Self-Regulatory Organizations; Order Approving Proposed Rule Change and Amendment Nos. 1 and 2 to the Proposed Rule Change and Notice of Filing and Order Granting Accelerated Approval of Amendment No. 3 to the Proposed Rule Change by the American Stock Exchange LLC Relating to Margin Requirements

I. Introduction

On September 18, 1998, the American Stock Exchange LLC (“Amex” or “Exchange”) filed with the Securities and Exchange Commission (“SEC” or “Commission”) a proposed rule change pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”), and Rule 19b-4 thereunder, to allow specified Portfolio Depositary Receipts (“PDRs”) or Index Fund Shares to serve as cover for short positions in options on specified indexes. On March 5, 1999, the Amex filed Amendment Nos. 1 and 2 to the proposal. The proposed rule change and Amendment Nos. 1 and 2 were published for comment in the Federal Register on October 20, 1999. On September 24, 1999, the Amex provided data regarding the correlation between several PDRs or Index Fund Shares and indexes. On December 15, 1999, the Amex filed Amendment No. 3 to the proposal. The Commission received no comments regarding the proposal. This order approves the proposed rule change, as amended.

II. Background and Description of the Proposal

In a letter dated February 1, 1993, the staff of the Board of Governors of the Federal Reserve System (“Federal Reserve Board”) indicated that it was compatible with Regulation T for the Amex to treat positions in Standard & Poor's Depositary Receipts (“SPDRs”) as “cover” for an Options Clearing Corporation (“OCC”)—issued option on a broad-based stock index with at least 99% correlation with the S&P 500 Index. Specifically, the 1993 Letter stated that the Amex may require no additional margin where one leg of a position consisted of SPDRs and the other leg was an OCC-issued index option on a broad-based stock index with at least 99% correlation with the S&P 500 Index. According to the Amex, the Federal Reserve Board staff also indicated that MidCap SPDRs could serve as cover for S&P MidCap 400 Index options.

Federal Reserve Board amendments to Regulation T that became effective on June 1, 1997, modified or deleted certain margin requirements regarding options transactions in favor of rules to be adopted by the options exchanges, subject to approval by the Commission. Because exchange rules, as approved by the Commission, rather than Regulation T, now govern matters such as permitted offsets and cover for short options positions, the Amex proposes to revise Amex Rule 462, “Minimum Margins,” to incorporate into Amex Rule 462 the Federal Reserve Board staff positions regarding SPDRs and MidCap SPDRs. In addition, the Amex proposes to amend Amex Rule 462 to allow DIAMONDS to serve as cover for DJX options and to allow Nasdaq-100 Shares to serve as cover for Nasdaq-100 Index options.

Specifically, the proposal amends Amex Rule 462(d)(2)(H) to provide that no margin need be required in respect of a call index option or a put index option carried in a short position where the same account carries a long position in the PDRs or Index Fund Shares specified in Commentary .10 to the rule, and the PDRs or Index Fund Shares serving as cover have a market value at least equal to the aggregate current index value of the stocks underlying the index option contracts to be covered. Commentary .10 provides that: (1) Position in SPDRs shall be cover for position in S&P 500 Index options; (2) positions in MidCap SPDRs shall be cover for positions in S&P MidCap 400 Index options; (3) positions in DIAMONDS shall be cover for positions in DJX options; and (4) positions in Nasdaq-100 Shares shall be cover for positions in Nasdaq-100 Index options.

In addition, the proposal states that in computing the margin on an existing position in PDRs or Index Fund Shares that covers a short index put or call, the market value of the PDRs or Index Funds Shares to be used shall not be greater than the exercise price, in the case of a call, or less than the market value of the PDRs or Index Fund Shares, in the case of a put, and the required margin shall be increased by any unrealized loss on the short put security position.

III. Discussion

For the reasons discussed below, the Commission finds that the proposed rule change is consistent with the Act and the rules and regulations under the Act applicable to a national securities exchange. In particular, the Commission finds that the proposal is consistent with the Section 6(b)(5) requirements that the rules of an exchange be designed to promote just and equitable principles of trade, to remove impediments to and perfect the mechanism of a free and open market and, in general, to protect investors and the public interest.

As noted above, the proposal will amend Amex Rule 462 to provide that no margin need be required for short call or put positions in specified index options when the account carrying the short index option position also holds a long position in specified corresponding PDRs or Index Fund Shares that have a market value at least equal to the aggregate current index value of the stocks underlying the index option contracts to be covered. Specifically, the proposal will allow positions in SPDRs to serve as cover for positions in S&P 500 Index options; positions in MidCap SPDRs to serve as cover for positions in MidCap 400 Index options; positions in DIAMONDS to serve as cover for positions in DJX options; and positions in Nasdaq-100 Shares to served as cover for positions in Nasdaq-100 Index options.

Thus, the proposal will allow long positions in specified PDRs or Index Fund Shares to cover short positions in options on the indexes that the PDRs or Index Fund Shares are designed to replicate. The values of the PDR or Index Fund Share and the index that the PDR or Index Fund Share is designed to replicate should move in tandem. In addition, the PDR or Index Fund Share serving as cover for an index option position must have a market value at least equal to the aggregate current index value of the stocks underlying the index option contracts to be covered. Accordingly, the long PDR or Index Fund Share position service as cover for the short index option position should ensure that the index option writer would be able to deliver upon exercise the difference between the current index value and the exercise price of the option. Specifically, in an account that meets the requirements of the proposal, the amount earned from closing out the long PDR or Index Fund Share position would adequately cover the option writer's obligation upon exercise. Accordingly, the Commission believes that it is reasonable for the Amex to allow SPDRs, MidCap SPDRs, DIAMONDS, and Nasdaq-100 Shares to serve as cover for short positions in options on the indexes they are designed to replicate.

In addition, the Commission notes that the proposal incorporates into the Amex's rules the Federal Reserve Board staff's positions regarding SPDRs and MidCap SPDRs. For the reasons discussed above, the Commission believes that it is reasonable for the Amex to incorporate the Federal Reserve Board staff's positions into its rules and to provide the same treatment for DIAMONDS serving as cover for DJX options and for Nasdaq-100 Shares serving as cover for Nasdaq-100 Index options.

The Commission also believes that it is reasonable for the proposal to provide that in computing the margin on an existing position in PDRs or Index Fund Shares to be used shall not be greater than the exercise price, in the case of a call, or less than the market value of the PDRs or Index Fund Shares, in the case of a put, and that the required margin shall be increased by any unrealized loss on the short put security position. The Commission believes that these requirements will help to ensure that the writer of an index put or call option that is covered by a long position in PDRs or Index Fund Shares would be able to meet its obligation upon exercise of the option. In addition, the Commission notes that the proposed margin requirement for PDRs or Index Fund Shares serving as cover for short index option positions is consistent with current Amex Rule 462(d)(2)(H)iv), which establishes the margin requirement for an existing security position carried against a short put or call.

The Commission notes that the current proposal applies solely to the PDRs or Index Fund Shares and the corresponding index options specified in the proposal. If the Amex intends to allow additional PDRs or Index Fund Shares to serve as cover for short positions in options on other indexes, the Amex must file a proposed rule change pursuant to Section 19(b)(1) of the Act and Rule 19b-4 thereunder to adopt the additional offsets.

The commission finds good cause for approving Amendment No. 3 to the proposed rule change prior to the thirtieth day after the date of publication of notice of filing thereof in the Federal Register. Specifically, Amendment No. 3 strengthens the proposal by clarifying the language of the proposed rule change and by providing that specified PDRs or Index Fund Shares may serve as cover for short positions in options on the index that the PDR or Index Fund Share is designed to replicate. Accordingly, the Commission believes that granting accelerated approval of Amendment No. is appropriate and consistent with Sections 6(b)(5) and 10(b)(2) of the Act.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views and arguments concerning Amendment No. 3 including whether Amendment No. 3 is consistent with the Act. Persons making written submissions should file six copies thereof with the Secretary, Securities and Exchange Commission, 450 Fifth Street, NW, Washington DC 20549-0609. Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for inspection and copying at the Commission's Public Reference Room. Copies of the filing will also be available for inspection and copying at the principal office of the Exchange. All submissions should refer to File No. SR-Amex-98-33 and should be submitted by April 28, 2000.

V. Conclusion

It is therefore ordered, pursuant to Section 19(b)(2) of the Act, that the proposed rule change (SR-Amex-98-33), as amended, is approved.