[Federal Register Volume 81, Number 84 (Monday, May 2, 2016)]
[Notices]
[Pages 26265-26269]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-10146]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-77705; File No. SR-Nasdaq-2016-002]
Self-Regulatory Organizations; The NASDAQ Stock Market LLC; Order
Instituting Proceedings To Determine Whether To Approve or Disapprove a
Proposed Rule Change, as Modified by Amendment No. 1 Thereto, To List
and Trade Shares of the First Trust Municipal High Income ETF of First
Trust Exchange-Traded Fund III
April 26, 2016.
I. Introduction
On January 6, 2016, The NASDAQ Stock Market LLC (``Nasdaq'' or the
``Exchange'') 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 First Trust Municipal High Income ETF (``Fund'')
under Nasdaq Rule 5735. The proposed rule change was published for
comment in the Federal Register on January 27, 2016.\3\ On February 16,
2016, the
[[Page 26266]]
Exchange filed Amendment No. 1.\4\ On March 8, 2016, pursuant to
Section 19(b)(2) of the Act,\5\ the Commission designated a longer
period within which to approve the proposed rule change, disapprove the
proposed rule change, or institute proceedings to determine whether to
disapprove the proposed rule change.\6\ The Commission received no
comments on the proposed rule change. 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\ See Securities Exchange Act Release No. 76944 (Jan. 21,
2016), 81 FR 4712 (``Notice'').
\4\ In Amendment No. 1, the Exchange clarified that the Fund's
portfolio will satisfy the following quantitative standards set
forth NASDAQ 5705(b)(4)(A) except for those in Nasdaq Rule
5705(b)(4)(A)(ii): (i) The index or portfolio must consist of Fixed
Income Securities; (ii) Components that in aggregate account for at
least 75% of the weight of the index or portfolio must have a
minimum original principal amount outstanding of $100 million or
more; (iii) A component may be a convertible security, however, once
the convertible security component converts to an underlying equity
security, the component is removed from the index or portfolio; (iv)
No component fixed-income security (excluding Treasury Securities)
will represent more than 30% of the weight of the index or
portfolio, and the five highest weighted component fixed-income
securities do not in the aggregate account for more than 65% of the
weight of the index or portfolio; (v) An underlying index or
portfolio (excluding exempted securities) must include securities
from a minimum of 13 non-affiliated issuers; and (vi) Component
securities that in aggregate account for at least 90% of the weight
of the index or portfolio must be either: (a) From issuers that are
required to file reports pursuant to Sections 13 and 15(d) of the
Act; (b) from issuers that have a worldwide market value of its
outstanding common equity held by non-affiliates of $700 million or
more; (c) from issuers that have outstanding securities that are
notes, bonds, debentures, or evidence of indebtedness having a total
remaining principal amount of at least $1 billion; (d) exempted
securities as defined in section 3(a)(12) of the Act; or (e) from
issuers that are a government of a foreign country or a political
subdivision of a foreign country. Because Amendment No. 1 to the
proposed rule change is technical in nature and does not materially
alter the substance of the proposed rule change or raise any novel
regulatory issues, it is not subject to notice and comment.
Amendment No. 1 is available on the Commission's Web site at: http://www.sec.gov/comments/sr-nasdaq-2016-002/nasdaq2016002-1.pdf.
\5\ 15 U.S.C. 78s(b)(2).
\6\ See Securities Exchange Act Release No. 34-77320, 81 FR
13429 (Mar. 14, 2016). The Commission designated April 26, 2016 as
the date by which the Commission shall either approve or 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
Nasdaq proposes to list and trade Shares of the Fund under Nasdaq
Rule 5735, which governs the listing and trading of Managed Fund Shares
on the Exchange. The Shares will be offered by the First Trust
Exchange-Traded Fund III (``Trust''), a Massachusetts business trust
registered with the Commission as an open-end investment company.\8\
First Trust Advisors L.P. will be the investment manager to the Fund
(``Adviser''),\9\ and First Trust Portfolios L.P. will serve as the
principal underwriter and distributor for the Fund. Brown Brothers
Harriman & Co. will act as the administrator, accounting agent,
custodian and transfer agent to the Fund.
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\8\ The Trust is registered with the Commission as an investment
company and has filed a registration statement on Form N-1A
(``Registration Statement'') with the Commission. See Post-Effective
Amendment No. 27 to Registration Statement on Form N-1A for the
Trust, dated August 31, 2015 (File Nos. 333-176976 and 811-22245).
In addition, the Exchange represents that the Commission has issued
an order, upon which the Trust may rely, granting certain exemptive
relief under the Investment Company Act of 1940 (``1940 Act''). See
Investment Company Act Release No. 30029 (April 10, 2012) (File No.
812-13795).
\9\ The Exchange represents that the Adviser is not a broker-
dealer, but it is affiliated with the Distributor, a broker-dealer,
and has implemented a fire wall with respect to its broker-dealer
affiliate regarding access to information concerning the composition
of or changes to the portfolio. The Exchange further represents that
personnel who make decisions on the Fund's portfolio composition
will be subject to procedures designed to prevent the use and
dissemination of material non-public information regarding the
Fund's portfolio. In the event (a) the Adviser or any sub-adviser
registers as a broker-dealer or becomes newly affiliated with a
broker-dealer, or (b) any new adviser or sub-adviser is a registered
broker-dealer or becomes affiliated with another broker-dealer, the
adviser or sub-adviser will implement a fire wall with respect to
its relevant personnel and/or such broker-dealer affiliate, as
applicable, regarding access to information concerning the
composition of and changes to the portfolio and will be subject to
procedures designed to prevent the use and dissemination of material
non-public information regarding such portfolio. See Notice, supra
note 3, at 4713.
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The Exchange has made the following representations and statements
in describing the Fund and its investment strategy, including other
portfolio holdings and investment restrictions.\10\
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\10\ The Commission notes that additional information regarding
the Fund, the Trust, and the Shares, including investment
strategies, risks, creation and redemption procedures, fees,
portfolio holdings disclosure policies, calculation of net asset
value (``NAV''), distributions, and taxes, among other things, can
be found in the Notice and the Registration Statement, as
applicable. See Notice and Registration Statement, supra notes 3 and
5, respectively.
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A. Principal Investments of the Fund
The primary investment objective of the Fund will be to generate
current income that is exempt from regular federal income taxes, and
its secondary objective will be long-term capital appreciation. Under
normal market conditions,\11\ the Fund will seek to achieve its
investment objectives by investing at least 80% of its net assets
(including investment borrowings) in Municipal Securities.\12\
Municipal Securities are generally issued by or on behalf of states,
territories or possessions of the U.S. and the District of Columbia and
their political subdivisions, agencies, authorities and other
instrumentalities. The types of Municipal Securities in which the Fund
may invest include municipal lease obligations (and certificates of
participation in such obligations), municipal general obligation bonds,
municipal revenue bonds, municipal notes, municipal cash equivalents,
private activity bonds (including without limitation industrial
development bonds), and pre-refunded and escrowed to maturity bonds. In
addition, Municipal Securities include securities issued by entities
whose underlying assets are municipal bonds (i.e., tender option bond
(TOB) trusts and custodial receipts trusts). The Fund may invest in
Municipal Securities of any maturity.
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\11\ The term ``under normal market conditions'' as used herein
includes, but is not limited to, the absence of adverse market,
economic, political or other conditions, including extreme
volatility or trading halts in the fixed income 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. On a temporary
basis, including for defensive purposes, during the initial invest-
up period and during periods of high cash inflows or outflows, the
Fund may depart from its principal investment strategies; for
example, it may hold a higher than normal proportion of its assets
in cash. During such periods, the Fund may not be able to achieve
its investment objectives. The Fund may adopt a defensive strategy
when the Adviser believes securities in which the Fund normally
invests have elevated risks due to political or economic factors and
in other extraordinary circumstances.
\12\ According to the Exchange, the Fund may invest up to 100%
of its net assets in Municipal Securities that pay interest that
generates income subject to the federal alternative minimum tax,
assuming compliance with the investment requirements and limitations
described herein.
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Under normal market conditions, the Fund will invest at least 65%
of its net assets in Municipal Securities that are, at the time of
investment, rated below investment grade (i.e., not rated Baa3/BBB-- or
above) by at least one nationally recognized statistical rating
organization (``NRSRO'') rating such securities (or Municipal
Securities that are unrated and determined by the Adviser to be of
comparable quality) \13\
[[Page 26267]]
(commonly referred to as ``high yield'' or ``junk'' bonds); \14\
however, the Fund will consider pre-refunded or escrowed to maturity
bonds, regardless of rating, to be investment grade securities. The
Fund may invest up to 35% of its net assets in Municipal Securities
that are, at the time of investment, rated investment grade (i.e.,
rated Baa3/BBB--or above) by each NRSRO rating such securities (or
Municipal Securities that are unrated and determined by the Adviser to
be of comparable quality). If, subsequent to purchase by the Fund, a
Municipal Security held by the Fund experiences an improvement in
credit quality and becomes investment grade, the Fund may continue to
hold the Municipal Security and it will not cause the Fund to violate
the 35% investment limitation; however, the Municipal Security will be
taken into account for purposes of determining whether purchases of
additional Municipal Securities will cause the Fund to violate such
limitation.
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\13\ Comparable quality of unrated Municipal Securities will be
determined by the Adviser based on fundamental credit analysis of
the unrated security and comparable rated securities. On a best
efforts basis, the Adviser will attempt to make a rating
determination based on publicly available data. In making a
``comparable quality'' determination, the Adviser may consider, for
example, whether the issuer of the security has issued other rated
securities, the nature and provisions of the relevant security,
whether the obligations under the relevant security are guaranteed
by another entity and the rating of such guarantor (if any),
relevant cash flows, macroeconomic analysis, and/or sector or
industry analysis.
\14\ The Municipal Securities in which the Fund will invest to
satisfy this 65% investment requirement may include Municipal
Securities that are currently in default and not expected to pay the
current coupon (``Distressed Municipal Securities''). The Fund may
invest up to 10% of its net assets in Distressed Municipal
Securities. If, subsequent to purchase by the Fund, a Municipal
Security held by the Fund becomes a Distressed Municipal Security,
the Fund may continue to hold the Distressed Municipal Security and
it will not cause the Fund to violate the 10% limitation; however,
the Distressed Municipal Security will be taken into account for
purposes of determining whether purchases of additional Municipal
Securities will cause the Fund to violate such limitation.
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B. Other (Non-Principal) Investments of the Fund
The Exchange represents that the non-principal investments listed
below would consist of investments that are not included in the Fund's
80% Policy. Such assets may be invested in the Fixed Income Instruments
and other instruments, as described below.
Under normal market conditions, the Fund will invest substantially
all of its assets to meet its investment objectives as described above.
In addition, the Fund may invest its assets or hold cash as generally
described below.
The Exchange represents that the Fund may invest up to 10% of its
net assets in taxable municipal securities. The Fund may also invest up
to 10% of its net assets in short-term debt instruments,\15\ money
market funds, and other cash equivalents, or it may hold cash. The
percentage of the Fund invested in such holdings or held in cash will
vary and will depend on several factors, including market conditions.
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\15\ Short-term debt instruments, which do not include Municipal
Securities, are issued by issuers having a long-term debt rating of
at least A-/A3 (as applicable) by Standard & Poor's Ratings Services
(``S&P Ratings''), Moody's Investors Service, Inc. (``Moody's'') or
Fitch Ratings (``Fitch'') and have a maturity of one year or less.
According to the Exchange, the Fund may invest in the following
short-term debt instruments: (1) Fixed rate and floating rate U.S.
government securities, including bills, notes, and bonds differing
as to maturity and rates of interest, which are either issued or
guaranteed by the U.S. Treasury or by U.S. government agencies or
instrumentalities; (2) certificates of deposit issued against funds
deposited in a bank or savings and loan association; (3) bankers'
acceptances, which are short-term credit instruments used to finance
commercial transactions; (4) repurchase agreements, which involve
purchases of debt securities; (5) bank time deposits, which are
monies kept on deposit with banks or savings and loan associations
for a stated period of time at a fixed rate of interest; and (6)
commercial paper (rated A-3 or higher by S&P Ratings, Prime-3 or
higher by Moody's or F3 or higher by Fitch), which is short-term
unsecured promissory notes.
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With respect to up to 20% of its net assets, the Fund may (i)
invest in the securities of other investment companies registered under
the 1940 Act, including money market funds, other ETFs, open-end funds
(other than money market funds and other ETFs), and closed-end funds
and (ii) acquire short positions in the securities of the foregoing
investment companies.
With respect to up to 20% of its net assets, the Fund may (i)
invest in exchange-listed options on U.S. Treasury securities,
exchange-listed options on U.S. Treasury futures contracts, and
exchange-listed U.S. Treasury futures contracts and (ii) acquire short
positions in the foregoing derivatives. Transactions in the foregoing
derivatives may allow the Fund to obtain net long or short exposures to
selected interest rates. These derivatives may also be used to hedge
risks, including interest rate risks and credit risks, associated with
the Fund's portfolio investments. The Fund's investments in derivative
instruments will be consistent with the Fund's investment objectives
and the 1940 Act and will not be used to seek to achieve a multiple or
inverse multiple of an index.
C. Investment Restrictions
The Exchange represents that the Fund may hold up to an aggregate
amount of 15% of its net assets in illiquid assets (calculated at the
time of investment), including Rule 144A securities deemed illiquid by
the Adviser.\16\ The Exchange further represents that the Fund will
monitor its portfolio liquidity on an ongoing basis to determine
whether, in light of current circumstances, an adequate level of
liquidity is being maintained, and will 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 assets.
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\16\ In reaching liquidity decisions, the Adviser may consider
the following factors: The frequency of trades and quotes for the
security; the number of dealers wishing to purchase or sell the
security and the number of other potential purchasers; dealer
undertakings to make a market in the security; and the nature of the
security and the nature of the marketplace in which it trades (e.g.,
the time needed to dispose of the security, the method of soliciting
offers and the mechanics of transfer).
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The Fund may not invest 25% or more of the value of its total
assets in securities of issuers in any one industry, although this
restriction does not apply to (a) Municipal Securities issued by
governments or political subdivisions of governments, (b) obligations
issued or guaranteed by the U.S. government, its agencies or
instrumentalities, or (c) securities of other investment companies.
D. Nasdaq Rule 5705(b)(4)(A)
The Fund will be actively managed and will not be tied to an index.
Under normal market conditions, on a continuous basis determined at the
time of purchase, its portfolio of Municipal Securities \17\ will
generally meet, as applicable, all criteria for non-actively managed,
index-based, fixed income ETFs contained in Nasdaq Rule 5705(b)(4)(A)
except for those set forth in Nasdaq Rule 5705(b)(4)(A)(ii), which
requires that components that in the aggregate account for at least 75%
of the weight of the index or portfolio have a minimum original
principal amount outstanding of $100 million or more. However, under
normal market conditions, at least 40% (based on dollar amount
invested) of the Municipal Securities in which the Fund invests will be
issued by issuers with total outstanding debt issuances that, in the
aggregate, have a minimum original principal amount outstanding of $75
million or more, which according to the Exchange, should provide
support regarding the anticipated liquidity of the Fund's Municipal
Securities portfolio.
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\17\ According to the Exchange, for purposes of this statement
and the discussion of the requirements of Nasdaq Rule 5705(b)(4)(A),
with respect to Municipal Securities that are issued by entities
whose underlying assets are municipal bonds, the underlying
municipal bonds, rather than the securities issued by such entities,
will be taken into account.
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[[Page 26268]]
III. Proceedings To Determine Whether To Approve or Disapprove SR-
Nasdaq-2016-002 and Grounds for Disapproval Under Consideration
The Commission is instituting proceedings pursuant to Section
19(b)(2)(B) of the Act \18\ 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. Institution of proceedings does not indicate that the
Commission has reached any conclusions with respect to any of the
issues involved. Rather, as described below, the Commission seeks and
encourages interested persons to provide comments on the proposed rule
change.
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\18\ 15 U.S.C. 78s(b)(2)(B).
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Pursuant to Section 19(b)(2)(B) of the Act,\19\ the Commission is
providing notice of the grounds for disapproval under consideration.
The Commission is instituting proceedings to allow for additional
analysis of the proposed rule change's consistency with Section 6(b)(5)
of the 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.'' \20\
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\19\ Id.
\20\ 15 U.S.C. 78f(b)(5).
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IV. Procedure: Request for Written Comments
The Commission requests that interested persons provide written
submissions of their views, data, and arguments with respect to the
issues 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 that 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.\21\
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\21\ 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).
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Interested persons are invited to submit written data, views, and
arguments regarding whether the proposal should be approved or
disapproved by May 23, 2016. Any person who wishes to file a rebuttal
to any other person's submission must file that rebuttal by June 6,
2016. The Commission asks that commenters address the sufficiency of
the Exchange's statements in support of the proposal, which are set
forth in the Notice \22\ and in Amendment No. 1 to the proposed rule
change,\23\ in addition to any other comments they may wish to submit
about the proposed rule change.
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\22\ See supra note 3.
\23\ See supra note 4.
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The Exchange provides that the Fund may invest in one or more of
the following broad categories of Municipal Securities: \24\ (a)
Municipal lease obligations; (b) municipal general obligation bonds;
(c) municipal revenue bonds; (d) municipal notes; (e) municipal cash
equivalents; (f) private activity bonds; and (g) pre-refunded and
escrowed to maturity bonds. Moreover, the Exchange represents that
under normal market conditions: (i) No component fixed income security
(excluding Treasury securities) will represent more than 30% of the
weight of the index or portfolio, and that the five highest weighted
component fixed income securities will not in the aggregate account for
more than 65% of the weight of the index or portfolio; (ii) component
securities that in the aggregate account for at least 90% of the weight
of the index or portfolio be either exempted securities or from a
specified type of issuer; (iii) at least 40% (based on dollar amount
invested) of the Municipal Securities in which the Fund invests will be
issued by issuers with total outstanding debt issuances that, in the
aggregate, have a minimum original principal amount outstanding of $75
million or more; and (iv) the underlying index or portfolio (excluding
one consisting entirely of exempted securities) will include securities
from a minimum of 13 non-affiliated issuers.
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\24\ In addition, Municipal Securities include securities issued
by entities whose underlying assets are municipal bonds (i.e.,
tender option bond (TOB) trusts and custodial receipts trusts).
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Apart from these broad representations, the Exchange provides no
other information about the kinds of municipal bonds in which the Fund
may invest. Accordingly, the Commission seeks comment on whether the
Exchange's representations relating to the Municipal Securities to be
held by the Fund are sufficient to limit the susceptibility of the
portfolio to manipulation, and are consistent with the requirements of
Section 6(b)(5) of the Act, which, among other things, requires that
the rules of an exchange be designed to prevent fraudulent and
manipulative acts and practices.
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-Nasdaq-2016-002 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 Numbers SR-Nasdaq-2016-002. 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 these 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-Nasdaq-2016-002 and should
be submitted on or before May 23, 2016. Rebuttal comments should be
submitted by June 6, 2016.
[[Page 26269]]
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\25\
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\25\ 17 CFR 200.30-3(a)(57).
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Robert W. Errett,
Deputy Secretary.
[FR Doc. 2016-10146 Filed 4-29-16; 8:45 am]
BILLING CODE 8011-01-P