is
designed to provide that a predominant percentage of the securities and
the issuers in the debt securities index satisfy the criteria. By
allowing debt securities indexes that include debt securities of a
small number of issuers and securities that do not satisfy certain of
the criteria to qualify for the exclusion, the de minimis exception
provides some flexibility in constructing an index or determining
whether a debt securities index satisfies the exclusion. The
Commissions believe that the de minimis exemption is appropriate for
indexes that are predominantly composed of securities that satisfy the
specified criteria, and that providing such flexibility is consistent
with the protection of investors and is not likely to increase the
possibility that an index that qualifies for the exclusion would be
readily susceptible to manipulation.
[[Page 39539]]
6. Indexes That Include Exempted Securities
The FIA asked the Commissions to confirm that, in an index that
includes exempted securities and securities that are not exempted
securities, only securities that are not exempted securities must be
taken into account in determining compliance with the rules'
criteria.\52\ To address the FIA's comment and to clarify the treatment
of an index that includes both exempted debt securities and debt
securities that are not exempted securities, the final rules permit,
but do not require, certain of the index's exempted debt securities
(other than municipal securities) to be excluded from the index in
determining whether the index is not a narrow-based security index
under the rules.\53\ Persons making the determination regarding the
appropriate treatment under the rules of a debt security index that
includes both exempted and non-exempted debt securities may use either
test for determining whether the debt security index is not narrow-
based. Under the alternative method for determining whether a debt
security index is not narrow-based, exempted debt securities (other
than municipal securities) may be excluded from the application of the
rule criteria. If exempted debt securities are excluded from the
application of the rule criteria, the remaining portion of the index
must satisfy each of the rule's criteria without taking into account
the portion of the index composed of the exempted debt securities in
order for the index as a whole to not be a narrow-based security index
under the rules.
---------------------------------------------------------------------------
\52\ See FIA Letter, supra note 9, at 2.
\53\ See CEA Rule 41.15(a)(2); Exchange Act Rule 3a55-4(a)(2).
---------------------------------------------------------------------------
The Commissions believe this new provision is consistent with the
objective and intent of the proposed rules. The Commissions also
believe it responds to the FIA's request for clarification of the
treatment of indexes that include exempted securities and securities
that are not exempted securities.
C. Tolerance Period
Section 1a(25)(B)(iii) of the CEA \54\ and Section 3(a)(55)(C)(iii)
of the Exchange Act \55\ provide that, under certain conditions, a
future on a security index may continue to trade as a broad-based index
future, even when the index temporarily assumes characteristics that
would render it a narrow-based security index under the statutory
definition. An index qualifies for this tolerance and therefore is not
a narrow-based security index if: (1) A future on the index traded for
at least 30 days as an instrument that was not a security future before
the index assumed the characteristics of a narrow-based security index;
and (2) the index does not retain the characteristics of a narrow-based
security index for more than 45 business days over three consecutive
calendar months.\56\
---------------------------------------------------------------------------
\54\ 7 U.S.C. 1a(25)(B)(iii).
\55\ 15 U.S.C. 78c(a)(55)(C)(iii).
\56\ If the index becomes narrow-based for more than 45 days
over three consecutive calendar months, the statute then provides an
additional grace period of three months during which the index is
excluded from the definition of narrow-based security index. See
Section 1a(25)(D) of the CEA, 7 U.S.C. 1a(25)(D); Section
3(a)(55)(E) of the Exchange Act, 15 U.S.C. 78c(a)(55)(E).
---------------------------------------------------------------------------
In addition, current CEA Rule 41.12 \57\ and Exchange Act Rule
3a55-2 \58\ address the circumstance when a broad-based security index
underlying a future becomes narrow-based during the first 30 days of
trading. In such case, the future does not meet the requirement of
having traded for at least 30 days to qualify for the tolerance period
granted by Section 1a(25)(B)(iii) of the CEA \59\ and Section
3(a)(55)(C)(iii) of the Exchange Act.\60\ These rules, however, provide
that the index will nevertheless be excluded from the definition of
narrow-based security index throughout that first 30 days, if the index
would not have been a narrow-based security index had it been in
existence for an uninterrupted period of six months prior to the first
day of trading.
III. Listing Standards for Security Futures on Debt Securities
The listing standards requirements for security futures are set
forth in Section 2(a)(1)(D)(i) of the CEA \61\ and Section 6(h)(3) of
the Exchange Act.\62\ Among other things, the listing standards for
security futures products must be no less restrictive than comparable
listing standards for options traded on a national securities exchange
or national securities association,\63\ and the listing standards must
require that trading in the security futures product not be readily
susceptible to manipulation of the price of the security futures
product, or to causing or being used in the manipulation of the price
of an underlying security, option on such security, or option on a
group or index including such securities.\64\
---------------------------------------------------------------------------
\57\ 17 CFR 41.12.
\58\ 17 CFR 240.3a55-2.
\59\ 7 U.S.C. 1a(25)(B)(iii).
\60\ 15 U.S.C. 78c(a)(55)(C)(iii).
\61\ 7 U.S.C. 2(a)(1)(D)(i).
\62\ 15 U.S.C. 78f(h)(3).
\63\ See Section 6(h)(3)(C) of the Exchange Act, 15 U.S.C.
78f(h)(3)(C).
\64\ See Section 2(a)(1)(D)(i)(VII) of the CEA, 7 U.S.C.
2(a)(1)(D)(i)(VII); Section 6(h)(3)(H) of the Exchange Act, 15
U.S.C. 78f(h)(3)(H).
---------------------------------------------------------------------------
The CME and CBOT urged the SEC to publish for comment the listing
standards that would apply to security futures on debt securities.\65\
The commenters maintained that interested parties should have an
opportunity to provide meaningful comment on the listing standards for
such security futures.
---------------------------------------------------------------------------
\65\ See CME Letter, supra note 8, at 2; CBOT Letter, supra note
8, at 3-4.
---------------------------------------------------------------------------
As noted above, the Exchange Act and the CEA require that the
listing standards for security futures be no less restrictive than
comparable listing standards for exchange-traded options.\66\ This
statutory standard does not require that the SEC adopt rules. Instead,
the Exchange Act contemplates that exchanges proposing to list and
trade security futures products must file proposed rule changes that
include listing standards that, among other things, are consistent with
this standard.\67\ Currently, the only debt securities on which options
trade are U.S. Treasury securities.\68\ The SEC, however, recently
published for comment a proposed rule change by the Chicago Board
Options Exchange to list options on certain corporate debt
securities.\69\ The SEC would welcome comments from the CME and others
on the CBOE's proposal, particularly as it relates to comparable
listing standards for security futures on debt securities.
---------------------------------------------------------------------------
\66\ See supra note 63.
\67\ A proposed rule change must, among other things, satisfy
the substantive requirements of Section 6 of the Exchange Act and
the procedural requirements of Section 19 of the Exchange Act.
\68\ See CBOE Rule 21.1 et seq.
\69\ See Securities Exchange Act Release No. 53935 (June 2,
2006), 71 FR 34174 (June 13, 2006).
---------------------------------------------------------------------------
IV. Paperwork Reduction Act
CFTC: The Paperwork Reduction Act of 1995 (``PRA''),\70\ imposes
certain requirements on federal agencies (including the CFTC) in
connection with their conducting or sponsoring any collection of
information as defined by the PRA. The rule and rule amendment do not
require a new collection of information on the part of any entities.
---------------------------------------------------------------------------
\70\ 44 U.S.C. 3501 et seq.
---------------------------------------------------------------------------
SEC: The PRA does not apply because new Exchange Act Rules 3a55-4
and 6h-2 do not impose any new ``collection of information''
requirements within the meaning under the PRA.
[[Page 39540]]
V. Costs and Benefits of Final Rules
CFTC: Section 15(a) of the CEA \71\ requires the CFTC to consider
the costs and benefits of its actions before issuing new regulations
under the CEA. By its terms, Section 15(a) does not require the CFTC to
quantify the costs and benefits of new regulations or to determine
whether the benefits of the regulations outweigh their costs. Rather,
Section 15(a) requires the CFTC to ``consider the cost and benefits''
of the subject rules in light of five broad areas of market and public
concern: (1) Protection of market participants and the public; (2)
efficiency, competitiveness, and financial integrity of futures
markets; (3) price discovery; (4) sound risk management practices; and
(5) other public interest considerations. The CFTC may, in its
discretion, give greater weight to any one of the five enumerated areas
of concern and may, in its discretion, determine that, notwithstanding
its costs, a particular rule is necessary or appropriate to protect the
public interest or to effectuate any of the provisions or to accomplish
any of the purposes of the CEA.
---------------------------------------------------------------------------
\71\ 7 U.S.C. 15(a).
---------------------------------------------------------------------------
The rule and rule amendment will foster the protection of market
participants and the public by establishing criteria for futures on
broad-based debt securities indexes that will reduce the likelihood
that these products would be readily susceptible to manipulation. The
statutory listing standards for security futures provide for similar
protection of market participants with regard to security futures on
narrow-based debt securities indexes and individual debt securities
that will be made available for listing and trading pursuant to the
final rules.
In addition, the rule and rule amendment will encourage the
efficiency and competitiveness of futures markets by permitting the
listing for trading of new and potentially useful products on debt
securities and security indexes. In the absence of the rule and rule
amendment, futures on debt securities indexes that meet the proposed
criteria for non-narrow-based security index treatment, as well as
security futures on narrow-based debt securities indexes and individual
debt securities, would be prohibited. Efficiencies will also be
achieved because the rule and rule amendment, in establishing criteria
for broad-based debt securities indexes, take into consideration the
characteristics of such indexes and the issuers of the underlying debt
securities that render joint SEC and CFTC regulation unnecessary. By
not subjecting futures on debt securities indexes that meet the
criteria to joint SEC and CFTC regulation, the costs for listing such
products will be minimized.
The rule and rule amendment will have no material impact from the
standpoint of imposing costs or creating benefits, on price discovery,
sound risk management practices, or any other public interest
considerations.
Although exchanges may incur costs in order to determine whether a
debt securities index meets the criteria to be considered broad-based
established by the rules, the CFTC believes that these costs are
outweighed in light of the factors and benefits discussed above.
SEC: New Exchange Act Rule 6h-2 permits a national securities
exchange to list and trade security futures based on a security that is
a note, bond, debenture, or evidence of indebtedness or on a narrow-
based index composed of such securities. New Exchange Act Rule 3a55-4
excludes from the definition of ``narrow-based security index'' those
debt securities indexes that satisfy certain criteria.
A. Benefits
The benefits of new Exchange Act Rules 6h-2 and 3a55-4 are related
to the benefits that will accrue as a result of expanding the range of
securities on which security futures and other index futures may be
based. By permitting the trading of security futures based on debt
securities or debt securities indexes and excluding certain indexes
based on debt securities from the definition of narrow-based security
index, new Exchange Act Rule 6h-2 permits a greater variety of
financial products to be listed and traded that potentially could
facilitate price discovery and the ability to hedge. New Exchange Act
Rule 3a55-4 provides clear, objective criteria for excluding from the
jurisdiction of the SEC futures contracts on certain debt securities
indexes. By providing an objective rule to determine when a debt
securities index is not a narrow-based securities index for purposes of
the Exchange Act Section 3(a)(55), new Exchange Act Rule 3a55-4
alleviates any additional regulatory costs of dual CFTC and SEC
jurisdiction where it is appropriate to do so. Futures contracts on
debt securities indexes that do not meet the criteria in Exchange Act
Rule 3a55-4 for the exclusion from the definition of narrow-based debt
security index will be subject to the joint jurisdiction of the SEC and
CFTC. Futures on debt securities indexes that do meet the criteria for
the exclusion, however, will be subject to the exclusive jurisdiction
of the CFTC and may be traded only on designated contract markets and
registered DTEFs. Investors generally will benefit from the new rules
by having a wider choice of financial products to buy and sell. The
amount of the benefit will likely be correlated to the volume of
trading in these new instruments.
B. Costs
In complying with the new rules, a national securities exchange,
national securities association, designated contract market, registered
DTEF, or foreign board of trade (each a ``listing market'') that wishes
to list and trade futures contracts based on debt securities indexes
will incur certain costs.\72\ A listing market that wishes to list and
trade such a futures contract will be required to ascertain whether the
underlying debt securities index is or is not a narrow-based debt
security index, according to the criteria set forth in Rule 3a55-4, and
thus whether a future on such debt security index is subject to the
exclusive jurisdiction of the CFTC or to the joint jurisdiction of the
SEC and CFTC. This analysis will have to be performed at the initial
listing and monitored periodically to ensure continued compliance under
new Exchange Act Rule 3a55-4. The SEC notes, however, that in the
absence of new Exchange Act Rule 3a55-4, a listing market desiring to
list futures on a debt securities index would still have to bear the
costs associated with performing a similar analysis under the statutory
definition of narrow-based security index. The costs associated with
new Exchange Act Rule 3a55-4 would largely replace the costs of
performing an analysis under the statutory definition of narrow-based
security index for debt securities indexes and, therefore, there is
little or no cost increase.
---------------------------------------------------------------------------
\72\ In the Proposing Release, supra note 7, the Commissions
requested comment on the costs and benefits associated with the
proposed rules and rule amendment but did not receive any specific
cost or benefit data in response.
---------------------------------------------------------------------------
The determination of whether a debt securities index is excluded
from the definition of narrow-based debt security index will require
listing markets to make certain calculations based on the type of
issuer and concentration of the security in the index, including
calculations, as appropriate, relating to the issuer eligibility
provisions,\73\ the
[[Page 39541]]
total outstanding principal of each of the underlying securities, and
calculations related to the weighting of each of the securities in the
index. A listing market may incur costs if it contracts with an outside
party to perform these calculations. In addition, a listing market may
incur costs associated with obtaining and accessing appropriate data
from an independent third-party vendor. For example, a listing market
may be required to pay certain fees to a vendor to acquire the
necessary information. Furthermore, if these calculations require data
that are not readily available, particularly if foreign data are
needed, a listing market may possibly incur additional costs to obtain
such data.
---------------------------------------------------------------------------
\73\ The issuer eligibility calculations for issuers of non-
exempted securities, non-Exchange Act reporting issuers, or issuers
that are not foreign governments could include the worldwide market
value of outstanding common equity held by non-affiliates of such
issuer or the aggregate remaining principal amount of outstanding
debt of such issuer.
---------------------------------------------------------------------------
Market participants that elect to create debt securities indexes
for trading futures thereon will also incur non-regulatory costs
associated with constructing these products. Such costs will be the
ordinary costs of doing business.
VI. Consideration of Burden on Competition, and Promotion of
Efficiency, Competition, and Capital Formation
SEC: Section 3(t) of the Exchange Act \74\ requires the SEC, when
engaged in a rulemaking that requires it to consider or determine
whether an action is necessary or appropriate in the public interest,
to consider whether the action will promote efficiency, competition,
and capital formation. Section 23(a)(2) of the Exchange Act \75\
requires the SEC, in adopting rules under the Exchange Act, to consider
the impact any rule will have on competition. In particular, Section
23(a)(2) of the Exchange Act prohibits the SEC from adopting any rule
that will impose a burden on competition not necessary or appropriate
in furtherance of the purposes of the Exchange Act. In the Proposing
Release, the SEC requested comment on these statutory considerations
and received none that addressed them specifically.
---------------------------------------------------------------------------
\74\ 15 U.S.C. 78c(f).
\75\ 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------
New Exchange Act Rule 6h-2 will permit the listing and trading of
security futures based on debt securities and narrow-based debt
securities indexes. New Exchange Act Rule 3a55-4 sets forth clear
methods and guidelines for a listing market to distinguish futures
contracts on debt securities indexes that are subject to joint
jurisdiction of the SEC and CFTC from futures contracts on debt
securities indexes that are subject to the exclusive jurisdiction of
the CFTC. The SEC believes that the new rules, by allowing listing
markets to list and trade new financial products, will promote
efficiency and competition. The new rules will create opportunities for
listing markets to compete in the market for such new products and
perhaps to create new products that will compete with existing
products. The resulting increased competition and more efficient
markets should not have an adverse impact on capital formation.
VII. Regulatory Flexibility Act Certifications
CFTC: The Regulatory Flexibility Act (``RFA'') \76\ requires
federal agencies, in promulgating rules, to consider the impact of
those rules on small entities. The rules herein will affect contract
markets and registered DTEFs. The CFTC previously established certain
definitions of Itsmall entities It to be used by the CFTC in evaluating
the impact of its rules on small entities in accordance with the
RFA.\77\ In its previous determinations, the CFTC has concluded that
contract markets and DTEFs are not small entities for the purpose of
the RFA.\78\
---------------------------------------------------------------------------
\76\ 5 U.S.C. 601 et seq.
\77\ See 47 FR 18618 (April 20, 1982).
\78\ See 47 CFR 18618, 18619 (April 20, 1982) (discussing
contract markets); 66 FR 42256, 42268 (August 10, 2001) (discussing
DTEFs).
---------------------------------------------------------------------------
SEC: In the Proposing Release, the Commission certified, pursuant
to Section 605(b) of the RFA \79\ that new Exchange Act Rules 3a55-4
and 6h-2 would not have a significant economic impact on a substantial
number of small entities. The Commission solicited comment as to the
nature of any impact on small entities, including empirical data to
support the extent of such impact costs and benefits associated with
the proposed amendment, and no comments were received.
---------------------------------------------------------------------------
\79\ 5 U.S.C. 605(b).
---------------------------------------------------------------------------
VIII. Statutory Authority
Pursuant to the CEA and the Exchange Act, and, particularly,
Sections 1a(25)(B)(vi) and 2(a)(1
