Self-Regulatory Organizations; BATS Exchange, Inc.; Notice of Filing of Proposed Rule Change To Adopt Rule 14.11(k) To Permit BATS Exchange, Inc. To List Managed Portfolio Shares and To List and Trade Shares of Certain Funds of the Spruce ETF Trust, 47488-47501 [2014-19096]

Agencies

• SECURITIES AND EXCHANGE COMMISSION

[Federal Register Volume 79, Number 156 (Wednesday, August 13, 2014)]
[Notices]
[Pages 47488-47501]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2014-19096]



[[Page 47488]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-72787; File No. SR-BATS-2014-018]


Self-Regulatory Organizations; BATS Exchange, Inc.; Notice of 
Filing of Proposed Rule Change To Adopt Rule 14.11(k) To Permit BATS 
Exchange, Inc. To List Managed Portfolio Shares and To List and Trade 
Shares of Certain Funds of the Spruce ETF Trust

August 7, 2014.
    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 4, 2014, BATS Exchange, Inc. (``Exchange'' or ``BATS'') filed 
with the Securities and Exchange Commission (``Commission'') the 
proposed rule change as described in Items I, II, and III below, which 
Items have been substantially prepared by the Exchange. The Commission 
is publishing this notice to solicit comments on the proposed rule 
change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange proposes to adopt new BATS Rule 14.11(k) to permit the 
Exchange to list Managed Portfolio Shares, which are shares of actively 
managed exchange-traded funds (``ETFs'') for which the portfolio is 
disclosed quarterly and are further described below. In addition, the 
Exchange proposes to list and trade shares of certain funds of the 
Spruce ETF Trust (the ``Trust'') under the proposed BATS Rule 14.11(k). 
The text of the proposed rule addition is available at the Exchange's 
Web site at https://www.batstrading.com, at the principal office of the 
Exchange, and at the Commission's Public Reference Room.

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

    In its filing with the Commission, the 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 parts of such 
statements.

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

1. Purpose
    The Exchange proposes to add new BATS Rule 14.11(k) for the purpose 
of permitting the listing of Managed Portfolio Shares \3\ which are 
securities issued by an actively managed open-end investment management 
company.\4\ In addition to the above-mentioned proposed rule change, 
the Exchange proposes to list and trade shares of the following under 
proposed BATS Rule 14.11(k): Large Cap Fund, Large Cap Value Fund, 
Large Cap Growth Fund, Large/Mid Cap Fund, Large/Mid Cap Value Fund, 
Large/Mid Cap Growth Fund, Large Cap Long-Short Fund, Large Cap Value 
Long-Short Fund, Large Cap Growth Long-Short Fund, Large/Mid Cap Long-
Short Fund, and Large/Mid Cap Value Long-Short Fund, Large/Mid Cap 
Growth Long-Short Fund, and Large Cap Growth Active Insights Fund (each 
a ``Fund'' and, collectively, the ``Funds''). The shares of each Fund 
and the shares of the Funds collectively, as applicable, are referred 
to herein as the ``Shares.''
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    \3\ A Managed Portfolio Share is a security that represents an 
interest in an investment company registered under the Investment 
Act of 1940 (``15 U.S.C. 80a-1) (``1940 Act'') organized as an open-
end investment company or similar entity that invests in a portfolio 
of securities selected by its investment adviser consistent with its 
investment objectives and policies. In contrast, an open-end 
investment company that issues Index Fund Shares, listed and traded 
on the Exchange under BATS Rule 14.11(c), seeks to provide 
investment results that correspond generally to the price and yield 
performance of a specific foreign or domestic stock index, fixed 
income securities index, or combination thereof.
    \4\ The Trust, the Adviser (as defined below), and the 
Distributor (as defined below) have applied for certain exemptive 
relief under the Investment Company Act of 1940 (15 U.S.C. 80a-1) 
(``1940 Act'') (the ``Exemptive Relief Application''). See Exemptive 
Relief Application at https://www.sec.gov/Archives/edgar/data/1006249/000119312511239094/d40app.htm.
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Proposed Listing Rules
    Proposed Rule 14.11(k)(1) provides that the Exchange will consider 
listing Managed Portfolio Shares that meet the criteria of Rule 
14.11(k). Proposed Rule 14.11(k)(2) provides that Rule 14.11(k) is 
applicable only to Managed Portfolio Shares and that, except to the 
extent inconsistent with Rule 14.11(k), or unless the context otherwise 
requires, the rules and procedures of the Board of Directors shall be 
applicable to the trading on the Exchange of such securities. It also 
provides that Managed Portfolio Shares are included within the 
definition of ``security'' or ``securities'' as such terms are used in 
the Rules of the Exchange. Further, under proposed Rule 14.11(k)(2)(A) 
through (F), the Exchange is proposing: (i) That it will file separate 
proposals under Section 19(b) of the Act before the listing of Managed 
Portfolio Shares; (ii) that transactions in Managed Portfolio Shares 
will occur throughout the Exchange's trading hours; (iii) that the 
minimum price variation for quoting and entry of orders in Managed 
Portfolio Shares is $0.01, with the exception of securities that are 
priced less than $1.00, for which the minimum price variation for order 
entry is $0.0001; (iv) that the Exchange will implement written 
surveillance procedures for Managed Portfolio Shares; (v) that 
Authorized Participants redeeming Managed Portfolio Shares will each 
sign an agreement with the Investment Company or fund, or their 
authorized agents, requiring the establishment of a blind trust for the 
benefit of such Authorized Participant that will receive all 
consideration from a fund in a redemption, which blind trust will be 
bound not to disclose the consideration received in a redemption except 
as required by law and will liquidate any securities received in a 
redemption in accordance with standing instructions for the Authorized 
Participant; and (vi) that if the investment adviser to the registered 
investment company (the ``Investment Company'') issuing Managed 
Portfolio Shares is affiliated with a broker-dealer, such investment 
adviser shall erect a ``fire wall'' between the investment adviser and 
the broker-dealer with respect to access to information concerning the 
composition and/or changes to such Investment Company portfolio. 
Personnel who make decisions on the Investment Company's portfolio 
composition must be subject to procedures designed to prevent the use 
and dissemination of material nonpublic information regarding the 
applicable Investment Company portfolio.
    The Exchange is also proposing that, for purposes of Rule 14.11(k), 
the following terms shall, unless the context otherwise requires, have 
the meanings herein specified. As proposed, the term ``Managed 
Portfolio Share'' means a security that (a) is issued by an Investment 
Company organized as an open-end management investment company or 
similar entity, that invests in a portfolio of securities selected by 
the Investment Company's investment adviser consistent with the 
Investment Company's investment objectives and

[[Page 47489]]

policies; (b) is issued in a predetermined Creation Unit size in 
exchange for a cash amount equal to the next determined Net Asset Value 
(``NAV''),\5\ as described in more detail below; (c) in the event that 
for 10 consecutive Business Days, or such shorter period as determined 
by the issuer, the midpoint of the national best bid and offer at the 
time of the calculation of the NAV (the ``Bid/Ask Price''),\6\ for the 
security has a discount of 5% or greater from the NAV, the security may 
be redeemed for cash by any Beneficial Owner in any size less than a 
Redemption Unit for a cash amount equal to the next determined NAV for 
at least 15 calendar days; and (d) when aggregated in a number of 
shares equal to a Redemption Unit, or multiples thereof, may be 
redeemed at an Authorized Participant's request, which each Authorized 
Participant will be paid through a blind trust established for its 
benefit a portfolio of securities and/or cash with a value equal to the 
next determined NAV. The Exchange proposes that the term ``Beneficial 
Owner'' means (i) a natural person; (ii) a trust established for the 
benefit of a natural person or a group of related family members; or 
(iii) a tax deferred retirement plan where investments are selected by 
a natural person purchasing for its own account. As proposed, the term 
``Intraday Indicative Value'' (``IIV'') is the estimated indicative 
value of a Managed Portfolio Share based on all of the issuer's 
holdings as of the close of business on the prior business day. The 
Exchange proposes that the term ``Creation Unit'' means a specified 
minimum number of Managed Portfolio Shares that an Authorized 
Participant may purchase from the issuer for the current NAV. The 
Exchange proposes that the term ``Redemption Unit'' means a specified 
number of Managed Portfolio Shares that an Authorized Participant may 
sell to the issuer for the current NAV and which is also used for 
determining whether a Beneficial Owner may redeem for cash. Finally, as 
proposed, the term ``Reporting Authority'' in respect of a particular 
series of Managed Portfolio Shares means a reporting service designated 
by the issuer and acceptable to the Exchange as the official source for 
calculating and reporting information relating to such series, 
including, but not limited to, the IIV, NAV, or other information 
relating to the issuance, redemption or trading of Managed Portfolio 
Shares. A series of Managed Portfolio Shares may have more than one 
Reporting Authority, each having different functions.
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    \5\ Depending on the context, the term ``NAV'' may refer to the 
NAV per Share, the NAV per Creation Unit, as defined below, or the 
NAV of a fund.
    \6\ The Bid/Ask Price of the Funds will be determined using the 
midpoint of the national best bid and offer as of the time of 
calculation of the Fund's NAV. The records relating to Bid/Ask 
Prices will be retained by the Funds and its service providers.
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    Proposed Rule 14.11(k)(4) sets forth the proposed initial and 
continued listing criteria applicable to Managed Portfolio Shares. 
Proposed Rule 14.11(k)(4)(A)(i) and (ii) provides that all series of 
Managed Portfolio Shares must meet both of the following initial 
listing criteria: For each series, the Exchange will establish a 
minimum number of Managed Portfolio Shares required to be outstanding 
at the time of commencement of trading on the Exchange and the Exchange 
will obtain a representation from the issuer of each series of Managed 
Portfolio Shares that the NAV per share for the series will be 
calculated daily and that the NAV will be made available to all market 
participants at the same time. Proposed Rule 14.11(k)(4)(B)(i) provides 
that the IIV for a series of Managed Portfolio Shares will be widely 
disseminated by one or more major market data vendors at least every 15 
seconds during Regular Trading Hours.\7\ Proposed Rule 
14.11(k)(4)(B)(ii) provides that the Exchange will consider the 
suspension of trading in or removal from listing of a series of Managed 
Portfolio Shares under any of the following circumstances: (a) If, 
following the initial twelve-month period after commencement of trading 
on the Exchange of a series of Managed Portfolio Shares, there are 
fewer than 50 beneficial holders of the series of Managed Portfolio 
Shares for 30 or more consecutive trading days; (b) if the value of the 
IIV is no longer calculated or made available to all market 
participants at the same time; (c) if the Investment Company issuing 
the Managed Portfolio Shares has failed to file any filings required by 
the Securities and Exchange Commission or if the Exchange is aware that 
the Investment Company is not in compliance with the conditions of any 
exemptive order or no-action relief granted by the Securities and 
Exchange Commission to the Investment Company with respect to the 
series of Managed Portfolio Shares; or (d) if such other event shall 
occur or condition exists which, in the opinion of the Exchange, makes 
further dealings on the Exchange inadvisable.
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    \7\ Regular Trading Hours are from 9:30 a.m. to 4:00 p.m. 
Eastern Time.
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    As proposed, Rule 14.11(k)(4)(B)(iii) provides that if the IIV of a 
series of Managed Portfolio Shares is not being disseminated as 
required, the Exchange may halt trading during the day in which the 
interruption to the dissemination of the IIV occurs. If the 
interruption to the dissemination of the IIV persists past the trading 
day in which it occurred, the Exchange will halt trading no later than 
the beginning of the trading day following the interruption. In 
addition, if the Exchange becomes aware that the NAV with respect to a 
series of Managed Portfolio Shares is not disseminated to all market 
participants at the same time it will halt trading in such series until 
such time as the NAV is available to all market participants.
    Proposed Rule 14.11(k)(4)(B)(iv) provides that upon termination of 
an Investment Company, the Exchange requires the Managed Portfolio 
Shares issued in connection with such entity be removed from Exchange 
listing. Proposed Rule 14.11(k)(4)(B)(v) provides that voting rights 
shall be as set forth in the applicable fund prospectus.
    Proposed Rule 14.11(k)(5), which relates to limitation of Exchange 
liability, provides that neither the Exchange, the Reporting Authority, 
nor any agent of the Exchange shall have any liability for damages, 
claims, losses, or expenses caused by any errors, omissions or delays 
in calculating or disseminating any current portfolio value; the 
current value of the portfolio of securities or cash value required to 
be deposited to the open-end management investment company in 
connection with issuance of Managed Portfolio Shares; the amount of any 
dividend equivalent payment or cash distribution to holders of Managed 
Portfolio Shares; net asset value; or other information relating to the 
purchase, redemption, or trading of Managed Portfolio Shares, resulting 
from any negligent act or omission by the Exchange, the Reporting 
Authority, or any agent of the Exchange, or any act, condition, or 
cause beyond the reasonable control of the Exchange, its agent, or the 
Reporting Authority, including, but not limited to, an act of God; 
fire; flood; extraordinary weather conditions; war; insurrection; riot; 
strike; accident; action of government; communications or power 
failure; equipment or software malfunction; or any error, omission, or 
delay in the reports of transactions in one or more underlying 
securities.
Features of Managed Portfolio Shares
    While funds issuing Managed Portfolio Shares will be actively-

[[Page 47490]]

managed and, to that extent, will be similar to Managed Fund Shares, 
Managed Portfolio Shares differ from Managed Fund Shares in the 
following important respects. First, in contrast to Managed Fund 
Shares, for which creations are generally effected through an in-kind 
delivery of securities and cash, creations of Managed Portfolio Shares 
will generally be effected through a delivery of only cash. Second, 
whereas Managed Fund Shares are actively-managed funds listed and 
traded under BATS Rule 14.11(i),\8\ which requires a ``Disclosed 
Portfolio'' to be disseminated at least once daily,\9\ the portfolio 
for an issue of Managed Portfolio Shares will be disclosed at least 
quarterly in accordance with normal disclosure requirements otherwise 
applicable to open-end investment companies registered under the 1940 
Act.\10\ Third, in connection with the redemption of shares in 
Redemption Unit size, the delivery of any portfolio securities in kind 
will generally be effected through a blind trust for the benefit of the 
redeeming Authorized Participant and the blind trust will liquidate the 
portfolio securities without disclosing the identity of such securities 
to the Authorized Participant. Fourth, where the market for the 
security (specifically the Bid/Ask Price) has a discount of 5% or 
greater from the NAV for 10 consecutive Business Days, Beneficial 
Owners will be able to redeem shares for cash directly from a fund for 
the next 15 calendar days and in any size less than a Redemption Unit 
at the fund's NAV.
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    \8\ The Commission has previously approved listing and trading 
on the Exchange of numerous actively managed funds under Rule 
14.11(i). See, e.g., Securities Exchange Act Release Nos. 67894 
(September 20, 2012), 77 FR 59227 (September 26, 2012) (SR-BATS-
2012-033) (order approving Exchange listing and trading of the 
iShares Short Maturity Bond Fund); 68390 (December 10, 2012), 77 FR 
74520 (December 14, 2012) (SR-BATS-2012-042) (order approving 
Exchange listing and trading of the iShares Sovereign Screened 
Global Bond Fund); 70986 (December 4, 2013), 78 FR 74212 (December 
10, 2013) (SR-BATS-2013-051) (order approving Exchange listing and 
trading of the iShares Liquidity Income Fund); and 72099 (May 6, 
2014), 78 FR 27023 (May 12, 2014) (SR-BATS-2014-007) (order 
approving Exchange listing and trading shares of certain funds of 
the ProShares Trust).
    \9\ BATS Rule 14.11(i)(3)(B) defines the term ``Disclosed 
Portfolio'' as the identities and quantities of the securities and 
other assets held by the Investment Company that will form the basis 
for the investment Company's calculation of net asset value at the 
end of the business day.
    \10\ A mutual fund is required to file with the Commission its 
complete portfolio schedules for the second and fourth fiscal 
quarters on Form N-SAR under the 1940 Act, and is required to file 
its complete portfolio schedules for the first and third fiscal 
quarters on Form N-Q under the 1940 Act, within 60 days of the end 
of the quarter. Form N-Q requires funds to file the same schedules 
of investments that are required in annual and semi-annual reports 
to shareholders. These forms are available to the public on the 
Commission's Web site at www.sec.gov.
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    For each series of Managed Portfolio Shares, the IIV that reflects 
an estimated intraday value of a fund's portfolio will be disseminated. 
The IIV will be based upon all of a fund's holdings as of the close of 
the prior business day and will be widely disseminated by one or more 
major market data vendors at least every 15 seconds during Regular 
Trading Hours. The dissemination of the IIV will allow investors to 
determine the estimated intra-day value of the underlying portfolio of 
a series of Managed Portfolio Shares on a daily basis and will provide 
a close estimate of that value throughout the trading day. The IIV 
should not be viewed as a ``real-time'' update of the NAV per share of 
each fund because the IIV may not be calculated in the same manner as 
the NAV, which will be computed once a day, generally at the end of the 
business day. Unlike the IIV, which will be based on consolidated last 
sale information, the NAV per share will be based on the closing price 
on the primary market for each portfolio security. If there is no 
closing price for a particular portfolio security, such as when it is 
subject to a trading halt, a fund may use fair value pricing. That fair 
value pricing will be carried over to the next day's IIV until the 
first trade in that stock is reported.
    The Exchange, after consulting with various market makers that 
trade ETFs (and other products) on various exchanges, believes that 
market makers will be able to make efficient and liquid markets priced 
near the IIV even without daily disclosure of a fund's underlying 
portfolio as long as an accurate IIV is disseminated every 15 seconds, 
each fund's means of achieving its investment objective is clearly 
disclosed based on publicly available information, and there is 
typically an ability to manage inventory of Shares through creations 
and redemptions each day. The Exchange believes that market makers will 
employ risk-management techniques such as ``statistical arbitrage'', 
which is currently used throughout the financial services industry, to 
make efficient markets in exchange traded products as well as corporate 
issues.\11\ This ability should permit market makers to make efficient 
markets in an issue of Managed Portfolio Shares without knowledge of a 
fund's underlying portfolio. The Exchange believes that the real-time 
dissemination of a fund's IIV, together with the knowledge of a fund's 
means of achieving its investment objective and the right of Authorized 
Participants to create and redeem shares of each fund daily at the NAV, 
will be sufficient for market participants to value and trade shares in 
a manner that will not lead to significant deviations between the 
shares' Bid/Ask Price and NAV.
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    \11\ Statistical arbitrage enables a trader to construct an 
accurate proxy for another instrument, allowing it to hedge the 
other instrument or buy or sell the instrument when it is cheap or 
expensive in relation to the proxy. Statistical analysis permits 
traders to discover correlations based purely on trading data 
without regard to other fundamental drivers. These correlations are 
a function of differentials, over time, between one instrument or 
group of instruments and one or more other instruments. Once the 
nature of these price deviations have been quantified, a universe of 
securities is searched in an effort to, in the case of a hedging 
strategy, minimize the differential. Once a suitable hedging proxy 
has been identified, a trader can minimize portfolio risk by 
executing the hedging basket. The trader then can monitor the 
performance of this hedge throughout the trade period making 
corrections where warranted.
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    The Exchange understands that traders use statistical analysis to 
derive correlations between different sets of instruments to identify 
opportunities to buy or sell one set of instruments when it is 
mispriced relative to the others. For Managed Portfolio Shares, market 
makers will initially use the knowledge of a fund's means of achieving 
its investment objective, as described in the applicable fund 
registration statement, to construct a hedging proxy for a fund, to 
assist them in managing their risk in connection with trading the 
shares of a fund. Market makers will then conduct statistical arbitrage 
between their hedging proxy (for example, the Russell 1000 Index) and 
the shares of a fund, buying and selling one against the other over the 
course of the trading day. Market makers will then be able to evaluate 
how their proxy performed in comparison to the price of the shares of a 
fund, and use that analysis as well as knowledge of risk metrics, such 
as volatility and turnover, to enhance their proxy calculation to make 
it a more efficient hedge.
    Market makers have indicated to the Exchange that, after the first 
several days of trading, there will be sufficient data to run a 
statistical analysis which will lead to spreads being tightened 
substantially around the IIV. This is similar to certain other existing 
exchange traded products (for example, ETFs that invest in foreign 
securities that do not trade during U.S. trading hours), in which 
spreads may be generally wider in the early days of trading and then 
narrow as market makers gain more confidence in their real-time hedges.

[[Page 47491]]

Description of the Shares and the Funds
    BlackRock Fund Advisors is the investment adviser (``BFA'' or 
``Adviser'') to the Funds.\12\ State Street Bank and Trust Company is 
the administrator, custodian, and transfer agent for the Trust (the 
``Administrator,'' ``Custodian,'' and ``Transfer Agent,'' 
respectively). BlackRock Investments, LLC (``Distributor'') serves as 
the distributor for the Trust. As described above, the Trust, the 
Adviser, and the Distributor have applied for certain exemptive relief 
under the 1940 Act.\13\ The Shares will not be listed for trading on 
the Exchange until some point after the Exemptive Relief Application is 
approved and the Issuer's registration statement is effective.
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    \12\ BlackRock Fund Advisors is an indirect wholly owned 
subsidiary of BlackRock, Inc.
    \13\ See note 4, supra.
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    Proposed BATS Rule 14.11(k)(2)(F) provides that, if the investment 
adviser to the investment company issuing Managed Portfolio Shares is 
affiliated with a broker-dealer, such investment adviser shall erect a 
``fire wall'' between the investment adviser and the broker-dealer with 
respect to access to information concerning the composition and/or 
changes to such investment company portfolio.\14\ In addition, Proposed 
Rule 14.11(k)(2)(F) further requires that personnel who make decisions 
on the investment company's portfolio composition must be subject to 
procedures designed to prevent the use and dissemination of material 
nonpublic information regarding the applicable investment company 
portfolio. Proposed Rule 14.11(k)(2)(F) is identical to BATS Rule 
14.11(i)(7) and similar to BATS Rules 14.11(b)(5)(A)(i) and 
14.11(c)(5)(A)(i), however, Rules 14.11(k)(2)(F) and 14.11(i)(7) 
require the establishment of a ``fire wall'' between the investment 
adviser and the broker-dealer reflecting the applicable open-end fund's 
portfolio, not an underlying benchmark index, as is the case with 
index-based funds. The Adviser is not a registered broker-dealer, but 
is affiliated with multiple broker-dealers and has implemented ``fire 
walls'' with respect to such broker-dealers regarding access to 
information concerning the composition and/or changes to a Fund's 
portfolio. In addition, Adviser personnel who make decisions regarding 
the Fund's portfolio are subject to procedures designed to prevent the 
use and dissemination of material nonpublic information regarding a 
Fund's portfolio. In the event that (a) the Adviser becomes a broker-
dealer or newly affiliated with a broker-dealer, or (b) any new adviser 
or sub-adviser is a broker-dealer or becomes affiliated with a broker-
dealer, it will implement a fire wall with respect to its relevant 
personnel or such broker-dealer affiliate, as applicable, regarding 
access to information concerning the composition and/or changes to the 
portfolio, and will be subject to procedures designed to prevent the 
use and dissemination of material non-public information regarding such 
portfolio.
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    \14\ An investment adviser to an open-end fund is required to be 
registered under the Investment Advisers Act of 1940 (the ``Advisers 
Act''). As a result, the Adviser and its related personnel are 
subject to the provisions of Rule 204A-1 under the Advisers Act 
relating to codes of ethics. This Rule requires investment advisers 
to adopt a code of ethics that reflects the fiduciary nature of the 
relationship to clients as well as compliance with other applicable 
securities laws. Accordingly, procedures designed to prevent the 
communication and misuse of non-public information by an investment 
adviser must be consistent with Rule 204A-1 under the Advisers Act. 
In addition, Rule 206(4)-7 under the Advisers Act makes it unlawful 
for an investment adviser to provide investment advice to clients 
unless such investment adviser has (i) adopted and implemented 
written policies and procedures reasonably designed to prevent 
violation, by the investment adviser and its supervised persons, of 
the Advisers Act and the Commission rules adopted thereunder; (ii) 
implemented, at a minimum, an annual review regarding the adequacy 
of the policies and procedures established pursuant to subparagraph 
(i) above and the effectiveness of their implementation; and (iii) 
designated an individual (who is a supervised person) responsible 
for administering the policies and procedures adopted under 
subparagraph (i) above.
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    According to the Exemptive Relief Application, each Fund's 
investment objective will be long-term capital appreciation. To achieve 
their objective, each Fund will invest, under normal circumstances,\15\ 
at least 80% of its net assets in a portfolio of long positions (or 
engage in borrowings for the purpose of establishing short positions 
for the Long-Short funds) in U.S. equity securities.\16\ The Funds may 
in some instances also invest in non-U.S. equity securities with 
similar market capitalization, liquidity, and risk-return profiles to 
the U.S. equity securities eligible for investment by the Fund where 
the Adviser determines that investing in the security is consistent 
with the Fund's investment objective. The Funds will not be money 
market funds and thus will not seek to maintain a stable NAV of $1.00 
per Share. In the absence of normal circumstances, a Fund may 
temporarily depart from its normal investment process, provided that 
such departure is, in the opinion of BFA, consistent with the Fund's 
investment objective and in the best interest of the Fund. For example, 
a Fund may hold a higher than normal proportion of its assets in cash 
in response to adverse market, economic, or political conditions.
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    \15\ The term ``under normal circumstances'' includes, but is 
not limited to, the absence of adverse market, economic, political, 
or other conditions, including extreme volatility or trading halts 
in the equity markets or the financial markets generally; 
operational issues causing dissemination of inaccurate market 
information; or force majeure type events such as systems failure, 
natural or man-made disaster, act of God, armed conflict, act of 
terrorism, riot, or labor disruption, or any similar intervening 
circumstance.
    \16\ Equity securities will include common stock, preferred 
stock, securities convertible into common stock and securities or 
other instruments whose price is linked to the value of common 
stock, which includes, but is not limited to, shares of other 
investment companies.
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    Each Fund will hold equity securities of at least 13 non-affiliated 
issuers, primarily from the 1,200 largest U.S. stocks by market 
capitalization as determined by The Frank Russell Company annually. 
Generally, the Large/Mid Cap funds will select securities from a 
universe of approximately the 1,200 largest equity securities traded on 
U.S. exchanges and the Large Cap funds will select securities from a 
universe of approximately the 1,000 largest equity securities traded on 
U.S. exchanges.
    The Funds each intend to qualify each year as a regulated 
investment company (a ``RIC'') under Subchapter M of the Internal 
Revenue Code of 1986, as amended.\17\ The Funds will invest their 
respective assets, and otherwise conduct their respective operations, 
in a manner that is intended to satisfy the qualifying income, 
diversification and distribution requirements necessary to establish 
and maintain RIC qualification under Subchapter M.
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    \17\ 26 U.S.C. 851.
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Other Portfolio Holdings
    A Fund may, to a limited extent (under normal circumstances, less 
than 20% of the Fund's net assets), engage in transactions in futures 
contracts, forward contracts, options, and swaps.\18\
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    \18\ Derivatives include the following: Treasury futures, equity 
index futures, currency futures, currency forwards, interest rate 
swaps, credit default swaps, total return swaps, equity index 
options, and single stock equity options. The derivatives, excluding 
currency forwards, will be exchange traded and/or centrally cleared. 
Derivatives are not a principal investment strategy of the Fund. 
Derivatives might be included in the Funds' investments to serve the 
investment objectives of the Fund and each Fund's use of derivatives 
may be used to enhance leverage. Such leverage, however, will never 
exceed 1/3 of a Fund's total assets.
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    A Fund may also invest a portion of its assets in high-quality 
money market instruments on an ongoing basis rather than in other 
investments, when it would be more efficient or less expensive for the 
Fund to do so, or as cover for other financial instruments held by a 
Fund, for liquidity purposes, or to earn interest. Money market

[[Page 47492]]

instruments (``Money Market Instruments'') in which a Fund may invest 
include: (1) Short-term obligations issued by the U.S. government; (2) 
negotiable certificates of deposit (``CDs''), fixed time deposits and 
bankers' acceptances of U.S. and foreign banks and similar 
institutions; (3) commercial paper rated at the date of purchase 
``Prime-1'' by Moody's Investors Service, Inc. or ``A-1+'' or ``A-1'' 
by Standard & Poor's Ratings Group, Inc., a division of The McGraw-Hill 
Companies, Inc., or, if unrated, of comparable quality as determined by 
the Adviser; and (4) money market mutual funds.
Investment Restrictions
    A Fund may hold up to an aggregate amount of 15% of its net assets 
in illiquid assets (calculated at the time of investment) deemed 
illiquid by the Adviser \19\ under the 1940 Act.\20\ A Fund will 
monitor its portfolio liquidity on an ongoing basis to determine 
whether, in light of current circumstances, an adequate level of 
liquidity is being maintained, and will consider taking appropriate 
steps in order to maintain adequate liquidity if, through a change in 
values, net assets, or other circumstances, more than 15% of the Fund's 
net assets are held in illiquid securities. Illiquid securities include 
securities subject to contractual or other restrictions on resale and 
other instruments that lack readily available markets as determined in 
accordance with Commission staff guidance.
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    \19\ In reaching liquidity decisions, the Adviser may consider 
factors including: The frequency of trades and quotes for the 
security; the number of dealers wishing to purchase or sell the 
security and the number of other potential purchasers; dealer 
undertakings to make a market in the security; the nature of the 
security and the nature of the marketplace trades (e.g., the time 
needed to dispose of the security, the method of soliciting offers, 
and the mechanics of transfer); any legal or contractual 
restrictions on the ability to transfer the security or asset; 
significant developments involving the issuer or counterparty 
specifically (e.g., default, bankruptcy, etc.) or the securities 
markets generally; and settlement practices, registration 
procedures, limitations on currency conversion or repatriation, and 
transfer limitations (for foreign securities or other assets).
    \20\ The Commission has stated that long-standing Commission 
guidelines have required open-end funds to hold no more than 15% of 
their net assets in illiquid securities and other illiquid assets. 
See Investment Company Act Release No. 28193 (March 11, 2008), 73 FR 
14618 (March 18, 2008), footnote 34. See also, Investment Company 
Act Release No. 5847 (October 21, 1969), 35 FR 19989 (December 31, 
1970) (Statement Regarding ``Restricted Securities''); Investment 
Company Act Release No. 18612 (March 12, 1992), 57 FR 9828 (March 
20, 1992) (Revisions of Guidelines to Form N-1A). A fund's portfolio 
security is illiquid if it cannot be disposed of in the ordinary 
course of business within seven days at approximately the value 
ascribed to it by the fund. See Investment Company Act Release No. 
14983 (March 12, 1986), 51 FR 9773 (March 21, 1986) (adopting 
amendments to Rule 2a-7 under the 1940 Act); Investment Company Act 
Release No. 17452 (April 23, 1990), 55 FR 17933 (April 30, 1990) 
(adopting Rule 144A under the Securities Act of 1933).
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    A Fund will not purchase the securities of issuers conducting their 
principal business activity in the same industry if, immediately after 
the purchase and as a result thereof, the value of the Fund's 
investments in that industry would equal or exceed 25% of the current 
value of the Fund's total assets, provided that this restriction does 
not limit the Fund's: (i) Investments in securities of other investment 
companies, (ii) investments in securities issued or guaranteed by the 
U.S. government, its agencies or instrumentalities, or (iii) 
investments in repurchase agreements (including reverse-repurchase 
agreements) collateralized by U.S. government securities.\21\
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    \21\ The Commission has taken the position that a fund is 
concentrated if it invests in more than 25% of the value of its 
total assets in any one industry. See, e.g., Investment Company Act 
Release No. 9011 (October 30, 1975), 40 FR 54241 (November 21, 
1975).
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Net Asset Value
    According to the Exemptive Relief Application, the NAV per Share of 
a Fund will be computed by dividing the value of the net assets of a 
Fund (i.e., the value of its total assets less total liabilities) by 
the total number of Shares of a Fund outstanding, rounded to the 
nearest cent. Expenses and fees, including, without limitation, the 
management, administration and distribution fees, will be accrued daily 
and taken into account for purposes of determining NAV. Interest and 
investment income on the Trust's assets accrue daily and will be 
included in a Fund's total assets. The NAV per Share for a Fund will be 
calculated by the Administrator and determined as of the close of the 
regular trading session on the Exchange (ordinarily 4:00 p.m., E.T.) on 
each day that the Exchange is open. The NAV that is published will be 
rounded to the nearest cent; however, for purposes of determining the 
price of Shares in creations and redemption, the NAV will be calculated 
to five decimal places. The Shares of the Funds will not be priced on 
days on which the Exchange is closed for trading.
    Shares of exchange-listed equity securities, options, and 
investments in futures, including currency, equity index, and single 
stock futures, will be valued generally by using the last reported 
official closing or last trading price on the exchange or market on 
which the security or futures contract is primarily traded at the time 
of valuation. Swaps and currency forward contracts generally will be 
valued based on quotations from market makers, which may be based on 
quotations in the instruments themselves or quotations in the 
underlying assets from which they are derived, or by a pricing service 
in accordance with valuation procedures approved by the Fund's board of 
directors. Money Market Instruments will be valued by one or more 
pricing services. In determining the value of a Money Market 
Instrument, pricing services may use certain information with respect 
to transactions in such investments, quotations from dealers, pricing 
matrixes, market transactions in comparable investments, various 
relationships observed in the market between investments, and 
calculated yield measures.
    When last sale prices and market quotations are not readily 
available, are deemed unreliable or do not reflect material events 
occurring between the close of local markets and the time of valuation, 
investments will be valued using fair value pricing as determined in 
good faith by the Adviser under procedures established by and under the 
general supervision and responsibility of the Trust's Board of 
Trustees. Investments that may be valued using fair value pricing 
include, but are not limited to: (1) Securities that are not actively 
traded; (2) securities of an issuer that becomes bankrupt or enters 
into a restructuring; and (3) securities whose trading has been halted 
or suspended.
    The frequency with which each Fund's investments will be valued 
using fair value pricing will primarily be a function of the types of 
securities and other assets in which the respective Fund will invest 
pursuant to its investment objective, strategies and limitations. If 
the Funds invest in open-end management investment companies registered 
under the 1940 Act they may rely on the NAVs of those companies to 
value the shares they hold of them. Those companies may also use fair 
value pricing under some circumstances.
    Valuing the Funds' investments using fair value pricing involves 
the consideration of a number of subjective factors and thus the prices 
for those investments may differ from current market valuations. 
Accordingly, fair value pricing could result in a difference between 
the prices used to calculate NAV and the prices used to determine a 
Fund's IIV, which could result in the market prices for Shares 
deviating from NAV. Similarly, under certain circumstances, fair value 
pricing

[[Page 47493]]

could also result in the NAV and the IIV values becoming more alike.
The Shares--Creation, Redemption, and Small Allotment Redemption Option
    Each Fund will issue Shares through the Distributor on a continuous 
basis at NAV. The Exchange represents that the issuance of Shares will 
operate in a manner substantially similar to that of other ETFs and, in 
particular, certain fixed income ETFs that issue shares (as part of a 
creation unit) solely for settlement in cash.
    Each Fund will issue Shares only at the NAV per Share next 
determined after an order in proper form is received. The Trust will 
sell and redeem Shares on each day that the Exchange is open for 
business (a ``Business Day'') and will not suspend the right of 
redemption or postpone the date of payment or satisfaction upon 
redemption for more than seven days, other than as provided by Section 
22(d) of the 1940 Act. In addition to the standard redemption process, 
Beneficial Owners may also submit orders to redeem Shares at NAV 
directly to a Fund for a limited period following circumstances in 
which the secondary market price for the Shares at the Valuation Time, 
as defined below, has deviated from NAV.
    The NAV of each Fund is expected to be determined once each 
Business Day at a time determined by the Trust's Board of Directors 
(``Board''), currently anticipated to be as of the end of Regular 
Trading Hours on the Exchange (the ``Valuation Time'').
Creation
    Shares may be purchased from a Fund by any Depository Trust Company 
(``DTC'') Participant that has signed an Authorized Participant 
Agreement (``AP Agreement'') with the Trust, for its own account or for 
the account of a customer. Shares will be exchanged for cash, with 
settlement occurring through the continuous net settlement or a similar 
process. Shares may be purchased from a Fund in Creation Unit size or 
multiples thereof. Each Creation Unit currently consists of 25,000 
Shares, however, the size of a Creation Unit is subject to change. 
Purchase orders for one or more Creation Units (a ``Creation Order'') 
must be placed by or through an Authorized Participant. Each Fund will 
establish a cut-off time (``Order Cut-Off Time'') for Creation Orders 
in proper form. To initiate a purchase of Shares, a DTC participant 
must submit to the Distributor an irrevocable order to purchase such 
Shares after the most recent prior Valuation Time but not later than 
the Order Cut-Off Time. The Order Cut-Off Time for a Fund may be its 
Valuation Time, or may be prior to the Valuation Time if the Board 
determines that an earlier Order Cut-Off Time for purchase of Shares is 
in the best interests of Fund shareholders. It is anticipated that the 
Funds may adopt Order Cut-Off Times prior to their Valuation Time in 
order to allow the Advisor to: (1) Purchase securities in accordance 
with the Fund's investment objective and as a result of a creation of 
Shares (which are made primarily in cash) prior to the market closing; 
(2) net creations and redemptions orders; and (3) make arrangements for 
any securities borrowing transactions consistent with a Fund's 
investment strategy that may be necessary as a result of a creation of 
Shares in a manner both efficient and consistent with orderly portfolio 
management.
    The Distributor will furnish acknowledgements to those placing 
purchase orders that such orders have been accepted, but the 
Distributor may reject any Creation Order. A Creation Order is subject 
to acceptance by the Trust and must be preceded or accompanied by an 
irrevocable commitment to deliver the requisite amount of cash. 
Purchases of Shares will be settled in cash for an amount equal to the 
applicable NAV per Share purchased plus applicable transaction fees, as 
discussed below. At the time of settlement, an Authorized Participant 
will initiate payment of the requisite cash amount, including 
applicable transaction costs, versus subsequent delivery of the Shares.
Redemption
    Beneficial Owners may sell their Shares in the secondary market. 
Alternatively, investors that own enough Shares to constitute a 
Redemption Unit (currently, 25,000 Shares, subject to change) or 
multiples thereof may redeem those Shares by placing an order through 
an Authorized Participant (``AP'') and in turn through the Distributor, 
which will act as the Trust's agent for redemption. Each Redemption 
Unit currently consists of 25,000 Shares, however, similar to Creation 
Units, the size of a Redemption Unit is subject to change. Beneficial 
Owners that wish to redeem Shares in less than Redemption Unit size 
may, in limited circumstances, redeem those Shares directly from the 
Funds as described below under ``Small Allotment Redemption Option.''
    The Shares may be redeemed to a Fund in Redemption Unit size or 
multiples thereof as described below. Redemption orders of Redemption 
Units must be placed by or through an Authorized Participant (``AP 
Redemption Order''). Each Fund will establish an Order Cut-Off Time for 
redemption orders of Redemption Units in proper form. Redemption Units 
of the Funds will be redeemable at their NAV per Share next determined 
after receipt by the Trust of an Authorized Participant redemption 
order request by the Trust in the manner specified below before the 
Order Cut-Off Time. To initiate an AP Redemption Order, an Authorized 
Participant must submit to the Distributor an irrevocable order to 
redeem such Redemption Unit after the most recent prior Valuation Time 
but before the Order Cut-Off Time. The Order Cut-Off Time for a Fund 
may be its Valuation Time, or may be prior to the Valuation Time if the 
Board determines that an earlier Order Cut-Off Time for redemption of 
Redemption Units is necessary and is in the best interests of Fund 
shareholders. An Order Cut-Off Time prior to Valuation Time is 
primarily necessary because of the redemption process for the Funds. It 
is contemplated that Authorized Participants will instruct the trustee 
of its blind trust to liquidate redemption securities in market on 
close orders on the date of redemption so that Authorized Participants 
can realize redemption proceeds as close to the Fund's NAV on the 
redemption date as possible. In order to allow the Adviser sufficient 
time to identify the redemption securities, transfer the redemption 
basket of portfolio securities to the blind trusts and permit the 
trustee adequate time to process liquidation transactions in accordance 
with the Authorized Participant's instructions, it will likely be 
necessary to employ an Order Cut-Off Time prior to that time to allow 
such actions to take place. It is anticipated that all Funds will adopt 
Order Cut-Off Times for redemptions prior to their Valuation Time in 
order to facilitate the timely identification and notice to the trustee 
of the blind trusts (as described below) of securities to be redeemed 
in-kind.
    Consistent with the provisions of Section 22(e) of the 1940 Act and 
Rule 22e-2 thereunder, the right to redeem will not be suspended, nor 
payment upon redemption delayed, except for: (1) Any period during 
which the Exchange is closed other than customary weekend and holiday 
closings; (2) any period during which trading on the Exchange is 
restricted; (3) any period during which an emergency exists as a result 
of which disposal by a Fund of securities owned by it is not reasonably 
practicable or it is not reasonably practicable for a Fund to determine 
its NAV; and (4) for such

[[Page 47494]]

other periods as the Commission may by order permit for the protection 
of shareholders.
    Redemptions other than redemptions occurring through the Small 
Allotment Redemption Option, as described below, will occur primarily 
in-kind, although redemption payments may also be made partly or wholly 
in cash.\22\ The Participant Agreement signed by each Authorized 
Participant will require establishment of a blind trust to receive 
distributions of securities in-kind upon redemption.\23\ Each 
Authorized Participant will be required to appoint the Custodian as 
trustee of its blind trust in order to facilitate orderly processing of 
redemptions. While the Funds will generally distribute securities in-
kind, the Adviser may determine from time to time that it is not in the 
Fund's best interests to distribute securities in-kind, but rather to 
sell securities and/or distribute cash. For example, the Adviser may 
distribute cash to facilitate orderly portfolio management in 
connection with rebalancing or transitioning a portfolio in line with 
its investment objective, or if there is substantially more creation 
than redemption activity during the period immediately preceding a 
redemption request, or as necessary or appropriate in accordance with 
applicable laws and regulations. In this manner, the Funds can use in-
kind redemptions to reduce the unrealized capital gains that may, at 
times, exist in a Fund by distributing low cost lots of each security 
that a Fund needs to dispose of to maintain its desired portfolio 
exposures. Shareholders of a Fund would benefit from the in-kind 
redemptions through the reduction of the unrealized capital gains in a 
Fund that would otherwise have to be realized and, eventually, 
distributed to shareholders.
---------------------------------------------------------------------------

    \22\ It is anticipated that any portion of a Fund's NAV 
attributable to appreciated short positions will be paid in cash, as 
securities sold short are not susceptible to in kind settlement. The 
value of other positions not susceptible to in-kind settlement may 
also be paid in cash.
    \23\ The terms of the blind trust will provide that the trust be 
formed under New York or Massachusetts State law; the Custodian will 
act as trustee of the blind trusts; and the trustee will be paid by 
the Authorized Participant a fee negotiated by the Adviser on behalf 
of Authorized Participants.
---------------------------------------------------------------------------

    The Adviser would be free to select redemption securities that do 
not represent an exact slice of a Fund's portfolio in an amount equal 
to the Fund's NAV (inclusive of a cash balancing amount, if any) on any 
given day, meaning that the securities included in the redemption 
proceeds indirectly received by an AP may or may not be proportionate 
to the overall portfolio holdings of a Fund. To the extent a Fund 
distributes portfolio securities through an in-kind distribution to 
more than one blind trust for the benefit of that trust's Authorized 
Participant, the Fund expects to distribute a pro rata portion of the 
portfolio securities selected for distribution to each redeeming 
Authorized Participant. After receipt of an AP Redemption Order, the 
Custodian will typically deliver securities to the blind trust (which 
securities are determined by the Adviser) with a value approximately 
equal to the value of the NAV tendered for redemption at the Order Cut-
Off Time. The Custodian will make delivery of the securities by 
appropriate entries on its books and records transferring ownership of 
the securities to the blind trust, subject to delivery of the Shares 
redeemed. The trustee of the blind trust will in turn liquidate, hedge 
or otherwise manage the securities based on instructions from the 
Authorized Participant.\24\ If the trustee is instructed to sell all 
securities received at the close on the redemption date, the trustee 
will pay the liquidation proceeds net of expenses plus or minus any 
cash balancing amount to the Authorized Participant through DTC.\25\ 
The redemption securities that the blind trust receives may mirror the 
portfolio holdings of a Fund pro rata or, if the Adviser determines to 
reduce one or more portfolio exposures through an in-kind distribution, 
may constitute only a portion of the holdings that would not be 
proportionate to the overall portfolio holdings of a Fund. To the 
extent a Fund distributes portfolio securities through an in-kind 
distribution to more than one blind trust for the benefit of each blind 
trust's Authorized Participant, each Fund expects to distribute a pro 
rata portion of the portfolio securities selected for distribution to 
each redeeming Authorized Participant. Authorized Participants will 
advise the Funds of any securities they are restricted from receiving. 
If the Authorized Participant would receive a security that it is 
restricted from receiving, the Funds will deliver cash equal to the 
value of that security.
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    \24\ Because an Authorized Participant would not know the 
holdings of its blind trust, it is anticipated that such 
instructions would be generic standing instructions to the trustee. 
Although an Authorized Participant could, in its sole discretion, 
provide different standing instructions, it is expected that, in 
order to realize proceeds from a redemption at a value as close as 
possible to the redemption's NAV, all Authorized Participants will 
likely instruct the trustee of the blind trust to sell all 
securities received in kind as redemption proceeds at the close of 
the market on the date of redemption. For this reason, an Order Cut-
Off Time prior to the Valuation Time for redemptions will be 
necessary so that the Adviser is able to identify securities to be 
redeemed in-kind to the Custodian prior to the close of the market 
on the redemption date.
    \25\ Under applicable provisions of the Internal Revenue Code, 
the Authorized Participant is expected to be deemed a ``substantial 
owner'' of the blind trust because it receives distributions from 
the blind trust. As a result, all income, gain or loss realized by 
the blind trust will be directly attributed to the Authorized 
Participant. In a redemption, the Authorized Participant will have a 
basis in the distributed securities equal to the fair market value 
at the time of the distribution and any gain or loss realized on the 
sale of those Shares will be taxable income to the Authorized 
Participant.
---------------------------------------------------------------------------

    The Adviser might choose to select redemption securities that do 
not represent an exact slice of a Fund's portfolio in order to 
effectively implement changes to a Fund's portfolio composition, take 
advantage of tax strategies or address corporate actions. The Adviser 
represents that this freedom will benefit Beneficial Owners because the 
Adviser can use redemption events to liquidate unwanted positions 
without incurring brokerage charges or taxable gains. To address odd 
lots, fractional shares, tradeable sizes or other situations where 
dividing securities is not practical or possible, the Adviser may make 
minor adjustments to the pro rata portion of portfolio securities 
selected for distribution to each redeeming Authorized Participant on 
such Business Day.
    An AP Redemption Order is subject to acceptance by the Trust and 
must be preceded or accompanied by an irrevocable commitment to deliver 
the requisite number of Shares. At the time of settlement, an 
Authorized Participant will initiate a delivery of the Shares versus 
subsequent payment against the proceeds, if any, of the sale of 
portfolio securities distributed to the applicable blind trust plus or 
minus any cash balancing amounts, and less the expenses of liquidation. 
The Trust, on behalf of a Fund, will maintain a security interest in 
the assets of a blind trust and, under applicable documentation, will 
be entitled to such assets in the event an Authorized Participant fails 
to make timely delivery of redeemed Shares.
Small Allotment Redemption Option
    Beneficial Owners may submit orders to redeem Shares at NAV 
directly with a Fund as described below. Beneficial Owners may submit 
orders to redeem Shares at NAV directly to a Fund for a limited period 
following circumstances in which the secondary market price for the 
Shares at the Valuation Time has deviated from NAV within specified 
parameters described below (``Small Allotment Redemption Option'').
    A Beneficial Owner will be able to place an order directly to a 
Fund if, for

[[Page 47495]]

10 consecutive Business Days, the Bid/Ask Price has a discount of 5% or 
greater from NAV (the ``Trigger Event''). Following a Trigger Event, 
all Beneficial Owners of a Fund will have the option, beginning on the 
first Business Day after a Trigger Event and ending 15 calendar days 
following the Trigger Event (the ``Small Allotment Redemption Notice 
Period''), to instruct the DTC Participant through which they hold 
Shares to submit an order to redeem Shares directly from the Fund 
(``Small Allotment Redemption Order''). Redemption proceeds in 
connection with any Small Allotment Redemption Option will be 
distributed in cash. Any Beneficial Owner may submit a Small Allotment 
Redemption Order during the Small Allotment Redemption Notice Period, 
but may only submit an amount of Shares for redemption smaller than a 
Redemption Unit. During the Small Allotment Redemption Notice Period, 
redemptions of Redemption Units by and through Authorized Participants 
will remain available.
    On each Business Day during the Small Allotment Redemption Period, 
a Fund will process all Small Allotment Redemption Orders received at 
the NAV of the Fund next calculated following submission of the Small 
Allotment Redemption Order in proper form, subject to a redemption fee 
for administering and processing such orders, not to exceed 2% of NAV 
of the Shares redeemed. The date the Small Allotment Redemption Order 
is received in proper form will be the redemption date with respect to 
those Shares (the ``Redemption Date''). Each Fund will establish a cut-
off time for Small Allotment Redemption Orders in proper form, which 
may be earlier than the time of calculation of the NAV in order to 
facilitate the timely submission of such orders from DTC to the 
Transfer Agent, in its capacity as the redemption agent for the Funds, 
for processing the order at NAV on each applicable Redemption Date. All 
instructions from Beneficial Owners to their DTC Participants to submit 
a Small Allotment Redemption Order in proper form will be processed by 
the DTC Participant and submitted through DTC as long as it is received 
prior to the cut-off time, resulting in an aggregated redemption order 
received by the Transfer Agent from DTC on that Business Day. Any 
redemption instructions submitted by a DTC Participant on behalf of 
Beneficial Owners to DTC and received in proper form by the Transfer 
Agent/Redemption Agent shall be irrevocable. Only Small Allotment 
Redemption Orders for an amount of Shares smaller than a Redemption 
Unit will be considered in proper form.
    The date of payment upon redemption will not exceed seven days 
after the Redemption Date, other than as provided by Section 22(d) of 
the Act. The cash proceeds from any Small Allotment Redemption Order 
received are generally expected to be delivered through DTC to the 
applicable DTC Participant's account at DTC. The DTC Participant will 
in turn deposit the proceeds in the Beneficial Owner's account or the 
account of the financial institution carrying the account of the 
Beneficial Owner.
    Upon the occurrence of a Trigger Event, a Fund will notify 
Beneficial Owners of the [sic] their ability to place a Small Allotment 
Redemption Order by (a) issuing a press release, (b) delivering notice, 
via the Transfer Agent and DTC, to the DTC Participant, and (c) posting 
information about the Small Allotment Redemption Notice Period on the 
Fund's Web site. Notice delivered through DTC will closely resemble 
existing DTC processes commonly used to notify beneficial shareholders 
with respect to corporate actions that require shareholder response or 
action.\26\ Following notice to DTC of the Trigger Event, owners of 
record of a Fund (which are also DTC Participants) are then expected to 
use their standard notification procedures to disseminate the necessary 
information to Beneficial Owners to participate in the Small Allotment 
Redemption Option, in accordance with FINRA requirements and pursuant 
to any agreement between a DTC Participant and the Beneficial 
Owner.\27\ Shareholders who wish to place a Small Allotment Redemption 
Order should so instruct their intermediary. If the intermediary is a 
DTC Participant, it will notify DTC (and, through DTC, the Transfer 
Agent) of any Small Allotment Redemption Orders received from 
Beneficial Owners and deliver Shares to be redeemed to the Transfer 
Agent at an account maintained at DTC for such purpose.\28\
---------------------------------------------------------------------------

    \26\ Based on the issuer of the Funds' (the ``Issuer'') current 
understanding of DTC processes for corporate actions, the Issuer 
expects that the Transfer/Redemption Agent will transmit files to 
the DTC providing the necessary information for DTC to initiate the 
Small Allotment Redemption Notice Period. The DTC will validate the 
information and will send a confirmation back to the Transfer/
Redemption Agent that the Small Allotment Notice Period has 
commenced. The DTC will then transmit information about the 
commencement of the Small Allotment Notice Period to broker-dealers 
to notify the Beneficial Owners.
    \27\ See e.g., Financial Industry Regulatory Authority 
(``FINRA'') Rule 2251, which requires members to forward issuer-
related materials to a beneficial owner if the member carries the 
account for such beneficial owner. The Issuer believes that broker-
dealers that own Shares in an account at DTC will be required under 
such rule to forward notice of the Trigger Event and the opening of 
the Small Allotment Redemption Notice Period to all customers who 
are Beneficial Owners.
    \28\ The Issuer believes that for non-DTC Participants, a 
similar process will apply through their clearing firms. For 
example, in the case of a broker-dealer intermediary that is not a 
DTC Participant, the Issuer expects that the intermediary will 
notify its clearing firm of any Small Allotment Redemption Orders 
received from Beneficial Owners. The clearing firm will, in turn, 
notify DTC (and, through DTC, the Transfer/Redemption Agent) of the 
Small Allotment Redemption Orders and deliver Shares to be redeemed 
to the Transfer Agent at an account maintained at DTC for such 
purpose.
---------------------------------------------------------------------------

    No more than one Small Allotment Redemption Notice Period may exist 
for any one Fund at any time. In the event that a Trigger Event still 
exists after a Small Allotment Redemption Notice Period has ended, a 
subsequent Small Allotment Redemption Notice Period will commence on 
the first Business Day following the last Business Day of the previous 
Small Allotment Redemption Notice Period. Any Small Allotment 
Redemption Order placed during the subsequent Small Allotment 
Redemption Notice Period will be subject to the same processes and 
requirements applicable to a Small Allotment Redemption Order placed 
during the previous Small Allotment Redemption Notice Period.
    The Small Allotment Redemption Option will be subject to Board 
oversight. The Small Allotment Redemption Option will be included in 
the organizational documents or resolutions of the Funds before the 
commencement of operations.
Transactions
    The Trust may impose purchase or redemption transaction fees 
(``Transaction Fees'') in connection with the purchase or redemption of 
Shares from the Funds. The exact amounts of any such Transaction Fees 
will be determined by the Adviser but for redemptions will not exceed 
2% of NAV of the Shares being redeemed. The purpose of the Transaction 
Fees is to protect the continuing shareholders against possible 
dilutive transactional expenses, including operational processing and 
brokerage costs, associated with establishing and liquidating portfolio 
positions, including short positions, in connection with the purchase 
and redemption of Shares. The Adviser believes that imposing 
Transaction Fees will best respond to market needs and help to defray 
certain costs that would otherwise be borne by the Funds, such as 
custodian transaction fees and

[[Page 47496]]

various other fund overhead costs and fund accounting costs.
    The Adviser, in its sole discretion, may determine the Transaction 
Fees for the purchase or redemption of Shares, which may be increased, 
decreased or otherwise modified from time to time, provided that the 
Transaction Frees (assessed/charged) on redemption transactions may not 
exceed 2% of NAV of the Shares being redeemed. The currently effective 
creation and redemption Transaction Fees will be specified in each 
Fund's most recent registration statement. Such Transaction Fees will 
be limited to amounts that will have been determined by the Adviser to 
be appropriate and will take into account transaction and operational 
processing costs associated with the recent purchases and sales of 
investments made by the Trust. In all cases, such Transaction Fees will 
be limited in accordance with then existing requirements of the 
Commission applicable to management investment companies offering 
redeemable securities.
    Only DTC Participants that have signed an AP Agreement with the 
Trust and their customers will be able to acquire Shares at NAV 
directly from a Fund through the Distributor. The entire required cash 
payment must be transferred in the manner specified by the Trust on or 
before the date and time specified therein. These investors and others 
will also be able to purchase Shares in secondary market transactions 
at prevailing market prices. Each Fund will reserve the right to reject 
any purchase order at any time.
    Additional information regarding the Shares and each Fund, 
including investment strategies, risks, creation and redemption 
procedures, fees and expenses, portfolio holdings disclosure policies, 
distributions, taxes and reports to be distributed to beneficial owners 
of the Shares are proposed to be available in each Fund's registration 
statement or on the Web site for the Funds (www.iShares.com), as 
applicable.
Availability of Information
    The Funds' Web site, which will be publicly available prior to the 
public offering of Shares, will include a form of the prospectus for 
the Funds that may be downloaded. The Web site will include additional 
quantitative information updated on a daily basis, including, for the 
Funds: (1) The prior business day's reported NAV, the Bid/Ask Price, 
daily trading volume, and a calculation of the premium and discount of 
the Bid/Ask Price against the NAV; and (2) data in chart format 
displaying the frequency distribution of discounts and premiums of the 
daily Bid/Ask Price against the NAV, within appropriate ranges, for 
each of the four previous calendar quarters. The Web site and 
information will be publicly available at no charge.
    As noted above, a mutual fund is required to file with the 
Commission its complete portfolio schedules for the second and fourth 
fiscal quarters on Form NSAR under the 1940 Act, and is required to 
file its complete portfolio schedules for the first and third fiscal 
quarters on Form N-Q under the 1940 Act, within 60 calendar days from 
the end of the quarter. Form N-Q requires funds to file the same 
schedules of investments that are required in annual and semi-annual 
reports to shareholders. The Trust's SAI and each Fund's shareholder 
reports will be available free upon request from the Trust. These 
documents and forms may be viewed on-screen or downloaded from the 
Commission's Web site at www.sec.gov.
    Daily trading volume information will be available in the financial 
section of newspapers, through subscription services such as Bloomberg, 
Thomson Reuters, and International Data Corporation, which can be 
accessed by authorized participants and other investors, as well as 
through other electronic services, including major public Web sites.
    The IIV, which is the approximate value of each Fund's investments 
on a per Share basis, will be disseminated every 15 seconds during 
Regular Trading Hours. The IIV should not be viewed as a ``real-time'' 
update of NAV because the IIV may not be calculated in the same manner 
as NAV, which is computed once per day.
    An independent third party calculator will calculate the IIV for 
each Fund during, at least, Regular Trading Hours, by dividing the 
``Estimated Fund Value'' (as described below) as of the time of the 
calculation by the total number of outstanding Shares of that Fund. 
``Estimated Fund Value'' is the sum of the estimated amount of cash 
held in a Fund's portfolio, the estimated amount of accrued interest 
owed to a Fund and the estimated value of the securities held in the 
Fund's portfolio, minus the estimated amount of a Fund's liabilities.
    The Funds will provide the independent third party calculator with 
information to calculate the IIV, but the Funds will not be involved in 
the actual calculation of the IIV.\29\
---------------------------------------------------------------------------

    \29\ Currently, it is the Exchange's understanding that several 
major market data vendors display and/or make widely available IIVs 
published via the Consolidated Tape Association (``CTA'') or other 
data feeds.
---------------------------------------------------------------------------

    Additional information regarding the Trust and the Shares, 
including investment strategies, risks, creation and redemption 
procedures, fees, portfolio holdings disclosure policies, distributions 
and taxes is included in the Exemptive Relief Application. In addition, 
the quotations of certain of the Fund's holdings may not be updated 
during U.S. trading hours if such holdings do not trade in the United 
States or if updated prices cannot be ascertained. Price information 
for the exchange-listed equity securities held by the Funds will be 
available through major market data vendors and national securities 
exchanges listing and trading such securities. All equity securities 
held by the Funds will be listed on national securities exchanges.
    Information regarding market price and volume of the Shares will be 
continually available on a real-time basis throughout the day on 
brokers' computer screens and other electronic services. The previous 
day's closing price and trading volume information for the Shares will 
be published daily in the financial section of newspapers. Quotation 
and last sale information for the Shares will be available on the 
facilities of the CTA.
Initial and Continued Listing
    The Shares will be subject to BATS Rule 14.11(k), which sets forth 
the initial and continued listing criteria applicable to Managed 
Portfolio Shares. The Exchange represents that, for initial and/or 
continued listing, the Funds must be in compliance with Rule 10A-3 
under the Act.\30\ A minimum of 100,000 Shares will be outstanding at 
the commencement of trading on the Exchange. The Exchange will obtain a 
representation from the issuer of the Shares that the NAV per Share 
will be calculated daily and that the NAV will be made available to all 
market participants at the same time.
---------------------------------------------------------------------------

    \30\ See 17 CFR 240.10A-3.
---------------------------------------------------------------------------

Trading Halts
    With respect to trading halts, the Exchange may consider all 
relevant factors in exercising its discretion to halt or suspend 
trading in the Shares of the Funds. The Exchange will halt trading in 
the Shares under the conditions specified in BATS Rule 11.18. Trading 
may be halted because of market conditions or for reasons that, in the 
view of the Exchange, make trading in the Shares inadvisable. These may 
include: (1) If the IIV applicable to a Fund's Shares is not being 
disseminated as required; (2) the extent to which trading is not 
occurring in the securities

[[Page 47497]]

and/or the financial instruments comprising the holdings of a Fund; or 
(3) whether other unusual conditions or circumstances detrimental to 
the maintenance of a fair and orderly market are present. Trading in 
the Shares also will be subject to Rule 14.11(k)(4)(B)(iii), which sets 
forth circumstances under which Shares of the Funds may be halted.
Trading Rules
    The Exchange deems the Shares to be equity securities, thus 
rendering trading in the Shares subject to the Exchange's existing 
rules governing the trading of equity securities. BATS will allow 
trading in the Shares from 8:00 a.m. until 5:00 p.m. Eastern Time. The 
Exchange has appropriate rules to facilitate transactions in the Shares 
during all trading sessions. As provided in BATS Rule 11.11(a), the 
minimum price variation for quoting and entry of orders in Managed 
Portfolio Shares traded on the Exchange is $0.01, with the exception of 
securities that are priced less than $1.00, for which the minimum price 
variation for order entry is $0.0001.
Surveillance
    The Exchange believes that its surveillance procedures are adequate 
to properly monitor the trading of the Shares on the Exchange during 
all trading sessions and to deter and detect violations of Exchange 
rules and the applicable federal securities laws. Trading of the Shares 
through the Exchange will be subject to the Exchange's surveillance 
procedures for derivative products. The Exchange may obtain information 
regarding trading in the Shares and the underlying shares in equity 
securities, futures, and options via the Intermarket Surveillance Group 
(``ISG''), from other exchanges who are members or affiliates of the 
ISG, or with which the Exchange has entered into a comprehensive 
surveillance sharing agreement.\31\ The Funds' Adviser will make 
available to the Exchange the portfolio holdings of each Fund in order 
to facilitate the performance of the surveillances referred to above. 
The Exchange prohibits the distribution of material non-public 
information by its employees.
---------------------------------------------------------------------------

    \31\ For a list of the current members and affiliate members of 
ISG, see www.isgportal.com. The Exchange notes that not all 
components of the Funds may trade on markets that are members of ISG 
or with which the Exchange has in place a comprehensive surveillance 
sharing agreement. The Exchange also notes that all of the equity 
securities, futures, and options will trade on markets that are a 
member of ISG or with which the Exchange has in place a 
comprehensive surveillance sharing agreement.
---------------------------------------------------------------------------

Information Circular
    Prior to the commencement of trading, the Exchange will inform its 
members in an Information Circular of the special characteristics and 
risks associated with trading the Shares of each Fund. Specifically, 
the Information Circular will discuss the following: (1) The procedures 
for purchases and redemptions of Shares in Creation Units and 
Redemption Units as well as in amounts less than a Redemption Unit 
through Small Allotment Redemptions; (2) BATS Rule 3.7, which imposes 
suitability obligations on Exchange members with respect to 
recommending transactions in the Shares to customers; (3) how 
information regarding the IIV is disseminated; (4) the risks involved 
in trading the Shares during the Pre-Opening \32\ and After Hours 
Trading Sessions \33\ when an updated IIV will not be calculated or 
publicly disseminated; (5) the requirement that members deliver a 
prospectus to investors purchasing newly issued Shares prior to or 
concurrently with the confirmation of a transaction; and (6) trading 
information.
---------------------------------------------------------------------------

    \32\ The Pre-Opening Session is from 8:00 a.m. to 9:30 a.m. 
Eastern Time.
    \33\ The After Hours Trading Session is from 4:00 p.m. to 5:00 
p.m. Eastern Time.
---------------------------------------------------------------------------

    In addition, the Information Circular will advise members, prior to 
the commencement of trading, of the prospectus delivery requirements 
applicable to each Fund. Members purchasing Shares from the Funds for 
resale to investors will deliver a prospectus to such investors. The 
Information Circular will also discuss any exemptive, no-action, and 
interpretive relief granted by the Commission from any rules under the 
Act.
    In addition, the Information Circular will reference that the Funds 
are subject to various fees and expenses described in the Registration 
Statement. The Information Circular will also disclose the trading 
hours of the Shares of the Funds and the applicable NAV Calculation 
Time for the Shares. The Information Circular will disclose that 
information about the Shares of the Funds will be publicly available on 
the Funds' Web site.
2. Statutory Basis
    The Exchange believes that the proposal is consistent with Section 
6(b) of the Act \34\ in general and Section 6(b)(5) of the Act \35\ in 
particular in that it is designed to prevent fraudulent and 
manipulative acts and practices, to promote just and equitable 
principles of trade, to remove impediments to and perfect the mechanism 
of a free and open market and a national market system and, in general, 
to protect investors and the public interest.
---------------------------------------------------------------------------

    \34\ 15 U.S.C. 78f.
    \35\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

    The Exchange believes that proposed Rule 14.11(k) is designed to 
promote just and equitable principles of trade, to remove impediments 
to and perfect the mechanism of a free and open market and a national 
market system and, in general, to protect investors and the public 
interest in that the proposal will allow issuers to list, and market 
participants to invest in, a new type of exchange traded product.
    The Exchange believes that the proposed rule change is designed to 
prevent fraudulent and manipulative acts and practices in that Managed 
Portfolio Shares would be listed and traded on the Exchange pursuant to 
the proposed Rule 14.11(k), which the Exchange believes creates 
sufficiently rigorous standards related to the initial listing, 
continued listing, and surveillance of Managed Portfolio Shares as to 
prevent market manipulation and fraud in such securities. Proposed Rule 
14.11(k)(4) sets forth the proposed initial and continued listing 
criteria applicable to Managed Portfolio Shares. Proposed Rule 
14.11(k)(4)(A)(i) and (ii) provides that all series of Managed 
Portfolio Shares must meet both of the following initial listing 
criteria: for each series, the Exchange will establish a minimum number 
of Managed Portfolio Shares required to be outstanding at the time of 
commencement of trading on the Exchange and the Exchange will obtain a 
representation from the issuer of each series of Managed Portfolio 
Shares that the NAV per share for the series will be calculated daily 
and that the NAV will be made available to all market participants at 
the same time. Proposed Rule 14.11(k)(4)(B)(i) provides that the IIV 
for a series of Managed Portfolio Shares will be widely disseminated by 
one or more major market data vendors at least every 15 seconds during 
Regular Trading Hours. Proposed Rule 14.11(k)(4)(B)(ii) provides that 
the Exchange will consider the suspension of trading in or removal from 
listing of a series of Managed Portfolio Shares under any of the 
following circumstances: (a) If, following the initial twelve-month 
period after commencement of trading on the Exchange of a series of 
Managed Portfolio Shares, there are fewer than 50 beneficial holders of 
the series of Managed Portfolio Shares for 30 or more

[[Page 47498]]

consecutive trading days; (b) if the value of the IIV is no longer 
calculated or made available to all market participants at the same 
time; (c) if the Investment Company issuing the Managed Portfolio 
Shares has failed to file any filings required by the Securities and 
Exchange Commission or if the Exchange is aware that the Investment 
Company is not in compliance with the conditions of any exemptive order 
or no-action relief granted by the Securities and Exchange Commission 
to the Investment Company with respect to the series of Managed 
Portfolio Shares; or (d) if such other event shall occur or condition 
exists which, in the opinion of the Exchange, makes further dealings on 
the Exchange inadvisable.
    As proposed, Rule 14.11(k)(4)(B)(iii) provides that if the IIV of a 
series of Managed Portfolio Shares is not being disseminated as 
required, the Exchange may halt trading during the day in which the 
interruption to the dissemination of the IIV occurs. If the 
interruption to the dissemination of the IIV persists past the trading 
day in which it occurred, the Exchange will halt trading no later than 
the beginning of the trading day following the interruption. In 
addition, if the Exchange becomes aware that the NAV with respect to a 
series of Managed Portfolio Shares is not disseminated to all market 
participants at the same time it will halt trading in such series until 
such time as the NAV is available to all market participants.
    Proposed Rule 14.11(k)(2)(F) provides that, if the investment 
adviser to the Investment Company issuing Managed Portfolio Shares is 
affiliated with a broker-dealer, such investment adviser shall erect a 
``fire wall'' between the investment adviser and the broker-dealer with 
respect to access to information concerning the composition and/or 
changes to such Investment Company portfolio. Personnel who make 
decisions on the Investment Company's portfolio composition must be 
subject to procedures designed to prevent the use and dissemination of 
material nonpublic information regarding the applicable Investment 
Company portfolio.
    With respect to the proposed listing and trading of Shares of the 
Funds, the Exchange believes that the proposed rule change is designed 
to prevent fraudulent and manipulative acts and practices in that the 
Shares will be listed and traded on the Exchange pursuant to the 
initial listing criteria, continued listing criteria, and the 
surveillance procedures set forth in BATS Rule 14.11(k), which, as 
described above, the Exchange believes are sufficiently rigorous to 
prevent market manipulation and fraud in such securities. The Exchange 
further believes that the proposed rule change prevents fraudulent and 
manipulative acts and practices because the Issuer has also represented 
that each Fund will be subject to the following diversity and market 
capitalization standards, which will further help prevent fraudulent 
and manipulative acts in both the Funds and their respective underlying 
securities. Each fund will hold equity securities of at least 13 non-
affiliated issuers, primarily from the 1,200 largest U.S. stocks by 
market capitalization as determined by The Frank Russell Company 
annually. Generally, the Large/Mid Cap funds will select securities 
from a universe of approximately the 1,200 largest equity securities 
traded on U.S. exchanges and the Large Cap funds will select securities 
from a universe of approximately the 1,000 largest equity securities 
traded on U.S. exchanges. A Fund will not purchase the securities of 
issuers conducting their principal business activity in the same 
industry if, immediately after the purchase and as a result thereof, 
the value of the Fund's investments in that industry would equal or 
exceed 25% of the current value of the Fund's total assets, provided 
that this restriction does not limit the Fund's: (i) Investments in 
securities of other investment companies, (ii) investments in 
securities issued or guaranteed by the U.S. government, its agencies or 
instrumentalities, or (iii) investments in repurchase agreements 
(including reverse-repurchase agreements) collateralized by U.S. 
government securities.\36\ According to the Exemptive Relief 
Application, each Fund's investment objective will be long-term capital 
appreciation. To achieve their objective, each Fund will invest, under 
normal circumstances, at least 80% of its net assets in a portfolio of 
long positions (or engage in borrowings for the purpose of establishing 
short positions for the Long-Short funds) in U.S. equity securities. 
The Funds may in some instances also invest in non-U.S. equity 
securities with similar market capitalization, liquidity, and risk-
return profiles to the U.S. equity securities eligible for investment 
by the Fund where the Adviser determines that investing in the security 
is consistent with the Fund's investment objective. The Funds will not 
be money market funds and thus will not seek to maintain a stable NAV 
of $1.00 per Share. In the absence of normal circumstances, a Fund may 
temporarily depart from its normal investment process, provided that 
such departure is, in the opinion of BFA, consistent with the Fund's 
investment objective and in the best interest of the Fund. For example, 
a Fund may hold a higher than normal proportion of its assets in cash 
in response to adverse market, economic, or political conditions. The 
Funds each intend to qualify each year as a regulated investment 
company (a ``RIC'') under Subchapter M of the Internal Revenue Code of 
1986, as amended.\37\ The Funds will invest their respective assets, 
and otherwise conduct their respective operations, in a manner that is 
intended to satisfy the qualifying income, diversification and 
distribution requirements necessary to establish and maintain RIC 
qualification under Subchapter M.
---------------------------------------------------------------------------

    \36\ See note 21, supra.
    \37\ 26 U.S.C. 851.
---------------------------------------------------------------------------

    A Fund may, to a limited extent (under normal circumstances, less 
than 20% of the Fund's net assets), engage in transactions in futures 
contracts, forward contracts, options, and swaps.\38\
---------------------------------------------------------------------------

    \38\ See note 18, supra.
---------------------------------------------------------------------------

    A Fund may also invest a portion of its assets in Money Market 
Instruments on an ongoing basis rather than in other investments, when 
it would be more efficient or less expensive for the Fund to do so, or 
as cover for other financial instruments held by a Fund, for liquidity 
purposes, or to earn interest.
    A Fund may hold up to an aggregate amount of 15% of its net assets 
in illiquid securities (calculated at the time of investment) deemed 
illiquid by the Adviser \39\ under the 1940 Act.\40\ A Fund will 
monitor its portfolio liquidity on an ongoing basis to determine 
whether, in light of current circumstances, an adequate level of 
liquidity is being maintained, and will consider taking appropriate 
steps in order to maintain adequate liquidity if, through a change in 
values, net assets, or other circumstances, more than 15% of the Fund's 
net assets are held in illiquid securities. Illiquid securities include 
securities subject to contractual or other restrictions on resale and 
other instruments that lack readily available markets as determined in 
accordance with Commission staff guidance
---------------------------------------------------------------------------

    \39\ See note 19, supra.
    \40\ See note 20, supra.
---------------------------------------------------------------------------

    The listing and trading of such securities is subject to the rules 
of the exchanges on which they are listed and traded, as approved by 
the Commission. The Funds will primarily hold securities consisting of 
the 1,200 largest U.S. stocks by market capitalization as

[[Page 47499]]

determined by The Frank Russell Company annually. To the Extent that a 
Fund invests in futures contracts, forward contracts, options, and 
swaps, such investments will be consistent with the Fund's respective 
investment objective.\41\
---------------------------------------------------------------------------

    \41\ See note 18, supra.
---------------------------------------------------------------------------

    The Exchange believes that its surveillance procedures are adequate 
to properly monitor the trading of the Shares on the Exchange during 
all trading sessions and to deter and detect violations of Exchange 
rules and the applicable federal securities laws. If the investment 
adviser to the investment company issuing Managed Portfolio Shares is 
affiliated with a broker-dealer, such investment adviser to the 
investment company shall erect a ``fire wall'' between the investment 
adviser and the broker-dealer with respect to access to information 
concerning the composition and/or changes to such investment company 
portfolio. The Adviser is not a registered broker-dealer, but is 
affiliated with multiple broker-dealers and has implemented ``fire 
walls'' with respect to such broker-dealers regarding access to 
information concerning the composition and/or changes to the Fund's 
portfolio. The Exchange may obtain information regarding trading in the 
Shares and the underlying equity securities via the ISG, from other 
exchanges who are members or affiliates of the ISG, or with which the 
Exchange has entered into a comprehensive surveillance sharing 
agreement.\42\
---------------------------------------------------------------------------

    \42\ See note 31, supra.
---------------------------------------------------------------------------

    The Exchange, after consulting with various market makers that 
trade ETFs (and other products) on various exchanges, believes that 
market makers will be able to make efficient and liquid markets priced 
near the IIV even without daily disclosure of a fund's underlying 
portfolio as long as an accurate IIV is disseminated every 15 seconds, 
each fund's means of achieving its investment objective is clearly 
disclosed based on publicly available information, and there is 
typically an ability to manage inventory of Shares through creations 
and redemptions each day. The Exchange believes that market makers will 
employ risk-management techniques such as ``statistical arbitrage'', 
which is currently used throughout the financial services industry, to 
make efficient markets in exchange traded products as well as corporate 
issues. This ability should permit market makers to make efficient 
markets in an issue of Managed Portfolio Shares without knowledge of a 
fund's underlying portfolio. The Exchange believes that the real-time 
dissemination of a fund's IIV, together with the knowledge of a fund's 
means of achieving its investment objective and the right of Authorized 
Participants to create and redeem shares of each fund daily at the NAV, 
will be sufficient for market participants to value and trade shares in 
a manner that will not lead to significant deviations between the 
shares' Bid/Ask Price and NAV.
    The Exchange understands that traders use statistical analysis to 
derive correlations between different sets of instruments to identify 
opportunities to buy or sell one set of instruments when it is 
mispriced relative to the others. For Managed Portfolio Shares, market 
makers will initially use the knowledge of a fund's means of achieving 
its investment objective, as described in the proposed applicable fund 
registration statement, to construct a hedging proxy for a fund to 
assist them in managing their risk in connection with trading the 
shares of a fund. Market makers will then conduct statistical arbitrage 
between their hedging proxy (for example, the Russell 1000 Index) and 
the shares of a fund, buying and selling one against the other over the 
course of the trading day. Market makers will then be able to evaluate 
how their proxy performed in comparison to the price of the shares of a 
fund, and use that analysis as well as knowledge of risk metrics, such 
as volatility and turnover, to enhance their proxy calculation to make 
it a more efficient hedge.
    Market makers have indicated to the Exchange that, after the first 
several days of trading, there will be sufficient data to run a 
statistical analysis which will lead to spreads being tightened 
substantially around the IIV. This is similar to certain other existing 
exchange traded products (for example, ETFs that invest in foreign 
securities that do not trade during U.S. trading hours), in which 
spreads may be generally wider in the early days of trading and then 
narrow as market makers gain more confidence in their real-time hedges.
    The market makers also indicated that, as with some other new 
exchange traded products with full disclosure, spreads may be generally 
wider in the early days of trading and would tend to narrow as market 
makers gain more confidence in the accuracy of their hedges and their 
ability to adjust these hedges in real-time relative to the published 
IIV and gain an understanding of the applicable market risk metrics 
such as volatility and turnover, and as natural buyers and sellers 
enter the market. Other relevant factors cited by market makers were 
that a fund's investment objectives are clearly disclosed in the 
applicable prospectus, and the existence of quarterly portfolio 
disclosure.
    The Commission's concept release regarding ``Actively Managed 
Exchange- Traded Funds'' highlighted several issues that could impact 
the Commission's willingness to authorize the operation of an actively-
managed ETF, including whether effective arbitrage of the ETF shares 
exists.\43\ The Concept Release identifies the transparency of a fund's 
portfolio and the liquidity of the securities in a fund's portfolio as 
central to effective arbitrage. However, certain existing ETFs with 
portfolios of foreign securities have shown their ability to trade 
efficiently in the secondary market at approximately their NAV even 
though they do not provide opportunities for riskless arbitrage 
transactions during much of the trading day.\44\ Such ETFs have been 
shown to have pricing characteristics very similar to ETFs that can be 
arbitraged in this manner. For example, index-based ETFs containing 
securities that trade during different trading hours than the ETF, such 
as ETFs that hold Asian stocks, have demonstrated efficient pricing 
characteristics notwithstanding the inability of market professionals 
to engage in ``riskless arbitrage'' with respect to the underlying 
portfolio for most, or even all, of the U.S. trading day when Asian 
markets are closed. Pricing for shares of such ETFs is efficient 
because market professionals are still able to hedge their positions 
with offsetting, correlated positions in derivative instruments during 
the entire trading day.
---------------------------------------------------------------------------

    \43\ See Investment Company Act Release No. 25258 (November 8, 
2001) (the ``Concept Release'').
    \44\ The Exchange represents that the mechanics of arbitrage and 
hedging differ. Prior Rule 10a-1 and Regulation T under the Act both 
describe arbitrage as either buying and selling the same security in 
two different markets or buying and selling two different 
securities, one of which is convertible into the other. This is also 
known as a ``riskless arbitrage'' transaction in that the 
transaction is risk free since it generally consists of buying an 
asset at one price and simultaneously selling that same asset at a 
higher price, thereby generating a profit on the difference. 
Hedging, on the other hand, involves managing risk by purchasing or 
selling a security or instrument that will track or offset the value 
of another security or instrument. Arbitrage and hedging are both 
used to manage risk; however, they involve different trading 
strategies.
---------------------------------------------------------------------------

    The Exchange believes that the real-time dissemination of a fund's 
IIV, disclosure of a fund's investment objective and principal 
investment strategies in its prospectus and SAI, together with the 
right of Authorized Participants to create and redeem each day at the 
NAV, will be sufficient for market participants to value and trade

[[Page 47500]]

shares in a manner that will not lead to significant deviations between 
the shares' Bid/Ask Price and NAV. In addition, with respect to Shares 
of the Funds, the Small Allotment Redemption Option will permit 
Beneficial Owners holding amounts smaller than a Redemption Unit to 
redeem at NAV in the event that for 10 consecutive Business Days the 
Bid/Ask Price has a discount of 5% or greater from the NAV for at least 
15 calendar days, which will permit Beneficial Owners holding amounts 
smaller than a Redemption Unit to redeem at NAV in the event that 
trading on the secondary market is consistently resulting in a negative 
variance between the NAV of a Fund's Shares and the secondary market 
price of Shares at the Valuation Time.
    The pricing efficiency with respect to trading a series of Managed 
Portfolio Shares will not generally rest on the ability of market 
participants to arbitrage between the shares and a fund's portfolio, 
but rather on the ability of market participants to assess a fund's 
underlying value accurately enough throughout the trading day in order 
to hedge positions in shares effectively. Professional traders will buy 
shares that they perceive to be trading at a price less than that which 
will be available at a subsequent time, and sell shares they perceive 
to be trading at a price higher than that which will be available at a 
subsequent time. It is expected that, as part of their normal day-to-
day trading activity, market makers assigned to shares by the Exchange, 
off-exchange market makers, firms that specialize in electronic 
trading, hedge funds and other professionals specializing in short-
term, non-fundamental trading strategies will assume the risk of being 
``long'' or ``short'' shares through such trading and will hedge such 
risk wholly or partly by simultaneously taking positions in correlated 
assets \45\ or by netting the exposure against other, offsetting 
trading positions--much as such firms do with existing ETFs and other 
single stock equities. Disclosure of a fund's investment objective and 
principal investment strategies in its prospectus and SAI, along with 
the dissemination of the IIV every 15 seconds, should permit 
professional investors to engage easily in this type of hedging 
activity.\46\
---------------------------------------------------------------------------

    \45\ Price correlation trading is used throughout the financial 
industry. It is used to discover both trading opportunities to be 
exploited, such as currency pairs and statistical arbitrage, as well 
as for risk mitigation such as dispersion trading and beta hedging. 
These correlations are a function of differentials, over time, 
between one or multiple securities pricing. Once the nature of these 
price deviations have been quantified, a universe of securities is 
searched in an effort to, in the case of a hedging strategy, 
minimize the differential. Once a suitable hedging basket has been 
identified, a trader can minimize portfolio risk by executing the 
hedging basket. The trader then can monitor the performance of this 
hedge throughout the trade period, making corrections where 
warranted.
    \46\ With respect to trading in Shares of the Funds, market 
participants manage risk in a variety of ways. It is expected that 
market participants will be able to determine how to trade Shares at 
levels approximating the IIV without taking undue risk by gaining 
experience with how various market factors (e.g., general market 
movements, sensitivity of the IIV to intraday movements in interest 
rates or commodity prices, etc.) affect IIV, and by finding hedges 
for their long or short positions in Shares using instruments 
correlated with such factors. The Adviser expects that market 
participants will initially determine the IIV's correlation to a 
major large capitalization equity benchmark with active derivative 
contracts, such as the Russell 1000 Index, and the degree of 
sensitivity of the IIV to changes in that benchmark. For example, 
using hypothetical numbers for illustrative purposes, market 
participants should be able to determine quickly that price 
movements in the Russell 1000 Index predict movements in a Fund's 
IIV 95% of the time (an acceptably high correlation) but that the 
IIV generally moves approximately half as much as the Russell 1000 
Index with each price movement. The Exchange believes that this 
information is sufficient for market participants to construct a 
reasonable hedge--buy or sell an amount of futures, swaps or ETFs 
that track the Russell 1000 equal to half the opposite exposure 
taken with respect to Shares. Market participants will also 
continuously compare the intraday performance of their hedge to a 
Fund's IIV. If the intraday performance of the hedge is correlated 
with the IIV to the expected degree, market participants will feel 
comfortable they are appropriately hedged and can rely on the IIV as 
appropriately indicative of a Fund's performance.
---------------------------------------------------------------------------

    With respect to trading of Shares of the Funds, the ability of 
market participants to buy and sell Shares at prices near the IIV is 
dependent upon their assessment that the IIV is a reliable, indicative 
real-time value for a Fund's underlying holdings. Market participants 
are expected to accept the IIV as a reliable, indicative real-time 
value because (1) the IIV will be calculated and disseminated based on 
a Fund's actual portfolio holdings (rather than a proxy portfolio), (2) 
the securities in which the Funds plan to invest are generally highly 
liquid and actively traded and therefore generally have accurate real 
time pricing available, and (3) market participants will have a daily 
opportunity to evaluate whether the IIV at or near the close of trading 
is indeed predictive of the actual NAV. Because there is less risk of 
variability between the current IIV and the NAV nearer to the Valuation 
Time, it is expected that the bid/ask spread for Shares will initially 
tend to be less as the market approaches the close and market 
participants have a very high degree of certainty that they can trade 
at a level that reflects the current value of a Fund's holdings. It is 
also expected, however, that market participants will quickly be able 
to determine, after gaining experience with how various market factors 
(e.g., general market movements, sensitivity or correlations of the IIV 
to intraday movements in interest rates or commodity prices, other 
benchmarks, etc.) affect IIV, how best to hedge long or short positions 
taken in Shares in a manner that will permit them to provide a Bid/Ask 
Price for Shares that is near to the IIV throughout the day. The 
ability of market participants to accurately hedge their positions 
should serve to minimize any divergence between the secondary market 
price of the Shares and the IIV, as well as create liquidity in the 
Shares.
    The Exchange believes that the real-time dissemination of a Fund's 
IIV, disclosure of a fund's investment objective and principal 
investment strategies in its prospectus and SAI together with the 
ability of Authorized Participants to create and redeem each day at the 
NAV, will be enough information for market participants to value and 
trade Shares in a manner that will not lead to significant deviations 
between the Shares' Bid/Ask Price and NAV. In addition, the Small 
Allotment Redemption Option will permit Beneficial Owners holding 
amounts smaller than a Redemption Unit to redeem at NAV for a period of 
time following circumstances in which the secondary market price for 
the Shares at the Valuation Time has deviated from NAV within the 
specified parameters described above.
    In a typical index-based ETF, it is necessary for Authorized 
Participants to know what securities must be delivered in a creation or 
will be received in a redemption. For Managed Portfolio Shares, 
however, Authorized Participants do not need to know the securities 
comprising the portfolio of a Fund since creations are for cash and 
redemptions are handled through the blind trust mechanism. The use of 
cash for creations, and in-kind redemption through a blind trust, will 
preserve the integrity of the active investment strategy and eliminate 
the potential for ``free riding'', while still providing investors with 
the advantages of the ETF structure.
    The proposed rule change is designed to promote just and equitable 
principles of trade and to protect investors and the public interest in 
that the Exchange will obtain a representation from the issuer of the 
Shares that the NAV per Share will be calculated daily and will be made 
available to all market participants at the same time. Investors can 
also obtain a fund's SAI, shareholder reports, and its Form N-CSR and 
Form N-SAR. A fund's SAI and shareholder reports will be available free 
upon request from the

[[Page 47501]]

applicable fund, and those documents and the Form N-CSR and Form N-SAR 
may be viewed on-screen or downloaded from the Commission's Web site. 
In addition, a large amount of information is publicly available 
regarding the Funds and the Shares, thereby promoting market 
transparency. Moreover, the IIV will be disseminated by one or more 
major market data vendors at least every 15 seconds during Regular 
Trading Hours. Pricing information will be available on the Fund's Web 
site including: (1) The prior business day's reported NAV, the Bid/Ask 
Price, daily trading volume, and a calculation of the premium and 
discount of the Bid/Ask Price against the NAV; and (2) data in chart 
format displaying the frequency distribution of discounts and premiums 
of the daily Bid/Ask Price against the NAV, within appropriate ranges, 
for each of the four previous calendar quarters. Additionally, 
information regarding market price and trading of the Shares will be 
continually available on a real-time basis throughout the day on 
brokers' computer screens and other electronic services, and quotation 
and last sale information for the Shares will be available on the 
facilities of the CTA. The Web site for the Funds will include a form 
of the prospectus for the Funds and additional data relating to NAV and 
other applicable quantitative information. Trading in Shares of the 
Funds will be halted under the conditions specified in BATS Rule 11.18. 
Trading may also be halted because of market conditions or for reasons 
that, in the view of the Exchange, make trading in the Shares 
inadvisable. Finally, trading in the Shares will be subject to BATS 
Rule 14.11(k)(4)(B)(iii), which sets forth circumstances under which 
Shares of the Funds may be halted.
    The proposed rule change is designed to perfect the mechanism of a 
free and open market and, in general, to protect investors and the 
public interest in that it will facilitate the listing and trading of 
an additional type of actively-managed exchange-traded product that 
will enhance competition among market participants, to the benefit of 
investors and the marketplace. As noted above, the Exchange has in 
place surveillance procedures relating to trading in the Shares and may 
obtain information via ISG, from other exchanges that are members of 
ISG, or with which the Exchange has entered into a comprehensive 
surveillance sharing agreement. In addition, as noted above, investors 
will have ready access to information regarding IIV and quotation and 
last sale information for the Shares.
    For the above reasons, the Exchange believes that the proposed rule 
change is consistent with the requirements of Section 6(b)(5) of the 
Act.

B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does not believe that the proposed rule change will 
impose any burden on competition that is not necessary or appropriate 
in furtherance of the purpose of the Act. The Exchange believes the 
proposed rule change would permit listing and trading of another type 
of actively managed ETF that has characteristics different from 
existing actively-managed and index ETFs, and would introduce 
additional competition among various ETF products to the benefit of 
investors.

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

    The Exchange has neither solicited nor received written comments on 
the proposed rule change.

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

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period up to 90 days (i) as the 
Commission may designate if it finds such longer period to be 
appropriate and publishes its reasons for so finding or (ii) as to 
which the Exchange consents, the Commission will: (a) By order approve 
or disapprove such proposed rule change, or (b) institute proceedings 
to determine whether the proposed rule change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposal is 
consistent with the Act. Comments may be submitted by any of the 
following methods:
Electronic Comments
     Use the Commission's Internet comment form (https://www.sec.gov/rules/sro.shtml); or
     Send an email to rule-comments@sec.gov. Please include 
File No. SR-BATS-2014-018 on the subject line.
Paper Comments
     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File No. SR-BATS-2014-018. This file 
number should be included on the subject line if email is used. To help 
the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (https://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 changes between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. Copies of such filing will also be available 
for inspection and copying at the principal office of the Exchange. All 
comments received will be posted without change; the Commission does 
not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly. All 
submissions should refer to File No. SR-BATS-2014-018 and should be 
submitted on or before September 3, 2014.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\47\
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    \47\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2014-19096 Filed 8-12-14; 8:45 am]
BILLING CODE 8011-01-P