[Federal Register Volume 85, Number 98 (Wednesday, May 20, 2020)]
[Notices]
[Pages 30779-30782]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-10815]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-88872; File No. SR-MIAX-2020-11]
Self-Regulatory Organizations; Miami International Securities
Exchange, LLC; Notice of Filing of a Proposed Rule Change To Amend
Exchange Rule 518, Complex Orders, To Adopt New Interpretation and
Policy .08, Related Futures Cross (``RFC'') Order Type
May 14, 2020.
Pursuant to the provisions of 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 May 11, 2020, Miami International Securities
Exchange, LLC (``MIAX Options'' or the ``Exchange'') filed with the
Securities and Exchange Commission (``Commission'') a proposed rule
change as described in Items I and II below, which Items have been
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 is filing a proposal to amend Exchange Rule 518,
Complex Orders.
The text of the proposed rule change is available on the Exchange's
website at http://www.miaxoptions.com/rule-filings/ at MIAX Options'
principal office, 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 aspects 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 amend Exchange Rule 518, Complex Orders,
to adopt a new Related Futures Cross (``RFC'') order type.
In April of 2018, the Exchange adopted a proposal to list and trade
on the Exchange options on the SPIKESTM Index (``SPIKES'' or
the ``Index''), a new index that measures expected 30-day volatility of
the SPDR S&P 500 ETF Trust.\3\ Options on the Index are cash-settled
and have European-style exercise provisions.\4\
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\3\ See Securities Exchange Release No. 83619 (July 11, 2018),
83 FR 32932 (July 16, 2018) (SR-MIAX-2018-14).
\4\ See Exchange Rule 1809(a)(4).
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There are currently no futures listed on the Index, therefore
Members \5\ of the Exchange who want to hedge a position in SPIKES
options using futures have to hedge using highly correlated related
instruments, such as VIX futures. While the SPIKES Index is highly
correlated to the VIX Index (SPIKES is over 99% correlated to VIX),
there remains some basis risk \6\ between the two products. That basis
risk can be exacerbated in times of extreme volatility, such as we are
currently experiencing in the markets. Both the SPIKES Index and VIX
Index settle on the same day, at the market's open, but using options
on two different, but highly correlated, products. The SPIKES
settlement value is determined using the opening prices on the Exchange
of SPY options which expire in 30 days, whereas the VIX settlement
value is determined using the opening prices on the Cboe Exchange of
the SPX options which expire in 30 days. While the two products (SPY
and SPX) are highly correlated, there are supply and demand variances
that can
[[Page 30780]]
occur at settlement which can cause the settlement prices of the two
indexes (SPIKES and VIX) to diverge. For example, the settlement which
occurred on March 18, 2020 illustrates this divergence.
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\5\ The term ``Member'' means an individual or organization
approved to exercise the trading rights associated with a Trading
Permit. Members are deemed ``members'' under the Exchange Act. See
Exchange Rule 100.
\6\ Basis risk is the financial risk that offsetting investments
in a hedging strategy will not experience price changes in entirely
opposite directions from each other. This imperfect correlation
between two investments creates the potential for excess gains or
losses in a hedging strategy, thus adding risk to the position.
James Chen, Basis Risk, Investopedia (June 16, 2019), https://www.investopedia.com/terms/b/basisrisk.asp.
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3/18/20
Index 3/17/20 Close 3/18/20 Close Settlement
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SPIKE.................................................. 75.51 77.77 77.64
VIX.................................................... 75.91 76.45 69.76
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Difference (SPIKE--VIX)............................ -0.40 1.32 7.88
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As illustrated above demand for SPY options expiring on April 17,
2020, was relatively neutral, however there was selling pressure in
those options representing the VIX settlement, (SPX options), which
caused a significant divergence in the settlement prices of the
indexes.
The impact this divergence has on a hedged position can be seen in
the following example.
Example 1
Firm A has a long position of 10,000 SPIKES call options that are
deep-in-the-money.\7\
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\7\ A deep in the money option has an exercise, or strike price,
significantly below (for a call option) or above (for a put option)
the market price of the underlying asset. James Chen, Deep In The
Money, Investopedia (April 30, 2019), https://www.investopedia.com/terms/d/deepinthemoney.asp.
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Firm A has also sold 1,000 VIX futures contracts to hedge their
position.
(SPIKES options have a $100 multiplier; VIX futures have a $1,000
multiplier)
To unwind the position Firm A has two options:
1. Wait until expiration and allow both the SPIKES calls and the
VIX futures to expire into cash; or
2. Unwind the position by transferring the risk from the VIX
futures into SPIKES options by simultaneously:
a. Buying back the short VIX futures position; and
b. Selling the long SPIKES options position by selling SPIKES
option combos
If Firm A chooses option 1 and allows the position to expire, Firm
A assumes additional market risk by assuming the basis risk at
settlement. Under this scenario if Firm A had allowed the long SPIKES
options position and the short VIX futures position to expire at the
March 2020 settlement, the Firm would have realized an unplanned profit
of 7.88M (7.88 x 10,000 x $100). However, the settlement variance could
have gone in the opposite direction and resulted in an unplanned loss
for Firm A.
If Firm A chooses option 2, Firm A must use a broker to find a
party to take the other side of the position (contra party), which is a
hedged position in highly correlated products, with some basis risk.
Since these are highly correlated indexes (SPIKE and VIX), if one were
to find another participant (or participants), the optimal transaction
would be to trade the 10,000 SPIKES option combos and 1,000 VIX futures
as a single trade. If a contra party (Firm B) to the trade can be
located, Firm A and Firm B will have to agree to a price for the
``package.'' Once a price is agreed upon there will have to be two
trades between the parties as the products trade on two different
market centers with the options trading only on the MIAX Options
Exchange and the VIX futures trading only on the Cboe Futures Exchange
(``CFE'').
To facilitate this type of exchange, the Exchange is proposing to
adopt a new order type that will permit a Member to convert their hedge
in VIX futures into SPIKES options combos, a synthetic equivalent, that
does not carry any basis risk (the proposed order type can also be used
to exchange SPIKES options combos for a corresponding futures position
in order to reduce margin and capital requirements). If both the SPIKES
option combos on MIAX Options and the VIX futures on the CFE are
executed as a ``clean cross'' Firm A is left with a long position of
10,000 SPIKES calls perfectly hedged with 10,000 short SPIKES option
combos, while Firm B has a hedged position long 10,000 SPIKES options
combos and a short position of 1,000 VIX futures. If the transaction is
not executed as a clean cross and the options transaction is exposed to
the market, there is an additional risk that a 3rd party could join the
transaction on MIAX Options and purchase 5,000 SPIKES options, which
would leave Firm B with a long position of 5,000 SPIKES option combos,
but a short position of 1,000 VIX futures, leaving a portion of the
transaction unhedged.
Therefore, the Exchange now proposes to amend Interpretations and
Policies of Exchange Rule 518, to adopt new Policy .08, Related Futures
Cross (``RFC'') Orders. The Exchange proposes to adopt rule text that
will provide that: (a) An EEM \8\ may execute an RFC order, which is
comprised of a SPIKES options combo coupled with a contra-side order or
orders totaling an equal number of option combo orders, which is
identified to the Exchange as being part of an exchange of option
contracts for related futures positions. For purposes of RFC orders:
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\8\ The term ``Electronic Exchange Member'' or ``EEM'' means the
holder of a Trading Permit who is not a Market Maker. Electronic
Exchange Members are deemed ``members'' under the Exchange Act. See
Exchange Rule 100.
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(1) In order to execute an RFC order an EEM must submit the RFC to
the System,\9\ which may execute automatically on entry without
exposure.
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\9\ The term ``System'' means the automated trading system used
by the Exchange for the trading of securities. See Exchange Rule
100.
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(2) An EEM may execute an RFC order pursuant to subparagraph (1)
above only if: (i) Each option leg executes at a price that complies
with Exchange Rule 518(c), provided that no option leg executes at the
same price as a Priority Customer Order \10\ in the Simple Book; (ii)
each option leg executes at a price at or between the NBBO \11\ for the
applicable series; and (iii) the execution price is better than the
price of any complex order resting in the Strategy Book,\12\ unless the
RFC order is a Priority Customer Order and the resting complex order is
a non-Priority Customer Order, in which case the execution price may be
the same as or better than the price of the resting complex order. The
System cancels an RFC order if it cannot execute.
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\10\ The term ``Priority Customer'' means a person or entity
that (i) is not a broker or dealer in securities, and (ii) does not
place more than 390 orders in listed options per day on average
during a calendar month for its own beneficial account(s). See
Exchange Rule 100.
\11\ The term ``NBBO'' means the national best bid or offer as
calculated by the Exchange based on market information received by
the Exchange from OPRA. See Exchange Rule 100.
\12\ The ``Strategy Book'' is the Exchange's electronic book of
complex orders and complex quotes. See Exchange Rule 518(a)(17).
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(3) An RFC order may only be entered in the standard increment
applicable to the class under Rule 518(c)(1).
(4) For purposes of this subparagraph (a), a SPIKES options combo
is a two-
[[Page 30781]]
legged order with one leg to purchase (sell) SPIKE calls and another
leg to sell (purchase) the same number of SPIKE puts with the same
expiration date and strike price.
(5) For purposes of this subparagraph (a), an exchange of option
contracts for related futures positions is a transaction entered into
by market participants seeking to swap option positions with related
futures positions with related exposures.
(a) A related futures position is a position in a futures contract
with either the same underlying as, or a high degree of price
correlation to, the underlying of the option combo in the RFC order so
that the execution of the option combos in the RFC order would serve as
an appropriate hedge for the related future positions.
(b) In an exchange of contracts for related positions, one
party(ies) must be the buyer(s) of (or the holder(s) of) the long
market exposure associated with the options positions and the seller(s)
of corresponding futures contracts and the other party(ies) must be the
seller(s) of (or holder(s) of) the short market exposure associated
with the options positions and the buyer(s) of the corresponding
futures contracts.\13\ The quantity of the option contracts executed as
part of the RFC order must correlate to the quantity represented by the
related futures position portion of the exchange.
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\13\ As proposed, one side of the cross will consist of one
party, and the other side may consist of multiple parties.
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(6) An RFC order may be executed only during Regular Trading Hours
and contemporaneously with the execution of the related futures
position portion of the exchange.
(7) The transaction involving the related futures position of the
exchange must comply with all applicable rules of the designated
contract market on which the futures are listed for trading.
A ``clean cross'' transaction which is not broken up is the optimal
transaction for executing this type of transaction because it allows
both components of the transaction to be executed in their
entirety.\14\ If the trade is exposed on the Exchange it is subject to
an additional risk that it is broken up, leaving one party with an
unhedged position. These types of exchanges are permitted for products
listed on the Cboe Futures Exchange LLC (``CFE'') pursuant to CFE Rule
414. The Exchange understands from customers that the need to reduce
risk is prevalent in SPIKES based on current market conditions. The
proposed rule change will provide market participants with the ability
to exchange a corresponding futures position with a SPIKES options
position, and also to exchange a SPIKES options position for a
corresponding futures position, depending upon the position being held
by the participant and the current market circumstances, provided that
the transaction involving the related futures position complies with
all applicable rules of the designated contract market on which the
futures are listed for trading. This will allow market participants to
reduce the basis risk, or better manage capital requirements, in their
hedged portfolios while maintaining the same risk exposure.
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\14\ A Qualified Contingent Cross Order is similarly executed as
a clean cross. See Exchange Rule 516(j).
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The proposed rule will require that the executing EEM identify
these crosses as related to an exchange for related positions. As a
result, the Exchange's Regulatory Department has put in place a
regulatory review plan that will permit it to ensure that any RFC
orders that are executed are done in conjunction with an exchange of
contract for related positions as required by the proposed rule. This
proposed rule is substantially based upon the functionality described
in Cboe Exchange Rule 5.24(e)(1)(D).\15\
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\15\ See Securities Exchange Release No. 88447 (March 20, 2020)
85 FR 17129 (March 26, 2020) (SR-CBOE-2020-023).
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2. Statutory Basis
MIAX believes that its proposed rule change is consistent with
Section 6(b) of the Act \16\ in general, and furthers the objectives of
Section 6(b)(5) of the Act \17\ in particular, in that it is designed
to prevent fraudulent and manipulative acts and practices, to promote
just and equitable principles of trade, to foster cooperation and
coordination with persons engaged in regulating, clearing, settling,
processing information with respect to, and facilitating transactions
in securities, to remove impediments to and perfect the mechanisms of a
free and open market and a national market system and, in general, to
protect investors and the public interest.
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\16\ 15 U.S.C. 78f(b).
\17\ 15 U.S.C. 78f(b)(5).
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The Exchange believes that the proposed rule change will remove
impediments to and perfect the mechanism of a free and open market and
a national market system, and, in general protect investors and the
public interest. The proposed rule change will provide market
participants with the ability to exchange SPIKES options positions with
corresponding futures positions, or exchange corresponding futures
positions with SPIKES options positions. This will allow market
participants to reduce basis risk, or better manage capital
requirements, in their hedged portfolios while maintaining the same
risk exposure.
The Exchange believes that the proposed rule change is consistent
with the Act as it promotes just and equitable principles of trade and
facilitates transactions in securities. The Exchange believes that
because these orders must be executed on separate exchanges that
executing these orders as a clean cross is justified as it allows them
to achieve their intended purpose to reduce basis risk or better manage
capital and margin requirements. Additionally, as the purpose of these
trades is an exchange of risk in a hedged position, the Exchange
believes it is appropriate to not expose these orders, as exposing
these orders to the market introduces the risk that one side of the
hedged transaction could be broken up, leaving one party with an
unhedged position.
The Exchange believes that the proposed rule change, which is
limited to a single class of a proprietary product listed only on the
Exchange, is narrowly tailored for the specific purpose of exchanging a
corresponding futures positions with a SPIKES options position, or to
exchange a SPIKES options positions with a corresponding futures
positions, to reduce basis risk and/or better manage capital
requirements. The proposed rule change provides the Exchange with
substantially the same functionality currently permitted on the Cboe
Exchange.\18\ The Exchange believes that this proposal does not present
any novel or unique issues because at least one other exchange has a
substantially similar rule.\19\
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\18\ See Cboe Exchange Rule 5.24(e)(1)(D).
\19\ Id.
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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 purposes of the Act. The Exchange does not
believe that the proposed rule change will impose any burden on intra-
market competition, as the Rules of the Exchange apply equally to all
Exchange Members,\20\ and any Member of the Exchange may use the RFC
order type.
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\20\ The term ``Member'' means an individual or organization
approved to exercise the trading rights associated with a Trading
Permit. Members are deemed ``members'' under the Exchange Act. See
Exchange Rule 100.
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[[Page 30782]]
The Exchange does not believe the proposed rule change will impose
any burden on inter-market competition because the proposed rule change
applies only to products listed on the Exchange. Additionally, the
proposed order type is intended to accommodate riskless transactions
for parties that are not seeking price improvement, but rather looking
to swap risk exposure, and therefore is not intended to have a
competitive impact. Further, the proposed rule is substantially similar
to a rule on the Cboe Exchange and may promote inter-market
competition.\21\
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\21\ See supra note 19. [sic]
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C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
Written comments were neither solicited nor received.
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 self-regulatory organization 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 proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's internet comment form (http://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-MIAX-2020-11 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 Number SR-MIAX-2020-11. 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 website (http://www.sec.gov/rules/sro.shtml).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for website 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 the filing also will be available for inspection
and copying at the principal office of the Exchange. All comments
received will be posted without change. Persons submitting comments are
cautioned that we do not redact or edit personal identifying
information from comment submissions. You should submit only
information that you wish to make available publicly. All submissions
should refer to File Number SR-MIAX-2020-11, and should be submitted on
or before June 10, 2020.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\22\
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\22\ 17 CFR 200.30-3(a)(12).
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J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-10815 Filed 5-19-20; 8:45 am]
BILLING CODE 8011-01-P