[Federal Register Volume 85, Number 139 (Monday, July 20, 2020)]
[Notices]
[Pages 43907-43918]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-15555]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-89313; File No. SR-CboeBZX-2020-054]
Self-Regulatory Organizations; Cboe BZX Exchange, Inc.; Notice of
Filing and Immediate Effectiveness of a Proposed Rule Change Relating
To Adopt Rules Regarding Off-Floor Transactions and Transfers
July 14, 2020.
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 June 30, 2020, Cboe BZX Exchange, Inc. (``Exchange'' or ``BZX'')
filed with the Securities and Exchange Commission (``Commission'') the
proposed rule change as described in Items I and II below, which Items
have been prepared by the Exchange. The Exchange filed the proposal as
a ``non-controversial'' proposed rule change pursuant to Section
19(b)(3)(A)(iii) of the Act \3\ and Rule 19b-4(f)(6) thereunder.\4\ 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.
\3\ 15 U.S.C. 78s(b)(3)(A)(iii).
\4\ 17 CFR 240.19b-4(f)(6).
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
Cboe BZX Exchange, Inc. (the ``Exchange'' or ``BZX'') proposes to
adopt rules regarding off-floor transactions and transfers. The text of
the proposed rule change is provided in Exhibit 5.
The text of the proposed rule change is also available on the
Exchange's website (http://markets.cboe.com/us/equities/regulation/rule_filings/bzx/), at the Exchange's Office of the Secretary, 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 adopt new rules regarding off-floor
transactions and transfers.
Prohibition on Off-Floor Transactions
Rules 19c-1 and 19c-3 under the Securities Exchange Act of 1934
(the ``Act') describe rule provisions that each national securities
change must include in its Rules regarding the ability of members to
engage in transactions off an exchange. While the Exchange's rules,
stated policies, and practices are consistent with these provisions of
the Act, the Exchange Rules do not currently include these provisions.
Therefore, the proposed rule change adopts these provisions in new Rule
20.9 in accordance with Rules 19c-1 and 19c-3 under the Act.\5\
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\5\ See CFR 240.19c-1 and 240.19c-3; see also Cboe Options, Inc.
(``Cboe Options'') Rule 5.12(d) and (e).
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Off-Floor Position Transfers
Today, the Exchange does not permit off-floor transfers of options
positions and has no rule that specifically addresses off-floor
transfers. The Exchange proposes to adopt Rule 20.10 to specify the
limited circumstances under which a Member (``Member'') may effect
transfers of their options positions without first exposing the
order.\6\ This rule would permit market participants to move positions
from one account to another without first exposure of the transaction
on the Exchange. This Rule would permit transfers upon the occurrence
of
[[Page 43908]]
significant, non-recurring events. This Rule states that a Member must
be on at least one side of the transfer.
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\6\ See Securities and Exchange Act Release No. 88424 (March 19,
2020), 85 FR 16981 (March 25, 2020) (SR-Cboe-2019-035) (Notice of
Filing of Amendment Nos. 1 and 2 and Order Granting Accelerated
Approval of a Proposed Rule Change, as Modified by Amendment Nos. 1
and 2, Regarding Off-Floor Position Transfers); see also Cboe
Options Rule 6.7.
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Specifically, proposed Rule 20.10(a) states:
Notwithstanding Rule 20.9, existing positions in options listed
on the Exchange of a Member or of a Non-Member that are to be
transferred on, from, or to the books of a Clearing Member may be
transferred off the Exchange (an ``off-floor transfer'') if the off-
floor transfer involves one or more of the following events:
(1) An adjustment or transfer in connection with the correction
of a bona fide error in the recording of a transaction or the
transferring of a position to another account, provided that the
original trade documentation confirms the error;
(2) the transfer of positions from one account to another
account where no change in ownership is involved (i.e., accounts of
the same person (as defined in Rule 1.5)), provided the accounts are
not in separate aggregation units or otherwise subject to
information barrier or account segregation requirements;
(3) the consolidation of accounts where no change in ownership
is involved;
(4) a merger, acquisition, consolidation, or similar non-
recurring transaction for a person;
(5) the dissolution of a joint account in which the remaining
Member assumes the positions of the joint account;
(6) the dissolution of a corporation or partnership in which a
former nominee of the corporation or partnership assumes the
positions;
(7) positions transferred as part of a Member's capital
contribution to a new joint account, partnership, or corporation;
(8) the donation of positions to a not-for-profit corporation;
(9) the transfer of positions to a minor under the Uniform Gifts
to Minors Act; or
(10) the transfer of positions through operation of law from
death, bankruptcy, or otherwise.\7\
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\7\ See proposed Rule 20.10(a); see also Cboe Options Rule
6.7(a).
The proposed rule change makes clear that the transferred positions
must be on, from, or to the books of a Clearing Member. The proposed
rule change states that existing positions of a Member or a non-Member
may be subject to a transfer, except under specified circumstances in
which a transfer may only be effected for positions of a Member.\8\ The
Exchange notes transfers of positions in Exchange-listed options may
also be subject to applicable laws, rules, and regulations, including
rules of other self-regulatory organizations.\9\ Except as explicitly
provided in the proposed rule text, the proposed rule change is not
intended to exempt position transfers from any other applicable rules
or regulations, and proposed paragraph (h) makes this clear in the
rule.
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\8\ See proposed Rule 20.10(a)(5) and (7).
\9\ See proposed Rule 20.10(h).
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Proposed Rule 20.10(b) codifies Exchange guidance regarding certain
restrictions on permissible transfers related to netting of open
positions and to margin and haircut treatment, unless otherwise
permitted by proposed paragraph (f). No position may net against
another position (``netting''), and no position transfer may result in
preferential margin or haircut treatment.\10\ Netting occurs when long
positions and short positions in the same series ``offset'' against
each other, leaving no or a reduced position. For example, if a Member
wanted to transfer 100 long calls to another account that contained
short calls of the same options series as well as other positions, even
if the transfer is permitted pursuant to one of the 10 permissible
events listed in the proposed Rule, the Member could not transfer the
offsetting series, as they would net against each other and close the
positions.\11\
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\10\ For example, positions may not transfer from a customer,
joint back office, or firm account to a Market-Maker account.
However, positions may transfer from a Market-Maker account to a
customer, joint back office, or firm account (assuming no netting of
positions occurs). See also Cboe Options Rule 6.7(b).
\11\ See Cboe Options Rule 6.7(b).
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However, netting is permitted for transfers on behalf of a Market-
Maker account for transactions in multiply listed options series on
different options exchanges, but only if the Market-Maker nominees are
trading for the same Member, and the options transactions on the
different options exchanges clear into separate exchange-specific
accounts because they cannot easily clear into the same Market-Maker
account at the Clearing Corporation. In such instances, all Market-
Maker positions in the exchange-specific accounts for the multiply
listed class would be automatically transferred on their trade date
into one central Market-Maker account (commonly referred to as a
``universal account'') at the Clearing Corporation. Positions cleared
into a universal account would automatically net against each other.
Options exchanges permit different naming conventions with respect to
Market-Maker account acronyms (for example, lettering versus numbering
and number of characters), which are used for accounts at the Clearing
Corporation. A Market-Maker may have a nominee with an appointment in
class XYZ on Cboe Options, and have another nominee with an appointment
in class XYZ on the Exchange, but due to account acronym naming
conventions, those nominees may need to clear their transactions into
separate accounts (one for Cboe Options transactions and another for
Exchange transactions) at the Clearing Corporation rather into a
universal account (in which account the positions may net). The
proposed rule change permits transfers from these separate exchange-
specific accounts into the Market-Maker's universal account in this
circumstance to achieve this purpose.
Proposed Rule 20.10(c) states the transfer price, to the extent it
is consistent with applicable laws, rules, and regulations, including
rules of other self-regulatory organizations, and tax and accounting
rules and regulations, at which an transfer is effected may be: (1) The
original trade prices of the positions that appear on the books of the
trading Clearing Member, in which case the records of the transfer must
indicate the original trade dates for the positions; provided,
transfers to correct bona fide errors pursuant to proposed subparagraph
(a)(1) must be transferred at the correct original trade prices; (2)
mark-to-market prices of the positions at the close of trading the
transfer date; (3) mark-to-market prices of the positions at the close
of trading on the trade date prior to the transfer date; \12\ or (4)
the then-current market price of the positions at the time the transfer
is effected.\13\
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\12\ For example, for a transfer that occurs on a Tuesday, the
transfer price may be based on the closing market price on Monday.
\13\ See Cboe Options Rule 6.7(c).
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This proposed rule change provides market participants that effect
transactions with flexibility to select a transfer price based on
circumstances of the transfer and their business. However, for
corrections of bona fide errors, because those transfers are necessary
to correct processing errors that occurred at the time of transaction,
those transfers would occur at the original transaction price, as the
purpose of the transfer is to create the originally intended result of
the transaction.
Proposed Rule 20.10(d) requires a Member and its Clearing Member
(to the extent that the Member is not self-clearing) to submit to the
Exchange, in a manner determined by the Exchange, written notice prior
to effecting an transfer from or to the account of a Member(s).\14\ The
notice must indicate: The Exchange-listed options positions to be
transferred; the nature of the
[[Page 43909]]
transaction; the enumerated provision(s) under proposed paragraph (a)
pursuant to which the positions are being transferred; the name of the
counterparty(ies); the anticipated transfer date; the method for
determining the transfer price; and any other information requested by
the Exchange.\15\ The proposed notice will ensure the Exchange is aware
of all transfers so that it can monitor and review them (including the
records that must be retained pursuant to proposed paragraph (e)) to
determine whether they are effected in accordance with the Rules.
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\14\ This notice provision applies only to transfers involving a
Member's positions and not to positions of non-Member parties, as
they are not subject to the Rules. In addition, no notice would be
required to effect transfers to correct bona fide errors pursuant to
proposed subparagraph (a)(1).
\15\ See Cboe Options Rule 6.7(d).
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Additionally, requiring notice from the Member(s) and its Clearing
Member(s) will ensure both parties are in agreement with respect to the
terms of the transfer. As noted in proposed subparagraph (d)(2),
receipt of notice of a transfer does not constitute a determination by
the Exchange that the transfer was effected or reported in conformity
with the requirements of proposed Rule 20.10. Notwithstanding
submission of written notice to the Exchange, Members and Clearing
Members that effect transfers that do not conform to the requirements
of proposed Rule 20.10 will be subject to appropriate disciplinary
action in accordance with the Rules.
Similarly, proposed Rule 20.10(e) requires each Member and each
Clearing Member that is a party to a transfer must make and retain
records of the information provided in the written notice to the
Exchange pursuant to proposed subparagraph (e)(1), as well as
information on the actual Exchange-listed options that are ultimately
transferred, the actual transfer date, and the actual transfer price
(and the original trade dates, if applicable), and any other
information the Exchange may request the Member or Clearing Member
provide.\16\
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\16\ See Cboe Options Rule 6.7(e).
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Proposed paragraph (f) provides exemptions approved by the
Exchange's Chief Executive Officer or President (or senior-level
designee). Specifically, this provision is in addition to the
exemptions set forth in proposed paragraph (a). The Exchange proposes
that the Exchange Chief Executive Officer or President (or senior-level
designee) may grant an exemption from the requirement of this proposed
Rule, on his or her own motion or upon application of the Member (with
respect to the Member's positions) or a Clearing Member (with respect
to positions carried and cleared by the Clearing Members). The Chief
Executive Officer, the President or his or her designee, may permit a
transfer if necessary or appropriate for the maintenance of a fair and
orderly market and the protection of investors and is in the public
interest, including due to unusual or extraordinary circumstances. For
example, an exemption may be granted if the market value of the
person's positions would be compromised by having to comply with the
requirement to trade on the Exchange pursuant to the normal auction
process or when, in the judgment of the Chief Executive Officer,
President or his or her designee, market conditions make trading on the
Exchange impractical.\17\
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\17\ See Cboe Options Rule 6.7(f).
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The Exchange proposes within Rule 20.10(g) that the transfer
procedure set forth in Rule 20.10 is intended to facilitate non-
routine, nonrecurring movements of positions.\18\ The transfer
procedure is not to be used repeatedly or routinely in circumvention of
the normal auction market process.
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\18\ See Cboe Options Rule 6.7(g).
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The Exchange proposes within Rule 20.10(h) notes that the transfer
procedure set forth in Rule 20.10 is only applicable to positions in
options listed on the Exchange. Transfers of positions in Exchange-
listed options may also be subject to applicable laws, rules, and
regulations, including rules of other self-regulatory organizations.
Transfers of non-Exchange listed options and other financial
instruments are not governed by this Rule.\19\
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\19\ See Cboe Options Rule 6.7(h).
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Off-Floor RWA Transfers
The Exchange proposes to adopt Rule 20.11 to facilitate the
reduction of risk-weighted assets (``RWA'') attributable to open
options positions.\20\ SEC Rule 15c3-1 (Net Capital Requirements for
Brokers or Dealers) (``Net Capital Rules'') requires registered broker-
dealers, unless otherwise excepted, to maintain certain specified
minimum levels of capital.\21\ The Net Capital Rules are designed to
protect securities customers, counterparties, and creditors by
requiring that broker-dealers have sufficient liquid resources on hand,
at all times, to meet their financial obligations. Notably, hedged
positions, including offsetting futures and options contract positions,
result in certain net capital requirement reductions under the Net
Capital Rules.\22\
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\20\ See Cboe Options Rule 6.8; see also Securities Exchange Act
Release No. 87107 (September 25, 2019), 84 FR 52149 (October 1,
2019) (SR-CBOE-2019-044).
\21\ 17 CFR 240.15c3-1.
\22\ In addition, the Net Capital Rules permit various offsets
under which a percentage of an option position's gain at any one
valuation point is allowed to offset another position's loss at the
same valuation point (e.g., vertical spreads).
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Subject to certain exceptions, Clearing Members are subject to the
Net Capital Rules.\23\ However, a subset of Clearing Members are
subsidiaries of U.S. bank holding companies, which, due to their
affiliations with their parent U.S.-bank holding companies, must comply
with additional bank regulatory capital requirements pursuant to
rulemaking required under the Dodd-Frank Wall Street Reform and
Consumer Protection Act.\24\ Pursuant to this mandate, the Board of
Governors of the Federal Reserve System, the Office of the Comptroller
of the Currency, and the Federal Deposit Insurance Corporation have
approved a regulatory capital framework for subsidiaries of U.S. bank
holding company clearing firms.\25\ Generally, these rules, among other
things, impose higher minimum capital and higher asset risk weights
than were previously mandated for Clearing Members that are
subsidiaries of U.S. bank holding companies under the Net Capital
Rules. Furthermore, the new rules do not fully permit deductions for
hedged securities or offsetting options positions.\26\ Rather, capital
charges under these standards are, in large part, based on the
aggregate notional value of short positions regardless of offsets. As a
result, in general, Clearing Members that are subsidiaries of U.S. bank
holding companies must hold substantially more bank regulatory capital
than would otherwise be required under the Net Capital Rules.
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\23\ In the event federal regulators modify bank capital
requirements in the future, the Exchange will reevaluate the
proposed rule change at that time to determine whether any
corresponding changes to the proposed rule are appropriate.
\24\ H.R. 4173 (amending section 3(a) of the Securities Exchange
Act of 1934 (the ``Act'') (15 U.S.C. 78c(a))).
\25\ 12 CFR 50; 79 FR 61440 (Liquidity Coverage Ratio: Liquidity
Risk Measurement Standards).
\26\ Many options strategies, including relatively simple
strategies often used by retail customers and more sophisticated
strategies used by broker-dealers, are risk limited strategies or
options spread strategies that employ offsets or hedges to achieve
certain investment outcomes. Such strategies typically involve the
purchase and sale of multiple options (and may be coupled with
purchases or sales of the underlying securities), executed
simultaneously as part of the same strategy. In many cases, the
potential market exposure of these strategies is limited and
defined.
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The Exchange is concerned with the ability of Market-Makers to
provide liquidity in their appointed classes. The Exchange believes
that permitting market participants to efficiently transfer existing
options positions through an off-exchange transfer process would likely
have a beneficial effect on continued liquidity in the options
[[Page 43910]]
market without adversely affecting market quality. Liquidity in the
listed options market is critically important. The Exchange believes
that the proposed rule change provides market participants with an
efficient mechanism to transfer their open options positions from one
clearing account to another clearing account and thereby increase
liquidity in the listed options market. The Exchange currently has no
mechanism that firms may use to transfer positions between clearing
accounts without having to effect a transaction with another party and
close a position.
The proposed rule provides that existing positions in options
listed on the Exchange of a Member or non-Member (including an
affiliate of a Member) may be transferred on, from, or to the books of
a Clearing Member off the Exchange if the transfer establishes a net
reduction of RWA attributable to those options positions (an ``RWA
Transfer''). Proposed paragraph (a)(1) adds examples of two transfers
that would be deemed to establish a net reduction of RWA, and thus
qualify as a permissible RWA Transfer:
A transfer of options positions from Clearing
Corporation member A to Clearing Corporation member B that net
(offset) with positions held at Clearing Corporation member B, and
thus closes all or part of those positions (as demonstrated in the
example below); \27\ and
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\27\ This transfer would establish a net reduction of RWA
attributable to the transferring person, because there would be
fewer open positions and thus fewer assets subject to Net Capital
Rules.
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A transfer of options positions from a bank-affiliated
Clearing Corporation member to a non-bank-affiliated Clearing
Corporation member.\28\
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\28\ This transfer would establish a net reduction of RWA
attributable to the transferring Person, because the non-bank-
affiliated Clearing Corporation member would not be subject to Net
Capital Rules, as described above.
These transfers will not result in a change in ownership, as they must
occur between accounts of the same person.
``Person'' is defined in Rule 1.5(p) a natural person, partnership,
corporation, limited liability company, entity, government, or
political subdivision, agency or instrumentality of a government. In
other words, RWA transfers may only occur between the same individual
or legal entity. RWA transfers are merely transfers from one clearing
account to another, both of which are attributable to the same
individual or legal entity. A market participant effecting an RWA
Transfer is analogous to an individual transferring funds from a
checking account to a savings account, or from an account at one bank
to an account at another bank--the money still belongs to the same
person, who is just holding it in a different account for personal
financial reasons.
For example, Market-Maker A clears transactions on the Exchange
into an account it has with Clearing Member X, which is affiliated with
a U.S-bank holding company. Market-Maker A opens a clearing account
with Clearing Member Y, which is not affiliated with a U.S.-bank
holding company. Clearing Member X has informed Market-Maker A that its
open positions may not exceed a certain amount at the end of a calendar
month, or it will be subject to restrictions on new positions it may
open the following month. On August 28, Market-Maker A reviews the open
positions in its Clearing Member X clearing account and determines it
must reduce its open positions to satisfy Clearing Member X's
requirements by the end of August. It determines that transferring out
1000 short calls in class ABC will sufficiently reduce the RWA capital
requirements in the account with Clearing Member X to avoid additional
position limits in September. Market-Maker A wants to retain the
positions in accordance with its risk profile. Pursuant to the proposed
rule change, on August 31, Market-Maker A transfers 1000 short calls in
class ABC to its clearing account with Clearing Member Y. As a result,
Market-Maker A can continue to provide the same level of liquidity in
class ABC during September as it did in previous months.
A Member must give up a Clearing Member for each transaction it
effects on the Exchange, which identifies the Clearing Member through
which the transaction will clear.\29\ A Member may change the give up
for a transaction within a specified period of time.\30\ Additionally,
a Member may also change the Clearing Member \31\ for a specific
transaction. The transfer of positions from an account with one
clearing firm to the account of another clearing firm pursuant to the
proposed rule change has a similar result as changing a give up or
CMTA, as it results in a position that resulted from a transaction
moving from the account of one clearing firm to another, just at a
different time and in a different manner.\32\ In the above example, if
Market-Maker A had initially given up Clearing Member Y rather than
Clearing Member X on the transactions that resulted in the 1000 long
calls in class ABC, or had changed the give-up or CMTA to Clearing
Member Y pursuant to Rule 6.30 the ultimate result would have been the
same. There are a variety of reasons why firms give up or CMTA
transactions to certain clearing firms (and not to non-bank affiliate
clearing firms) at the time of a transaction, and the proposed rule
change provides firms with a mechanism to achieve the same result at a
later time.
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\29\ See Rule 6.30.
\30\ See Rule 6.31.
\31\ The Clearing Member Trade Assignment (``CMTA'') process at
OCC facilitates the transfer of option trades/positions from one OCC
clearing member to another in an automated fashion. Changing a CMTA
for a specific transaction would allocate the trade to a different
OCC clearing member than the one initially identified on the trade.
\32\ The transferred positions will continue to be subject to
OCC rules, as they will continue to be held in an account of an OCC
member.
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Proposed paragraph (a)(2) states RWA Transfers may occur on a
routine, recurring basis. As noted in the example above, clearing firms
may impose restrictions on the amount of open positions. Permitting
transfers on a routine, recurring basis will provide market
participants with the flexibility to comply with these restrictions
when necessary to avoid position limits on future options activity.
Additionally, proposed paragraph (a)(6) provides that no prior written
notice to the Exchange is required for RWA Transfers. Because of the
potential routine basis on which RWA Transfers may occur, and because
of the need for flexibility to comply with the restrictions described
above, the Exchange believes it may interfere with the ability of
investors firms to comply with any Clearing Member restrictions
describe above, and may be burdensome to provide notice for these
routine transfers.
Proposed paragraph (a)(3) states RWA Transfers may result in the
netting of positions. Netting occurs when long positions and short
positions in the same series ``offset'' against each other, leaving no
or a reduced position. For example, if there were 100 long calls in one
account, and 100 short calls of the same option series were added to
that account, the positions would offset, leaving no open positions.
Currently, the Exchange permits off-exchange transfers on behalf of a
Market-Maker account for transactions in multiply listed options series
on different exchanges, but only if the Market-Maker nominees are
trading for the same Member, and the options transactions on the
different options exchanges clear into separate exchange-specific
accounts because they cannot easily clear into the same Market-Maker
account at OCC. In such instances, all Market-Maker positions in the
exchange-specific accounts for the multiply listed class
[[Page 43911]]
would be automatically transferred on their trade date into one central
Market-Maker account (commonly referred to as a ``universal account'')
at the Clearing Corporation. Positions cleared into a universal account
would automatically net against each other.
While RWA Transfers are not occurring because of limitations
related to trading on different exchanges, similar reasoning for the
above exception applies to why netting should be permissible for the
limited purpose of reducing RWA. Firms may maintain different clearing
accounts for a variety of reasons, such as the structure of their
businesses, the manner in which they trade, their risk management
procedures, and for capital purposes. If a Market-Maker clears all
transactions into a universal account, offsetting positions would
automatically net. However, if a Market-Maker has multiple accounts
into which its transactions cleared, they would not automatically net.
While there are times when a firm may not want to close out open
positions to reduce RWA, there are other times when a firm may
determine it is appropriate to close out positions to accomplish a
reduction in RWA.
In the example above, suppose after making the RWA Transfer
described above, Market-Maker A effects a transaction on September 25
that results in 1000 long calls in class ABC, which clears into its
account with Clearing Member X. If Market-Maker A had not effected its
RWA Transfer in August, the 1000 long calls would have offset against
the 1000 short calls, eliminating both positions and thus any RWA
capital requirements associated with them. At the end of August,
Market-Maker A did not want to close out the 1000 short calls when it
made its RWA Transfer. However, given changed circumstances in
September, Market-Maker A has determined it no longer wants to hold
those positions. The proposed rule change would permit Market-Maker A
to effect an RWA Transfer of the 1000 short calls from its account with
Clearing Member Y to its account with Clearing Member X (or vice
versa), which results in elimination of those positions (and a
reduction in RWA associated with them). As noted above, such netting
would have occurred if Market-Maker A cleared the September transaction
directly into its account with Clearing Member Y or had not effected an
RWA Transfer in August. Netting provides market participants with
appropriate flexibility to conduct their businesses as they see fit
while having the ability to reduce RWA capital requirements when
necessary.
RWA Transfers may not result in preferential margin or haircut
treatment.\33\ Additionally, RWA Transfers may only be effected for
options listed on the Exchange and will be subject to applicable laws,
rules, and regulations, including rules of other self-regulatory
organizations (including OCC).\34\
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\33\ See proposed paragraph (a)(4).
\34\ See proposed introductory paragraph and proposed paragraph
(a)(7). Transfers of non-Exchange listed options and other financial
instruments are not governed by this proposed rule. All RWA
transfers will be subject to all applicable recordkeeping
requirements applicable to Members and Clearing Members under the
Act, such as Rules 17a-3 and 17a-4.
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In-Kind Exchange of Options Positions and Fund Shares and UIT Interests
The Exchange proposes to adopt Rule 20.12 regarding in-kind
exchanges of options positions and exchange-traded fund (``Fund'')
shares and unit investment trust (``UIT'') interests.\35\ As discussed
further below, the ability to effect ``in kind'' transfers is a key
component of the operational structure of a Fund and a UIT. Currently,
in general, Funds and UITs can effect in-kind transfers with respect to
equity securities and fixed-income securities. The in-kind process is a
major benefit to Fund shareholders and UIT unit holders, in general,
the means by which assets may be added to or removed from Funds and
UITs. In-kind transfers protect Fund shareholders and UIT unit holders
from the undesirable tax effects of frequent ``creations and
redemptions'' (described below) and improve the overall tax efficiency
of the products. However, currently, the Rules do not provide for Funds
and UITs to effect in-kind transfers of options off of the Exchange,
resulting in tax inefficiencies for Funds and UITs that hold them. As a
result, the use of options by Funds and UITs is substantially limited.
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\35\ See Cboe Options Rule 6.9; see also Securities Exchange Act
Release Nos. 87340 (October 17, 2019) (SR-CBOE-2019-048) (Order
Approving on an Accelerated Basis a Proposed Rule Change, as
Modified by Amendment Nos. 2 and 3, to Adopt Rule 6.9 (In-Kind
Exchange of Options Positions and ETF Shares)); and 88786 (April 30,
2020), 85 FR 26998 (May 6, 2020) (SR-CBOE-2020-042) (Notice of
Filing and Immediate Effectiveness of a Proposed Rule Change To
Amend Rule 6.9 To Permit In-Kind Transfers of Positions Off of the
Exchange in Connection With Unit Investment Trusts (``UITs'')).
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Proposed Rule 20.12 would add a circumstance under which off-
Exchange transfers of options positions would be permitted to occur, in
addition to the circumstances in proposed Rules 20.10 and 20.11.
Specifically, under proposed Rule 20.12, positions in options listed on
the Exchange would be permitted to be transferred off the Exchange by a
Member in connection with transactions (a) to purchase or redeem
``creation units'' of Fund Shares between an ``authorized participant''
\36\ and the issuer \37\ of such Fund Shares \38\ or (b) to create or
redeem units of a UIT between a broker-dealer and the issuer \39\ of
such UIT units, which transfers would occur at the price used to
calculate the net asset value (``NAV'') of such Fund Shares or UIT
units, respectively. This proposed new exception, although limited in
scope, would have a significant impact in that it would help protect
Fund Shareholders and UIT holders from undesirable tax consequences and
facilitate tax-efficient operations. The frequency with which Funds and
authorized participants, and UITs and sponsors, would rely on the
proposed exception would depend upon such factors as the number of
Funds and UITs, respectively, holding options positions traded on the
Exchange, the market demand for the shares of such Funds and units of
such UITs, the redemption activity of authorized participants and
sponsors, respectively, and the investment strategies employed by such
Funds and UITs.
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\36\ The Exchange is proposing that, for purposes of proposed
Rule 20.12, the term ``authorized participant'' would be defined as
an entity that has a written agreement with the issuer of Fund
Shares or one of its service providers, which allows the authorized
participant to place orders for the purchase and redemption of
creation units (i.e., specified numbers of Fund Shares). While an
authorized participant may be a Member and directly effect
transactions in options on the Exchange, an authorized participant
that is not a Member may effect transactions in options on the
Exchange through a Member on its behalf.
\37\ The Exchange proposes that, for purposes of proposed Rule
20.12, any issuer of Fund Shares would be registered with the
Commission as an open-end management investment company under the
Investment Company Act of 1940 (the ``1940 Act'').
\38\ A Fund Share is a share or other security principally
traded on a national securities exchange and defined as an NMS
stock, which includes interest in open-end management investment
companies. See Rule 19.3(i).
\39\ The Exchange proposes that, for purposes of proposed Rule
20.12, any issuer of UIT units would be a trust registered with the
Commission as a unit investment trust under the 1940 Act.
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While the Exchange recognizes that, in general, the execution of
options transactions on exchanges provides certain benefits, such as
price discovery and transparency, based on the circumstances under
which proposed Rule 20.12 would apply, the Exchange does not believe
that such benefits would be compromised. In this regard, as discussed
more fully below, the Exchange notes that in conjunction with the
creation and redemption process, positions would be transferred at a
price(s) used to calculate the NAV of such Fund Shares and UIT units.
In
[[Page 43912]]
addition, although options positions would be transferred off of the
Exchange, they would not be closed or ``traded.'' Rather, they would
reside in a different clearing account until closed in a trade on the
Exchange or until they expire. Further, as discussed below, proposed
Rule 20.12 would be clearly delineated and limited in scope, given that
the proposed exception would only apply to transfers of options
effected in connection with the creation and redemption process.
Funds
As described in further detail below, while Funds do not sell and
redeem individual shares to and from investors, they do sell large
blocks of their shares to, and redeem them from, authorized
participants in conjunction with what is known as the Fund creation and
redemption process. Under the proposed exception, Funds that hold
options listed on the Exchange would be permitted to effect creation
and redemption transactions with authorized participants on an ``in-
kind'' basis, which is the process that may generally be utilized by
Funds for other asset types. This ability would allow such Funds to
function as more tax-efficient investment vehicles to be benefit of
investors that hold Fund Shares. In addition, it may also result in
transaction cost savings for the Funds, which may be passed along to
investors.
Due to their ability to effect in-kind transfers with authorized
participants in conjunction with the creation and redemption process
described below, Funds have the potential to be significantly more tax-
efficient than other pooled investment products, such as mutual
funds.\40\ Funds issue shares that may be purchased or sold during the
day in the secondary market at market-determined prices. Similar to
other types of investment companies, Funds invest their assets in
accordance with their investment objectives and investment strategies,
and Fund Shares represent interests in a Fund's underlying assets.
Funds are, in certain respects, similar to mutual funds in that they
continuously offer their shares for sale. In contrast to mutual funds,
however, Funds do not sell or redeem individual shares. Rather, through
the creation and redemption process referenced above, authorized
participants have contractual arrangements with a Fund and/or its
service provider (e.g., its distributor) purchase and redeem shares
directly from that Fund in large aggregations known as ``creation
units.'' In general terms, to purchase a creation unit of Fund Shares
from a Fund, in return for depositing a ``basket'' of securities and/or
other assets identified by the Fund on a particular day, the authorized
participant will receive a creation unit of Fund Shares. The basket
deposited by the authorized participant is generally expected to be
representative of the Fund's portfolio \41\ and, when combined with a
cash balancing amount (i.e., generally an amount of cash intended to
account for any difference between the value of the basket and the NAV
of a creation unit), if any, will be equal in value to the aggregate
NAV of the shares of the Fund comprising the creation unit. The NAV for
Fund Shares is represented by the traded price for Funds holding
options positions on days of creation or redemption, and an options
pricing model on days in which creations and redemptions do not occur.
After purchasing a creation unit, an authorized participant may then
hold individual shares of the Fund and/or sell them in the secondary
market. In connection with effecting redemptions, the creation process
described above is reversed. More specifically, the authorized
participant will redeem a creation unit of Fund Shares to the Fund in
return for a basket of securities and/or other assets (along with any
cash balancing account).
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\40\ This summary of the Fund creation and redemption process is
based largely on portions of the discussion set forth in Investment
Company Act Release No. 33140 (June 28, 2018), 83 FR 37332 (July 31,
2018) (the ``Proposed ETF Rule Release'') in which the Commission
proposed a new rule under the 1940 Act that would permit Funds
registered as open-end management investment companies that satisfy
certain conditions to operate without the need to obtain an
exemptive order. The proposed rule was adopted on September 25,
2019. See Investment Company Act Release No. 33646 (September 25,
2019).
\41\ Under certain circumstances, however, and subject to the
provisions of its exemptive relief from various provisions of the
1940 Act obtained from the Commission, a Fund may substitute cash
and/or other instruments in lieu of some or all of the Fund's
portfolio holdings. For example, today, positions in options traded
on the Exchange would be generally substituted with cash.
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The Fund creation and redemption process, coupled with the
secondary market trading of Fund Shares, facilitates arbitrage
opportunities that are intended to help keep the market price of Fund
Shares at or close to the NAV per share of the Fund. Authorized
participants play an important role because of their ability, in
general terms, to add Fund Shares to, or remove them from, the market.
In this regard, if shares of a Fund are trading at a discount (i.e.,
below NAV per share), an authorized participant may purchase Fund
Shares in the secondary market, accumulate enough shares for a creation
unit and then redeem them from the Fund in exchange for the Fund's more
valuable redemption basket. Accordingly, the authorized participant
will profit because it paid less for the Fund Shares than it received
for the underlying assets. The reduction in the supply of Fund Shares
available on the secondary market, together with the sale of the Fund's
basket assets, may cause the price of Fund Shares to increase, the
price of the basket assets to decrease, or both, thereby causing the
market price of the Fund Shares and the value of the Fund's holdings to
move closer together. In contrast, if the Fund Shares are trading at a
premium (i.e., above NAV per share), the transactions are reversed (and
the authorized participant would deliver the creation basket in
exchange for Fund Shares), resulting in an increase in the supply of
Fund Shares which may also help to keep the price of the shares of a
Fund close to the value of its holdings.
In comparison to other pooled investment vehicles, one of the
significant benefits associated with a Fund's in-kind redemption
feature is tax efficiency. In this regard, by effecting redemptions on
an in-kind basis (i.e., delivering certain assets from the Fund's
portfolio instead of cash), there is no need for the Fund to sell
assets and potentially realize capital gains that would be distributed
to shareholders. As indicated above, however, because the Rules
currently do not allow Funds to effect in-kind transfers of options off
of the Exchange, Funds that invest in options traded on the Exchange
are generally required to substitute cash in lieu of such options when
effecting redemption transactions with authorized participants. Because
they must sell the options to obtain the requisite cash, such Funds
(and therefore, investors that hold shares of those Funds) are not able
to benefit from the tax efficiencies afforded by in-kind transactions.
An additional benefit associated with the in-kind feature is the
potential for transaction cost savings. In this regard, by transacting
on an in-kind basis, Funds may avoid certain transaction costs they
would otherwise incur in connection with purchases and sales of
securities and other assets. Again, however, this benefit is not
available today to Funds with respect to their options holdings.
UITs
Although UITs operate differently than Funds in certain respects,
as described below, the anticipated potential benefits to UIT investors
(i.e., greater tax efficiencies and transaction
[[Page 43913]]
cost savings) from the proposed exemption would be similar as discussed
below. Specifically, under the 1940 Act,\42\ a UIT is an investment
company organized under a trust indenture or similar instrument that
issues redeemable securities, each of which represents an undivided
interest in a unit of specified securities.\43\ A UIT's investment
portfolio is relatively fixed, and, unlike a Fund, a UIT has a fixed
life (a termination date for the trust is established when the trust is
created). Similar to other types of investment companies (including
Funds), UITs invest their assets in accordance with their investment
objectives and investment strategies, and UIT units represent interests
in a UIT's underlying assets. Like Funds, UITs do not sell or redeem
individual shares, but instead, through the creation and redemption
process, a UIT's sponsor (a broker-dealer) may purchase and redeem
shares directly from the UIT's trustee in aggregations known as
``units.'' A broker-dealer purchases a unit of UIT shares from the
UIT's trustee by depositing a basket of securities and/or other assets
identified by the UIT. These transactions are largely effected by ``in-
kind'' transfers, or the exchange of securities, non-cash assets, and/
or other non-cash positions. The basket deposited by the broker-dealer
is generally expected to be representative of the UIT's units and will
be equal in value to the aggregate NAV of the shares of the UIT
comprising a unit.\44\ The UIT then issues units that are publicly
offered and sold. Unlike Funds, UITs typically do not continuously
offer their shares for sale, but rather, make a one-time or limited
public offering of only a specific, fixed number of units like a
closed-end fund (i.e., the primary period, which may range from a
single day to a few months). Similar to the process for Funds, UITs
allow investor-owners of units to redeem their units back to the UIT's
trustee on a daily basis and, upon redemption, such investor-owners are
entitled to receive the redemption price at the UIT's NAV. While UITs
provide for daily redemptions directly with the UIT's trustee, UIT
sponsors frequently maintain a secondary market for units, also like
that of Funds, and will buy back units at the applicable redemption
price per unit. To satisfy redemptions, a UIT typically sells
securities and/or other assets, which results in negative tax
implications and an incurrence of trading costs borne by remaining unit
holders.
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\42\ 15 U.S.C. 80a-4(2).
\43\ The Exchange also notes that, though a majority of Funds
are structured as open-ended funds, some Funds are structured as
UITs, and currently represent a significant amount of assets within
the Fund industry. These include, for example, SPDR S&P 500 ETF
Trust (``SPY'') and PowerShares QQQ Trust, Series 1 (``QQQ'').
\44\ The NAV is an investment company's total assets minus its
total liabilities. UITs must calculate their NAV at least once every
business day, typically after market close. See Sec. 270.2a-4(c),
which provides that any interim determination of current net asset
value between calculations made as of the close of the New York
Stock Exchange on the preceding business day and the current
business day may be estimated so as to reflect any change in current
net asset value since the closing calculation on the preceding
business day. This, however, is notwithstanding the requirements of
Sec. 270.2a-4(a), which provides for other events that would
trigger computation of a UIT's NAV.
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Proposed Rule
The Exchange believes that it is appropriate to permit off-Exchange
transfers of options positions in connection with the creation and
redemption process and recognizes that the prevalence and popularity of
Funds have increased greatly. Currently, Funds serve both as popular
investment vehicles and trading tools \45\ and, as discussed above, the
creation and redemption process, along with the arbitrage opportunities
that accompany it, are key Fund features. Although Funds and UITs
operate differently in certain respects, the ability to effect in-kind
transfers is also significant for UITs. As described above, UITs and
Funds are situated in substantially the same manner; the key
differences being a UIT's fixed duration, and that a UIT generally
makes a one-time public offering of only a specific, fixed number of
units. Negative tax implication and trading costs for remaining unit
holders would be mitigated by allowing a UIT sponsor or another broker-
dealer to receive an in-kind distribution of options upon redemption.
Accordingly, the Exchange believes that providing for an additional,
narrow circumstance to make it possible for Funds and UITs that invest
in options to effect creations and redemptions on an in-kind basis is
justified.
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\45\ As noted in the Proposed ETF Rule Release, during the first
quarter of 2018, trading in U.S.-listed Funds comprised
approximately 18.75% of U.S. equity trading by share volume and
28.2% of U.S. equity trading by dollar volume (based on trade and
quote data from the New York Stock Exchange and Trade Reporting
Facility data from the Financial Industry Regulatory Authority, Inc.
(FINRA)). See Proposed ETF Rule Release at 83 FR 37334.
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The Exchange submits that its proposal is clearly delineated and
limited in scope and not intended to facilitate ``trading'' options off
of the Exchange. In this regard, the proposed circumstance would be
available solely in the context of transfers of options positions
effected in connection with transactions to purchase or redeem creation
units of Fund Shares between Funds and authorized participants,\46\ and
units of UITs between UITs and sponsors. As a result of this process,
such transfers would occur at the price(s) used to calculate the NAV of
such Fund Shares and UIT units (as discussed above), which removes the
need for price discovery on an Exchange for pricing these transfers.
Moreover, as described above, Funds and authorized participants, and
UITs and sponsors, are not seeking to effect the opening or closing of
new options positions in connection with the creation and redemption
process. Rather, the options positions would reside in a different
clearing account until closed in a trade on the Exchange or until they
expire.
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\46\ See supra note 37. The term ``authorized participant'' is
specific and narrowly defined. As noted in the Proposed ETF Rule
Release, the requirement that only authorized participants of a Fund
may purchase creation units from (or sell creation units to) a Fund
``is designed to preserve an orderly creation unit issuance and
redemption process between [Funds] and authorized participants.''
Furthermore, an ``orderly creation unit issuance and redemption
process is of central importance to the arbitrage mechanism.'' See
Proposed ETF Rule Release at 83 FR 37348.
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The proposed transfers, while occurring between two different
parties, will occur off the Exchange and will not be considered
transactions (as is the case for current off-Exchange transfers
permitted by proposed Rule 20.10(a)). While the prices of options
transactions effected on the Exchange are disseminated to OPRA, back-
office transfers of options positions in clearing accounts held at OCC
(in accordance with OCC Rules) \47\ are not disseminated to OPRA or
otherwise publicly available, as they are considered position
transfers, rather than executions.\48\ The Exchange believes that price
transparency is important in the options markets. However, the Exchange
expects any transfers pursuant to the proposed rule will constitute a
minimal percentage of the total average daily volume of options. Today,
the trading of Funds and UITs that invest in options is substantially
limited on the Exchange, primarily because the current rules do not
permit Funds or UITs to effect in-kind transfers of options off the
Exchange. The Exchange continues to expect that any impact this
proposal could have on price transparency in the options market is
minimal because
[[Page 43914]]
proposed Rule 20.12 is limited in scope and is intended to provide
market participants with an efficient and effective means to transfer
options positions under clearly delineated, specified circumstances.
Additionally, as noted above, the NAV for Fund and UIT transfers will
generally be based on the disseminated closing price for an options
series on the day of a creation or redemption, and thus the price
(although not the time or quantity of the transfer) at which these
transfers will generally be effected will be publicly available.\49\
Further, the Exchange generally expects creations or redemptions to
include corresponding transactions by the authorized participant that
will occur on an exchange and be reported to OPRA.\50\ Therefore, the
Exchange expects that any impact the proposed rule change could have on
price transparency in the options market would be de minimis.
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\47\ OCC has informed the Exchange that it has the operational
capabilities to effect the proposed position transfers. All
transfers pursuant to proposed Rule 20.12 would be required to
comply with OCC rules
\48\ For example, any transfers that would be effected pursuant
to proposed Rule 20.10(a) are not disseminated to OPRA.
\49\ If there is no disseminated closing price, the Fund or UIT
would price according to a pricing model or procedure as described
in the fund's prospectus.
\50\ The Exchange notes that for in-kind creations, an
authorized participant will acquire the necessary options positions
in an on-exchange transaction that will be reported to OPRA. For in-
kind redemptions, the Exchange generally expects that an authorized
participant will acquire both the shares necessary to effect the
redemption and an options position to offset the position that it
will receive as proceeds for the redemption. Such an options
position would likely be acquired in an on-exchange transaction that
would be reported to OPRA. Such transactions are generally identical
to the way that creations and redemptions work for equities and
fixed income transactions--while the transfer between the authorized
participant and the fund is not necessarily reported, there are
generally corresponding transactions that would be reported,
providing transparency into the transactions.
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Other than the transfers covered by the proposed rule, transactions
involving options, whether held by a Fund or an authorized participant,
or a UIT or a sponsor would be fully subject to all applicable trading
Rules.\51\ Accordingly, the Exchange does not believe that the proposed
new exception would compromise price discovery or transparency.
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\51\ As indicated above, the operation of the arbitrage
mechanism accompanying the creation and redemption process generally
contemplates ongoing interactions between authorized participants
and the market in transactions involving both Fund Shares and the
assets comprising a Fund's creation/redemption basket.
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Further, the Exchange believes that providing an additional
exception to make it possible for Funds and UITs that invest in options
to effect creations and redemptions on an in-kind basis is justified
because, while the proposed exception would be limited in scope, the
benefits that may flow to Funds that hold options and their investors
may be significant. Specifically, the Exchange expects such Funds and
UITs and their investors would benefit from increased tax efficiencies
and potential transaction cost savings. By making such Funds and UITs
more attractive to both current and prospective investors, the proposed
rule change would enable them to compete more effectively with other
Funds and UITs that, due to their particular portfolio holdings, may
effect in-kind creations and redemptions without restriction.
2. Statutory Basis
The Exchange believes the proposed rule change is consistent with
the Securities Exchange Act of 1934 (the ``Act'') and the rules and
regulations thereunder applicable to the Exchange and, in particular,
the requirements of Section 6(b) of the Act.\52\ Specifically, the
Exchange believes the proposed rule change is consistent with the
Section 6(b)(5) \53\ requirements that the rules of an exchange be
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
mechanism of a free and open market and a national market system, and,
in general, to protect investors and the public interest. Additionally,
the Exchange believes the proposed rule change is consistent with the
Section 6(b)(5) \54\ requirement that the rules of an exchange not be
designed to permit unfair discrimination between customers, issuers,
brokers, or dealers.
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\52\ 15 U.S.C. 78f(b).
\53\ 15 U.S.C. 78f(b)(5).
\54\ Id.
---------------------------------------------------------------------------
In particular, the Exchange believes proposed Rule 20.9 is
consistent with the Act, because it adopts provisions in the Rules
specifically required by Rules 19c-1 and 19c-3 under the Act. The
Exchange's rules, stated policies, and procedures currently comply with
these provisions of the Rules under the Act, and the proposed rule will
change will add transparency to the Rules, which will benefit
investors.
The Exchange believes proposed Rule 20.10 regarding off-floor
position transfers is consistent with the Section 6(b)(5) \55\
requirements that the rules of an exchange be 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 mechanism of a
free and open market and a national market system, and, in general, to
protect investors and the public interest. Additionally, the Exchange
believes the proposed rule change is consistent with the Section
6(b)(5) \56\ requirement that the rules of an exchange not be designed
to permit unfair discrimination between customers, issuers, brokers, or
dealers.
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\55\ Id.
\56\ Id.
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The Exchange believes that permitting transfers under new Rule
20.10 in very limited circumstances is reasonable to allow a Member to
accomplish certain goals efficiently. The proposed rule permits
transfers in situations involving dissolutions of entities or accounts,
for purposes of donations, mergers or by operation of law. For example,
a Member that is undergoing a structural change and a one-time movement
of positions may require a transfer of positions or a Member that is
leaving a firm that will no longer be in business may require a
transfer of positions to another firm. Also, a Member may require a
transfer of positions to make a capital contribution. The above-
referenced circumstances are non-recurring situations where the
transferor continues to maintain some ownership interest or manage the
positions transferred. By contrast, repeated or routine transfers
between entities or accounts--even if there is no change in beneficial
ownership as a result of the transfer--is inconsistent with the
purposes for which the proposed rule was adopted. Accordingly, the
Exchange believes that such activity should not be permitted under the
rules and thus, seeks to adopt language in proposed Rule 20.10(f) that
the transfer of positions procedures set forth the proposed rule are
intended to facilitate non-recurring movements of positions.
The proposed rule change will provide market participants that
experience these limited, non-recurring events with an efficient and
effective means to transfer positions in these situations. The Exchange
believes the proposed rule change regarding permissible transfer prices
provides market participants with flexibility to determine the price
appropriate for their business, which maintain cost bases in accordance
with normal accounting practices and removes impediments to a free and
open market.
The proposed rule change which requires notice and maintenance of
records will enable the Exchange to review transfers for compliance
with the
[[Page 43915]]
Rules, which prevents fraudulent and manipulative acts and practices.
The requirement to retain records is consistent with the requirements
of Rule 17a-3 and 17a-4 under the Act.
Similar to Cboe Options Rule 6.7, the Exchange would permit a
presidential exemption. The Exchange believes that this exemption is
consistent with the Act because the Exchange's Chief Executive Officer
or President (or senior-level designee) would consider an exemption in
very limited circumstances. The transfer process is intended to
facilitate non-routine, nonrecurring movements of positions and,
therefore, is not to be used repeatedly or routinely in circumvention
of the normal auction market process.
Proposed Rule 20.10(f) specifically provides within the rule text
that the Exchange's Chief Executive Officer or President (or senior-
level designee) may in his or her judgment allow a transfer if it is
necessary or appropriate for the maintenance of a fair and orderly
market and the protection of investors and is in the public interest,
including due to unusual or extraordinary circumstances such as the
market value of the person's positions will be comprised by having to
comply with the requirement to trade on the Exchange pursuant to the
normal auction process or, when in the judgment of President or his or
her designee, market conditions make trading on the Exchange
impractical. These standards within proposed Rule 20.10(f) are intended
to provide guidance concerning the use of this exemption which is
intended to provide the Exchange with the ability to utilize the
exemption for the maintenance of a fair and orderly market and the
protection of investors and is in the public interest. The Exchange
believes that the exemption is consistent with the Act because it would
allow the Exchange's Chief Executive Officer or President (or senior-
level designee) to act in certain situations which comply with the
guidance within Rule 20.10(f) which are intended to protect investors
and the general public. While Cboe Options grants an exemption to the
President (or senior-level designee),\57\ the Exchange has elected to
grant an exemption to Exchange's Chief Executive Officer or President
(or senior-level designee), who are similarly situated with the
organization as senior-level individuals.
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\57\ See Cboe Options Rule 6.7(f).
---------------------------------------------------------------------------
The Exchange believes proposed Rule 20.11 regarding RWA Transfers
will remove impediments to and perfect the mechanism of a free and open
market and a national market system by providing liquidity in the
listed options market. The Exchange believes providing market
participants with an efficient process to reduce RWA capital
requirements attributable to open positions in clearing accounts with
U.S. bank-affiliated clearing firms may contribute to additional
liquidity in the listed options market, which, in general, protects
investors and the public interest.
The proposed rule change, in particular the proposed changes to
permit RWA transfers to occur on a routine, recurring basis and result
in netting, also provides market participants with sufficient
flexibility to reduce RWA capital requirements at times necessary to
comply with requirements imposed on them by clearing firms. This will
permit market participants to respond to then-current market
conditions, including volatility and increased volume, by reducing the
RWA capital requirements associated with any new positions they may
open while those conditions exist. Given the additional capital that
may become available to market participants as a result of the RWA
Transfers, market participants will be able to continue to provide
liquidity to the market, even during periods of increased volume and
volatility, which liquidity ultimately benefits investors. It is not
possible for market participants to predict what market conditions will
exist at a specific time, and when volatility will occur. The proposed
rule change to permit routine, recurring RWA Transfers (and to not
provide prior written notice) will provide market participants with the
ability to respond to these conditions whenever they occur. Permitting
transfers on a routine, recurring basis will provide market
participants with the flexibility to comply with these restrictions
when necessary to avoid position limits on future options activity. In
addition, with respect to netting, as discussed above, firms may
maintain different clearing accounts for a variety of reasons, such as
the structure of their businesses, the manner in which they trade,
their risk management procedures, and for capital purposes. Netting may
otherwise occur with respect to a firm's positions if it structured its
clearing accounts differently, such as by using a universal account.
Therefore, the proposed rule change will permit netting while allowing
firms to continue to maintain different clearing accounts in a manner
consistent with their businesses.
The Exchange recognizes the numerous benefits of executing options
transactions occur on an exchange, including price transparency,
potential price improvement, and a clearing guarantee. However, the
Exchange believes it is appropriate to permit RWA Transfers to occur
off the exchange, as these benefits are inapplicable to RWA Transfers.
RWA Transfers have a narrow scope and are intended to achieve a
limited, benefit purpose. RWA Transfers are not intended to be a
competitive trading tool. There is no need for price discovery or
improvement, as the purpose of the transfer is to reduce RWA asset
capital requirements attributable to a market participants' positions.
Unlike trades on an exchange, the price at which an RWA Transfers
occurs is immaterial--the resulting reduction in RWA is the critical
part of the transfer. RWA Transfers will result in no change in
ownership, and thus they do not constitute trades with a counterparty
(and thus eliminating the need for a counterparty guarantee). The
transactions that resulted in the open positions to be transferred as
an RWA Transfer were already guaranteed by an OCC clearing member, and
the positions will continue to be subject to OCC rules, as they will
continue to be held in an account with an OCC clearing member. The
narrow scope of the proposed rule change and the limited, beneficial
purpose of RWA Transfers make allowing RWA Transfers to occur off the
floor appropriate and important to support the provision of liquidity
in the listed options market.
Proposed Rule 20.11 does not unfairly discriminate against market
participants, as all Members and non-Members with open positions in
options listed on the Exchange may use the proposed off-exchange
transfer process to reduce the RWA capital requirements of Clearing
Members.
The Exchange believes proposed Rule 20.12 to permit off-Exchange
transfers in connection with the in-kind Fund and UIT creation and
redemption process will promote just and equitable principles of trade
and help remove impediments to and perfect the mechanism of a free and
open market and a national market system, as it would permit Funds and
UITs that invest in options traded on the Exchange to utilize the in-
kind creation and redemption process that is available for Funds and
UITs that invest in equities and fixed-income securities. This process
represents a significant feature of the Fund and UIT structure
generally, with advantages that distinguish Funds and UITs from other
types of pooled investment vehicles. In light of the associated tax
efficiencies and potential transaction cost savings, the Exchange
believes the ability to
[[Page 43916]]
utilize an in-kind process would make such Funds and UITs more
attractive to both current and prospective investors and enable them to
compete more effectively with other Funds and UITs that, based on their
portfolio holdings, may effect in-kind creations and redemptions
without restriction. In addition, the Exchange believes that because it
would permit Funds and UITs that invest in options traded on the
Exchange to benefit from tax efficiencies and potential transaction
cost savings afforded by the in-kind creation and redemption process,
which benefits the Exchange expects would generally be passed along to
investors that hold Fund Shares and UIT units, the proposed rule change
would protect investors and the public interest.
Moreover, the Exchange submits that the proposed exception is
clearly delineated and limited in scope and not intended to facilitate
``trading'' options off the Exchange. Other than the transfers covered
by the proposed exception, transactions involving options, whether held
by a Fund or an authorized participant, or a UIT or a sponsor, would be
fully subject to the applicable trading Rules. Additionally, the
transfers covered by the proposed exception would occur at a price(s)
used to calculate the NAV of the applicable Fund Shares or UIT units,
which removes the need for price discovery on the Exchange.
Accordingly, the Exchange does not believe that the proposed rule
change would compromise price discovery or transparency.
When Congress charged the Commission with supervising the
development of a ``national market system'' for securities, Congress
stated its intent that the ``national market system evolve through the
interplay of competitive forces as unnecessary regulatory restrictions
are removed.'' \58\ Consistent with this purpose, Congress and the
Commission have repeatedly stated their preference for competition,
rather than regulatory intervention to determine products and services
in the securities markets.\59\ This consistent and considered judgment
of Congress and the Commission is correct, particularly in light of
evidence of robust competition among exchanges. The fact that an
exchange proposed something new is a reason to be receptive, not
skeptical--innovation is the lifeblood of a vibrant competitive
market--and that is particularly so given the continued internalization
of the securities markets, as exchanges continue to implement new
products and services to compete not only in the United States but
throughout the world. Exchanges continuously adopt new and different
products and trading services in response to industry demands in order
to attract order flow and liquidity to increase their trading volume.
This competition has led to a growth in investment choices, which
ultimately benefits the marketplace and the public.
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\58\ See H.R. Rep. 94-229, at 92 (1975) (Conf. Rep.).
\59\ See S. Rep. No. 94-75, 94th Cong., 1st Sess. 8 (1975)
(``The objective [in enacting the 1975 amendments to the Exchange
Act] would be to enhance competition and to allow economic forces,
interacting within a fair regulatory field, to arrive at appropriate
variations in practices and services.''); Order Approving Proposed
Rule Change Relating to NYSE Arca Data, Securities Exchange Act
Release No. 59039 (December 2, 2008), 73 FR 74770 (December 9, 2008)
(``The Exchange Act and its legislative history strongly support the
Commission's reliance on competition, whenever possible, in meeting
its regulatory responsibilities for overseeing the [self-regulatory
organizations] and the national market system. Indeed, competition
among multiple markets and market participants trading the same
products is the hallmark of the national market system.''); and
Regulation NMS, 70 FR at 37499 (observing that NMS regulation ``has
been remarkably successful in promoting market competition in [the]
forms that are most important to investors and listed companies'').
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Currently, the Exchange Rules do not allow Funds or UITs to effect
in-kind transfers of options off of the Exchange, resulting in tax
inefficiencies for Funds and UITs that hold them. As a result, the use
of options by Funds and UITs is substantially limited. While the
proposed exception would be limited in scope, the Exchange believes the
benefits that may flow to Funds and UITs that hold options and their
investors may be significant. Specifically, the Exchange expects that
such Funds and UITs and their investors could benefit from increased
tax efficiencies and potential transaction cost savings. By making such
Funds and UITs more attractive to both current and prospective
investors, the proposed rule change would enable them to compete more
effectively with other Funds and UITs, and other investment vehicles,
that, due to their particular portfolio holdings, may effect in-kind
creations and redemptions without restriction. This may lead to further
development of Funds and UITs that invest in options, thereby fostering
competition and resulting in additional choices for investors, which
ultimately benefits the marketplace and the public.
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 proposed rule change is
not intended to be a competitive trading tool.
The Exchange does not believe the proposed rule change regarding
off-floor position transfers will impose an undue burden on intramarket
competition that is not necessary or appropriate in furtherance of the
purposes of the Act as the transfer procedure may be utilized by any
Member and the rule will apply uniformly to all Members. Use of the
transfer procedure is voluntary, and all Members may use the procedure
to transfer positions as long as the criteria in the proposed rule are
satisfied. With this change, a Member that experiences limited
permissible, non-recurring events would have an efficient and effective
means to transfer positions in these situations. The Exchange believes
the proposed rule change regarding permissible transfer prices provides
market participants with flexibility to determine the price appropriate
for their business, which determine prices in accordance with normal
accounting practices and removes impediments to a free and open market.
The Exchange does not believe the proposed notice and record
requirements are unduly burdensome to market participants. The Exchange
believes the proposed requirements are reasonable and will enable the
Exchange to be aware of transfers and monitor and review the transfers
for compliance with the proposed rule.
Adopting an exemption, similar to Cboe Options Rule 6.7, to permit
the Exchange's Chief Executive Officer or President (or senior-level
designee) to grant an exemption to proposed Rule 20.9 prohibition if,
in his or her judgment, does not impose an undue burden on competition.
Circumstances where, due to unusual or extraordinary circumstances such
as the market value of the person's positions would be comprised by
having to comply with the requirement to trade on the Exchange pursuant
to the normal auction process or, would be taken into consideration in
each case where, in the judgment of the Exchange's Chief Executive
Officer or President (or senior-level designee), market conditions make
trading on the Exchange impractical.
The Exchange does not believe the proposed rule change regarding
off-floor position transfers will impose an undue burden on inter-
market competition that is not necessary or appropriate in furtherance
of the purposes of the Act. The proposed position transfer procedure is
not intended to be a competitive trading tool. The proposed rule change
permits, in limited circumstances, a transfer to facilitate
[[Page 43917]]
non-routine, nonrecurring movements of positions. As provided for in
proposed Rule 20.10(g), it would not be used repeatedly or routinely in
circumvention of the normal auction market process. Proposed Rule
20.10(g) specifically provides within the rule text that the Exchange's
Chief Executive Officer or President (or senior-level designee) may in
his or her judgment allow a transfer for the maintenance of a fair and
orderly market and the protection of investors and is in the public
interest. The Exchange believes that the exemption does not impose an
undue burden on competition as the Exchange's Chief Executive Officer
or President (or senior-level designee) would apply the exemption
consistent with the guidance within Options 6, Section 5(f).
Additionally, as discussed above, the proposed rule change is similar
to Cboe Options Rule 6.7. The Exchange believes having similar rules
related to transfer positions to those of other options exchanges will
reduce the administrative burden on market participants of determining
whether their transfers comply with multiple sets of rules.
The Exchange does not believe the proposed rule change regarding
off-floor RWA Transfers will impose an undue burden on intramarket
competition that is not necessary or appropriate in furtherance of the
Act, as use of the proposed process is voluntary. All Members and non-
Members with open positions in options listed on the Exchange may use
the proposed off-exchange transfer process to reduce the RWA capital
requirements attributable to those positions. The Exchange does not
believe that the proposed rule change will impose any burden on
intermarket competition that is not necessary or appropriate in
furtherance of the purposes of the Act. RWA Transfers have a limited
purpose, which is to reduce RWA attributable to open positions in
listed options in order to free up capital. The Exchange believes the
proposed rule change may relieve the burden on liquidity providers in
the options market by reducing the RWA attributable to their open
positions. As a result, market participants may be able to increase
liquidity they provide to the market, which liquidity benefits all
market participants.
The Exchange does not believe the proposed rule change regarding
off-floor in-kind transfers will impose any burden on intramarket
competition that is not necessary or appropriate in furtherance of the
purposes of the Act. Utilizing the proposed exception would be
voluntary. As an alternative to the normal auction process, proposed
Rule 20.12 would provide market participants with an efficient and
effective means to transfer positions as part of the creation and
redemption process for Funds and UITs under specified circumstances.
The proposed exception would enable all Funds and UITs that hold
options to enjoy the benefits of in-kind creations and redemptions
already available to other Funds and UITs (and to pass these benefits
along to investors). The proposed rule change would apply in the same
manner to all authorized participants and sponsor broker-dealers that
choose to use the proposed process.
The Exchange does not believe the proposed rule change will impose
any burden on intermarket competition that is not necessary or
appropriate in furtherance of the purposes of the Act. As indicated
above, it is intended to provide an additional clearly delineated and
limited circumstance in which options positions can be transferred off
an exchange. Further, the Exchange believes the proposed rule change
will eliminate a significant competitive disadvantage for Funds and
UITs that invest in options. Furthermore, as indicated above, in light
of the significant benefits provided (e.g., tax efficiencies and
potential transaction cost savings), the proposed exception may lead to
further development of Funds and UITs that invest in options, thereby
fostering competition and resulting in additional choices for
investors, which ultimately benefits the marketplace and the public.
Lastly, the Exchange notes that the proposed rule change is based on
Cboe Rule 6.9. As such, the Exchange believes that its proposal
enhances fair competition between markets by providing for additional
listing venues for Funds that hold options to utilize the in-kind
transfers proposed herein.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
The Exchange neither solicited nor received comments on the
proposed rule change.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Because the foregoing proposed rule change does not: (i)
Significantly affect the protection of investors or the public
interest; (ii) impose any significant burden on competition; and (iii)
become operative for 30 days from the date on which it was filed, or
such shorter time as the Commission may designate, it has become
effective pursuant to Section 19(b)(3)(A) of the Act \60\ and Rule 19b-
4(f)(6) thereunder.\61\
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\60\ 15 U.S.C. 78s(b)(3)(A).
\61\ 17 CFR 240.19b-4(f)(6). In addition, Rule 19b-4(f)(6)(iii)
requires a self-regulatory organization to give the Commission
written notice of its intent to file the proposed rule change, along
with a brief description and text of the proposed rule change, at
least five business days prior to the date of filing of the proposed
rule change, or such shorter time as designated by the Commission.
The Exchange has satisfied this requirement.
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A proposed rule change filed under Rule 19b-4(f)(6) \62\ normally
does not become operative for 30 days after the date of the filing.
However, pursuant to Rule 19b-4(f)(6)(iii),\63\ the Commission may
designate a shorter time if such action is consistent with the
protection of investors and the public interest. The Exchange has asked
the Commission to waive the 30-day operative delay to so that it may
adopt the proposed position transfer rules as soon as possible which,
according to the Exchange, would provide for fair competition among
options exchanges. The proposed rule change does not present any unique
or novel regulatory issues and is substantively similar to the rules of
Cboe Options. Accordingly, the Commission hereby waives the operative
delay and designates the proposal operative upon filing.\64\
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\62\ 17 CFR 240.19b-4(f)(6).
\63\ 17 CFR 240.19b-4(f)(6)(iii).
\64\ For purposes only of waiving the 30-day operative delay,
the Commission has also considered the proposed rule's impact on
efficiency, competition, and capital formation. See 15 U.S.C.
78c(f).
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At any time within 60 days of the filing of the proposed rule
change, the Commission summarily may temporarily suspend such rule
change if it appears to the Commission that such action is necessary or
appropriate in the public interest, for the protection of investors, or
otherwise in furtherance of the purposes of the Act. If the Commission
takes such action, the Commission will institute proceedings to
determine whether the proposed rule change should be approved or
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
[[Page 43918]]
Send an email to [email protected]. Please include
File Number SR-CboeBZX-2020-054 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-CboeBZX-2020-054. 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-CboeBZX-2020-054 and should be submitted
on or before August 10, 2020.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\65\
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\65\ 17 CFR 200.30-3(a)(12).
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J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-15555 Filed 7-17-20; 8:45 am]
BILLING CODE 8011-01-P