Daily Rules, Proposed Rules, and Notices of the Federal Government
The Exchange proposes to amend Phlx Rules 1024 (Conduct of Accounts for Options Trading), 1025 (Supervision of Accounts), 1027 (Discretionary Accounts), and 1049 (Communications to Customers) that govern an Exchange member's conduct of doing business with the public. Specifically, the proposed rule change would require that member organizations integrate the responsibility for supervision of a member organizations' public customer options business into their overall supervisory and compliance programs. In addition, the proposed rule change would strengthen member organizations' supervisory procedures and internal controls as they relate to a members' public customer options business.
The text of the proposed rule change is available at the Phlx, the Commission's Public Reference Room and
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. Integration of Options Supervision
The purpose of the proposed rule change is to create a supervisory structure for options that is similar to that required by New York Stock Exchange ("NYSE") Rule 342 and National Association of Securities Dealers ("NASD") Rule 3010.
The SROP concept was first introduced by Phlx and other options exchanges during the early years of the development of the listed options market. Initially, member organizations were required to designate one or more persons qualified as Registered Options Principals ("ROPs") having supervisory responsibilities in respect of the member organization's options business. As the number of ROPs at larger member organizations began to increase, Phlx imposed an additional requirement that member organizations designate one of their ROPs as the SROP. This was intended to eliminate confusion as to where the compliance and supervisory responsibilities lay by centralizing in a single supervisory officer overall responsibility for the supervision of a member organization's options activities.
Since the SROP and CROP requirements were first imposed, the supervisory function in respect of the options activities of most securities firms has been integrated into the matrix of supervisory and compliance functions in respect of the firms' other securities activities. This not only reflects the maturity of the options market, but also recognizes the ways in which the uses of options themselves have become more integrated with other securities in the implementation of particular strategies. Thus, the current requirement for a separately designated senior supervisor in respect of all aspects of a member organization's options activities, rather than clarifying the allocation of supervisory
For example, member organizations generally designate one person to have supervisory responsibility over the application of margin requirements and other matters pertaining to the extension of credit. The proposed rule change would enable a member organization to include within the scope of such a person's duties the supervision over the proper margining of options accounts, thereby assuring that the most qualified person is charged with this responsibility and at the same time eliminating any uncertainty that might now exist as to whether this responsibility lies with the senior credit supervisor or with the SROP.
Similarly, the proposed rule change would allow a member organization to specifically designate one or more individuals as being responsible for approving a ROP's acceptance of discretionary accounts
The proposed rule change would call for options discretionary accounts, the acceptance of which must be approved by a ROP qualified individual (other than the ROP who accepted the account), to be supervised in the same manner as the supervision of other securities accounts that are handled on a discretionary basis.
Phlx Rule 1027 would be revised by adding, as Commentary .01, a requirement that any member organization that does not utilize computerized surveillance tools for the frequent and appropriate review of discretionary account activity must establish and implement procedures to require ROP qualified individuals who have been designated to review discretionary accounts to approve and initial each discretionary order on the day entered. The Exchange believes that any member organization that does not utilize computerized surveillance tools to monitor discretionary account activity should continue to be required to perform the daily manual review of discretionary orders.
Under the proposed rule change, options discretionary accounts will continue to receive frequent appropriate supervisory review by designated ROP qualified individuals. Additionally, member organizations will continue to be required to designate ROP qualified individuals to review and approve the acceptance of options discretionary accounts in order to determine whether the ROP accepting the account had a reasonable basis for believing that the customer was able to understand and bear the risks of the proposed strategies or transactions.
In addition, the proposed rule change would require that each member organization submit to the Exchange a written report by April 1 of each year, that details the member organization's supervision and compliance effort, including its options compliance program, during the preceding year and reports on the adequacy of the member organization's ongoing compliance processes and procedures.
Proposed Phlx Rule 1025(h) would require that each member organization submit, by April 1st of each year, a copy of the Phlx Rule 1025(g) annual report to one or more of its control persons or, if the member organization has no control person, to the audit committee of its board of directors or its equivalent committee or group.
Proposed Phlx Rule 1025(g) would provide that a member organization that specifically includes its options compliance program in a report that complies with substantially similar NYSE and NASD rule requirements will be deemed to have satisfied the requirements of Phlx Rules 1025(g) and 1025(h).
Although the proposed rule change would eliminate entirely the positions and titles of the SROP and CROP, member organizations would still be required to designate a single general partner or executive officer to assume overall authority and responsibility for internal supervision, control of the member organization and compliance with securities laws and regulations.
The Exchange believes that the proposed rule changes recognize that options are no longer in their infancy, have become more integrated with other securities in the implementation of particular strategies, and thus should not continue to be regulated as though they are new and experimental products. The Exchange believes that the proposed rule change is appropriate and would not materially alter the supervisory operations of member organizations. The Exchange believes the supervisory and compliance structure in place for non-options products at most member organizations is not materially different from the structure in place for options.
The Exchange also proposes to amend certain rules to strengthen member and member organizations' supervisory procedures and internal controls as they relate to the members' public customer options business. The proposed rule changes described below are modeled after NYSE and NASD rules approved by the Commission in 2004.
Phlx Rule 1025(a)(iii) would be revised to require the development and implementation of written policies and procedures reasonably designed to supervise sales managers and other supervisory personnel who service customer options accounts (i.e., who act in the capacity of a registered representative).
Proposed Phlx Rule 1025(a)(iii)(B) would provide a limited exception for members so limited in size and resources that there is no qualified person senior to, or otherwise independent of, the producing manager to conduct the review. In this case, the reviews may be conducted by a qualified ROP to the extent practicable. Under proposed Phlx Rule 1025(a)(iii)(C), a member relying on the limited size and resources exception must document the factors used to determine that compliance with each of the "senior" or "otherwise independent" standards of Phlx Rule 1025(a)(iii)(A) is not possible, and that the required supervisory systems and procedures in place with respect to any producing manager comply with the provisions of Phlx Rule 1025(a)(iii)(A) to the extent practicable.
Proposed Phlx Rule 1025(c)(i) would require member organizations to develop and maintain adequate controls over each of their business activities.
Proposed Phlx Rule 1025(d) would establish requirements for branch office inspections similar to the requirements of NYSE Rule 342.24. Specifically, Phlx Rule 1025(d) would require a member organization to inspect, at least annually, each supervisory branch office and inspect each non-supervisory branch office at least once every three years.
Under proposed Phlx Rule 1025(e), any member organization seeking an exemption, pursuant to Phlx Rule 1025(d)(ii), from the annual branch office inspection requirement would be required to submit to the Exchange written policies and procedures for systematic risk-based surveillance of its branch offices, as defined in Phlx Rule 1025(e). Proposed Phlx Rule 1025(f) would require that annual branch office inspection programs include, at a minimum, testing and verification of specified internal controls.
In conjunction with the proposed changes to Phlx Rules 1025(d), (e) and
Proposed Phlx Rule 1024(g)(iv) would require a member organization to designate a Chief Compliance Officer (CCO). Proposed Phlx Rule 1025(g)(v) would require each member organization's Chief Executive Officer (CEO), or equivalent, to certify annually per subsection (A) that the member organization has in place processes to: (1) Establish and maintain policies and procedures reasonably designed to achieve compliance with applicable Exchange rules and federal securities laws and regulations; (2) modify such policies and procedures as business, regulatory, and legislative changes and events dictate; and (3) test the effectiveness of such policies and procedures on a periodic basis, the timing of which is reasonably designed to ensure continuing compliance with Exchange rules and federal securities laws and regulations.
Proposed Phlx Rule 1025(g)(v) would further require that the CEO attest the CEO has conducted one or more meetings with the CCO in the preceding 12 months to discuss the compliance processes in proposed Phlx Rule 1025(g)(v), that the CEO has consulted with the CCO and other officers to the extent necessary to attest to the statements in the certification, and the compliance processes are evidenced in a report, reviewed by the CEO, CCO, and such other officers as the member organization deems necessary to make the certification, that is provided to the member organization's board of directors and audit committee (if such committee exists).
Under proposed Phlx Rule 1025(b)(ii), a member, upon a customer's written instructions, may hold mail for a customer who will not be at his or her usual address for no longer than two months if the customer is on vacation or traveling, or three months if the customer is going abroad. This provision would help ensure that members that hold mail for customers who are away from their usual addresses, do so only pursuant to the customer's written instructions and for a specified, relatively short period of time.
Proposed Phlx Rule 1025(b)(iii) would require that, before a customers options order is executed, the account name or designation must be placed upon the memorandum for each transaction. In addition, only a qualified ROP may approve any changes in account names or designations. The ROP also must document the essential facts relied upon in approving the changes and maintain the record in a central location. A member would be required to preserve any account designation change documentation for a period of not less than three years, with the documentation preserved for the first two years in an easily accessible place, as the term "easily accessible place" is used in Exchange Act Rule 17a-4.
Phlx Rule 1027(e) allows member organizations to exercise time and price discretion on orders for the purchase or sale of a definite number of options contracts in a specified security. The Exchange proposes to amend its Rule 1027(e) to limit the duration of this discretionary authority to the day it is granted, absent written authorization to the contrary. In addition, the proposed rule would require any exercise of time and price discretion to be reflected on the customer order ticket. The proposed one-day limitation would not apply to time and price discretion exercised for orders effected with or for an institutional account (as defined in the rule) pursuant to valid Good-Till-Cancelled instructions issued on a "not held" basis. The Exchange believes that investors will receive greater protection by clarifying the time such discretionary orders remain pending.
The Exchange believes that its proposal is consistent with Section 6(b) of the Act,
The Exchange does not believe that the proposed rule change will impose any burden on competition not necessary or appropriate in furtherance of the purposes of the Act.
The Exchange did not solicit comments or receive any written comments on the proposed rule change.
Within 35 days of the date of publication on this notice in the
(A) By order approve such proposed rule change, or
(B) Institute proceedings to determine whether the proposed rule change should be disapproved.
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:
* Use the Commission's Internet comment form (
* Send an e-mail to
* 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