[Federal Register Volume 78, Number 15 (Wednesday, January 23, 2013)]
[Notices]
[Pages 4919-4926]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2013-01224]
[[Page 4919]]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-68671; File No. SR-NYSEArca-2012-108]
Self-Regulatory Organizations; NYSE Arca, Inc.; Order Instituting
Proceedings To Determine Whether To Approve or Disapprove Proposed Rule
Change, as Modified by Amendment No. 1 Thereto, Relating to the Listing
and Trading of Shares of the NYSE Arca U.S. Equity Synthetic Reverse
Convertible Index Fund Under NYSE Arca Equities Rule 5.2(j)(3)
January 16, 2013.
I. Introduction
On September 27, 2012, NYSE Arca, Inc. (``Exchange'' or ``NYSE
Arca'') filed with the Securities and Exchange Commission
(``Commission''), pursuant to Section 19(b)(1) of the Securities
Exchange Act of 1934 (``Act'' or ``Exchange Act'') \1\ and Rule 19b-4
thereunder,\2\ a proposed rule change to list and trade shares
(``Shares'') of the NYSE Arca U.S. Equity Synthetic Reverse Convertible
Index Fund (``Fund'') under NYSE Arca Equities Rule 5.2(j)(3). On
October 2, 2012, the Exchange submitted Amendment No. 1 to the proposed
rule change.\3\ The proposed rule change, as modified by Amendment No.
1 thereto, was published in the Federal Register on October 18,
2012.\4\ The Commission received no comments on the proposal. On
November 29, 2012, pursuant to Section 19(b)(2) of the Act,\5\ the
Commission designated a longer period within which to either approve
the proposed rule change, disapprove the proposed rule change, or
institute proceedings to determine whether to disapprove the proposed
rule change.\6\ This order institutes proceedings under Section
19(b)(2)(B) of the Act \7\ to determine whether to approve or
disapprove the proposed rule change, as modified by Amendment No. 1
thereto.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ In Amendment No. 1, the Exchange amended the filing to
specify that a list of components of the Index (as defined below),
with percentage weightings, would be available on the Exchange's Web
site, and that the Exchange may halt trading in the Shares (as
defined below) if the Index value, or the value of the components of
the Index, is not available or not disseminated as required.
\4\ See Securities Exchange Act Release No. 68043 (October 12,
2012), 77 FR 64153 (``Notice'').
\5\ 15 U.S.C. 78s(b)(2).
\6\ Securities Exchange Act Release No. 68320 (November 29,
2012), 77 FR 72429 (December 5, 2012). The Commission determined
that it was appropriate to designate a longer period within which to
take action on the proposed rule change so that it has sufficient
time to consider the proposed rule change. Accordingly, the
Commission designated January 16, 2013 as the date by which it
should approve, disapprove, or institute proceedings to determine
whether to disapprove the proposed rule change.
\7\ 15 U.S.C. 78s(b)(2)(B).
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II. Description of the Proposal
The Exchange proposes to list and trade the Shares of the Fund
under Commentary .01 to NYSE Arca Equities Rule 5.2(j)(3), which
governs the listing and trading of Investment Company Units. The Shares
would be issued by the ALPS ETF Trust (``Trust'').\8\ ALPS Advisors,
Inc. would be the Fund's investment adviser (``Adviser''), and Rich
Investment Solutions, LLC would be the Fund's investment sub-adviser
(``Sub-Adviser'').\9\ The Bank of New York Mellon (``BNY'') would serve
as custodian, fund accounting agent, and transfer agent for the Fund.
ALPS Distributors, Inc. would be the Fund's distributor
(``Distributor''). NYSE Arca would be the ``Index Provider'' for the
Fund.\10\
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\8\ The Trust is registered under the Investment Company Act of
1940 (``1940 Act''). On June 22, 2012, the Trust filed with the
Commission an amendment to its registration statement on Form N-1A
(``Registration Statement'') under the Securities Act of 1933 and
under the 1940 Act relating to the Fund (File Nos. 333-148826 and
811-22175). In addition, the Commission has issued an order granting
certain exemptive relief to the Trust under the 1940 Act. See
Investment Company Act Release No. 28262 (May 1, 2008) (File No.
812-13430).
\9\ The Adviser is affiliated with a broker-dealer and would
implement and maintain procedures designed to prevent the use and
dissemination of material, non-public information regarding the
Fund's portfolio. The Sub-Adviser is not affiliated with a broker-
dealer. In the event (a) the Sub-Adviser becomes newly affiliated
with a broker-dealer, or (b) any new adviser or sub-adviser becomes
affiliated with a broker-dealer, it would implement and maintain
procedures designed to prevent the use and dissemination of
material, non-public information regarding the Fund's portfolio.
\10\ NYSE Arca is not affiliated with the Trust, the Adviser,
the Sub-Adviser, or the Distributor. NYSE Arca is affiliated with a
broker-dealer and would implement a fire wall and maintain
procedures designed to prevent the use and dissemination of
material, non-public information regarding the Index.
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Description of the Fund
The Fund would seek investment results that correspond generally to
the performance, before the Fund's fees and expenses, of the NYSE Arca
U.S. Equity Synthetic Reverse Convertible Index (``Index''). The Index
reflects the performance of a portfolio consisting of over-the-counter
(``OTC'') ``down-and-in put'' options that have been written on 20 of
the most volatile U.S. stocks that also have market capitalization of
at least $5 billion.
In seeking to replicate, before expenses, the performance of the
Index, the Fund would generally sell (i.e., write) 90-day OTC down-and-
in put options, as described below, in proportion to their weightings
in the Index on economic terms which mirror those of the Index. Each
option written by the Fund would be covered through investments in
three-month Treasury bills (``T-bills'') at least equal to the Fund's
maximum liability under the option (i.e., the strike price). The Sub-
Adviser would seek a correlation over time of 0.95 or better between
the Fund's performance and the performance of the Index. A figure of
1.00 would represent perfect correlation.\11\
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\11\ While the Fund would not invest in traditional reverse
convertible securities (i.e., those which convert into the
underlying stock), the down-and-in put options written by the Fund
would have the effect of exposing the Fund to the return of reverse
convertible securities (based on equity securities) as if the Fund
owned such reverse convertible securities directly.
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The Exchange submitted this proposed rule change because the Index
for the Fund does not meet all of the ``generic'' listing requirements
of Commentary .01(a)(A) to NYSE Arca Equities Rule 5.2(j)(3) applicable
to the listing of Investment Company Units based upon an index of ``US
Component Stocks.'' \12\ Specifically, Commentary .01(a)(A) to NYSE
Arca Equities Rule 5.2(j)(3) sets forth the requirements to be met by
components of an index or portfolio of US Component Stocks. Commentary
.01(a)(A) to NYSE Arca Equities Rule 5.2(j)(3) states, in relevant
part, that the components of an index of US Component Stocks, upon the
initial listing of a series of Investment Company Units pursuant to
Rule 19b-4(e) under the Exchange Act, shall be NMS Stocks as defined in
Rule 600 of Regulation NMS under the Exchange Act.\13\ As described
further below, the Index consists of OTC down-and-in put options. The
Exchange has represented that the Shares would conform to the initial
and continued listing criteria under NYSE Arca Equities Rules 5.2(j)(3)
and 5.5(g)(2), except that the Index includes OTC down-and-in put
options, which are not NMS Stocks as defined in Rule 600 of Regulation
NMS.
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\12\ NYSE Arca Equities Rule 5.2(j)(3) provides that the term
``US Component Stock'' shall mean an equity security that is
registered under Sections 12(b) or 12(g) of the Exchange Act or an
American Depositary Receipt, the underlying equity security of which
is registered under Sections 12(b) or 12(g) of the Exchange Act.
\13\ See 17 CFR 242.600(b)(47) (defining ``NMS Stock'' as any
NMS Security other than an option).
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Index Methodology and Construction
The Index measures the return of a hypothetical portfolio
consisting of OTC down-and-in put options which have been written on
each of 20 stocks and
[[Page 4920]]
a cash position calculated as described below. The 20 stocks that would
underlie the options in the Index are those 20 stocks from a selection
of the largest capitalized (over $5 billion in market capitalization)
stocks which also have listed options and which have the highest
volatility, as determined by the Index Provider. These stocks would be
required to be NMS stocks, as defined in Rule 600 of Regulation NMS.
A down-and-in option is a contract that becomes a typical option
(i.e., the option ``knocks in'' at a predetermined strike price) once
the underlying stock declines to a specified price (``barrier price'').
These types of options have the same return as ``reverse convertible''
securities, which convert into the underlying stock (or settle in cash)
only upon a decline in the value of the underlying stock rather than a
rise (as is the case with typical convertible instruments).
Each option included in the Index would be a ``European-style''
option (i.e., an option which can only be exercised at its expiration)
with a 90-day term. The strike prices of the option positions included
in the Index would be determined based on the closing prices of the
options' underlying stocks as of the beginning of each 90-day period.
The barrier price of each such option would be 80% of the strike price.
At the expiration of each 90-day period, if an underlying stock closes
at or below its respective barrier price, a cash settlement payment in
an amount equal to the difference between the strike price and the
closing price of the stock would be deemed to be made, and the Index
value would be correspondingly reduced. If the underlying stock does
not close at or below the barrier price, then the option expires
worthless and the entire amount of the premium payment would be
retained within the Index.
The components of the Index would be OTC down-and-in put options
written on 20 NMS stocks selected based on the following screening
parameters:
1. U.S. listing of U.S. companies;
2. Publicly listed and traded options available;
3. Market capitalization greater than $5 billion;
4. Top 20 stocks when ranked by 3-month implied volatility;
5. Each underlying NMS stock would have a minimum trading volume of
at least 50 million shares for the preceding six months; and
6. Each underlying NMS stock would have a minimum average daily
trading volume of at least one million shares and a minimum average
daily trading value of at least $10 million for the preceding six
months.
The selection of the 20 underlying NMS stocks would occur each
quarter (March, June, September, and December) two days prior to the
third Friday of the month, in line with option expiration for listed
options. The selection of the 20 underlying stocks would not, however,
be limited to those with listed options expiring in March, June,
September, or December.
The Index value would reflect a cash amount invested in on-the-run
three-month T-Bills, plus the premium collected on the short position
in the 20 down-and-in put options written by the Index each quarter.
The notional amount of each of the 20 down-and-in put options would be
equal to 1/20th of the cash amount in the Index at the beginning of
each quarter. The cash amount (initially 1,000 for the origination date
of the Index) would be incremented by premiums generated each quarter
from the 20 down-and-in put options sold, then decremented by cash
settlements of any down-and-in put options expiring in-the-money and
the distribution amount (as described below). The cash amount would be
invested in T-Bills and would accrete by interest earned on the T-
Bills.
The End of Day Index Value would be calculated as follows: End of
Day Index Value = Beginning of Quarter Index Value + Premium Generated
- Option Values + Accrued Interest - distribution amount, where:
Beginning of Quarter Index Value is 1,000 for the
origination date of the Index; thereafter, it is the previous quarter-
end End of Day Index Value;
Premium Generated is the sum of Option Values for each of
the 20 down-and-in put options sold by the Index at the end of the
previous quarter;
Option Value is the settlement value of each of the 20
down-and-in put options written by the Index at the end of each
quarter. The notional amount of each down-and-in put option sold by the
Index for the current quarter is 1/20th of the Beginning of Quarter
Index Value;
Accrued Interest is the daily interest earned on the cash
amount held by the Index and invested in T-Bills;
Cash amount of the Index for any quarter is the Beginning
of Quarter Index Value plus the Premium Generated for that quarter; and
Distribution amount for any quarter and paid out at the
beginning of the next quarter is 2.5% of the End of Day Index Value for
the final day of the quarter. If such an amount exceeds the amount of
the Premium Generated, then the distribution amount would equal the
Premium Generated.
A total return level for the Index would be calculated and
published at the end of each day. The total return calculation would
assume the quarterly index distribution is invested directly in the
Index at the beginning of the quarter in which it is paid.
The Exchange has provided the following example. Stock ``ABC''
trades at $50 per share at the start of the 90-day period, and a down-
and-in 90-day put option was written at an 80% barrier (resulting in a
strike price of $50 per share and a barrier price of $40 per share) for
a premium of $4 per share:
Settlement above the barrier price: If at the end of 90
days the ABC stock closed at any value above the barrier price of $40,
then the option would expire worthless and the Index's value would
reflect the retention of the $4 per share premium. The Index's value
thus would be increased by $4 per share on the ABC option position.
Settlement at the barrier price: If at the end of 90 days
ABC closed at the barrier price of $40, then the option would settle in
cash at the closing price of $40, and the Index's value would be
reduced by $10 per share to reflect the settlement of the option.
However, the Index's value would reflect the retention of the $4 per
share premium, so the net loss to the Index's value would be $6 per
share on the ABC option position.
Settlement below the barrier price: If at the end of 90
days, ABC closed at $35, then the option would settle in cash at the
closing price of $35, and the Index's value would be reduced by $15 per
share to reflect the settlement of the option. However, the Index's
value would reflect the retention of the $4 per share premium, so the
net loss to the Index's value would be $11 per share on the ABC option
position.
As discussed above, the Index's value is equal to the value of the
options positions comprising the Index, plus a cash position. The cash
position starts at a base of 1,000. The cash position is increased by
option premiums generated by the option positions comprising the Index
and interest on the cash position at an annual rate equal to the three
month T-Bill rate. The cash position is decreased by cash settlement on
options which ``knock in'' (i.e., where the closing price of the
underlying stock at the end of the 90-day period is at or below the
barrier price). The cash position is also decreased by a deemed
quarterly cash distribution, currently targeted at the rate of 2.5% of
the value of the Index. However, if the option premiums generated
during the quarter are less
[[Page 4921]]
than 2.5%, the deemed distribution would be reduced by the amount of
the shortfall.
The Fund's Investments
The Fund, under normal circumstances,\14\ would invest at least 80%
of its total assets in component securities that comprise the Index and
in T-Bills which would be collateral for the options positions. The
Fund would enter into the option positions determined by the Index
Provider by writing (i.e., selling) OTC 90-day down-and-in put options
in proportion to their weightings in the Index on economic terms which
mirror those of the Index. By writing an option, the Fund would receive
premiums from the buyer of the option, which would increase the Fund's
return if the option does not ``knock in'' and thus expires worthless.
However, if the option's underlying stock declines by a specified
amount (or more), the option would ``knock in'' and the Fund would be
required to pay the buyer the difference between the option's strike
price and the closing price. Therefore, by writing a down-and-in put
option, the Fund would be exposed to the amount by which the price of
the underlying is less than the strike price. Accordingly, the
potential return to the Fund would be limited to the amount of option
premiums it receives, while the Fund can potentially lose up to the
entire strike price of each option it sells. Further, if the value of
the stocks underlying the options sold by the Fund increases, the
Fund's returns would not increase accordingly.
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\14\ The term ``under normal circumstances'' includes, but is
not limited to, the absence of extreme volatility or trading halts
in the equities or options markets or the financial markets
generally; operational issues causing dissemination of inaccurate
market information; or force majeure type events such as systems
failure, natural or man-made disaster, act of God, armed conflict,
act of terrorism, riot or labor disruption, or any similar
intervening circumstance.
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Typically, the writer of a put option incurs an obligation to buy
the underlying instrument from the purchaser of the option at the
option's exercise price, upon exercise by the option purchaser.
However, the down-and-in put options to be sold by the Fund would be
settled in cash only. The Fund may need to sell down-and-in put options
on stocks other than those underlying the option positions contained in
the Index if the Fund is unable to obtain a competitive market from OTC
option dealers on a stock underlying a particular option position in
the Index, thus preventing the Fund from writing an option on that
stock.\15\
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\15\ The Fund would transact only with OTC options dealers that
have in place an International Swaps and Derivatives Association
agreement with the Fund.
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Every 90 days, the options included within the Index are cash
settled or expire, and new option positions are established. The Fund
would enter into new option positions accordingly. This 90-day cycle
likely would cause the Fund to have frequent and substantial portfolio
turnover. If the Fund receives additional inflows (and issues more
Shares accordingly in large numbers known as ``Creation Units'') during
a 90-day period, the Fund would sell additional OTC down-and-in put
options which would be exercised or expire at the end of such 90-day
period. Conversely, if the Fund redeems Shares in Creation Unit size
during a 90-day period, the Fund would terminate the appropriate
portion of the options it has sold accordingly.
Secondary Investment Strategies
The Fund may invest its remaining assets in money market
instruments,\16\ including repurchase agreements \17\ or other funds
which invest exclusively in money market instruments, convertible
securities, structured notes (notes on which the amount of principal
repayment and interest payments are based on the movement of one or
more specified factors, such as the movement of a particular stock or
stock index), forward foreign currency exchange contracts, and in
swaps,\18\ options (other than options that the Fund principally would
write), and futures contracts.\19\ Swaps, options (other than options
the the Fund principally would write), and futures contracts (and
convertible securities and structured notes) may be used by the Fund in
seeking performance that corresponds to the Index and in managing cash
flows.\20\ The Fund would not invest in money market instruments as
part of a temporary defensive strategy to protect against potential
stock market declines. The Adviser anticipates that it may take
approximately three business days (i.e., each day the New York Stock
Exchange (``NYSE'') is open) for additions and deletions to the Index
to be reflected in the portfolio composition of the Fund.
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\16\ The Fund may invest a portion of its assets in high-quality
money market instruments on an ongoing basis to provide liquidity.
The instruments in which the Fund may invest include: (i) Short-term
obligations issued by the U.S. Government; (ii) negotiable
certificates of deposit (``CDs''), fixed time deposits, and bankers'
acceptances of U.S. and foreign banks and similar institutions;
(iii) commercial paper rated at the date of purchase ``Prime-1'' by
Moody's Investors Service, Inc. or ``A-1+'' or ``A-1'' by Standard &
Poor's or, if unrated, of comparable quality as determined by the
Adviser; (iv) repurchase agreements; and (v) money market mutual
funds. CDs are short-term negotiable obligations of commercial
banks. Time deposits are non-negotiable deposits maintained in
banking institutions for specified periods of time at stated
interest rates. Banker's acceptances are time drafts drawn on
commercial banks by borrowers, usually in connection with
international transactions.
\17\ Repurchase agreements are agreements pursuant to which
securities are acquired by the Fund from a third party with the
understanding that they would be repurchased by the seller at a
fixed price on an agreed date. These agreements may be made with
respect to any of the portfolio securities in which the Fund is
authorized to invest. Repurchase agreements may be characterized as
loans secured by the underlying securities. The Fund may enter into
repurchase agreements with (i) member banks of the Federal Reserve
System having total assets in excess of $500 million and (ii)
securities dealers (``Qualified Institutions''). The Adviser would
monitor the continued creditworthiness of Qualified Institutions.
The Fund also may enter into reverse repurchase agreements, which
involve the sale of securities with an agreement to repurchase the
securities at an agreed-upon price, date, and interest payment and
have the characteristics of borrowing.
\18\ Swap agreements are contracts between parties in which one
party agrees to make periodic payments to the other party
(``counterparty'') based on the change in market value or level of a
specified rate, index, or asset. In return, the counterparty agrees
to make periodic payments to the first party based on the return of
a different specified rate, index, or asset. Swap agreements would
usually be done on a net basis, the Fund receiving or paying only
the net amount of the two payments. The net amount of the excess, if
any, of the Fund's obligations over its entitlements with respect to
each swap would be accrued on a daily basis and an amount of cash or
highly liquid securities having an aggregate value at least equal to
the accrued excess would be maintained in an account at the Trust's
custodian bank.
\19\ The Fund may utilize U.S. listed exchange-traded futures.
In connection with its management of the Trust, the Adviser has
claimed an exclusion from registration as a commodity pool operator
under the Commodity Exchange Act (``CEA''). Therefore, it is not
subject to the registration and regulatory requirements of the CEA,
and there are no limitations on the extent to which the Fund may
engage in non-hedging transactions involving futures and options
thereon, except as set forth in the Registration Statement.
\20\ Swaps, options (other than options that the Fund
principally would write), and futures contracts would not be
included in the Fund's investment, under normal market
circumstances, of at least 80% of its total assets in component
securities that comprise the Index and in T-Bills, as described
above.
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The Fund may invest in the securities of other investment companies
(including money market funds). Under the 1940 Act, the Fund's
investment in investment companies is limited to, subject to certain
exceptions, (i) 3% of the total outstanding voting stock of any one
investment company, (ii) 5% of the Fund's total assets with respect to
any one investment company, and (iii) 10% of the Fund's total assets of
investment companies in the aggregate.
The Fund may hold up to an aggregate amount of 15% of its net
assets in illiquid securities (calculated at the time of investment),
including Rule 144A securities. The Fund would monitor its portfolio
liquidity on an ongoing basis to determine whether, in light of current
[[Page 4922]]
circumstances, an adequate level of liquidity is being maintained, and
would consider taking appropriate steps in order to maintain adequate
liquidity if, through a change in values, net assets, or other
circumstances, more than 15% of the Fund's net assets are held in
illiquid securities. Illiquid securities include securities subject to
contractual or other restrictions on resale and other instruments that
lack readily available markets as determined in accordance with
Commission staff guidance.
The Fund intends to qualify for and to elect to be treated as a
separate regulated investment company under Subchapter M of the
Internal Revenue Code of 1986, as amended
The Fund would not invest in non-U.S. equity securities. The Fund's
investments would be consistent with the Fund's investment objective
and would not be used to enhance leverage.
Pricing Fund Shares
The Fund's OTC down-and-in put options on equity securities would
be valued pursuant to a third-party option pricing model. Debt
securities will be valued at the mean between the last available bid
and ask prices for such securities or, if such prices are not
available, at prices for securities of comparable maturity, quality,
and type. Securities for which market quotations are not readily
available, including restricted securities, will be valued by a method
that the Fund's Board of Trustees believe accurately reflects fair
value. Securities will be valued at fair value when market quotations
are not readily available or are deemed unreliable, such as when a
security's value or meaningful portion of the Fund's portfolio is
believed to have been materially affected by a significant event. Such
events may include a natural disaster, an economic event like a
bankruptcy filing, trading halt in a security, an unscheduled early
market close, or a substantial fluctuation in domestic and foreign
markets that has occurred between the close of the principal exchange
and the NYSE. In such a case, the value for a security is likely to be
different from the last quoted market price. In addition, due to the
subjective and variable nature of fair market value pricing, it is
possible that the value determined for a particular asset may be
materially different from the value realized upon such asset's sale.
Creations and Redemptions of Shares
The Trust would issue and sell Shares of the Fund only in
``Creation Units'' of 100,000 Shares each on a continuous basis through
the Distributor, without a sales load, at its net asset value (``NAV'')
next determined after receipt, on any business day, of an order in
proper form. Creation Units of the Fund generally would be sold for
cash only, calculated based on the NAV per Share multiplied by the
number of Shares representing a Creation Unit (``Deposit Cash''), plus
a transaction fee.
The Custodian, through the National Securities Clearing Corporation
(``NSCC''), would make available on each business day, prior to the
opening of business on NYSE Arca (currently 9:30 a.m. Eastern Time
(``E.T.'')), the amount of the Deposit Cash to be deposited in exchange
for a Creation Unit of the Fund.
To be eligible to place orders with the Distributor and to create a
Creation Unit of the Fund, an entity must be (i) a ``Participating
Party,'' i.e., a broker-dealer or other participant in the clearing
process through the Continuous Net Settlement System of the NSCC; or
(ii) a Depository Trust Company (``DTC'') participant, and, in each
case, must have executed an agreement with the Distributor, with
respect to creations and redemptions of Creation Units.
All orders to create Creation Units, whether through a
Participating Party or a DTC participant, must be received by the
Distributor no later than the closing time of the regular trading
session on the NYSE (ordinarily 4:00 p.m. E.T.) in each case on the
date such order is placed in order for creation of Creation Units to be
effected based on the NAV of Shares of the Fund as next determined on
such date after receipt of the order in proper form.
Fund Shares may be redeemed only in Creation Units at the NAV next
determined after receipt of a redemption request in proper form by the
Fund through BNY and only on a business day. The Fund would not redeem
Shares in amounts less than a Creation Unit.
With respect to the Fund, BNY, through the NSCC, would make
available prior to the opening of business on NYSE Arca (currently 9:30
a.m. E.T.) on each business day, the amount of cash that would be paid
(subject to possible amendment or correction) in respect of redemption
requests received in proper form on that day (``Redemption Cash'').
The redemption proceeds for a Creation Unit generally would consist
of the Redemption Cash, as announced on the business day of the request
for redemption received in proper form, less a redemption transaction
fee.
Initial and Continued Listing
The Exchange represents that the Shares would conform to the
initial and continued listing criteria under NYSE Arca Equities Rules
5.2(j)(3) and 5.5(g)(2), except that the Index is comprised of down-
and-in put options based on ``US Component Stocks'' \21\ rather than US
Component Stocks themselves. The Exchange further represents that, for
initial and/or continued listing, the Fund would be in compliance with
Rule 10A-3 under the Exchange Act,\22\ as provided by NYSE Arca
Equities Rule 5.3. A minimum of 100,000 Shares would be outstanding at
the commencement of trading on the Exchange. The Exchange would obtain
a representation from the issuer of the Shares that the NAV would be
calculated daily and made available to all market participants at the
same time.
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\21\ NYSE Arca Equities Rule 5.2(j)(3) defines the term ``US
Component Stock'' to mean an equity security that is registered
under Sections 12(b) or 12(g) of the Exchange Act or an American
Depositary Receipt, the underlying equity security of which is
registered under Sections 12(b) or 12(g) of the Exchange Act.
\22\ 17 CFR 240.10A-3.
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Availability of Information
The Fund's Web site (www.alpsetfs.com), which would be publicly
available prior to the public offering of the Shares, would include a
form of the prospectus for the Fund that may be downloaded. The Fund's
Web site would include additional quantitative information updated on a
daily basis, including, for the Fund, (1) daily trading volume, the
prior business day's reported closing price, NAV and mid-point of the
bid/ask spread at the time of calculation of such NAV (``Bid/Ask
Price''),\23\ and a calculation of the premium and discount of the Bid/
Ask Price against the NAV, and (2) data in chart format displaying the
frequency distribution of discounts and premiums of the daily Bid/Ask
Price against the NAV, within appropriate ranges, for each of the four
previous calendar quarters.\24\
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\23\ The Bid/Ask Price of the Fund would be determined using the
mid-point of the highest bid and the lowest offer for Shares on the
Exchange as of the time of calculation of the Fund's NAV. The
records relating to Bid/Ask Prices would be retained by the Fund and
its service providers.
\24\ Under accounting procedures followed by the Fund, trades
made on the prior business day (``T'') would be booked and reflected
in NAV on the current business day (``T+1''). Accordingly, the Fund
would be able to disclose at the beginning of the business day the
portfolio that would form the basis for the NAV calculation at the
end of the business day.
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On a daily basis, the Adviser would disclose for each portfolio
security and other financial instrument of the Fund
[[Page 4923]]
the following information: ticker symbol (if applicable), name of
security and financial instrument, number of securities or dollar value
of financial instruments held in the portfolio, and percentage
weighting of the security and financial instrument in the portfolio.
The Fund's portfolio holdings, including information regarding its
option positions, would be disclosed each day on the Fund's Web site.
The Web site information would be publicly available at no charge.
The NAV per Share for the Fund would be determined once daily as of
the close of the NYSE, usually 4:00 p.m. E.T., each day the NYSE is
open for trading. NAV per Share would be determined by dividing the
value of the Fund's portfolio securities, cash and other assets
(including accrued interest), less all liabilities (including accrued
expenses), by the total number of Shares outstanding. As discussed
above, the OTC down-and-in put options would be valued pursuant to a
third-party option pricing model.\25\
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\25\ See ``Pricing Fund Shares'' supra.
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Investors could also obtain the Trust's Statement of Additional
Information (``SAI''), the Fund's Shareholder Reports, and its Form N-
CSR and Form N-SAR, filed twice a year. The Trust's SAI and Shareholder
Reports would be available free upon request from the Trust, and those
documents and the Form N-CSR and Form N-SAR may be viewed on-screen or
downloaded from the Commission's Web site at www.sec.gov. Information
regarding market price and trading volume of the Shares would be
continually available on a real-time basis throughout the day on
brokers' computer screens and other electronic services. Information
regarding the previous day's closing price and trading volume
information would be published daily in the financial section of
newspapers. Quotation and last-sale information for the Shares would be
available via the Consolidated Tape Association (``CTA'') high-speed
line. The value of the Index and the values of the OTC down-and-in put
options components in the Index (which would each be weighted at \1/20\
of the Index value) would be published by one or more major market data
vendors every 15 seconds during the NYSE Arca Core Trading Session of
9:30 a.m. E.T. to 4:00 p.m. E.T. A list of components of the Index,
with percentage weightings, would be available on the Exchange's Web
site. Each of the stocks underlying the OTC down-and-in put options in
the Index also would underlie standardized options contracts traded on
U.S. options exchanges, which would disseminate quotation and last-sale
information with respect to such contracts. In addition, the Intraday
Indicative Value would be calculated and disseminated by the Exchange,
and widely disseminated by one or more major market data vendors, at
least every 15 seconds during the Core Trading Session.\26\ The
Exchange states that the dissemination of the Intraday Indicative Value
would allow investors to determine the value of the underlying
portfolio of the Fund on a daily basis and to provide a close estimate
of that value throughout the trading day.
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\26\ Currently, it is the Exchange's understanding that several
major market data vendors display and/or make widely available
Intraday Indicative Values taken from the CTA or other data feeds.
See Notice, supra note 4, at 64157. The IIV calculations are based
on local market prices and may not reflect events that occur
subsequent to the local market's close. See Registration Statement,
supra note 8, at 11.
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Trading Halts
With respect to trading halts, the Exchange states that it may
consider all relevant factors in exercising its discretion to halt or
suspend trading in the Shares of the Fund.\27\ Trading in Shares of the
Fund would be halted if the circuit breaker parameters in NYSE Arca
Equities Rule 7.12 have been reached. Trading also may be halted
because of market conditions or for reasons that, in the view of the
Exchange, make trading in the Shares inadvisable. These may include:
(1) The extent to which trading is not occurring in the securities
comprising the Fund's portfolio holdings and/or the financial
instruments of the Fund; or (2) whether other unusual conditions or
circumstances detrimental to the maintenance of a fair and orderly
market are present.
---------------------------------------------------------------------------
\27\ See NYSE Arca Equities Rule 7.12, Commentary .04.
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If the Intraday Indicative Value, the Index value, or the value of
the components of the Index is not available or is not being
disseminated as required, the Exchange may halt trading during the day
in which the disruption occurs; if the interruption persists past the
day in which it occurred, the Exchange would halt trading no later than
the beginning of the trading day following the interruption. The
Exchange would obtain a representation from the Fund that the NAV for
the Fund would be calculated daily and would be made available to all
market participants at the same time. Under NYSE Arca Equities Rule
7.34(a)(5), if the Exchange becomes aware that the NAV for the Fund is
not being disseminated to all market participants at the same time, it
would halt trading in the Shares until such time as the NAV is
available to all market participants.
Trading Rules
The Exchange deems the Shares to be equity securities, thus
rendering trading in the Shares subject to the Exchange's existing
rules governing the trading of equity securities. Shares would trade on
the NYSE Arca Marketplace from 4:00 a.m. to 8:00 p.m. E.T. in
accordance with NYSE Arca Equities Rule 7.34 (Opening, Core, and Late
Trading Sessions). The Exchange states that it has appropriate rules to
facilitate transactions in the Shares during all trading sessions. As
provided in NYSE Arca Equities Rule 7.6, Commentary .03, the minimum
price variation (``MPV'') for quoting and entry of orders in equity
securities traded on the NYSE Arca Marketplace is $0.01, with the
exception of securities that are priced less than $1.00 for which the
MPV for order entry is $0.0001.
Surveillance
The Exchange intends to utilize its existing surveillance
procedures applicable to derivative products (which include Investment
Company Units) to monitor trading in the Shares. The Exchange
represents that these procedures are adequate to properly monitor
Exchange trading of the Shares in all trading sessions and to deter and
detect violations of Exchange rules and applicable federal securities
laws.
The Exchange's current trading surveillance focuses on detecting
securities trading outside their normal patterns. When such situations
are detected, surveillance analysis follows and investigations are
opened, where appropriate, to review the behavior of all relevant
parties for all relevant trading violations.
The Exchange may obtain information via the Intermarket
Surveillance Group (``ISG'') from other exchanges that are members of
ISG or with which the Exchange has entered into a comprehensive
surveillance sharing agreement.\28\
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\28\ For a list of the current members of ISG, see
www.isgportal.org. The Exchange notes that not all components of the
portfolio for the Fund may trade on markets that are members of ISG
or with which the Exchange has in place a comprehensive surveillance
sharing agreement.
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In addition, the Exchange also has a general policy prohibiting the
distribution of material, non-public information by its employees.
Suitability
Currently, NYSE Arca Equities Rule 9.2(a) (Diligence as to
Accounts)
[[Page 4924]]
provides that an Equity Trading Permit (``ETP'') Holder, before
recommending a transaction in any security, must have reasonable
grounds to believe that the recommendation is suitable for the customer
based on any facts disclosed by the customer as to its other security
holdings and as to its financial situation and needs. Further, the rule
provides, with a limited exception, that prior to the execution of a
transaction recommended to a non-institutional customer, the ETP Holder
must make reasonable efforts to obtain information concerning the
customer's financial status, tax status, investment objectives, and any
other information that such ETP Holder believes would be useful to make
a recommendation.
Prior to the commencement of trading, the Exchange would inform its
ETP Holders of the suitability requirements of NYSE Arca Equities Rule
9.2(a) in an Information Bulletin (``Information Bulletin'' or
``Bulletin''). Specifically, ETP Holders would be reminded in the
Information Bulletin that, in recommending transactions in these
securities, they must have a reasonable basis to believe that (1) the
recommendation is suitable for a customer given reasonable inquiry
concerning the customer's investment objectives, financial situation,
needs, and any other information known by such member, and (2) the
customer can evaluate the special characteristics, and is able to bear
the financial risks, of an investment in the Shares. In connection with
the suitability obligation, the Information Bulletin would also provide
that members must make reasonable efforts to obtain the following
information: (1) The customer's financial status; (2) the customer's
tax status; (3) the customer's investment objectives; and (4) such
other information used or considered to be reasonable by such member or
registered representative in making recommendations to the customer.
In addition, FINRA has issued a regulatory notice relating to sales
practice procedures applicable to recommendations to customers by FINRA
members of reverse convertibles, as described in FINRA Regulatory
Notice 10-09 (February 2010) (``FINRA Regulatory Notice'').\29\ As
described above, while the Fund would not invest in traditional reverse
convertible securities, the down-and-in put options written by the Fund
would have the effect of exposing the Fund to the return of reverse
convertible securities as if the Fund owned such reverse convertible
securities directly. Therefore, the Bulletin would state that ETP
Holders that carry customer accounts should follow the FINRA guidance
set forth in the FINRA Regulatory Notice.
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\29\ The Exchange notes that NASD Rule 2310 relating to
suitability, referenced in the FINRA Regulatory Notice, has been
superseded by FINRA Rule 2111. See FINRA Regulatory Notice 12-25
(May 2012).
---------------------------------------------------------------------------
As disclosed in the Registration Statement, the Fund is designed
for investors who seek to obtain income through selling options on
select equity securities which the Index Provider determines to have
the highest volatility. Because of the high volatility of the stocks
underlying the options sold by the Fund, it is possible that the value
of such stocks would decline in sufficient magnitude to trigger the
exercise of the options and cause a loss which may outweigh the income
from selling such options. The Registration Statement states that,
accordingly, the Fund should be considered a speculative trading
instrument and is not necessarily appropriate for investors who seek to
avoid or minimize their exposure to stock market volatility. The
Exchange's Information Bulletin regarding the Fund, described below,
would provide information regarding the suitability of an investment in
the Shares, as stated in the Registration Statement.
Information Bulletin
Prior to the commencement of trading, the Exchange would inform its
ETP Holders in the Bulletin of the special characteristics and risks
associated with trading the Shares. Specifically, the Bulletin would
discuss the following: (1) The procedures for purchases and redemptions
of Shares in Creation Units (and that Shares are not individually
redeemable); (2) NYSE Arca Equities Rule 9.2(a), which imposes a duty
of due diligence on its ETP Holders to learn the essential facts
relating to every customer prior to trading the Shares; (3) the risks
involved in trading the Shares during the Opening and Late Trading
Sessions when an updated Intraday Indicative Value would not be
calculated or publicly disseminated; (4) how information regarding the
Intraday Indicative Value is disseminated; (5) the requirement that ETP
Holders deliver a prospectus to investors purchasing newly issued
Shares prior to or concurrently with the confirmation of a transaction;
and (6) trading information.
In addition, the Bulletin would reference that the Fund is subject
to various fees and expenses described in the Registration Statement.
The Bulletin would discuss any exemptive, no-action, and interpretive
relief granted by the Commission from any rules under the Exchange Act.
The Bulletin would also disclose that the NAV for the Shares would be
calculated after 4:00 p.m. E.T. each trading day.
Additional information regarding the Trust, the Fund, and the
Shares, including investment strategies, risks, creation and redemption
procedures, fees, portfolio holdings disclosure policies,
distributions, and taxes, among other things, is included in the Notice
and Registration Statement, as applicable.\30\
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\30\ See Notice and Registration Statement, supra notes 4 and 8,
respectively.
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IV. Proceedings To Determine Whether To Approve or Disapprove SR-
NYSEArca-2012-108 and Grounds for Disapproval Under Consideration
The Commission is instituting proceedings pursuant to Section
19(b)(2)(B) of the Act \31\ to determine whether the proposed rule
change, as modified by Amendment No. 1 thereto, should be approved or
disapproved. Institution of such proceedings is appropriate at this
time in view of the legal and policy issues raised by the proposed rule
change, as discussed below. Institution of proceedings does not
indicate that the Commission has reached any conclusions with respect
to any of the issues involved. Rather, as described in greater detail
below, the Commission seeks and encourages interested persons to
provide additional comment on the proposed rule change.
---------------------------------------------------------------------------
\31\ 15 U.S.C. 78s(b)(2)(B).
---------------------------------------------------------------------------
Pursuant to Section 19(b)(2)(B) of the Act,\32\ the Commission is
providing notice of the grounds for disapproval under consideration. In
particular, Section 6(b)(5) of the Act \33\ requires, among other
things, that the rules of a national securities exchange be designed to
prevent fraudulent and manipulative acts and practices, to promote just
and equitable principles of trade, 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; and not
be designed to permit unfair discrimination between customers, issuers,
brokers, or dealers.
---------------------------------------------------------------------------
\32\ Id.
\33\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------
As discussed above, the Exchange's proposal would allow the
Exchange to list and trade Shares of the Fund under NYSE Arca Equities
Rule 5.2(j)(3), which governs the listing and trading of Investment
Company Units. The Fund would seek investment results that correspond
generally to the performance, before the Fund's fees and
[[Page 4925]]
expenses, of the Index. The Index does not meet the ``generic'' listing
requirements of Commentary .01(a)(A) to NYSE Arca Equities Rule
5.2(j)(3) applicable to the listing of Investment Company Units based
upon an index of US Component Stocks, because the Index consists of OTC
down-and-in put options, written on 20 of the most volatile U.S. stocks
that have market capitalization of at least $5 billion, as further
described above. In accordance with its investment strategy, the Fund
would sell OTC down-and-in put options in proportion to their
weightings in the Index on economic terms which mirror those of the
Index.
The Commission solicits comment on whether the proposal is
consistent with the Exchange Act and whether the Exchange has
sufficiently met its burden in presenting a statutory analysis of how
its proposal is consistent with the Exchange Act. In particular, the
grounds for disapproval under consideration include whether the
Exchange's proposal is consistent with Section 6(b)(5) of the Exchange
Act, which requires, among other things, that the rules of a national
securities exchange be ``designed to prevent fraudulent and
manipulative acts and practices, to promote just and equitable
principles of trade,'' and ``to protect investors and the public
interest.'' \34\ First, the Commission continues to evaluate the
potential impact of the discontinuous payoff structure of the OTC down-
and-in put options that would be written by the Fund on the potential
for manipulation of the securities underlying the options or the
Shares. In addition, the Commission continues to evaluate the proposed
disclosure regarding the strategy, risks and potential rewards,
assumptions, and expected performance of the Fund, including the impact
of the Fund's exposure through the writing of OTC down-and-in put
options, which would have the effect of exposing the Fund to the return
of reverse convertible securities. Furthermore, the Commission
continues to evaluate the sufficiency of the transparency regarding the
pricing of the OTC down-and-in put options, and the impact on the
ability of investors to accurately price and hedge the Shares.
---------------------------------------------------------------------------
\34\ Id.
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V. Procedure: Request for Written Comments
The Commission requests that interested persons provide written
submissions of their views, data, and arguments with respect to the
concerns identified above, as well as any other concerns they may have
with the proposal. In particular, the Commission invites the written
views of interested persons concerning whether the proposal is
consistent with Section 6(b)(5) or any other provision of the Act, or
the rules and regulations thereunder. Although there do not appear to
be any issues relevant to approval or disapproval which would be
facilitated by an oral presentation of views, data, and arguments, the
Commission will consider, pursuant to Rule 19b-4, any request for an
opportunity to make an oral presentation.\35\
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\35\ Section 19(b)(2) of the Act, as amended by the Securities
Act Amendments of 1975, Public Law 94-29 (June 4, 1975), grants the
Commission flexibility to determine what type of proceeding--either
oral or notice and opportunity for written comments--is appropriate
for consideration of a particular proposal by a self-regulatory
organization. See Securities Act Amendments of 1975, Senate Comm. on
Banking, Housing & Urban Affairs, S. Rep. No. 75, 94th Cong., 1st
Sess. 30 (1975).
---------------------------------------------------------------------------
Interested persons are invited to submit written data, views, and
arguments regarding whether the proposal should be approved or
disapproved by February 13, 2013. Any person who wishes to file a
rebuttal to any other person's submission must file that rebuttal by
February 27, 2013.
The Commission asks that commenters address the sufficiency and
merit of the Exchange's statements in support of the proposal, in
addition to any other comments they may wish to submit about the
proposed rule change. In particular, the Commission seeks comment on
the following:
1. What are commenters' views on whether investors would be able to
understand the strategy, risks and potential rewards, assumptions and
expected performance of the Fund, including the effect of the Fund's
exposure to its down-and-in put options? With respect to the trading of
the Fund's Shares on the Exchange, do commenters believe that the
Exchange's rules governing sales practices are adequately designed to
ensure the suitability of recommendations regarding the Fund's Shares?
Why or why not? If not, should the Exchange's rules governing sales
practices be enhanced? If so, in what way(s)? With respect to the
trading of the Fund's Shares on the Exchange, do commenters believe
that the proposed disclosure of the nature of, and the risks of
investing in, the Shares is sufficient? Why or why not? If not, should
the Exchange be required to enhance its disclosure relating to the
Shares? If so, in what way(s) should the disclosure be enhanced?
2. The Fund states that the OTC down-and-in put options that it
will write may experience greater discontinuity in pricing as they
approach expiration, especially if the underlying equity price is close
to the barrier level.\36\ For example, in the example provided by the
Exchange described above, where Stock ABC trades at $50 per share at
the start of the 90-day period, and a down-and-in 90-day put option is
written at an 80% barrier (resulting in a strike price of $50 per share
and a barrier price of $40 per share), as the price of Stock ABC goes
from $40 to $40.01, the value of the option goes from $10 to $0. Do
commenters believe that this discontinuous payoff structure of down-
and-in put options could give rise to the potential for manipulation?
Does this type of barrier option have the potential to provide an
incentive for someone who has a position in the option or the Fund to
manipulate the price of the underlying stock when it is near the knock-
in price on the expiration date? Why or why not?
---------------------------------------------------------------------------
\36\ See Registration Statement, supra note 8, at 3.
---------------------------------------------------------------------------
3. Do commenters believe that the market for OTC down-and-in put
options is sufficiently liquid and that pricing of those options is
sufficiently transparent for investors in the Shares? Why or why not?
Do commenters believe that investors would be able to accurately value
such options? Why or why not?
4. Do commenters believe that the market for OTC down-and-in put
options is sufficiently liquid and that pricing of those options is
sufficiently transparent for authorized participants and market makers
to effectively arbitrage the OTC market and the market for the Shares
through the trading day? Why or why not?
5. The Commission understands that some market makers might use
listed options to synthetically replicate down-and-in put options that
may not be sufficiently liquid to buy and sell intraday. Do commenters
believe the replication of down-and-in-put options through the purchase
and sale of specific listed options would be an effective way for
market makers to arbitrage the value of a down-and-in put option
against the price of the Shares? Why or why not?
6. Are there other methods for authorized participants or market
makers to hedge the market risk derived from arbitraging any
differences between the market price of the Shares and the expected NAV
per Share of the Fund?
[[Page 4926]]
7. Do commenters believe that the ability of market makers and
authorized participants to arbitrage throughout the day will be
sufficiently robust to ensure that prices of the Shares closely track
the intraday NAV per Share of the Fund? Are there circumstances in
which significant premiums or discounts could develop?
8. Do commenters believe that the third-party model that would be
used to value the Fund's OTC down-and-in put options would accurately
reflect prices at which the Fund could enter into new OTC down-and-in
put options or unwind existing OTC down-and-in put options? Why or why
not? Should the Exchange or the Fund be required to provide further
disclosure relating to the formula and methodology of such third-party
pricing model? Would such disclosure better help investors to price the
OTC down-and-in put options held by the Fund?
9. Are there any characteristics unique to barrier options on
equity securities that would make them more difficult to value than
options on equity securities without a barrier feature? If so, what are
they and how could they potentially impact the valuation?
10. Are there any circumstances under which the nature of barrier
options would cause market makers to widen bid and offer spreads for
the Shares? For example, if a significant number of components stocks
are at or near a 20% loss a few days before expiration of the down-and-
out-put options, would market makers widen their spreads to reflect the
added uncertainty?
Comments may be submitted by any of the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-NYSEArca-2012-108 on the subject line.
Paper Comments
Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street NE.,
Washington, DC 20549-1090.
All submissions should refer to File Numbers SR-NYSEArca-2012-108. 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 Web site (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 Web site 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 such filings also will be available
for inspection and copying at the principal office of the Exchange. All
comments received will be posted without change; the Commission does
not edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly. All
submissions should refer to File Number SR-NYSEArca-2012-108 and should
be submitted on or before February 13, 2013. Rebuttal comments should
be submitted by February 27, 2013.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\37\
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\37\ 17 CFR 200.30-3(a)(57).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-01224 Filed 1-22-13; 8:45 am]
BILLING CODE 8011-01-P