This rule is no longer applicable. NASD Rule 2860 has been superseded by FINRA Rule 2360. Please consult the appropriate FINRA Rule.
(a) For purposes of this Rule, the term "option" shall mean any put, call, straddle or other option or privilege, which is a "security" as defined in Section 2(1) of the Securities Act of 1933, as amended, but shall not include any tender offer, registered warrant, right, convertible security or any other option in respect to which the writer is the issuer of the security which may be purchased or sold upon the exercise of the option.
(b) Requirements
(1) General
(A) Applicability — This Rule shall be applicable (i) to the extent appropriate unless otherwise stated herein, to the conduct of accounts, the execution of transactions, and the handling of orders in exchange-listed options by members that are not members of an exchange on which the option executed is listed; (ii) to the extent appropriate unless otherwise stated herein, to the conduct of accounts, the execution of transactions, and the handling of orders in conventional options; and (iii) to other matters related to options trading.
Unless otherwise indicated herein, subparagraphs (3) through (12) shall apply only to standardized and conventional options on common stock and subparagraphs (13) through (24) shall apply to transactions in all options as defined in paragraph (a), including common stock. The position and exercise limits for FLEX Equity Options for members that are not also members of the exchange on which FLEX Equity Options trade shall be the same as the position and exercise limits as applicable to members of the exchange on which such FLEX Equity Options are traded.
(B) Except to the extent that specific provisions in this Rule govern, or unless the context otherwise requires, the provisions of the By-Laws and Rules and all other interpretations and policies of the Board of Governors shall also be applicable to the trading of option contracts.
(C) Local Time — All times are stated in this Rule in terms of the local time in effect in New York City (Eastern Time) or as otherwise specified.
(2) Definitions
The following terms shall, unless the context otherwise requires, have the stated meanings:
(A) Advertisement — The term "advertisement" means material published, or designed for use in, a newspaper, magazine or other periodical, radio, telephone or tape recording, motion picture, television, videotape display, signs or billboards, telephone directories (other than routine listings), or other public media.
(B) Aggregate Current Index Value — The term "aggregate current index value" means the value required to be delivered to the holder of a call or by the holder of a put (against payment of the aggregate exercise price) upon the valid exercise of an index option. Such value is equal to the index dollar equivalent on the trading day on which an exercise notice is properly tendered to The Options Clearing Corporation; or, if the day on which such notice is so tendered is not a trading day, then on the most recent trading day.
(C) Aggregate Exercise Price — The term "aggregate exercise price" means the exercise price of an option contract multiplied by the number of units of the underlying security covered by such option contract.
(D) Aggregate Index Option Exercise Price — The term "aggregate exercise price" in respect of an index option means the exercise price of such option times the index multiplier.
(E) Aggregate Long and Aggregate Short — The terms "aggregate long" or "aggregate short" mean a person's total interest as the holder or writer of option contracts of a particular class of options.
(F) Beneficial Owner — The term "beneficial owner" means the person who has or shares the power to direct the voting or the disposition of securities, or who has or shares the right to receive or the power to direct the receipt of dividends or the proceeds from the sale of securities.
(G) Call — The term "call" means an option contract under which the holder of the option has the right, in accordance with the terms of the option, to purchase the number of units of the underlying security or to receive a dollar equivalent of the underlying index covered by the option contract. In the case of a "call" issued by The Options Clearing Corporation on common stock, it shall mean an option contract under which the holder of the option has the right, in accordance with the terms of the option, to purchase from The Options Clearing Corporation the number of units of the underlying security or receive a dollar equivalent of the underlying index covered by the option contract.
(H) Class of Options — The term "class of options" means all option contracts of the same type of option covering the same underlying security or index.
(I) Clearing Member — The term "clearing member" means a member of the Association which has been admitted to membership in The Options Clearing Corporation pursuant to the provisions of the rules of The Options Clearing Corporation.
(J) Closing Purchase Transaction — The term "closing purchase transaction" means an option transaction in which the purchaser's intention is to reduce or eliminate a short position in the series of options involved in such transaction.
(K) Closing Sale Transaction — The term "closing sale transaction" means an option transaction in which the seller's intention is to reduce or eliminate a long position in the series of options involved in such transaction.
(L) Control
(i) The term "control" means the power or ability of an individual or entity to make investment decisions for an account or accounts, or influence directly or indirectly the investment decisions of any person or entity who makes investment decisions for an account. In addition, control will be presumed in the following circumstances:
a. among all parties to a joint account who have authority to act on behalf of the account;
b. among all general partners to a partnership account;
c. when a person or entity:
1. holds an ownership interest of 10 percent or more in an entity (ownership interest of less than 10 percent will not preclude aggregation), or
2. shares in 10 percent or more of profits and/or losses of an account;
d. when accounts have common directors or management;
e. where a person or entity has the authority to execute transactions in an account.
(ii) Control, presumed by one or more of the above powers, abilities or circumstances, can be rebutted by proving the factor does not exist or by showing other factors which negate the presumption of control. The rebuttal proof must be submitted by affidavit and/or such other evidence as may be appropriate in the circumstances.
(iii) The Association will also consider the following factors in determining if aggregation of accounts is required:
a. similar patterns of trading activity among separate entities;
b. the sharing of kindred business purposes and interests;
c. whether there is common supervision of the entities which extends beyond assuring adherence to each entity's investment objectives and/or restrictions;
d. the degree of contact and communication between directors and/or managers of separate accounts.
(M) Controls, Is Controlled by or Is Under Common Control With — The terms "controls," "is controlled by" and "is under common control with" shall have the meanings specified in SEC Rule 405 under the Securities Act of 1933.
(N) Conventional Index Option—The term "conventional index option" means any options contract not issued, or subject to issuance, by The Options Clearing Corporation that, as of the trade date, overlies a basket or index of securities that:
(i) Underlies a standardized index option; or
(ii) Satisfies the following criteria:
a. The basket or index comprises 9 or more equity securities;
b. No equity security comprises more than 30% of the equity security component of the basket's or index's weighting; and
c. Each equity security comprising the basket or index:
1. is a component security in either the Russell 3000 Index or the FTSE All-World Index Series; or
2. has (A) market capitalization of at least $75 million or, in the case of the lowest weighted component securities in the basket or index that in the aggregate account for no more than 10% of the weight of the index, $50 million; and (B) trading volume for each of the preceding six months of at least one million shares or, in the case of each of the lowest weighted component securities in the basket or index that in the aggregate account for no more than 10% of the weight of the index, 500,000 shares.
(O) Conventional Option — The term "conventional option" shall mean any option contract not issued, or subject to issuance, by The Options Clearing Corporation.
(P) Covered — The term "covered" in respect of a short position in a call option contract means that the writer's obligation is secured by a "specific deposit" or an "escrow deposit," meeting the conditions of Rules 610(e) or 610(h), respectively, of the rules of The Options Clearing Corporation, or the writer holds in the same account as the short position, on a unit-for-unit basis, a long position either in the underlying security or in an option contract of the same class of options where the exercise price of the option contract in such long position is equal to or less than the exercise price of the option contract in such short position. The term "covered" in respect of a short position in a put option contract means that the writer holds in the same account as the short position, on a unit-for-unit basis, a long position in an option contract of the same class of options having an exercise price equal to or greater than the exercise price of the option contract in such short position.
(Q) Current Index Value — The term "current index value" means the level of a particular index (derived from the current market prices of the underlying securities in the index group) at the close of trading on any trading day, or any multiple or fraction thereof specified by the Association as such value is reported by the reporting authority.
(R) Current Prospectus — The term "current prospectus" shall mean the edition of the prospectus of The Options Clearing Corporation as registered which at the time it is to be furnished to a given customer meets the requirements of Section 10(a)(3) of the Securities Act of 1933.
(S) Delta Neutral — The term "delta neutral" describes an equity options position that has been fully hedged, in accordance with a Permitted Pricing Model as defined in paragraph (b)(3)(A)(vii)b. with a portfolio of instruments including or relating to the same underlying security to offset the risk that the value of the equity options position will change with incremental changes in the price of the security underlying the options position.
(T) Disclosure Document(s) — The term "disclosure document" or "disclosure documents" shall mean those documents filed with the SEC, prepared by one or more options markets and meeting the requirements of SEC Rule 9b-1 under the Act. They shall contain general explanatory information relating to the mechanics of buying, writing and exercising options; the risks involved, the uses of and market for the options; transaction costs and applicable margin requirements; tax consequences of trading options; identification of the options issuer and the instrument underlying the options class; and the availability of the prospectus and the information in Part II of the registration statement.
(U) Escrow Receipt — The term "escrow receipt" means a representation of an issuing bank to The Options Clearing Corporation that a particular customer's securities are on deposit with the bank and will be delivered upon exercise of the option for which the receipt is issued.
(V) Exercise Price — The term "exercise price" in respect of an option contract means the stated price per unit at which the underlying security may be purchased (in the case of a call) or sold (in the case of a put) upon the exercise of such option contract.
(W) Expiration Date — The term "expiration date" of an option contract issued by The Options Clearing Corporation means the day and time fixed by the rules of The Options Clearing Corporation for the expiration of all option contracts having the same expiration month as such option contract. The term "expiration date" of all other option contracts means the date specified thereon for such.
(X) Expiration Month — The term "expiration month" in respect of an option contract means the month and year in which such option contract expires.
(Y) FLEX Equity Option — The term "FLEX Equity Option" means any options contract issued, or subject to issuance by, The Options Clearing Corporation whereby the parties to the transaction have the ability to negotiate the terms of the contract consistent with the rules of the exchange on which the options contract is traded.
(Z) Index Dollar Equivalent — The term "index dollar equivalent" is the dollar amount which results when the index value is multiplied by the appropriate index multiplier.
(AA) Index Group — The term "index group" means a group of securities whose inclusion and relative representation in the group is determined by the inclusion and relative representation of their current market values in a securities index specified by the Association.
(BB) Index Multiplier — The term "index multiplier" as used in reference to an index option contract means the dollar amount (as specified by the Association) by which the current index value is to be multiplied to obtain the aggregate index value. Such term replaces the term "unit of trading" used in reference to other kinds of options.
(CC) Index Option Exercise Price — The term "exercise price" in respect of an index option means the specified index value which, when multiplied by the index multiplier, will yield the aggregate exercise price at which the aggregate current index value may be purchased (in the case of a call) or sold (in the case of a put) upon the exercise of such option.
(DD) Index Option Premium — The term "index option premium" means the price of each such option (expressed in points), as agreed upon by the purchaser and seller in such transaction, times the index multiplier and the number of options subject to the transaction.
(EE) Long Position — The term "long position" means the number of outstanding option contracts of a given series of options held by a person (purchaser).
(FF) Member and Person Associated with a Member — The terms "member" and "person associated with a member" shall have the meanings as specified in Article I of the By-Laws of the Association.
(GG) Net Delta — The term "net delta" means the number of shares that must be maintained (either long or short) to offset the risk that the value of an equity options position will change with incremental changes in the price of the security underlying the options position.
(HH) Opening Purchase Transaction — The term "opening purchase transaction" means an option transaction in which the purchaser's intention is to create or increase a long position in the series of options involved in such transaction.
(II) Opening Writing Transaction — The term "opening writing transaction" means an option transaction in which the seller's (writer's) intention is to create or increase a short position in the series of options involved in such transaction.
(JJ) Option Transaction — The term "option transaction" means a transaction effected by a member for the purchase or sale of an option contract, or for the closing out of a long or short position in such option.
(KK) Options Contract — The term "options contract" means any option as defined in paragraph (a). For purposes of subparagraphs (3) through (12), an option to purchase or sell common stock shall be deemed to cover 100 shares of such stock at the time the contract granting such option is written. If a stock option is granted covering some other number of shares, then for purposes of subparagraphs (3) through (12), it shall be deemed to constitute as many option contracts as that other number of shares divided by 100 (e.g., an option to buy or sell five hundred shares of common stock shall be considered as five option contracts). A stock option contract that, when written, grants the right to purchase or sell 100 shares of common stock shall continue to be considered as one contract throughout its life, notwithstanding that, pursuant to its terms, the number of shares that it covers may be adjusted to reflect stock dividends, stock splits, reverse splits, or other similar actions by the issuer of such stock.
(LL) Options Contract Equivalent of the Net Delta – the term "options contract equivalent of the net delta" means the net delta divided by the number of shares underlying the options contract.
(MM) Options Trading — The term "options trading" means trading (i) in any option issued by The Options Clearing Corporation, and (ii) in any conventional option.
(NN) Outstanding — The term "outstanding" in respect of an option contract means an option contract which has neither been the subject of a closing sale transaction nor has been exercised nor reached its expiration date.
(OO) Participating Organization — The term "participating organization" means a national securities exchange or association which has qualified for participation in The Options Clearing Corporation pursuant to the provisions of Article VII of the By-Laws of The Options Clearing Corporation.
(PP) Premium — The term "premium" means the aggregate price of the option contracts agreed upon between the buyer and writer/seller or their agents.
(QQ) Put — The term "put" means an option contract under which the holder of the option has the right, in accordance with the terms of the option, to sell the number of units of the underlying security or deliver a dollar equivalent of the underlying index covered by the option contract. In the case of a "put" issued by The Options Clearing Corporation on common stock, it shall mean an option contract under which the holder of the option has the right, in accordance with terms of the option, to sell to The Options Clearing Corporation the number of units of the underlying security covered by the option contract or to tender the dollar equivalent of the underlying index.
(RR) Rules of The Options Clearing Corporation — The term "rules of The Options Clearing Corporation" means the by-laws and the rules of The Options Clearing Corporation, and all written interpretations thereof as may be in effect from time to time.
(SS) Sales Literature — The term "sales literature" means any notice, circular, report (including research report), newsletter (including market letter), form letter or reprint or excerpt of the foregoing or of any published article, or any other promotional literature designed for use with the public which material does not meet the definition of "advertisement." A form letter shall include one of a series of identical letters, or individually typed or prepared letters which contain essentially identical statements or repeat the same basic theme and which are sent to 25 or more persons.
(TT) Series of Options — The term "series of options" means all option contracts of the same class of options having the same exercise price and expiration date and which cover the same number of units of the underlying security or index.
(UU) Short Position — The term "short position" means the number of outstanding option contracts of a given series of options with respect to which a person is obligated as a writer (seller).
(VV) Spread Order — The term "spread order" means an order to buy a stated number of option contracts and to sell the same number of option contracts, or contracts representing the same number of units at option, of the same class of options.
(WW) Standardized Equity Option — The term "standardized equity option" means any equity options contract issued, or subject to issuance by, The Options Clearing Corporation that is not a FLEX Equity Option.
(XX) Standardized Index Option—The term "standardized index option" means any options contract issued, or subject to issuance, by The Options Clearing Corporation that is based upon an index.
(YY) The Options Clearing Corporation — The term "The Options Clearing Corporation" means The Options Clearing Corporation, the issuer of exchange listed options displayed on The Nasdaq Stock Market.
(ZZ) Type of Option — The term "type of option" means the classification of an option contract as either a put or a call.
(AAA) Uncovered — The term "uncovered" in respect of a short position in an option contract means the short position is not covered. For purposes of subparagraph (16) (Opening of Accounts), subparagraph (20) (Supervision of Accounts) and subparagraph (11) (Delivery of Current Disclosure Document(s)), the term "writing uncovered short option positions" shall include combinations and any other transactions which involve uncovered writing.
(BBB) Underlying Index—The term "underlying index" means an index underlying a Standardized Index Option or a Conventional Index Option.
(CCC) Underlying Security — The term "underlying security" in respect of an option contract means the security which The Options Clearing Corporation or another person shall be obligated to sell (in the case of a call) or purchase (in the case of a put) upon the valid exercise of such option contract.
(DDD) Unit — The term "unit" shall mean the smallest interest in a particular security which can be purchased or sold, such as one share of stock, one warrant, one bond, and so forth.
(3) Position Limits
(A) Stock Options — Except in highly unusual circumstances, and with the prior written approval of NASD pursuant to the Rule 9600 Series for good cause shown in each instance, no member shall effect for any account in which such member has an interest, or for the account of any partner, officer, director or employee thereof, or for the account of any customer, non-member broker, or non-member dealer, an opening transaction through the over-the-counter market or on any exchange in a stock option contract of any class of stock options if the member has reason to believe that as a result of such transaction the member or partner, officer, director or employee thereof, or customer, non-member broker, or non-member dealer, would, acting alone or in concert with others, directly or indirectly, hold or control or be obligated in respect of an aggregate equity options position in excess of:
(i) 25,000 option contracts of the put class and the call class on the same side of the market covering the same underlying security, combining for purposes of this position limit long positions in put options with short positions in call options, and short positions in put options with long positions in call options; or
(ii) 50,000 option contracts of the put class and the call class on the same side of the market covering the same underlying security, provided that the 50,000 contract position limit shall only be available for option contracts on securities that underlie exchange-traded options qualifying under applicable rules for a position limit of 50,000 option contracts; or
(iii) 75,000 option contracts of the put class and the call class on the same side of the market covering the same underlying security provided that the 75,000 contract position limit shall only be available for option contracts on securities that underlie exchange-traded options qualifying under applicable rules for a position limit of 75,000 option contracts; or
(iv) 200,000 option contracts of the put and the call class on the same side of the market covering the same underlying security, provided that the 200,000 contract position limit shall only be available for option contracts on securities that underlie exchange-traded options qualifying under applicable rules for a position limit of 200,000 option contracts; or
(v) 250,000 option contracts of the put and the call class on the same side of the market covering the same underlying security, provided that the 250,000 contract position limit shall only be available for option contracts on securities that underlie exchange-traded options qualifying under applicable rules for a position limit of 250,000 option contracts; or
(vi) such other number of stock option contracts as may be fixed from time to time by NASD as the position limit for one or more classes or series of options provided that reasonable notice shall be given of each new position limit fixed by NASD.
(vii) Equity Option Hedge Exemptions
a. The following qualified hedge strategies and positions described in subparagraphs 1. through 6. below shall be exempt from the established position limits under this rule for standardized options. Hedge strategies and positions described in subparagraphs 7. and 8. below in which one of the option components consists of a conventional option, shall be subject to a position limit of five times the established position limits contained in subparagraphs (i) through (vi) above. Hedge strategies and positions in conventional options as described in subparagraphs 1. through 6. below shall be subject to a position limit of five times the established limits contained in subparagraphs (i) through (vi) above. Options positions limits established under this subparagraph shall be separate from limits established in other provisions of this rule.
1. Where each option contract is "hedged" or "covered" by 100 shares of the underlying security or securities convertible into the underlying security, or, in the case of an adjusted option, the same number of shares represented by the adjusted contract: (a) long call and short stock; (b) short call and long stock; (c) long put and long stock; or (d) short put and short stock.
2. Reverse Conversions — A long call position accompanied by a short put position, where the long call expires with the short put, and the strike price of the long call and short put is equal, and where each long call and short put position is hedged with 100 shares (or other adjusted number of shares) of the underlying security or securities convertible into such underlying security.
3. Conversions — A short call position accompanied by a long put position where the short call expires with the long put, and the strike price of the short call and long put is equal, and where each short call and long put position is hedged with 100 shares (or other adjusted number of shares) of the underlying security or securities convertible into such underlying security.
4. Reverse Collars — A long call position accompanied by a short put position where the long call expires with the short put and the strike price of the long call equals or exceeds the short put and where each long call and short put position is hedged with 100 shares of the underlying security (or other adjusted number of shares). Neither side of the long call, short put position can be in-the-money at the time the position is established.
5. Collars — A short call position accompanied by a long put position, where the short call expires with the long put, and the strike price of the short call equals or exceeds the strike price of the long put position and where each short call and long put position is hedged with 100 shares (or other adjusted number of shares) of the underlying security or securities convertible into such underlying security. Neither side of the short call/long put position can be in-the-money at the time the position is established.
6. Box Spreads — A long call position accompanied by a short put position with the same strike price and a short call position accompanied by a long put position with a different strike price.
7. Back-to-Back Options — A listed option position hedged on a one-for-one basis with an over-the-counter (OTC) option position on the same underlying security. The strike price of the listed option position and corresponding OTC option position must be within one strike price interval of each other and no more than one expiration month apart.
8. For reverse conversion, conversion, reverse collar and collar strategies set forth above in subparagraphs 2., 3., 4. and 5., one of the option components can be an OTC option guaranteed or endorsed by the firm maintaining the proprietary position or carrying the customer account.
b. Delta Hedging Exemption For Members and Non- Member Affiliates
An equity options position of a member or non-member affiliate in standardized and/or conventional equity options that is delta neutral under a Permitted Pricing Model shall be exempt from position limits under this rule. Any equity options position of such member or non-member affiliate that is not delta neutral shall be subject to position limits, subject to the availability of other options position limit exemptions. The number of options contracts attributable to a position that is not delta neutral shall be the options contract equivalent of the net delta.
1. Permitted Pricing Model shall mean:
A. A pricing model maintained and operated by the Options Clearing Corporation ("OCC Model") when used by a member, or nonmember affiliate permitted to rely on subparagraphs B or C;
B. A pricing model maintained and used by a member subject to consolidated supervision by the Commission pursuant to Appendix E of Commission Rule 15c3-1, or by an affiliate that is part of such member's consolidated supervised holding company group, in accordance with its internal risk management control system and consistent with the requirements of Appendices E or G, as applicable, to Commission Rule 15c3-1 and Commission Rule 15c3-4 under the Act, as amended from time to time, in connection with the calculation of risk-based deductions from capital or capital allowances for market risk thereunder, provided that the member or affiliate of a member relying on this exemption in connection with the use of such model is an entity that is part of such member's consolidated supervised holding company group;
C. A pricing model maintained and used by a financial holding company ("FHC") or a company treated as an FHC under the Bank Holding Company Act of 1956, or by an affiliate that is part of either such company's consolidated supervised holding company group, in accordance with its internal risk management control system and consistent with:
i. the requirements of the Board of Governors of the Federal Reserve System, as amended from time to time, in connection with the calculation of risk-based adjustments to capital for market risk under capital requirements of the Board of Governors of the Federal Reserve System, provided that the member or affiliate of a member relying on this exemption in connection with the use of such model is an entity that is part of such company's consolidated supervised holding company group; or
ii. the standards published by the Basel Committee on Banking Supervision, as amended from time to time and as implemented by such company's principal regulator, in connection with the calculation of risk-based deductions or adjustments to or allowances for the market risk capital requirements of such principal regulator applicable to such company – where "principal regulator" means a member of the Basel Committee on Banking Supervision that is the home country consolidated supervisor of such company – provided that the member or affiliate of a member relying on this exemption in connection with the use of such model is an entity that is part of such company's consolidated supervised holding company group;
D. A pricing model maintained and used by an OTC derivatives dealer registered with the Commission pursuant to SEC Rule 15c3-1(a)(5) in accordance with its internal risk management control system and consistent with the requirements of Appendix F to SEC Rule 15c3-1 and SEC Rule 15c3-4 under the Act, as amended from time to time, in connection with the calculation of risk-based deductions from capital for market risk thereunder, provided that only such OTC derivatives dealer and no other affiliated entity (including a member) may rely on this subparagraph D.; or
E. A pricing model used by a national bank under the National Bank Act maintained and used in accordance with its internal risk management control system and consistent with the requirements of the Office of the Comptroller of the Currency, as amended from time to time, in connection with the calculation of risk-based adjustments to capital for market risk under capital requirements of the Office of the Comptroller of the Currency, provided that only such national bank and no other affiliated entity (including a member) may rely on this exemption.
2. Effect on Aggregation of Account Positions
A. Members and non-member affiliates who rely on this exemption must ensure that the Permitted Pricing Model is applied to all positions in or relating to the security underlying the relevant options position that are owned or controlled by such member or non-member affiliate.
B. Notwithstanding subparagraph b.2.A. of this Rule, the Net Delta of an options position held by an entity entitled to rely on this exemption, or by a separate and distinct trading unit of such entity, may be calculated without regard to positions in or relating to the security underlying the options positions held by an affiliated entity or by another trading unit within the same entity, provided that:
i. the entity demonstrates to NASD's satisfaction that no control relationship, as defined in Notice to Members
07-03, exists between such affiliates or trading units;* and
ii. the entity has provided NASD written notice in advance that it intends to be considered separate and distinct from any affiliate, or – as applicable – which trading units within the entity are to be considered separate and distinct from each other for purposes of this exemption.
* Note: NASD has set forth, in Notice to Members
07-03, the conditions under which it will deem no control relationship to exist between affiliates and between separate and distinct trading units within the same entity.
C. Notwithstanding subparagraph b.2.A. or b.2.B. of this Rule, a member or non-member affiliate who relies on this exemption shall designate, by prior written notice to NASD, each trading unit or entity whose options positions are required under NASD Rules to be aggregated with the option positions of such member or non-member affiliate that is relying on this exemption for purposes of compliance with NASD position limits or exercise limits. In any such case:
i. the Permitted Pricing Model shall be applied, for purposes of calculating such member's or affiliate's net delta, only to the positions in or relating to the security underlying any relevant option position owned and controlled by those entities and trading units who are relying on this exemption; and
ii. the net delta of the positions owned or controlled by the entities and trading units who are relying on this exemption shall be aggregated with the nonexempt option positions of all other entities and trading units whose options positions are required under NASD Rules to be aggregated with the option positions of such member or affiliate.
3. Obligations of Members and Affiliates
A member that relies, or whose affiliate relies, upon this exemption must provide a written certification to NASD that it and/or its affiliates are using a Permitted Pricing Model pursuant to subparagraph 1. above and that if the affiliate ceases to hedge stock options positions in accordance with such Permitted Pricing Model, it will provide immediate written notice to the member.
The options positions of a non-member relying on this exemption must be carried by a member with which it is affiliated.
4. Reporting
A. Each member must report in accordance with paragraph (b)(5), all equity option positions (including those that are delta neutral) of 200 or more contracts (whether long or short) on the same side of the market covering the same underlying security that are effected by the member.
B. In addition, each member on its own behalf or on behalf of a designated aggregation unit pursuant to subparagraph (b)(3)(A)(vii)b.2. shall report in a manner specified by NASD the options contract equivalent of the net delta of each position that represents 200 or more contracts (whether long or short) on the same side of the market covering the same underlying security that are effected by the member.
(viii) Conventional Equity Options
a. For purposes of this paragraph (b), standardized equity option contracts of the put class and call class on the same side of the market overlying the same security shall not be aggregated with conventional equity option contracts or FLEX Equity Option contracts overlying the same security on the same side of the market. Conventional equity option contracts of the put class and call class on the same side of the market overlying the same security shall be subject to a position limit equal to the greater of:
1. the basic limit of 25,000 contracts, or
2. any standardized equity options position limit as set forth in paragraphs (b)(3)(A)(ii) through (v) for which the underlying security qualifies or would be able to qualify.
b. In order for a security not subject to standardized equity options trading to qualify for an options position limit of more than 25,000 contracts, a member must first demonstrate to NASD's Market Regulation Department that the underlying security meets the standards for such higher options position limit and the initial listing standards for standardized options trading.
Provided, however, that for certain securities in an index designated by NASD, a member may claim such higher position limit as permitted in accordance with the volume and float criteria specified by NASD; provided further, that a member claiming a higher position limit under this subparagraph must notify NASD's Market Regulation Department in writing in such form as may be prescribed by NASD and shall be filed no later than the close of business day on the next business day following the day on which the transaction or transactions requiring such limits occurred; and provided further, that the member must agree to reduce its position in the event that NASD staff determines different position limits should apply.
(B) Index Options
Except in highly unusual circumstances, and with the prior written approval of the Association pursuant to the Rule 9600 Series for good cause shown in each instance, no member shall effect for any account in which such member has an interest, or for the account of any partner, officer, director or employee thereof, or for the account of any customer, an opening transaction in an option contract of any class of index options dealt in on an exchange if the member has reason to believe that as a result of such transaction the member or partner, officer, director or employee thereof, or customer, would, acting alone or in concert with others, directly or indirectly, hold or control or be obligated in respect of an aggregate position in excess of position limits established by the exchange on which the option trades.
(C) Index option contracts shall not be aggregated with option contracts on any stocks whose prices are the basis for calculation of the index.
(D) The Association will notify the Commission at any time it approves a request to exceed the limits established pursuant to paragraph (b)(3).
(4) Exercise Limits
Except in highly unusual circumstances, and with the prior written approval of the Association pursuant to the Rule 9600 Series for good cause shown in each instance, no member or person associated with a member shall exercise, for any account in which such member or person associated with a member has an interest, or for the account of any partner, officer, director or employee thereof or for the account of any customer, non-member broker, or non-member dealer, any option contract if as a result thereof such member or partner, officer, director or employee thereof or customer, non-member broker, or non-member dealer, acting alone or in concert with others, directly or indirectly, has or will have exercised within any five (5) consecutive business days a number of option contracts of a particular class of options in excess of the limits for options positions in paragraph (b)(3). The Association may institute other limitations concerning the exercise of option contracts from time to time by action of the Association. Reasonable notice shall be given of each new limitation fixed by the Association.
(5) Reporting of Options Positions
(A)(i)a. Conventional Options
Each member shall file or cause to be filed with NASD a report with respect to each account in which the member has an interest, each account of a partner, officer, director or employee or such member, and each customer, non-member broker, or non-member dealer account, which has established an aggregate position of 200 or more option contracts (whether long or short) of the put class and the call class on the same side of the market covering the same underlying security or index, combining for purposes of this subparagraph long positions in put options with short positions in call options and short positions in put options with long positions in call options, provided, however, that such reporting with respect to positions in conventional index options shall apply only to an option that is based on an index that underlies, or is substantially similar to an index that underlies, a standardized index option.
b. Standardized Options
Each member that conducts a business in standardized options but is not a member of the options exchange upon which the standardized options are listed and traded shall file or cause to be filed with the Association a report with respect to each account in which the member has an interest, each account of a partner, officer, director or employee of such member, and each customer, non-member broker, or non-member dealer account, which has established an aggregate position of 200 or more option contracts (whether long or short) of the put class and the call class on the same side of the market covering the same underlying security or index, combining for purposes of this subparagraph long positions in put options with short positions in call options and short positions in put options with long positions in call options.
(ii) The reports required by this subparagraph shall identify the person or persons having an interest in such account and shall identify separately the total number of option contracts of each such class comprising the reportable position in such account. The reports shall be in such form as may be prescribed by the Association and shall be filed no later than the close of business on the next business day following the day on which the transaction or transactions requiring the filing of such report occurred. Whenever a report shall be required to be filed with respect to an account pursuant to this subparagraph, the member filing such shall file with the Association such additional periodic reports with respect to such account as the Association may from time to time prescribe.
(B) In addition to the reports required by subparagraph (A) above, each member shall report promptly to the Association any instance in which such member has a reason to believe that a person, acting alone or in concert with others, has exceeded or is attempting to exceed the position limits or the exercise limits set forth in subparagraphs (b)(3) and (4).
(6) Liquidation of Positions and Restrictions on Access
(A) Whenever the Association determines that a person or group of persons acting in concert holds or controls, or is obligated in respect of, an aggregate position in option contracts covering any underlying security or index in excess of the position limitations established by paragraph (b)(3), it may, when deemed necessary or appropriate in the public interest and for the protection of investors, direct:
(i) any member or all members carrying a position in option contracts covering such underlying security or index for such person or persons to liquidate such position or positions, or portions thereof, as expeditiously as possible and consistent with the maintenance of an orderly market, so as to bring such person or persons into compliance with the position limitations contained in paragraph (b)(3);
(ii) that such person or persons named therein not be permitted to execute an opening transaction, and that no member shall accept and/or execute for any person or persons named in such directive, any order for an opening transaction in any option contract, unless in each instance express approval therefor is given by the Association, the directive is rescinded, or the directive specifies another restriction appropriate under the circumstances.
(B) Prior to the issuance of any directive provided for in subparagraph (A), the Association shall notify, in the most expeditious manner possible, such person, or group of persons of such action, the specific grounds therefor and provide them an opportunity to be heard thereon. In the absence of unusual circumstances, in the case of a directive pursuant to the provisions of subparagraph (A)(i) hereof, the hearing shall be held within one business day of notice. In the case of a directive pursuant to the provisions of subparagraph (A)(ii) hereof, the hearing shall be held as promptly as possible under the circumstances. In any such proceeding a record shall be kept. A determination by the Association after hearing or waiver of hearing, to implement such directive shall be in writing and shall be supported by a statement setting forth the specific grounds on which the determination is based. Any person aggrieved by action taken by the Association pursuant to this subparagraph may make application for review to the Commission in accordance with Section 19 of the Act.
(7) Limit on Uncovered Short Positions
Whenever the Association shall determine in light of current conditions in the markets for options, or in the markets for underlying securities, that there are outstanding a number of uncovered short positions in option contracts of a given class in excess of the limits established by the Association for purposes of this subparagraph or that a percentage of outstanding short positions in option contracts of a given class are uncovered, in excess of the limits established by the Association for purposes of this subparagraph, the Association, upon its determination that such action is in the public interest and necessary for the protection of investors and the maintenance of a fair and orderly market in the option contracts or underlying securities, may prohibit any further opening writing transactions in option contracts of that class unless the resulting short position will be covered, and it may prohibit the uncovering of any existing covered short position in option contracts of one or more series of options of that class.
(8) Restrictions on Option Transactions and Exercises
The Association may impose from time to time such restrictions on option transactions or the exercise of option contracts in one or more series of options of any class which it determines are necessary in the interest of maintaining a fair and orderly market in option contracts, or in the underlying securities covered by such option contracts, or otherwise necessary in the public interest or for the protection of investors. During the period of any such restriction, no member shall effect any option transaction or exercise any option contract in contravention of such restriction. Notwithstanding the foregoing, during the ten (10) business days prior to the expiration date of a given series of options, no restriction established pursuant to this subparagraph on the exercise of option contracts shall remain in effect with respect to that series of options.
(9) Rights and Obligations of Holders and Writers
Subject to the provisions of subparagraphs (b)(4), (6), and (8), the rights and obligations of holders and writers of option contracts of any class of options issued by The Options Clearing Corporation shall be set forth in the rules of The Options Clearing Corporation.
(10) Open Orders on "Ex-Date"
Open orders for one or more option contracts of any class of options issued by The Options Clearing Corporation held by members prior to the effective date of an adjustment by The Options Clearing Corporation to the terms of a class of options pursuant to Article VI, Section 11 of the By-Laws of The Options Clearing Corporation shall be adjusted on the "ex-date" by such amount as The Options Clearing Corporation shall specify, unless otherwise instructed by the customer.
(11) Delivery of Current Disclosure Documents
(A)(1) Characteristics and Risks of Standardized Options (the "ODD"). Every member shall deliver the current ODD to each customer at or prior to the time such customer's account is approved for trading options issued by The Options Clearing Corporation. Thereafter, a copy of each amendment to the ODD shall be distributed to each customer to whom the member previously delivered the ODD not later than the time a confirmation of a transaction in the category of options to which the amendment pertains is delivered to such customer.
(2) Special Statement for Uncovered Option Writers ("Special Written Statement"). In the case of customers approved for writing uncovered short options transactions, the Special Written Statement required by paragraph (b)(16) shall be in a format prescribed by NASD and delivered to customers in accordance with paragraph (b)(16). A copy of each new or revised Special Written Statement shall be distributed to each customer having an account approved for writing uncovered short options not later than the time a confirmation of a transaction is delivered to each customer who enters into a transaction in options issued by The Options Clearing Corporation.
(3) NASD will advise members when a new or revised current disclosure document meeting the requirements of SEC Rule 9b-1 of the Act is available.
(B) Where a broker or dealer enters his orders with another member in a single omnibus account, the member holding the account shall take reasonable steps to assure that such broker or dealer is furnished reasonable quantities of current disclosure documents, as requested by him in order to enable him to comply with the requirements of SEC Rule 9b-1 of the Act.
(C) Where an introducing broker or dealer enters orders for his customers with, or clears transactions through, a member on a fully disclosed basis and that member carries the accounts of such customers, the responsibility for delivering the current disclosure document(s) as provided in this paragraph (b)(11) shall rest with the member carrying the accounts. However, such member may rely upon the good faith representation of the introducing broker or dealer that the current disclosure document(s) has been delivered in compliance with paragraph (b)(11).
(12) Confirmations
Every member shall promptly furnish to each customer a written confirmation of each transaction in option contracts for such customer's account. Each such confirmation shall show the type of option, the underlying security or index, the expiration month, the exercise price, the number of option contracts, the premium, the commission, the trade and settlement dates, whether the transaction was a purchase or a sale (writing) transaction, whether the transaction was an opening or a closing transaction, whether the transaction was effected on a principal or agency basis and, for other than options issued by The Options Clearing Corporation, the date of expiration. The confirmation shall by appropriate symbols distinguish between exchange listed and other transactions in option contracts.
(13) Transactions with Issuers
No member under any circumstances shall enter a transaction for the sale (writing) of a call option contract for the account of any corporation which is the issuer of the underlying security thereof.
(14) Restricted Stock
For the purposes of covering a short position in a call option contract, delivery pursuant to the exercise of a put option contract, or satisfying an exercise notice assigned in respect of a call option contract, no member shall accept shares of an underlying stock, which may not be sold by the holder thereof except upon registration pursuant to the provisions of the Securities Act of 1933 or pursuant to Commission rules promulgated under the Securities Act of 1933, unless, at the time such securities are accepted and at any later time such securities are delivered, applicable provisions of the Securities Act of 1933 and the rules thereunder have been complied with by the holder of such securities.
(15) Statements of Account
(A) Statements of account showing security and money positions, entries, interest charges and any special charges that have been assessed against such account during the period covered by the statement shall be sent no less frequently than once every month to each customer in whose account there has been an entry during the preceding month with respect to an option contract and quarterly to all customers having an open option position or money balance. Interest charges and any special charges assessed during the period covered by the statement need not be specifically delineated if they are otherwise accounted for on the statement and have been itemized on transaction confirmations. With respect to options customers having a general (margin) account, such statements shall also provide the mark-to-market price and market value of each option position and other security position in the general (margin) account, the total market value of all positions in the account, the outstanding debit or credit balance in the account, and the general (margin) account equity. The statements shall bear a legend stating that further information with respect to commissions and other charges related to the execution of option transactions has been included in confirmations of such transactions previously furnished to the customer, and that such information will be made available to the customer promptly upon request. The statements shall also bear a legend requesting the customer promptly to advise the member of any material change in the customer's investment objectives or financial situation.
(B) For purposes of this subparagraph (15), general (margin) account equity shall be computed by subtracting the total of the "short" security values and any debit balance from the total of the "long" security values and any credit balance.
(16) Opening of Accounts
(A) Approval Required
No member or person associated with a member shall accept an order from a customer to purchase or write an option contract relating to an options class that is the subject of an options disclosure document, or approve the customer's account for the trading of such option, unless the broker or dealer furnishes or has furnished to the customer the appropriate options disclosure document(s) and the customer's account has been approved for options trading in accordance with the provisions of subparagraphs (B) through (D) hereof.
(B) Diligence in Opening Accounts
In approving a customer's account for options trading, a member or any person associated with a member shall exercise due diligence to ascertain the essential facts relative to the customer, his financial situation and investment objectives. Based upon such information, the branch office manager or other Registered Options Principal shall specifically approve or disapprove in writing the customer's account for options trading; provided, that if the branch office manager is not a Registered Options Principal, account approval or disapproval shall within ten (10) business days be submitted to and approved or disapproved by a Registered Options Principal. A record of the information obtained pursuant to this subparagraph and of the approval or disapproval of each such account shall be maintained by the member as part of its permanent records in accordance with paragraph (b)(17).
(C) Verification of Customer Background and Financial Information
The background and financial information upon which the account of every new options customer that is a natural person has been approved for options trading, unless the information is included in the customer's account agreement, shall be sent to the customer for verification within fifteen (15) days after the customer's account has been approved for options trading. A copy of the background and financial information on file with a member shall also be sent to the customer for verification within fifteen (15) days after the member becomes aware of any material change in the customer's financial situation.
(D) Account Agreement
Within fifteen (15) days after a customer's account has been approved for options trading, a member shall obtain from the customer a written agreement that the customer is aware of and agrees to be bound by the Rules of the Association applicable to the trading of option contracts and, if he desires to engage in transactions in options issued by The Options Clearing Corporation, that the customer has received a copy of the current disclosure document(s) required to be furnished under this subparagraph (16) and that he is aware of and agrees to be bound by the rules of The Options Clearing Corporation. In addition, the customer should indicate on such written agreement that he is aware of and agrees not to violate the position limits established pursuant to paragraph (b)(3) and the exercise limits established pursuant to paragraph (b)(4).
(E) Uncovered Short Option Contracts
Each member transacting business with the public in writing uncovered short option contracts shall develop, implement and maintain specific written procedures governing the conduct of such business which shall include, at least, the following:
(i) Specific criteria and standards to be used in evaluating the suitability of a customer for writing uncovered short option transactions;
(ii) Specific procedures for approval of accounts engaged in writing uncovered short option contracts, including written approval of such accounts by a Registered Options Principal;
(iii) Designation of a specific Registered Options and Security Futures Principal(s) as responsible for approving customer accounts that do not meet the specific criteria and standards for writing uncovered short option transactions and for maintaining written records of the reasons for every account so approved;
(iv) Establishment of specific minimum net equity requirements for initial approval and maintenance of customer accounts writing uncovered short option transactions; and
(v) Requirements that customers approved for writing uncovered short options transactions be provided with a special written statement for uncovered option writers approved by the Association that describes the risks inherent in writing uncovered short option transactions, at or prior to the initial writing of an uncovered short option transaction.
(17) Maintenance of Records
(A) In addition to the requirements of Rule 3110, every member shall maintain and keep current a separate central log, index or other file for all options-related complaints, through which these complaints can easily be identified and retrieved. The central file shall be located at the principal place of business of the member or such other principal office as shall be designated by the member. At a minimum, the central file shall include:
(i) identification of complainant;
(ii) date complaint was received;
(iii) identification of registered representative servicing the account;
(iv) a general description of the matter complained of; and
(v) a record of what action, if any, has been taken by the member with respect to the complaint.
For purposes of this subparagraph, the term "options-related complaint" shall mean any written statement by a customer or person acting on behalf of a customer alleging a grievance arising out of or in connection with options. Each options-related complaint received by a branch office of a member shall be forwarded to the office in which the separate, central file is located not later than 30 days after receipt by the branch office that is the subject of the complaint. A copy of every options-related complaint shall also be maintained at the branch office that is the subject of the complaint.
(B) Background and financial information of customers who have been approved for options trading shall be maintained at both the branch office servicing the customer's account and the principal supervisory office having jurisdiction over that branch office. Copies of account statements of options customers shall also be maintained at both the branch office supervising the accounts and the principal supervisory office having jurisdiction over that branch for the most recent six-month period. With respect solely to the above-noted record retention requirements applicable to principal supervisory offices, however, the customer information and account statements may be maintained at a location other than the principal supervisory office if such documents and information are readily accessible and promptly retrievable. Other records necessary to the proper supervision of accounts shall be maintained at a place easily accessible both to the branch office servicing the customer's account and to the principal supervisory office having jurisdiction over that branch office.
(18) Discretionary Accounts
(A) Authorization and Approval
(i) No member and no person associated with a member shall exercise any discretionary power with respect to trading in option contract in a customer's account, or accept orders for option contracts for an account from a person other than the customer, except in compliance with the provisions of Rule 2510 and unless:
a. The written authorization of the customer required by Rule 2510 shall specifically authorize options trading in the account; and
b. the account shall have been accepted in writing by a Registered Options Principal.
(ii) Each firm shall designate specific Registered Options and Security Futures Principals to review discretionary accounts. A Registered Options and Security Futures Principal other than the Registered Options and Security Futures Principal who accepted the account shall review the acceptance of each discretionary account to determine that the Registered Options and Security Futures Principal accepting the account had a reasonable basis for believing that the customer was able to understand and bear the risk of the strategies or transactions proposed, and shall maintain a record of the basis for such determination. Every discretionary order shall be identified as discretionary on the order at the time of entry. Discretionary accounts shall receive frequent appropriate supervisory review by a Registered Options and Security Futures Principal who is not exercising the discretionary authority. The provisions of this subparagraph (18) shall not apply to discretion as to the price at which or the time when an order given by a customer for the purchase or sale of a definite number of option contracts in a specified security shall be executed, except that the authority to exercise time and price discretion will be considered to be in effect only until the end of the business day on which the customer granted such discretion, absent specific, written contrary indication signed and dated by the customer. This limitation shall not apply to time and price discretion exercised in an institutional account, as defined in Rule 3110(c)(4), pursuant to valid Good-Till-Cancelled instructions issued on a "not held" basis. Any exercise of time and price discretion must be reflected on the order ticket.
(iii) Any member that does not utilize computerized surveillance tools for the frequent and appropriate review of discretionary activity must establish and implement procedures to require specific Registered Options and Security Futures Principals who have been designated to review discretionary accounts to approve and initial each discretionary order on the day entered.
(B) Record of Transactions
A record shall be made of every transaction in option contracts in respect to which a member or person associated with a member has exercised discretionary authority, clearly reflecting such fact and indicating the name of the customer, the designation and number of the option contracts, the premium and the date and time when such transaction was effected.
(C) Option Programs
Where the discretionary account utilizes options programs involving the systematic use of one or more options strategies, the customer shall be furnished with a written explanation of the nature and risks of such programs.
(19) Suitability
(A) No member or person associated with a member shall recommend to any customer any transaction for the purchase or sale (writing) of an option contract unless such member or person associated therewith has reasonable grounds to believe upon the basis of information furnished by such customer after reasonable inquiry by the member or person associated therewith concerning the customer's investment objectives, financial situation and needs, and any other information known by such member or associated person, that the recommended transaction is not unsuitable for such customer.
(B) No member or person associated with a member shall recommend to a customer an opening transaction in any option contract unless the person making the recommendation has a reasonable basis for believing, at the time of making the recommendation, that the customer has such knowledge and experience in financial matters that he may reasonably be expected to be capable of evaluating the risks of the recommended transaction, and is financially able to bear the risks of the recommended position in the option contract.
(20) Supervision of Accounts
(A) Duty to Supervise
Each member that conducts a public customer options business shall ensure that its written supervisory system policies and procedures pursuant to Rules 3010, 3012, and 3013 adequately address the member's public customer options business.
(B) Branch Offices
No branch office of a member shall transact an options business unless the principal supervisor of such branch office accepting options transactions has been qualified as either a Registered Options and Security Futures Principal or a Limited Principal—General Securities Sales Supervisor; provided that this requirement shall not apply to branch offices in which no more than three registered representatives are located, so long as the options activities of such branch offices are appropriately supervised by either a Registered Options and Security Futures Principal or a Limited Principal—General Securities Sales Supervisor.
(C) Headquarters Review of Accounts
Each member shall maintain at the principal supervisory office having jurisdiction over the office servicing customer accounts, or have readily accessible and promptly retrievable, information to permit review of each customer's options account on a timely basis to determine:
(i) the compatibility of options transactions with investment objectives and with the types of transactions for which the account was approved;
(ii) the size and frequency of options transactions;
(iii) commission activity in the account;
(iv) profit or loss in the account;
(v) undue concentration in any options class or classes, and
(vi) compliance with the provisions of Regulation T of the Federal Reserve Board.
(21) Violation of By-Laws and Rules of the Association or The Options Clearing Corporation
(A) In Association disciplinary proceedings, a finding of violation of any provision of the rules, regulations or by-laws of The Options Clearing Corporation by any member or person associated with a member engaged in transactions involving options issued, or subject to issuance, by The Options Clearing Corporation, may be deemed to be conduct inconsistent with just and equitable principles of trade and a violation of Rule 2110.
(B) In Association disciplinary proceedings, a finding of violation of any provision of the Rules, regulations or By-Laws of the Association by any member engaged in option transactions may be deemed to be conduct inconsistent with just and equitable principles of trade and a violation of Rule 2110.
(22) Stock Transfer Tax
Any stock transfer or similar tax payable in accordance with applicable laws and regulations of a taxing jurisdiction upon the sale, transfer or delivery of securities pursuant to the exercise of an option contract shall be the responsibility of the seller (writer) to whom the exercise notice is assigned in the case of a call option contract or the exercising holder in the case of a put option contract except that (A) in the case of a call option contract where the incidents of the tax are attributable solely to the exercising holder, the member representing such holder or another member which acts on its behalf as a clearing member of The Options Clearing Corporation, the tax shall be the responsibility of the exercising holder, and (B) in the case of a put option contract where the incidents of the tax are attributable solely to the seller (writer) to whom the exercise notice is assigned, the member representing such seller (writer) or another member which acts on its behalf as a clearing member of The Options Clearing Corporation, the tax shall be the responsibility of such seller (writer). Each delivery of securities subject to such tax must be accompanied by a sales ticket stamped in accordance with the regulations of the State imposing such tax, or if required by applicable law, such tax shall be remitted by the clearing member having responsibility therefor to the clearing corporation through which it customarily pays stock transfer taxes, in accordance with the applicable rules of such clearing corporation.
(23) Tendering Procedures for Exercise of Options
(A) Exercise of Options Contracts
(i) Subject to the restrictions established pursuant to paragraph (b)(4) and (b)(8) hereof and such other restrictions that may be imposed by NASD, The Options Clearing Corporation or an options exchange pursuant to appropriate rules, an outstanding option contract issued by The Options Clearing Corporation may be exercised during the time period specified in the rules of The Options Clearing Corporation by the tender to The Options Clearing Corporation of an exercise notice in accordance with rules of The Options Clearing Corporation. An exercise notice may be tendered to The Options Clearing Corporation only by the clearing member in whose account the option contract is carried. Members may establish fixed procedures as to the latest time they will accept exercise instructions from customers.
(ii) Final exercise decisions of options holders to either exercise or not to exercise an expiring standardized equity option must be indicated to an options exchange that is a national securities exchange (national options exchange) that lists and trades the option, either directly to such national options exchange or via a member of such national options exchange if it is not a member of such exchange, by the respective member no later than 5:30 p.m. Eastern time ("ET") on the business day immediately prior to the expiration date. For customer accounts, members may not accept exercise instructions after 5:30 p.m. ET but have until 6:30 p.m. ET to submit a Contrary Exercise Advice (as defined below). For non-customer accounts, members may not accept exercise instructions after 5:30 p.m. ET but have until 6:30 p.m. ET to submit a Contrary Exercise Advice if such member employs an electronic submission procedure with time stamp for the submission of exercise instructions by option holders. Members are required to submit a Contrary Exercise Advice by 5:30 p.m. ET for non-customer accounts if such members do not employ an electronic submission procedure with time stamp for the submission of exercise instructions by option holders. Each member shall establish fixed procedures to ensure secure time stamps in connection with their electronic systems employed for the recording of submissions to exercise or not exercise expiring options. For purposes of this Rule 2860(b)(23)(A), the terms "customer account' and non-customer account" shall have the meanings as defined in The Options Clearing Corporation By-laws.
(iii) Special procedures apply to the exercise of standardized equity options on the last business day before their expiration ("expiring options"). Unless waived by The Options Clearing Corporation, expiring standardized equity options are subject to the Exercise-by-Exception ("Ex-by-Ex") procedure under The Options Clearing Corporation Rule 805. This rule provides that, unless contrary instructions are given, standardized equity option contracts that are in-the-money by specified amounts shall be automatically exercised. In addition to The Options Clearing Corporation rules, the following NASD requirements apply with respect to expiring standardized equity options. Option holders desiring to exercise or not exercise expiring standardized equity options must either:
a. take no action and allow exercise determinations to be made in accordance with The Options Clearing Corporation's Ex-by-Ex procedure where applicable; or
b. submit a "Contrary Exercise Advice" by the deadline specified in paragraph (ii) above. A Contrary Exercise Advice is a form approved by the national options exchanges, NASD or The Options Clearing Corporation for use by a member to submit a final exercise decision committing an options holder to either: (1) not exercise an option position which would automatically be exercised pursuant to The Options Clearing Corporation's Ex-by-Ex procedure; or (2) to exercise a standardized equity option position which would not automatically be exercised pursuant to The Options Clearing Corporation's Ex-by-Ex procedure. A Contrary Exercise Advice may be canceled by filing an "Advice Cancel" or resubmitted at any time up to the submission cut-off times specified in paragraph (ii) above. Contrary Exercise Advices and/or Advice Cancels may be submitted by any member to:
1. a place designated for that purpose by any national options exchange of which it is a member and where the standardized equity option is listed;
2. a place designated for that purpose by any national options exchange that lists and trades the standardized equity option via a member of such exchange if the member is not a member of such exchange;
3. any national options exchange of which it is a member and where the standardized equity option is listed via The Options Clearing Corporation in a form prescribed by The Options Clearing Corporation; or
4. any national options exchange where the standardized equity option is listed via The Options Clearing Corporation in a form prescribed by The Options Clearing Corporation, provided the member is a member of The Options Clearing Corporation.
(iv) In those instances when The Options Clearing Corporation has waived the Ex-by-Ex procedure for an options class, members must either:
a. submit to any of the places listed in paragraphs (iii)b.1. through 4. above, a Contrary Exercise Advice, within the time limits specified in paragraph (ii) above if the holder intends to exercise the standardized equity option, or
b. take no action and allow the standardized equity option to expire without being exercised.
The applicable underlying security price in such instances will be as described in The Options Clearing Corporation Rule 805(1), which is normally the last sale price in the primary market for the underlying security. In cases where the Ex-by-Ex procedure has been waived for an options class, The Options Clearing Corporation rules require that members wanting to exercise such options must submit an affirmative Exercise Notice to The Options Clearing Corporation, whether or not a Contrary Exercise Advice has been filed.
(v) Members that maintain proprietary or public customer positions in expiring standardized equity options shall take necessary steps to ensure that final exercise decisions are properly indicated to the relevant national options exchange with respect to such positions. Members that have accepted the responsibility to indicate final exercise decisions on behalf of another member also shall take necessary steps to ensure that such decisions are properly indicated to the relevant national options exchange. Members may establish a processing cut-off time prior to NASD's exercise cut-off time at which they will no longer accept final exercise decisions in expiring standardized equity options from customers.
(vi) Members may effect or amend exercise decisions for standardized equity options after the exercise cut-off time (but prior to expiration) under the following circumstances:
a. in order to remedy mistakes or errors made in good faith;
b. to take appropriate action as the result of a failure to reconcile unmatched option transactions; or
c. where extraordinary circumstances restricted a customer's or member's ability to inform the respective member of such decisions (or a member's ability to receive such decisions) by the cut-off time.
The burden of establishing an exception for a proprietary or customer account of a member rests solely on the member seeking to rely on such exception.
(vii) In the event a national options exchange or The Options Clearing Corporation provides advance notice on or before 5:30 p.m. ET on the business day immediately prior to the last business day before the expiration date indicating that a modified time for the close of trading in standardized equity options on such last business day before expiration will occur, then the deadline to make a final decision to exercise or not exercise an expiring option shall be 1 hour 28 minutes following the time announced for the close of trading on that day instead of the 5:30 p.m. ET deadline found in paragraph (ii) above. However, members may deliver a Contrary Exercise Advice or Advice Cancel to the places specified in paragraphs (iii)b.1. through 4. above within 2 hours 28 minutes following the time announced for the close of trading in standardized equity options on that day instead of the 6:30 p.m. ET deadline found in paragraph (ii) above for customer accounts and non-customer accounts where such member firm employs an electronic submission procedure with time stamp for the submission of exercise instructions. For non-customer accounts, members that do not employ an electronic procedure with time stamp for the submission of exercise instructions are required to deliver a Contrary Exercise Advice or Advice Cancel within 1 hour and 28 minutes following the time announced for the close of trading on that day instead of the 5:30 p.m. ET deadline found in paragraph (ii) above.
(viii) The filing of a final exercise decision, exercise instruction, exercise advice, Contrary Exercise Advice or Advice Cancel required by paragraph (A) hereof does not serve as a substitute to the effective notice required to be submitted to The Options Clearing Corporation for the exercise or non-exercise of expiring standardized equity options.
(ix) Submitting or preparing an exercise instruction after the exercise cut-off time in any expiring standardized equity option on the basis of material information released after the exercise cut-off time is activity inconsistent with just and equitable principles of trade.
(x) The exercise cut-off requirements contained in this paragraph (A) do not apply to any currency option or standardized index option products listed on a national options exchange.
(B) In the event a member receives and acts on an exercise instruction (for its own proprietary account or on behalf of a customer's account) pursuant to an exception set forth in subparagraphs a., b., or c. of subparagraph (A)(vi) hereof, the member shall maintain a memorandum setting forth the circumstances giving rise to such exception and shall file a copy of the memorandum with the Market Regulation Department of the national options exchange trading the option, if it is a member of such exchange, or NASD's Market Regulation Department if it is not a member of such exchange, no later than 12:00 p.m., ET on the business day following that expiration. Such memorandum must additionally include the time when such final exercise decision was made or, in the case of a customer, received, and shall be subject to the requirements of SEC Rules 17a-3(a)(6) and 17a-4(b).
(C) Allocation of Exercise Assignment Notices.
(i) Each member shall establish fixed procedures for the allocation to customers of exercise notices assigned in respect of a short position in option contracts in such member's customer accounts. Such allocation shall be on a "first in-first out" or automated random selection basis that has been approved by the Association or on a manual random selection basis that has been specified by the Association. Each member shall inform its customers in writing of the method it uses to allocate exercise notices to its customer's accounts, explaining its manner of operation and the consequences of that system.
(ii) Each member shall report its proposed method of allocation to the Association and obtain the Association's prior approval thereof, and no member shall change its method of allocation unless the change has been reported to and been approved by the Association. The requirements of this subparagraph (C) shall not be applicable to allocation procedures submitted to and approved by another self-regulatory organization having comparable standards pertaining to methods of allocation.
(iii) Each member shall preserve for a three-year period sufficient work papers and other documentary materials relating to the allocation of exercise assignment notices to establish the manner in which allocation of such exercise assignment notices is in fact being accomplished.
(D) Delivery and Payment
Delivery of the shares of an underlying security upon the exercise of an option contract and payment of the aggregate exercise price in respect thereto, shall be effected in accordance with the rules of The Options Clearing Corporation. As promptly as practicable after the exercise of an option contract by a customer, the member shall require the customer to make full cash payment of the aggregate exercise price in the case of a call option contract or to deposit the underlying stock in the case of a put option contract, or, in either case, to make the required margin deposit in respect thereto if such transaction is effected in a margin account, in accordance with the applicable regulations of the Federal Reserve Board and Rule 2520. As promptly as practicable after the assignment to a customer of an exercise notice, the member shall require the customer to deposit the underlying stock in the case of a call option contract if the shares of the underlying security are not carried in the customer's account, or to make full cash payment of the aggregate exercise price in the case of a put option contract, or, in either case, to make the required market deposit in respect thereof, if such transaction is effected in a margin account, in accordance with Rule 2520 and the applicable regulations of the Federal Reserve Board.
(24) Options Transactions and Reports by Market Makers in Listed Securities
Every member who is an off-board market maker in a security listed on a national securities exchange shall report to the Association in accordance with such procedures as may be prescribed by the Board of Governors, transactions involving 50 or more option contracts on such listed securities which are either directly for the benefit of (A) the member or (B) any employee, partner, officer, or director of the member who, by virtue of his position with the member, is directly involved in the purchase or sale of the underlying security for the firm's proprietary account(s) or is directly responsible for supervision of such persons; or who by virtue of his position in the firm, is authorized to, and regularly does, obtain information on the proprietary account(s) of the member in which the underlying security is traded. This subparagraph shall apply to all options transactions including those executed on an exchange to which the member may belong.
(c) Portfolio Margining Disclosure Statement and Acknowledgement
The special written disclosure statement describing the nature and risks of portfolio margining, and acknowledgement for an eligible participant signature, required by Rule 2520(g)(5)(C) shall be in a format prescribed by NASD or in a format developed by the member, provided it contains substantially similar information as in the prescribed NASD format and has received the prior written approval of NASD.
