Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change and Amendment No. 1 by the Philadelphia Stock Exchange Relating to Inter-Currency Spread Priority

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-35023; File No. SR-Phlx-94-23]

Self-Regulatory Organizations; Notice of Filing of Proposed Rule

Change and Amendment No. 1 by the Philadelphia Stock Exchange Relating

to Inter-Currency Spread Priority

November 29, 1994.

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

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

Philadelphia Stock Exchange, Inc. (``Phlx'' 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 Phlx. 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) (1988).

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

of the Proposed Rule Change

The Phlx, pursuant to Rule 19b-4 of the Act, proposes to amend

Rules 1033 and 1066 to allow spread priority for eligible spreads

between two different foreign currency options (``FCOs''). For example,

a Deutsche mark call and a French franc put could be executed as a

spread, such that the bid/offer could be expressed as a net credit or

debit and a single execution could occur as long as at least one

individual component (leg) of each spread is executed at a better price

than the established bid/offer and no leg is executed outside of the

established bid/offer for that option contract.

In order to permit the execution of inter-currency spreads, a

definition of this type of order is proposed to be added to Phlx Rule

1066, as a subcategory of ``spread'' orders, which is a subcategory of

``hedge'' orders. Also, the Phlx proposes to adopt new paragraph (i) to

Rule 1033, which establishes spread priority principles for inter-

currency spreads. On November 18, 1994, the Phlx filed Amendment No. 1

to the proposal to renumber a proposed paragraph due to recent changes

to Rule 1033.\2\

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\2\See Letter from Edith Hallahan, Phlx, to Michael Walinskas,

Derivative Products Regulation, SEC, dated Nov. 17, 1994.

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The text of the proposed rule change is available at the Office of

the Secretary, Phlx, 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 Phlx 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 Phlx 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 the

Statutory Basis for, the Proposed Rule Change

Currently, an option spread is executable as a single transaction

at a total net debit or credit with one contra-side, pursuant to Phlx

Rule 1033(d). Under this provision, an eligible spread can be afforded

spread priority as long as the net credit/debit improves the

established market for the spread as measured by the aggregate price of

the respective legs if executed individually.

The Commission recently approved a Phlx proposal to expand the

spread priority provisions applicable to FCOs to include three-way,

ratio, and multi-spread transactions.\3\ Specifically, that proposal

expanded upon the existing requirement (in Rule 1033(d)) to improve the

established market as follows: at least one options leg must be

executed at a better price than the established market for that option

as well as that no option leg be executed outside of the established

market for that option.\4\

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\3\See Securities Exchange Act Release No. 35015 (November 29,

1994).

\4\As a result, according to the Phlx, the net credit/debit

necessarily improves the established market for the spread (the

current standard), because the market for at least one leg is

bettered.

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The purpose of this proposal is to extend spread priority to

spreads involving two different foreign currency options. For example,

a spread could be executed between any two FCOs, American-\5\ or

European-style\6\ expiration, and any expiration date (regular, month-

end, or long-term). Inter-currency spread priority pursuant to the

proposed rule change would not, however, be available for cross-rate,

cash/spot, or the Exchange's customized FCOs.

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\5\An American-style option is one that can be exercised at any

time prior to expiration of the option.

\6\A European-style option is one that can only be exercised

during a specified period immediately prior to expiration of the

option.

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According to the Phlx, absent spread priority, inter-currency

spreads can be executed as contingency orders pursuant to Phlx Rule

1066. For example, an FCO floor broker would quote a French franc

market as well as a Swiss franc market, in each respective trading

crowd; then, the floor broker would announce ``99 bid for 99 Sep 99

French franc calls if i can sell 99 Dec 99 Swiss franc puts at 99.''

However, each component of the spread, however, must be bid/offered

individually, which, according to the Exchange, generally means that

each component is executed at a price better than the established bid/

offer. In addition, the Exchange believes that because each leg must be

executed between the established market, such contingency orders are

more likely to be broken up by market interest in one leg, such that

the end result may be a different number of contracts for each leg.

Rule 1066(f)(1) defines a spread as an order to buy a stated number

of option contracts and to sell the same number of option contracts, in

a different series of the same class of options. The Exchange now

proposes to adopt Rule 1066(f)(1)(A) to define inter-currency spreads

because the existing definition requires that both orders be for the

same class of FCOs, which does not allow for spreads involving FCOs in

different currencies.

The Exchange believes that executing inter-currency spreads subject

to a spread priority provision is appropriate for several reasons.

First, inter-currency spreads provide a trading strategy for FCO market

participants based on the interplay between the currencies of two

countries, similar to the advantages and opportunities associated with

cross-rate FCOs. The Exchange believes that the availability of such

strategies should enhance liquidity in existing FCOs.

Second, the Phlx emphasizes that inter-currency spreads are not a

new trading strategy, as they are currently executable as two separate,

contingent orders. Instead, inter-currency spread priority is intended

to facilitate the execution of such orders, which, according to the

Exchange, often proves to be difficult. For example, the execution of

inter-currency spreads as contingency orders may present a logistical

problem as floor brokers must, in exercising due diligence, shuttle

between two trading crowds or, to prevent a trade from occurring while

the floor broker is in the second crowd, utilize two floor brokers to

execute such an order.

The requirement in proposed Phlx Rule 1033(i) that each leg of an

inter-currency spread be executed at or within the market for the

individual leg, and that at least one leg is executed at a price which

improves the established market, should, according to the Exchange,

protect investors and the public interest as well as prevent

manipulative acts and practices. The Exchange states that this

requirement is also consistent with Phlx Rule 118 which provides that

when a bid/offer is clearly established, no bid/offer outside that

price shall be established. The Exchange further believes that spread

priority for inter-currency spreads should facilitate a more simplified

execution procedure for such orders.

The Exchange believes that the proposed rule change is consistent

with Section 6 of the Act, in general, and with Section 6(b)(5),\7\ in

particular, in that it is designed to prevent fraudulent and

manipulative acts and practices, to promote just and equitable

principles of trade, and to protect investors and the public interest.

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\7\15 U.S.C. 78f(b)(5) (1988).

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

The Phlx does not believe that the proposed rule change will impose

any inappropriate burden on competition.

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

Proposed Rule Change Received from Members, Participants or Others

No written comments were solicited or received with respect to the

proposed rule change.

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, N.W., Washington, D.C. 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, N.W.,

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

inspection and copying at the principal office of the Phlx. All

submissions should refer to File No. SR-Phlx-94-23 and should be

submitted by December 28, 1994.

For the Commission, by the Division of Market Regulation,

pursuant to delegated authority.\8\

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\8\17 CFR 200.30(a)(12) (1993).

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Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 94-30029 Filed 12-6-94; 8:45 am]

BILLING CODE 8010-01-M