Self-Regulatory Organizations; Chicago Board Options Exchange, Incorporated; Notice of Filing of Proposed Rule Change, as Modified by Amendment No. 1, Relating to a Delta Hedging Exemption From Equity Options Position Limits, 58341-58344 [E7-20216]

Download as PDF Federal Register / Vol. 72, No. 198 / Monday, October 15, 2007 / Notices Exchange Commission, C/O Shirley Martinson, 6432 General Green Way, Alexandria, VA 22312; or send an email to: PRA_Mailbox@sec.gov. Comments must be submitted to OMB within 30 days of this notice. SECURITIES AND EXCHANGE COMMISSION Dated: October 4, 2007. Nancy M. Morris, Secretary. [FR Doc. E7–20215 Filed 10–12–07; 8:45 am] Self-Regulatory Organizations; Chicago Board Options Exchange, Incorporated; Notice of Filing of Proposed Rule Change, as Modified by Amendment No. 1, Relating to a Delta Hedging Exemption From Equity Options Position Limits BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION October 9, 2007. sroberts on PROD1PC70 with NOTICES Sunshine Act Meeting Federal Register Citation of Previous Announcement: [72 FR 57615, October 10, 2007]. Status: Closed Meeting. Place: 100 F Street, NE., Washington, DC. Announcement of Additional Meeting: Additional Meeting (Week of October 9, 2007). The Commission has scheduled a Closed Meeting for Wednesday, October 10, 2007 at 4:30 p.m. Commissioners, the Secretary to the Commission, and the General Counsel of the Commission will attend the Closed Meeting. Certain staff members who have an interest in the matters may also be present. The General Counsel of the Commission, or his designee, has certified that, in his opinion, exemption 5 U.S.C. 552b(c)(5), (7), (9)(ii) and (10) and 17 CFR 200.402(a)(5), (7), (9)(ii) and (10) permit consideration of the scheduled matter at the Closed Meeting. Commissioner Atkins, as duty officer, voted to consider the item listed for the closed meeting in closed session, and determined that no earlier notice thereof was possible. The subject matter of the Closed Meeting scheduled for Wednesday, October 10, 2007 will be: Institution and settlement of injunctive actions. At times, changes in Commission priorities require alterations in the scheduling of meeting items. For further information and to ascertain what, if any, matters have been added, deleted or postponed, please contact: The Office of the Secretary at (202) 551–5400. Dated: October 10, 2007. Nancy M. Morris, Secretary. [FR Doc. E7–20281 Filed 10–12–07; 8:45 am] BILLING CODE 8011–01–P VerDate Aug<31>2005 21:55 Oct 12, 2007 Jkt 214001 [Release No. 34–56631; File No. CBOE– 2007–99] Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Act’’),1 and Rule 19b–4 thereunder,2 notice is hereby given that on August 21, 2007, the Chicago Board Options Exchange, Incorporated (‘‘CBOE’’ or ‘‘Exchange’’) filed with the Securities and Exchange Commission (‘‘Commission’’) a proposed rule change as described in Items I, II, and III below, which Items have been prepared substantially by the CBOE. The Exchange filed Amendment No. 1 to the proposal on October 4, 2007.3 The Commission is publishing this notice to solicit comments on the proposed rule change, as modified by Amendment No. 1, from interested persons. I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change The Exchange proposes to create a delta hedging exemption from equity options position limits. The text of the proposed rule change is available at CBOE, the Commission’s Public Reference Room, and http:// www.cboe.com/legal. II. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change In its filing with the Commission, CBOE included statements concerning the purpose of, and basis for, the proposed rule change and discussed any comments it received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. CBOE has prepared summaries, set forth in sections A, B, and C below, of the most significant aspects of such statements. 1 15 U.S.C. 78s(b)(1). CFR 240.19b–4. 3 Amendment No. 1 replaces and supersedes the previously filed proposed rule change in its entirety. 2 17 PO 00000 Frm 00059 Fmt 4703 Sfmt 4703 58341 A. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change 1. Purpose All options traded on the Exchange are subject to position and exercise limits, as provided under CBOE Rules 4.11 and 4.12.4 Position limits are imposed, generally, to maintain fair and orderly markets for options and other securities by limiting the amount of control one or more affiliated persons or entities may have over one particular options class or the security or securities that underlie that options class. Exchange rules also contain various hedge exemptions to allow certain hedged positions in excess of the applicable standard position limit.5 Over the years, CBOE has increased the size of options position and exercise limits, as well as the size and scope of available hedge exemptions to the applicable position limits.6 These hedge exemptions generally require a one-toone hedge (i.e., one stock option contract must be hedged by the number of shares underlying the options contract, typically 100 shares). In practice, however, many firms do not hedge their options positions in this manner. Instead, these firms engage in what is commonly known as ‘‘delta hedging.’’ Delta hedging varies the number of shares of the underlying security used to hedge an options position based upon the relative sensitivity of the value of the option contract to a change in the price of the underlying security.7 Delta hedging is a widely accepted method for risk management. Delta Neutral-Based Equity Hedge Exemption. The Exchange proposes to adopt a new exemption from equity options position and exercise limits 8 for positions held by CBOE members and certain of their affiliates that are ‘‘delta 4 Position limits for index options are provided separately under CBOE Rules 24.4, 24.4A, and 24.4B. 5 See Interpretation and Policy .04 to Rule 4.11. 6 See, e.g., Securities Exchange Act Release No. 55176 (January 25, 2007), 72 FR 4741 (February 1, 2007) (SR–CBOE–2007–08); Securities Exchange Act Release No. 51244 (February 23, 2005), 70 FR 10010 (March 1, 2005) (SR–CBOE–2003–30); and Securities Exchange Act Release No. 45603 (March 20, 2002), 67 FR 14751 (March 27, 2002) (SR– CBOE–00–12). 7 To illustrate, a stock option contract with a delta of .5 will move $0.50 for every $1.00 move in the underlying stock. 8 Rule 4.12 establishes exercise limits for an option at the same level as the option’s position limit under Rule 4.11; therefore, no changes are proposed to Rule 4.12. E:\FR\FM\15OCN1.SGM 15OCN1 58342 Federal Register / Vol. 72, No. 198 / Monday, October 15, 2007 / Notices sroberts on PROD1PC70 with NOTICES neutral’’ 9 under a ‘‘permitted pricing model’’ (as defined below), subject to certain conditions (‘‘Exemption’’). The proposed Exemption would apply only to equity options (stock options and options on exchange-traded funds (‘‘ETFs’’)).10 Any equity option position that is not delta neutral would be subject to position and exercise limits, subject to the availability of other exemptions. Only the ‘‘option contract equivalent of the net delta’’ of such position would be subject to the appropriate position limit.11 Only financial instruments relating to the security underlying an equity options position could be included in any determination of an equity options position’s net delta or whether the options position is delta neutral. In addition, members could not use the same equity or other financial instrument position in connection with more than one hedge exemption. Therefore, a stock position used as part of a delta hedging strategy could not also serve as the basis for any other equity hedge exemption. Permitted Pricing Model. Under the proposed rule, the calculation of the delta for any equity option position, and the determination of whether a particular equity option position is delta neutral, must be made using a permitted pricing model. A ‘‘permitted pricing model’’ is defined in proposed Rule 4.11.04(c)(C) to mean the pricing model maintained and operated by The Options Clearing Corporation (‘‘OCC’’) and the pricing models used by (i) A member or its affiliate subject to consolidated supervision by the Commission pursuant to Appendix E of Rule 15c3–1 under the Act; (ii) a 9 The term ‘‘delta neutral’’ is defined in proposed Rule 4.11.04(c)(A) as referring to an equity option position that is hedged, in accordance with a permitted pricing model, by a position in the underlying security or one or more instruments relating to the underlying security, for the purpose of offsetting the risk that the value of the option position will change with incremental changes in the price of the security underlying the option position. 10 The Exchange intends to submit a separate proposed rule change to adopt a delta neutral-based hedge exemption for certain index options and to expand the delta neutral-based hedge exemption for ETF options to allow highly correlated instruments to be included in any ETF option net delta calculation. 11 Under proposed Rule 4.11.04(c)(B), the term ‘‘options contract equivalent of the net delta’’ is defined as the net delta divided by the number of shares underlying the option contract, and the term ‘‘net delta’’ is defined as, at any time, the number of shares (either long or short) required to offset the risk that the value of an equity option position will change with incremental changes in the price of the security underlying the option position, as determined in accordance with a permitted pricing model. VerDate Aug<31>2005 21:55 Oct 12, 2007 Jkt 214001 financial holding company (‘‘FHC’’) or a company treated as an FHC under the Bank Holding Company Act of 1956, or its affiliate subject to consolidated holding company group supervision; 12 (iii) a Commission-registered OTC derivatives dealer; 13 and (iv) a national bank.14 Aggregation of Accounts. Members and non-member affiliates relying on the Exemption would be required to ensure that the permitted pricing model is applied to all positions in or relating to the security underlying the relevant options position that are owned or controlled by the member, or its affiliates. However, the net delta of an options position held by an entity entitled to rely on the Exemption, or by a separate and distinct trading unit of such entity, may be calculated without regard to positions in or relating to the security underlying the option position held by an affiliated entity or by another trading unit within the same entity, provided that: (i) The entity demonstrates to the Exchange’s satisfaction that no control 12 The pricing model of an FHC or of an affiliate of an FHC would have to be consistent with: (i) The requirements of the Board of Governors of the Federal Reserve System (‘‘FRB’’), as amended from time to time, in connection with the calculation of risk-based adjustments to capital for market risk under capital requirements of the FRB, provided that the member or affiliate of a member relying on this exemption in connection with the use of such model is an entity that is part of such company’s consolidated supervised holding company group; or (ii) the standards published by the Basel Committee on Banking Supervision, as amended from time to time and as implemented by such company’s principal regulator, in connection with the calculation of risk-based deductions or adjustments to or allowances for the market risk capital requirements of such principal regulator applicable to such company—where ‘‘principal regulator’’ means a member of the Basel Committee on Banking Supervision that is the home country consolidated supervisor of such company— provided that the member or affiliate of a member relying on this exemption in connection with the use of such model is an entity that is part of such company’s consolidated supervised holding company group. See subparagraph (C)(3) of proposed Rule 4.11.04(c). 13 The pricing model of a Commission-registered OTC derivatives dealer would have to be consistent with the requirements of Appendix F to Rules 15c3–1 and 15c3–4 under the Act, as amended from time to time, in connection with the calculation of risk-based deductions from capital for market risk thereunder. Only an OTC derivatives dealer and no other affiliated entity (including a member) would be able to rely on this part of the Exemption. See subparagraph (C)(4) of proposed Rule 4.11.04(c). 14 The pricing model of a national bank would have to be consistent with the requirements of the Office of the Comptroller of the Currency, as amended from time to time, in connection with the calculation of risk-based adjustments to capital for market risk under capital requirements of the Office of the Comptroller of the Currency. Only a national bank and no other affiliated entity (including a member) would be able to rely on this part of the Exemption. See subparagraph (C)(5) of proposed Rule 4.11.04(c). PO 00000 Frm 00060 Fmt 4703 Sfmt 4703 relationship, as defined in Rule 4.11.03, exists between such affiliates or trading units, and (ii) the entity has provided the Exchange written notice in advance that it intends to be considered separate and distinct from any affiliate, or, as applicable, which trading units within the entity are to be considered separate and distinct from each other for purposes of the Exemption.15 The Exchange has set forth in Regulatory Circular RG04–45 (‘‘Aggregation Circular’’) the conditions under which it will deem no control relationship to exist between affiliated broker-dealers and between separate and distinct trading units within the same broker-dealer. The Exchange proposes to amend the Aggregation Circular to include affiliated entities, not only affiliated broker-dealers as in the current version. Any member or non-member affiliate relying on the Exemption must designate, by prior written notice to the Exchange, each trading unit or entity whose options positions are required by Exchange rules to be aggregated with the options positions of such member or non-member affiliate relying on the Exemption for purposes of compliance with Exchange position or exercise limits.16 Obligations of Members and Affiliates. Any member relying on the Exemption would be required to provide a written certification to the Exchange that it is using a permitted pricing model as defined in the rule for purposes of the Exemption. In addition, by such reliance, such member would authorize any other person carrying for such member an account including, or with whom such member has entered into, a position in or relating to a security underlying the relevant option position to provide to the Exchange or OCC such information regarding such account or position as the Exchange or OCC may request as part of the Exchange’s confirmation or verification of the accuracy of any net delta calculation under this Exemption.17 The options positions of a nonmember affiliate relying on the Exemption must be carried by a member with which it is affiliated. A member carrying an account that includes an equity option position for a non-member affiliate that intends to rely on the Exemption would be required to obtain from such non-member affiliate a written certification that it is using a 15 See subparagraph (D) of proposed Rule 4.11.04(c). 16 See proposed Rule 4.11.04(c)(D)(3). 17 See subparagraph (E) of proposed Rule 4.11.04(c). E:\FR\FM\15OCN1.SGM 15OCN1 Federal Register / Vol. 72, No. 198 / Monday, October 15, 2007 / Notices sroberts on PROD1PC70 with NOTICES permitted pricing model as defined in the rule for purposes of the Exemption.18 Reporting. Under proposed Rule 4.11.04(c)(F), each member relying on the Exemption would be required to report, in accordance with Rule 4.13,19 (i) All equity option positions (including those that are delta neutral) that are reportable thereunder, and (ii) on its own behalf or on behalf of a designated aggregation unit pursuant to Rule 4.11.04(c)(D), for each such account that holds an equity option position subject to the Exemption in excess of the levels specified in Rule 4.11, the net delta and the options contract equivalent of the net delta of such position. The Exchange and other selfregulatory organizations are working on modifying the Large Options Position Report system and/or OCC reports to allow a member to indicate that an equity options position is delta neutral. Records. Under proposed Rule 4.11.04(c)(G), each member relying on the Exemption would be required to (i) Retain, and would be required to undertake reasonable efforts to ensure that any non-member affiliate of the member relying on the exemption retains, a list of the options, securities and other instruments underlying each options position net delta calculation reported to the Exchange hereunder, and (ii) produce such information to the Exchange upon request.20 Reliance on Federal Oversight. As provided under proposed Rule 4.11.04(c)(C), a permitted pricing model includes proprietary pricing models used by members and affiliates that 18 In addition, the member would be required to obtain from such non-member affiliate a written statement confirming that such non-member affiliate: (a) Is relying on the Exemption; (b) will use only a permitted pricing model for purposes of calculating the net delta of its option positions for purposes of the Exemption; (c) will promptly notify the member if it ceases to rely on the Exemption; (d) authorizes the member to provide to the Exchange or the OCC such information regarding positions of the non-member affiliate as the Exchange or OCC may request as part of the Exchange’s confirmation or verification of the accuracy of any net delta calculation under the Exemption; and (e) if the non-member affiliate is using the OCC Model, has duly executed and delivered to the Exchange such documents as the Exchange may require to be executed and delivered to the Exchange as a condition to reliance on the Exemption. See subparagraph (E)(3) of proposed Rule 4.11.04(c). 19 Exchange Rule 4.13 requires, among other things, that members report to the Exchange aggregate long or short positions on the same side of the market of 200 or more contracts of any single class of options contracts dealt in on the Exchange. 20 A member would be authorized to report position information of its non-member affiliate pursuant to the written statement required under proposed Rule 4.11.04(c)(E)(3)(ii)(d). VerDate Aug<31>2005 21:55 Oct 12, 2007 Jkt 214001 have been approved by the Commission, the FRB or another federal financial regulator. In adopting the proposed Exemption the Exchange would be relying upon the rigorous approval processes and ongoing oversight of a federal financial regulator. The Exchange notes that it would not be under any obligation to verify whether a member’s or its affiliate’s use of a proprietary pricing model is appropriate or yielding accurate results. CBOE will announce the effective date of the proposed rule change in a regulatory circular to be published no later than 60 days after Commission approval. The effective date shall be no later than 30 days after publication of the regulatory circular. 2. Statutory Basis The Exchange believes that its proposal is consistent with section 6(b) of the Act,21 in general, and furthers the objectives of section 6(b)(5) of the Act,22 in particular, in that it is designed in particular, in that it is designed to prevent fraudulent and manipulative acts and practices, promote just and equitable principles of trade, remove impediments to and perfect the mechanism of a free and open market and a national market system, and, in general, to protect investors and the public interest. The Exchange believes the proposed delta neutral-based hedge exemption from equity options position and exercise limits is appropriate in that it is based on a widely accepted risk management method used in options trading. Also, the Commission has previously stated its support for recognizing options positions hedged on a delta neutral basis as properly exempted from position limits.23 B. Self-Regulatory Organization’s Statement on Burden on Competition The Exchange believes that the proposed rule change will not impose any burden on competition not necessary or appropriate in furtherance of the purposes of the Act. C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others No written comments were either solicited or received. 21 15 U.S.C. 78f(b). U.S.C. 78f(b)(5). 23 See Securities Exchange Act Release No. 40594 (October 23, 1998), 63 FR 59362, 59380 (November 3, 1998) (S7–30–97) (adopting rules relating to OTC Derivatives Dealers). 22 15 PO 00000 Frm 00061 Fmt 4703 Sfmt 4703 58343 III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action Within 35 days of the date of publication of this notice in the Federal Register or within such longer period (i) As the Commission may designate up to 90 days of such date if it finds such longer period to be appropriate and publishes its reasons for so finding or (ii) as to which CBOE consents, the Commission will: (A) By order approve such proposed rule change, or (B) Institute proceedings to determine whether the proposed rule change should be disapproved. IV. Solicitation of Comments Interested persons are invited to submit written data, views, and arguments concerning the foregoing, including whether the proposed rule change is consistent with the Act. Comments may be submitted by any of the following methods: Electronic Comments • Use the Commission’s Internet comment form (http://www.sec.gov/ rules/sro.shtml); or • Send an e-mail to rulecomments@sec.gov. Please include File Number SR–CBOE–2007–99 on the subject line. Paper Comments • Send paper comments in triplicate to Nancy M. Morris, Secretary, Securities and Exchange Commission, 100 F Street, NE., Washington, DC 20549–1090. All submissions should refer to File Number SR–CBOE–2007–99. This file number should be included on the subject line if e-mail is used. To help the Commission process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission’s Internet Web site (http://www.sec.gov/ rules/sro.shtml). Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for inspection and copying in the Commission’s Public Reference Room, 100 F Street, NE., Washington, DC 20549, on official business days between the hours of 10 a.m. and 3 p.m. E:\FR\FM\15OCN1.SGM 15OCN1 58344 Federal Register / Vol. 72, No. 198 / Monday, October 15, 2007 / Notices Copies of the filing also will be available for inspection and copying at the principal office of the CBOE. All comments received will be posted without change; the Commission does not edit personal identifying information from submissions. You should submit only information that you wish to make available publicly. All submissions should refer to File Number SR–CBOE–2007–99 and should be submitted on or before November 5, 2007. I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change For the Commission, by the Division of Market Regulation, pursuant to delegated authority.24 Nancy M. Morris, Secretary. [FR Doc. E7–20216 Filed 10–12–07; 8:45 am] II. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–56621; File No. SR–NYSE– 2007–94] Self-Regulatory Organizations; New York Stock Exchange LLC; Notice of Filing and Immediate Effectiveness of Proposed Rule Change and Amendment No. 1 Thereto To Amend NYSE Rule 70.30 Relating to the Definition of a Crowd sroberts on PROD1PC70 with NOTICES October 5, 2007. Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Act’’) 1 and Rule 19b–4 thereunder,2 notice is hereby given that on September 28, 2007, the New York Stock Exchange LLC (‘‘NYSE’’ or ‘‘Exchange’’) filed with the Securities and Exchange Commission (‘‘Commission’’) the proposed rule change as described in Items I and II below, which Items have been substantially prepared by the NYSE. On October 4, 2007, the Exchange filed Amendment No. 1 to the proposed rule change. The Exchange filed the proposal pursuant to Section 19(b)(3)(A) of the Act 3 and Rule 19b–4(f)(6) thereunder,4 which renders the proposal effective upon filing with the Commission. The Commission is publishing this notice to solicit comments on the proposed rule change, as amended, from interested persons. 24 17 CFR 200.30–3(a)(12). U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 3 15 U.S.C. 78s(b)(3)(A). 4 17 CFR 240.19b–4(f)(6). The NYSE proposes to amend Exchange Rule 70.30 to define the Crowd as the rooms on the Exchange Trading Floor (‘‘Floor’’) that contain active posts/panels where Floor brokers are able to conduct business. The text of the proposed rule change is available at the Exchange, on the Exchange’s Web site at http://www.nyse.com, and at the Commission’s Public Reference Room. In its filing with the Commission, the Exchange included statements concerning the purpose of, and basis for, the proposed rule change and discussed any comments it received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. The Exchange has prepared summaries, set forth in Sections A, B, and C below, of the most significant aspects of such statements. A. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change 1. Purpose Through this filing, NYSE proposes to amend Exchange Rule 70.30, which sets forth the definition of a Crowd. The Exchange seeks to define the Crowd as the rooms on the Floor that contain active posts/panels where Floor brokers are able to conduct business. Currently, a Crowd is defined as one of the three trading zones located on the Floor where Floor brokers are able to conduct business at each post/panel within the Crowd.5 The Main Room and Garage each constitute a separate Crowd. The third Crowd consists of the current Blue Room and the Extended Blue Room (‘‘EBR’’). It was believed that defining the Crowd in this manner best facilitated the essential interaction among Floor participants and between Floor brokers and orders in the Display Book System. As the Exchange has gained experience operating its Hybrid Market, certain practical considerations make it necessary for the Exchange to modify its rules. Based on its experience, the 1 15 VerDate Aug<31>2005 21:55 Oct 12, 2007 5 See Securities Exchange Act Release No. 55316 (February 20, 2007), 72 FR 8825 (February 27, 2007) (SR–NYSE–2007–14). Jkt 214001 PO 00000 Frm 00062 Fmt 4703 Sfmt 4703 Exchange seeks to amend the definition of a Crowd.6 The Exchange is currently in the process of consolidating its Floor operations.7 At present, the Exchange operates four rooms that make up the Floor (i.e., the Main Room, the Garage, the Blue Room, and the EBR).8 The trading floor consolidation plan calls for the closing of the Blue Room and the EBR. The specialist firms and the floor brokerage firms that currently occupy the Blue Room and the EBR will be relocated to the Main Room and the Garage. This consolidation will significantly reduce the physical area where Floor brokers will be conducting business. It is anticipated that the consolidation of the Exchange’s Floor operation will be accomplished by first moving the posts/panels located in the EBR and the Blue Room to new locations in the Main Room and the Garage. Until the relocation of the posts/panels from the EBR and Blue Room is complete, Floor broker booths will remain in the EBR and the Blue Room. Upon completion of the relocation of the posts/panels in the EBR and the Blue Room, the Exchange will commence moving Floor broker booths located in the EBR and the Blue Room into new locations in the Main Room and the Garage. During this transition period, to end no later than December 15, 2007, Floor brokers will be considered part of the Crowd and permitted to electronically represent orders from the EBR and the Blue Room. The Exchange believes that the reduction of the physical areas that constitute the Floor and the increase of electronic trading warrant amending the definition of the Crowd. As such, NYSE proposes to amend Exchange Rule 70.30 to define the Crowd as the rooms on the Floor that contain active posts/panels where Floor brokers are able to conduct business. The Exchange submits that the proposed amendment to the Rule accurately identifies the areas where the essential interaction among Floor participants and between Floor brokers and orders in the Display Book System occur. Accordingly, pursuant to the proposal, a Floor broker will be considered to be in the Crowd when he or she is physically present in one of the aforementioned rooms. 6 Telephone conversation on October 4, 2007, between Deanna Logan, Director, Office of the General Counsel, Exchange, and David Liu, Assistant Director, Division of Market Regulation, Commission. 7 The Exchange states that it anticipates that the consolidation of the Floor will be completed no later than November 2007. 8 In February 2007, the Exchange closed the operation of a fifth trading room located at 30 Broad Street. E:\FR\FM\15OCN1.SGM 15OCN1

Agencies

[Federal Register Volume 72, Number 198 (Monday, October 15, 2007)]
[Notices]
[Pages 58341-58344]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E7-20216]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-56631; File No. CBOE-2007-99]


Self-Regulatory Organizations; Chicago Board Options Exchange, 
Incorporated; Notice of Filing of Proposed Rule Change, as Modified by 
Amendment No. 1, Relating to a Delta Hedging Exemption From Equity 
Options Position Limits

October 9, 2007.
    Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on August 21, 2007, the Chicago Board Options Exchange, Incorporated 
(``CBOE'' or ``Exchange'') filed with the Securities and Exchange 
Commission (``Commission'') a proposed rule change as described in 
Items I, II, and III below, which Items have been prepared 
substantially by the CBOE. The Exchange filed Amendment No. 1 to the 
proposal on October 4, 2007.\3\ The Commission is publishing this 
notice to solicit comments on the proposed rule change, as modified by 
Amendment No. 1, from interested persons.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Amendment No. 1 replaces and supersedes the previously filed 
proposed rule change in its entirety.
---------------------------------------------------------------------------

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to create a delta hedging exemption from 
equity options position limits. The text of the proposed rule change is 
available at CBOE, the Commission's Public Reference Room, and http://
www.cboe.com/legal.

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

    In its filing with the Commission, CBOE included statements 
concerning the purpose of, and basis for, the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. CBOE has prepared summaries, set forth in sections A, B, 
and C below, of the most significant aspects of such statements.

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

1. Purpose
    All options traded on the Exchange are subject to position and 
exercise limits, as provided under CBOE Rules 4.11 and 4.12.\4\ 
Position limits are imposed, generally, to maintain fair and orderly 
markets for options and other securities by limiting the amount of 
control one or more affiliated persons or entities may have over one 
particular options class or the security or securities that underlie 
that options class. Exchange rules also contain various hedge 
exemptions to allow certain hedged positions in excess of the 
applicable standard position limit.\5\
---------------------------------------------------------------------------

    \4\ Position limits for index options are provided separately 
under CBOE Rules 24.4, 24.4A, and 24.4B.
    \5\ See Interpretation and Policy .04 to Rule 4.11.
---------------------------------------------------------------------------

    Over the years, CBOE has increased the size of options position and 
exercise limits, as well as the size and scope of available hedge 
exemptions to the applicable position limits.\6\ These hedge exemptions 
generally require a one-to-one hedge (i.e., one stock option contract 
must be hedged by the number of shares underlying the options contract, 
typically 100 shares). In practice, however, many firms do not hedge 
their options positions in this manner. Instead, these firms engage in 
what is commonly known as ``delta hedging.'' Delta hedging varies the 
number of shares of the underlying security used to hedge an options 
position based upon the relative sensitivity of the value of the option 
contract to a change in the price of the underlying security.\7\ Delta 
hedging is a widely accepted method for risk management.
---------------------------------------------------------------------------

    \6\ See, e.g., Securities Exchange Act Release No. 55176 
(January 25, 2007), 72 FR 4741 (February 1, 2007) (SR-CBOE-2007-08); 
Securities Exchange Act Release No. 51244 (February 23, 2005), 70 FR 
10010 (March 1, 2005) (SR-CBOE-2003-30); and Securities Exchange Act 
Release No. 45603 (March 20, 2002), 67 FR 14751 (March 27, 2002) 
(SR-CBOE-00-12).
    \7\ To illustrate, a stock option contract with a delta of .5 
will move $0.50 for every $1.00 move in the underlying stock.
---------------------------------------------------------------------------

    Delta Neutral-Based Equity Hedge Exemption. The Exchange proposes 
to adopt a new exemption from equity options position and exercise 
limits \8\ for positions held by CBOE members and certain of their 
affiliates that are ``delta

[[Page 58342]]

neutral'' \9\ under a ``permitted pricing model'' (as defined below), 
subject to certain conditions (``Exemption''). The proposed Exemption 
would apply only to equity options (stock options and options on 
exchange-traded funds (``ETFs'')).\10\
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    \8\ Rule 4.12 establishes exercise limits for an option at the 
same level as the option's position limit under Rule 4.11; 
therefore, no changes are proposed to Rule 4.12.
    \9\ The term ``delta neutral'' is defined in proposed Rule 
4.11.04(c)(A) as referring to an equity option position that is 
hedged, in accordance with a permitted pricing model, by a position 
in the underlying security or one or more instruments relating to 
the underlying security, for the purpose of offsetting the risk that 
the value of the option position will change with incremental 
changes in the price of the security underlying the option position.
    \10\ The Exchange intends to submit a separate proposed rule 
change to adopt a delta neutral-based hedge exemption for certain 
index options and to expand the delta neutral-based hedge exemption 
for ETF options to allow highly correlated instruments to be 
included in any ETF option net delta calculation.
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    Any equity option position that is not delta neutral would be 
subject to position and exercise limits, subject to the availability of 
other exemptions. Only the ``option contract equivalent of the net 
delta'' of such position would be subject to the appropriate position 
limit.\11\
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    \11\ Under proposed Rule 4.11.04(c)(B), the term ``options 
contract equivalent of the net delta'' is defined as the net delta 
divided by the number of shares underlying the option contract, and 
the term ``net delta'' is defined as, at any time, the number of 
shares (either long or short) required to offset the risk that the 
value of an equity option position will change with incremental 
changes in the price of the security underlying the option position, 
as determined in accordance with a permitted pricing model.
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    Only financial instruments relating to the security underlying an 
equity options position could be included in any determination of an 
equity options position's net delta or whether the options position is 
delta neutral. In addition, members could not use the same equity or 
other financial instrument position in connection with more than one 
hedge exemption. Therefore, a stock position used as part of a delta 
hedging strategy could not also serve as the basis for any other equity 
hedge exemption.
    Permitted Pricing Model. Under the proposed rule, the calculation 
of the delta for any equity option position, and the determination of 
whether a particular equity option position is delta neutral, must be 
made using a permitted pricing model. A ``permitted pricing model'' is 
defined in proposed Rule 4.11.04(c)(C) to mean the pricing model 
maintained and operated by The Options Clearing Corporation (``OCC'') 
and the pricing models used by (i) A member or its affiliate subject to 
consolidated supervision by the Commission pursuant to Appendix E of 
Rule 15c3-1 under the Act; (ii) a financial holding company (``FHC'') 
or a company treated as an FHC under the Bank Holding Company Act of 
1956, or its affiliate subject to consolidated holding company group 
supervision; \12\ (iii) a Commission-registered OTC derivatives dealer; 
\13\ and (iv) a national bank.\14\
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    \12\ The pricing model of an FHC or of an affiliate of an FHC 
would have to be consistent with: (i) The requirements of the Board 
of Governors of the Federal Reserve System (``FRB''), as amended 
from time to time, in connection with the calculation of risk-based 
adjustments to capital for market risk under capital requirements of 
the FRB, provided that the member or affiliate of a member relying 
on this exemption in connection with the use of such model is an 
entity that is part of such company's consolidated supervised 
holding company group; or (ii) the standards published by the Basel 
Committee on Banking Supervision, as amended from time to time and 
as implemented by such company's principal regulator, in connection 
with the calculation of risk-based deductions or adjustments to or 
allowances for the market risk capital requirements of such 
principal regulator applicable to such company--where ``principal 
regulator'' means a member of the Basel Committee on Banking 
Supervision that is the home country consolidated supervisor of such 
company--provided that the member or affiliate of a member relying 
on this exemption in connection with the use of such model is an 
entity that is part of such company's consolidated supervised 
holding company group. See subparagraph (C)(3) of proposed Rule 
4.11.04(c).
    \13\ The pricing model of a Commission-registered OTC 
derivatives dealer would have to be consistent with the requirements 
of Appendix F to Rules 15c3-1 and 15c3-4 under the Act, as amended 
from time to time, in connection with the calculation of risk-based 
deductions from capital for market risk thereunder. Only an OTC 
derivatives dealer and no other affiliated entity (including a 
member) would be able to rely on this part of the Exemption. See 
subparagraph (C)(4) of proposed Rule 4.11.04(c).
    \14\ The pricing model of a national bank would have to be 
consistent with the requirements of the Office of the Comptroller of 
the Currency, as amended from time to time, in connection with the 
calculation of risk-based adjustments to capital for market risk 
under capital requirements of the Office of the Comptroller of the 
Currency. Only a national bank and no other affiliated entity 
(including a member) would be able to rely on this part of the 
Exemption. See subparagraph (C)(5) of proposed Rule 4.11.04(c).
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    Aggregation of Accounts. Members and non-member affiliates relying 
on the Exemption would be required to ensure that the permitted pricing 
model is applied to all positions in or relating to the security 
underlying the relevant options position that are owned or controlled 
by the member, or its affiliates.
    However, the net delta of an options position held by an entity 
entitled to rely on the Exemption, or by a separate and distinct 
trading unit of such entity, may be calculated without regard to 
positions in or relating to the security underlying the option position 
held by an affiliated entity or by another trading unit within the same 
entity, provided that: (i) The entity demonstrates to the Exchange's 
satisfaction that no control relationship, as defined in Rule 4.11.03, 
exists between such affiliates or trading units, and (ii) the entity 
has provided the Exchange written notice in advance that it intends to 
be considered separate and distinct from any affiliate, or, as 
applicable, which trading units within the entity are to be considered 
separate and distinct from each other for purposes of the 
Exemption.\15\
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    \15\ See subparagraph (D) of proposed Rule 4.11.04(c).
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    The Exchange has set forth in Regulatory Circular RG04-45 
(``Aggregation Circular'') the conditions under which it will deem no 
control relationship to exist between affiliated broker-dealers and 
between separate and distinct trading units within the same broker-
dealer. The Exchange proposes to amend the Aggregation Circular to 
include affiliated entities, not only affiliated broker-dealers as in 
the current version.
    Any member or non-member affiliate relying on the Exemption must 
designate, by prior written notice to the Exchange, each trading unit 
or entity whose options positions are required by Exchange rules to be 
aggregated with the options positions of such member or non-member 
affiliate relying on the Exemption for purposes of compliance with 
Exchange position or exercise limits.\16\
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    \16\ See proposed Rule 4.11.04(c)(D)(3).
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    Obligations of Members and Affiliates. Any member relying on the 
Exemption would be required to provide a written certification to the 
Exchange that it is using a permitted pricing model as defined in the 
rule for purposes of the Exemption. In addition, by such reliance, such 
member would authorize any other person carrying for such member an 
account including, or with whom such member has entered into, a 
position in or relating to a security underlying the relevant option 
position to provide to the Exchange or OCC such information regarding 
such account or position as the Exchange or OCC may request as part of 
the Exchange's confirmation or verification of the accuracy of any net 
delta calculation under this Exemption.\17\
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    \17\ See subparagraph (E) of proposed Rule 4.11.04(c).
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    The options positions of a non-member affiliate relying on the 
Exemption must be carried by a member with which it is affiliated. A 
member carrying an account that includes an equity option position for 
a non-member affiliate that intends to rely on the Exemption would be 
required to obtain from such non-member affiliate a written 
certification that it is using a

[[Page 58343]]

permitted pricing model as defined in the rule for purposes of the 
Exemption.\18\
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    \18\ In addition, the member would be required to obtain from 
such non-member affiliate a written statement confirming that such 
non-member affiliate: (a) Is relying on the Exemption; (b) will use 
only a permitted pricing model for purposes of calculating the net 
delta of its option positions for purposes of the Exemption; (c) 
will promptly notify the member if it ceases to rely on the 
Exemption; (d) authorizes the member to provide to the Exchange or 
the OCC such information regarding positions of the non-member 
affiliate as the Exchange or OCC may request as part of the 
Exchange's confirmation or verification of the accuracy of any net 
delta calculation under the Exemption; and (e) if the non-member 
affiliate is using the OCC Model, has duly executed and delivered to 
the Exchange such documents as the Exchange may require to be 
executed and delivered to the Exchange as a condition to reliance on 
the Exemption. See subparagraph (E)(3) of proposed Rule 4.11.04(c).
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    Reporting. Under proposed Rule 4.11.04(c)(F), each member relying 
on the Exemption would be required to report, in accordance with Rule 
4.13,\19\ (i) All equity option positions (including those that are 
delta neutral) that are reportable thereunder, and (ii) on its own 
behalf or on behalf of a designated aggregation unit pursuant to Rule 
4.11.04(c)(D), for each such account that holds an equity option 
position subject to the Exemption in excess of the levels specified in 
Rule 4.11, the net delta and the options contract equivalent of the net 
delta of such position.
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    \19\ Exchange Rule 4.13 requires, among other things, that 
members report to the Exchange aggregate long or short positions on 
the same side of the market of 200 or more contracts of any single 
class of options contracts dealt in on the Exchange.
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    The Exchange and other self-regulatory organizations are working on 
modifying the Large Options Position Report system and/or OCC reports 
to allow a member to indicate that an equity options position is delta 
neutral.
    Records. Under proposed Rule 4.11.04(c)(G), each member relying on 
the Exemption would be required to (i) Retain, and would be required to 
undertake reasonable efforts to ensure that any non-member affiliate of 
the member relying on the exemption retains, a list of the options, 
securities and other instruments underlying each options position net 
delta calculation reported to the Exchange hereunder, and (ii) produce 
such information to the Exchange upon request.\20\
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    \20\ A member would be authorized to report position information 
of its non-member affiliate pursuant to the written statement 
required under proposed Rule 4.11.04(c)(E)(3)(ii)(d).
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    Reliance on Federal Oversight. As provided under proposed Rule 
4.11.04(c)(C), a permitted pricing model includes proprietary pricing 
models used by members and affiliates that have been approved by the 
Commission, the FRB or another federal financial regulator. In adopting 
the proposed Exemption the Exchange would be relying upon the rigorous 
approval processes and ongoing oversight of a federal financial 
regulator. The Exchange notes that it would not be under any obligation 
to verify whether a member's or its affiliate's use of a proprietary 
pricing model is appropriate or yielding accurate results.
    CBOE will announce the effective date of the proposed rule change 
in a regulatory circular to be published no later than 60 days after 
Commission approval. The effective date shall be no later than 30 days 
after publication of the regulatory circular.
2. Statutory Basis
    The Exchange believes that its proposal is consistent with section 
6(b) of the Act,\21\ in general, and furthers the objectives of section 
6(b)(5) of the Act,\22\ in particular, in that it is designed in 
particular, in that it is designed to prevent fraudulent and 
manipulative acts and practices, promote just and equitable principles 
of trade, remove impediments to and perfect the mechanism of a free and 
open market and a national market system, and, in general, to protect 
investors and the public interest. The Exchange believes the proposed 
delta neutral-based hedge exemption from equity options position and 
exercise limits is appropriate in that it is based on a widely accepted 
risk management method used in options trading. Also, the Commission 
has previously stated its support for recognizing options positions 
hedged on a delta neutral basis as properly exempted from position 
limits.\23\
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    \21\ 15 U.S.C. 78f(b).
    \22\ 15 U.S.C. 78f(b)(5).
    \23\ See Securities Exchange Act Release No. 40594 (October 23, 
1998), 63 FR 59362, 59380 (November 3, 1998) (S7-30-97) (adopting 
rules relating to OTC Derivatives Dealers).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange believes that the proposed rule change will not impose 
any burden on competition not necessary or appropriate in furtherance 
of the purposes of the Act.

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

    No written comments were either solicited or received.

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

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) As the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which CBOE consents, the Commission will:
    (A) By order approve such proposed rule change, or
    (B) Institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://
www.sec.gov/rules/sro.shtml); or
     Send an e-mail to rule-comments@sec.gov. Please include 
File Number SR-CBOE-2007-99 on the subject line.

Paper Comments

     Send paper comments in triplicate to Nancy M. Morris, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549-1090.

All submissions should refer to File Number SR-CBOE-2007-99. This file 
number should be included on the subject line if e-mail is used. To 
help the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (http://www.sec.gov/rules/
sro.shtml). Copies of the submission, all subsequent amendments, all 
written statements with respect to the proposed rule change that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for inspection and 
copying in the Commission's Public Reference Room, 100 F Street, NE., 
Washington, DC 20549, on official business days between the hours of 10 
a.m. and 3 p.m.

[[Page 58344]]

Copies of the filing also will be available for inspection and copying 
at the principal office of the CBOE. All comments received will be 
posted without change; the Commission does not edit personal 
identifying information from submissions. You should submit only 
information that you wish to make available publicly. All submissions 
should refer to File Number SR-CBOE-2007-99 and should be submitted on 
or before November 5, 2007.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\24\
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    \24\ 17 CFR 200.30-3(a)(12).
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Nancy M. Morris,
Secretary.
 [FR Doc. E7-20216 Filed 10-12-07; 8:45 am]
BILLING CODE 8011-01-P