Self-Regulatory Organizations; Filing of Proposed Rule Change by the Chicago Board Options Exchange, Inc. Relating to Exercise Instruction Processing

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-34051; File No. SR-CBOE-94-06]

Self-Regulatory Organizations; Filing of Proposed Rule Change by

the Chicago Board Options Exchange, Inc. Relating to Exercise

Instruction Processing

May 12, 1994.

Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934

(``Act''),\1\ notice is hereby given that on March 16, 1994, the

Chicago Board Options Exchange, Inc. (``CBOE'' or ``Exchange'') 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 prepared by the self-regulatory organization. The

Commission is publishing this notice to solicit comments on the

proposed rule change from interested persons.

---------------------------------------------------------------------------

\1\15 U.S.C. 78s(b)(1).

---------------------------------------------------------------------------

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

of the Proposed Rule Change

The CBOE proposes to amend Rule 11.1 relating to option exercise

notice processing to clarify certain provisions of the Rule, to treat

separately certain of the exercise processing requirements applicable

to noncash-settled equity options, as compared with cash-settled index

options, and to add certain requirements applicable to exercise notice

procedures and policies.

The text of the proposal is available at the Office of the

Secretary, CBOE and at the Commission.

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 self-regulatory organization

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 self-regulatory organization

has prepared summaries, set forth in Sections (A), (B) and (C) below,

of the most significant aspects of such statements.

(A) Self-Regulatory Organization's Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule Change

The purpose of the proposed rule change is to clarify the

requirements in Exchange Rule 11.1 applicable to exercise decisions and

instructions for all classes of options and to make certain

distinctions between exercise requirements applicable only to noncash-

settled equity options and those applicable to cash-settled options.

The rule change also is intended to tighten CBOE members'

responsibilities in respect of exercise decisions and the processing of

exercise instructions, by incorporating certain new exercise notice

procedures and policies.

The proposed rule change includes a number of amendments designed

to clarify the cut-off times and special procedures applicable under

the Exchange's rules to various classes of options traded on the CBOE

and to accommodate business day expirations and automatic exercise

procedures more fully. Paragraph (b) of Rule 11.1 thus has been amended

to clarify that the 4:30 p.m. exercise cut-off time on the day prior to

expiration applies only to noncash-settled options,\2\ and a new

Interpretation .06, discussed below, has been added to establish

procedures applicable to the exercise of expiring noncash-settled

equity option contracts that would otherwise not be exercised (or the

nonexercise of options that would otherwise be exercised) by automatic

operation of The Options Clearing Corporation (``OCC'') Rules.

Similarly, Interpretation .03, as amended, is made clearly applicable

only to cash-settled index options, and the special exercise procedures

and 3:20 p.m. cut-off time set forth in that Interpretation have been

clarified to apply to exercises of cash-settled index options only on

certain specified days. At the same time, Interpretation .04, which

sets forth an anachronistic 5:30 p.m. cut-off time, is being deleted.

---------------------------------------------------------------------------

\2\Paragraph (b) has also been amended to limit its scope to

noncash-settled options only. Provisions in paragraph (b) that apply

to all classes of options are being moved to a new paragraph (c).

---------------------------------------------------------------------------

The proposed rule change also includes provisions that are designed

to promote fairness in exercise processing and tightened compliance

with the exercise notice processing requirements. Toward this end, the

Exchange proposes to remove the second sentence of current

Interpretation .02 from that Interpretation, revise it slightly, and

move it to a new paragraph (d).\3\ This new paragraph would provide

that members and member organizations may not prepare, time stamp, or

submit an exercise instruction prior to the purchase of the exercised

contracts if the member, or member organization, knows or has reason to

know that the exercised contracts had not been purchased prior to

exercise.

---------------------------------------------------------------------------

\3\The first sentence in Interpretation .02, which concerns

preparation of a memorandum respecting exercise instructions, is now

duplicative of the requirements set forth in Interpretation .01 and

new paragraph (c). The rule change therefore deletes all of

Interpretation .02.

---------------------------------------------------------------------------

In addition to new paragraph (d), the Exchange proposes to add new

Interpretation .07 to provide that an exercise instruction in respect

of an expiring option cannot be submitted or prepared after the

exercise cut-off time on the basis of material information released

after the cut-off time. By making this prohibition explicit in the

rules, the Exchange will be better able to discipline members in the

event that exercise action is taken, impermissibly, after the cut-off

time based on late-breaking news.

The Exchange proposes, further, to establish remedies, including

disgorgement of profits, in new Interpretation .06, for use by the

Exchange in the event of a failure to observe the exercise procedures

applicable to expiring noncash-settled equity options. This corresponds

to the provision in current Interpretation .03 respecting failure to

observe the exercise procedures applicable to cash-settled options.

Finally, the Exchange's proposal incorporates new procedures for

the nonexercise (or the exercise) of expiring noncash-settled equity

options that would otherwise be automatically exercised (or

automatically not-exercised) by operation of OCC Rule 805. Under the

proposal, whenever an Exchange member decides to vary the results they

would obtain under OCC's automatic exercise procedures, Exchange

members must submit a ``Contrary Exercise Advice'' prior to 4:30 p.m.

either to their clearing member or to a place to be designated by the

Exchange. To eliminate a ``Contrary Exercise Advice,'' members must

submit an ``Advice Cancel'' prior to 4:30 p.m. These procedures would

mirror the procedures currently applicable under Exchange

Interpretation .03 in respect of cash-settled index options.

The Exchange anticipates that this new submission requirement will

improve the CBOE's audit trail. Under CBOE's current rules for noncash-

settled equity options, Exchange members merely record, time stamp, and

retain a copy of exercise notices. Under the proposal, however, the

Exchange either will receive Contrary Exercise Advice and Advice Cancel

forms directly from the member (or the applicable clearing firm on the

member's behalf) or will have access to clearing members' submissions

to OCC's Clearing Management and Control System (``C/MACS'').

The proposed change in submission procedures is part of a

coordinated effort among the options exchanges and OCC to revise the

exercise processing requirements for noncash-settled equity options,

and is intended to assist option holders and broker-dealers in

adjusting to the new procedures efficiently. To facilitate compliance,

the Exchange will recognize a Contrary Exercise Advice submitted to

another options exchange for any option listed on both the CBOE and

that other exchange.

The proposed rule change is consistent with Section 6 of the Act in

general, and with Section 6 (b)(5) in particular, in that it is

designed to promote just and equitable principals of trade, to prevent

fraudulent and manipulative acts and practices, to foster cooperation

and coordination with persons engaged in regulating, clearing, and

settling securities transactions, and to protect investors and the

public interest. The new exercise cut-off procedure, in particular,

should improve the Exchange's ability to oversee exercise activity and

identify late submissions.

(B) Self-Regulatory Organization's Statement on Burden on Competition

CBOE does not believe that the proposed rule change will impose any

burden on competition.

(C) Self-Regulatory Organization's Statement on Comments on the

Proposed Rule Change Received from Members, Participants, or Others

Written comments on the proposed rule change were neither solicited

nor received.

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

Commission Action

Within 35 days of the date of publication of this notice in the

Federal Register or within such longer period (i) as the Commission may

designate up to 90 days of such date if it finds such longer period to

be appropriate and publishes its reasons for so finding or (ii) as to

which the self-regulatory organization consents, the Commission will:

(a) By order approve such proposed rule change, or

(b) Institute proceedings to determine whether the proposed rule

change should be disapproved.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views and

arguments concerning the foregoing. Persons making written submissions

should file six copies thereof with the Secretary, Securities and

Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549.

Copies of the submission, all subsequent amendments, all written

statements with respect to the proposed rule change that are filed with

the Commission, and all written communications relating to the proposed

rule change between the Commission and any person, other than those

that may be withheld from the public in accordance with the provisions

of 5 U.S.C. 552, will be available for inspection and copying in the

Commission's Public Reference Section, 450 Fifth Street, NW.,

Washington, DC. Copies of such filing will also be available for

inspection and copying at the principal office of the above-mentioned

self-regulatory organization. All submissions should refer to File No.

SR-CBOE-94-06 and should be submitted by June 8, 1994.

For the Commission, by the Division of Market Regulation,

pursuant to delegated authority.\4\

---------------------------------------------------------------------------

\4\17 CFR 200.30-3(a)(12) (1993).

---------------------------------------------------------------------------

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 94-12038 Filed 5-17-94; 8:45 am]

BILLING CODE 8010-01-M