[Federal Register Volume 67, Number 197 (Thursday, October 10, 2002)]
[Notices]
[Pages 63183-63184]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-25747]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-46595; File No. SR-OCC-2002-06]
Self-Regulatory Organizations; The Options Clearing Corporation;
Order Granting Approval of a Proposed Rule Change Relating to
Adjustment Procedures for Stock Futures
October 3, 2002.
I. Introduction
On April 12, 2002, The Options Clearing Corporation (``OCC'') filed
with the Securities and Exchange
[[Page 63184]]
Commission (``Commission'') proposed rule change File No. SR-OCC-2002-
06 pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'').\1\ Notice of the proposal was published in the Federal
Register on August 9, 2002.\2\ No comment letters were received. For
the reasons discussed below, the Commission is approving the proposed
rule change.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ Securities Exchange Act Release No. 46312 (August 5, 2002),
67 FR 51919.
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II. Description
The proposed rule change amends OCC's adjustment procedures for
stock futures to provide for adjusting stock futures contracts to
compensate for special cash dividends and for rights distributions that
expire in the money during the life of the futures contract. Security
futures markets and certain firms interested in trading stock futures
have expressed to OCC their belief that in order for stock futures to
be successful they must replicate a position in the underlying stock as
closely as possible. This means that, among other things, if an
unanticipated corporate event (i.e., an event that cannot be discounted
in futures prices) materially affects the value of an underlying stock,
the terms of futures contracts on that stock should be adjusted to
compensate for the event. There are two types of corporate events that
cause particular concern from this perspective: (1) Special (i.e., non-
recurrent) cash dividends and (2) rights distributions.
OCC does not, as a general rule, adjust options for cash dividends
unless the amount of the dividend exceeds 10 per cent of the value of
the underlying stock. If the holder of a call option wants to capture a
dividend below that threshold, he can do so by exercising his option.
Because stock futures, like other futures products, are not
exercisable, the holder of a long stock future would not have that
ability. Recurrent cash dividends are not regarded as a problem because
they can be anticipated and discounted in futures settlement prices.
But there is no economical way for holders of long stock futures
positions to ensure themselves the benefit of unscheduled dividends.
Similarly, if the issuer of an underlying stock declares a rights
distribution and the rights will expire before the options do, the
holder of a call option can capture the value of the rights by
exercising the option before the rights expire. In contrast, the holder
of a long stock future would have no way of obtaining the benefit of a
rights distribution if the rights expire before the future does.
OCC's by-laws currently specify adjustment procedures for stock
futures that generally parallel the adjustment rules for options. These
procedures do not take into account the economic differences between
options and futures discussed above. The security futures markets and
firms interested in trading stock futures strongly believe that OCC's
adjustment provisions should accommodate these differences.\3\
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\3\ Although this would cause the adjustment procedures for
stock futures to diverge from those applicable to equity options,
the consensus among prospective markets and market participants
appears to be that it is more important to avoid discontinuity
between stock futures and the underlying stocks than between futures
and options.
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This rule change addresses that concern. OCC's by-laws presently
provide that, as a general rule, outstanding stock futures contracts
will not be adjusted to compensate for ``ordinary'' cash dividends. A
cash dividend is deemed ``ordinary'' if the amount does not exceed 10
per cent of the value of the underlying stock on the declaration date.
This rule change amends Article XII, Section 3, of the by-laws to
provide that in the case of stock futures, a cash dividend would be
deemed ``ordinary'' if OCC determined that it was declared pursuant to
a policy or practice of paying such dividends on a quarterly or other
regular basis regardless of the size of the cash dividend.\4\ This
change recognizes that market pricing mechanisms can compensate for
anticipated cash dividends, but because the market cannot anticipate
and cannot price for special dividends, the rule change provides for
adjustments to outstanding stock futures when a company pays a special
(i.e., non-recurring) cash dividend without regard to size. This will
be done through a one-time adjustment in the futures settlement price
that has the effect of causing the short holder to pass the value of
the dividend to the long holder.
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\4\ Quarterly stock dividends will be deemed ``ordinary''
regardless of size. Stock futures contracts will ordinarily be
adjusted for other stock distributions, even if recurrent (e.g.,
annual), to avoid creating an unnecessary discontinuity with equity
options.
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Article XII, Section 3, of OCC's By-Laws currently provides that
outstanding stock futures will not be adjusted to compensate for rights
distributions where the rights expire before the maturity date of the
future. Under the rule change, if rights will expire before they are to
be delivered under a stock futures contract, the futures contract will
be adjusted through a one-time adjustment in the futures settlement
price in an amount equal to the value of the rights as determined by
OCC. OCC's good-faith determination of value will be conclusive and
binding on investors.
Because Interpretation and Policy .11 to Article XIII applies only
to certain types of adjustments, it is being deleted because OCC has
concluded that it is likely to be more confusing than useful.
III. Discussion
Section 17A(b)(3)(F) of the Act requires that the rules of a
clearing agency be designed to promote the protect investors and the
public interest.\5\ Because OCC's current procedures do not allow for
price adjustments to stock futures, which include securities futures,
in the event of special cash dividends and rights distributions, there
can be a disconnect between the value of stock futures and the value of
the underlying stock. This proposed rule change, which allows OCC to
make adjustments to stock futures contracts in these circumstances,
will address this possible disconnect and will allow the price of stock
futures to more accurately reflect the price of the underlying stock.
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\5\ 15 U.S.C. 78q-1(b)(3)(F).
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IV. Conclusion
On the basis of the foregoing, the Commission finds that the
proposed rule change is consistent with the requirements of the Act and
in particular with the requirements of Section 17A(b)(3)(F) of the Act
and the rules and regulations thereunder applicable.
It is therefore ordered, pursuant to Section 19(b)(2) of the Act,
that the proposed rule change (File No. SR-OCC-2002-06) be, and hereby
is, approved.
For the Commission by the Division of Market Regulation,
pursuant to delegated authority.\6\
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\6\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 02-25747 Filed 10-9-02; 8:45 am]
BILLING CODE 8010-01-P