Federal Register, Volume 83 Issue 147 (Tuesday, July 31, 2018) 
[Federal Register Volume 83, Number 147 (Tuesday, July 31, 2018)]
[Proposed Rules]
[Pages 36799-36814]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-16079]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 41

RIN 3038-AE61

Position Limits and Position Accountability for Security Futures
Products

AGENCY: Commodity Futures Trading Commission.

ACTION: Proposed rule.

———————————————————————–

SUMMARY: The Commodity Futures Trading Commission (“CFTC” or
“Commission”) is proposing to amend its position limits rules for
security futures products (“SFPs”) by: Increasing the default level
of equity SFP position limits, and modifying the criteria for setting a
higher level of position limits and position accountability levels. In
addition, the proposed amended position limit regulation would provide
discretion to a designated contract market (“DCM”) to apply limits to
either a person’s net position or a person’s position on the same side
of the market. The Commission also proposes criteria for setting
position limits on an SFP on other than an equity security, generally
based on an estimate of deliverable supply.

DATES: Comments must be received on or before October 1, 2018.

ADDRESSES: You may submit comments, identified by RIN 3038-AE61 and
“Position Limits and Position Accountability for Security Futures
Products,” by any of the following methods:
     CFTC website: http://comments.cftc.gov. Follow the
instructions for submitting comments through the Comments Online
process on the website.
     Mail: Christopher Kirkpatrick, Secretary of the
Commission, Commodity Futures Trading Commission, Three Lafayette
Centre, 1155 21st Street NW, Washington, DC 20581.
     Hand delivery/courier: Same as Mail above.
    Please submit your comments using only one method.
    All comments must be submitted in English, or if not, accompanied
by an English translation. Comments will be posted as received to
http://www.cftc.gov. You should submit only information that you wish
to make available publicly. If you wish the Commission to consider
information that is exempt from disclosure under the Freedom of
Information Act, a petition for confidential treatment of the exempt
information may be submitted according to the procedures set forth in
section 145.9 of the Commission’s regulations.1
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    1 All Commission regulations referred to herein are found in
chapter I of title 17 of the Code of Federal Regulations. Commission
regulations are accessible on the Commission’s website, http://www.cftc.gov.
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    The Commission reserves the right, but shall have no obligation, to
review, pre-screen, filter, redact, refuse or remove any or all of your
submission from http://www.cftc.gov that it may deem to be
inappropriate for publication, such as obscene language. All
submissions that have been redacted or removed that contain comments on
the merits of the rulemaking will be retained in the public comment
file and will be considered as required under the Administrative
Procedure Act and other

[[Page 36800]]

applicable laws, and may be accessible under the Freedom of Information
—————————————————————————
Act.

FOR FURTHER INFORMATION CONTACT: Thomas M. Leahy, Jr., Associate
Director, Product Review, Division of Market Oversight, 202-418-5278,
[email protected]; or Riva Spear Adriance, Senior Special Counsel, Chief
Counsel’s Office, Division of Market Oversight, 202-418-5494,
[email protected]; Commodity Futures Trading Commission, Three
Lafayette Centre, 1155 21st Street NW, Washington, DC 20581.

SUPPLEMENTARY INFORMATION:

I. Background

A. Overview

    On December 21, 2000, the Commodity Futures Modernization Act
(“CFMA”) became law and amended the Commodity Exchange Act (“CEA”).
The CFMA removed a long-standing ban 2 on trading futures on single
securities and narrow-based security indexes 3 in the United States.
As amended by the CFMA, in order for a DCM to list SFPs,4 the SFPs
and the securities underlying the SFPs must meet a number of
criteria.5 One of the criteria requires that trading in the SFP is
not readily susceptible to manipulation of the price of such SFP, nor
to causing or being used in the manipulation of the price of any
underlying security, option on such security, or option on a group or
index including such securities.6
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    2 See section 251(a) of the CFMA. This trading previously was
prohibited by 7 U.S.C. 2(a)(1)(B)(v).
    3 See 7 U.S.C. 1a(35) for the definition of “narrow-based
security index.”
    4 The term “security futures product” is defined in section
1a(45) of the CEA and section 3(a)(56) of the Exchange Act to mean a
security future or any put, call, straddle, option, or privilege on
any security future. The term “security future” is defined in
section 1a(44) of the CEA and section 3(a)(55)(A) of the Exchange
Act to include futures contracts on individual securities and on
narrow-based security indexes. The term “narrow-based security
index” is defined in section 1a(35) of the CEA and section
3(a)(55)(B) of the Exchange Act.
    5 See 7 U.S.C. 2(a)(1)(D)(i).
    6 7 U.S.C. 2(a)(1)(D)(i)(VII).
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    As the Commission noted when it proposed to adopt criteria for
trading of SFPs:

    It is important that the listing standards and conditions in the
CEA and the [Securities Exchange Act of 1934 (“Exchange Act”)] be
easily understood and applied by [DCMs]. The rules proposed today
address issues related to these standards and establish uniform
requirements related to position limits, as well as provisions to
minimize the potential for manipulation and disruption to the
futures markets and underlying securities markets.7
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    7 See Listing Standards and Conditions for Trading Security
Futures Products, proposed rules, 66 FR 37932, 37933 (July 20, 2001)
(“2001 Proposed SFP Rules”). The Commission further noted, “The
speculative position limit level adopted by a [DCM] should be
consistent with the obligation in section 2(a)(1)(D)(i)(VII) of the
CEA that the [DCM] maintain procedures to prevent manipulation of
the price of the [SFP] and the underlying security or securities.”
Id. at 37935.
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    Among those provisions is current Commission regulation
41.25(a)(3), which requires a DCM that lists SFPs to establish position
limits or position accountability standards. The Commission’s SFP
position limits regulations were set at levels that are generally
comparable but not identical to the limits that currently apply to
options on individual securities.8
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    8 See Listing Standards and Conditions for Trading Security
Futures Products, 66 FR 55078, 55082 (November 1, 2001) (“2001
Final SFP Rules”).
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    Under the existing regulations, a DCM is required to establish for
each SFP a position limit, applicable to positions held during the last
five trading days of an expiring contract month, of no greater than
13,500 (100-share) contracts, except under specific conditions.9 If a
security underlying an SFP has either (i) an average daily trading
volume of at least 20 million shares; or (ii) an average daily trading
volume of at least 15 million shares and at least 40 million shares
outstanding, then the DCM may establish a position limit for the SFP of
no more than 22,500 contracts.10 A DCM may adopt position
accountability for an SFP on a security that has: (i) An average daily
trading volume of at least 20 million shares; and (ii) at least 40
million shares outstanding.11 Under any position accountability
regime, upon a request from a DCM, traders holding a position of
greater than 22,500 contracts, or such lower threshold as specified by
the DCM, must provide information to the exchange regarding the nature
of the position.12 Under position accountability, traders must also
consent to halt increases in the size of their positions upon the
direction of the DCM.13 The position limits and position
accountability trigger levels specified in the Commission’s regulations
are based on a contract size of 100 shares in the underlying security.
DCMs may use part 150 of the Commission’s regulations as guidance when
approving exemptions from SFP position limit rules.14
—————————————————————————

    9 17 CFR 41.25(a)(3)(i). The 13,500 limit level is premised on
an SFP contract size of 100 shares of an underlying equity security.
    10 17 CFR 41.25(a)(3)(i)(A).
    11 17 CFR 41.25(a)(3)(i)(B).
    12 Id.
    13 Id.
    14 Although part 150 previously provided requirements for
exchange-set position limits, it was rendered “mere guidance” by
the CFMA. See, e.g., 81 FR 96704, 96742 (Dec. 30, 2016); see also 74
FR 12178, 12183 (March 23, 2009) (noting “the part 150 rules
essentially constitute guidance for DCMs administering position
limits regimes”).
—————————————————————————

B. Differences Between Initially Adopted SFP and Equity Option Position
Limit Rules

    In response to the 2001 Proposed SFP rules, three commenters noted
several differences between the SFP position limit regulations and
position limit rules for equity security options listed on national
security exchanges or associations (“NSE”) approved by the Securities
and Exchange Commission (“SEC”): (1) The specification that position
limits for SFPs are on a net, rather than a gross,15 basis; (2) the
numerical limits on SFPs differ from those on security options; and (3)
the position limits for SFPs are applicable only during the last five
trading days prior to expiration, rather than at any time in the
lifespan of a security option contract.16 Commenters also requested
that the Commission coordinate with the SEC so that the SFP position
limit regulations are the same as those applicable to security and
securities index options, or, alternatively, that such position limit
regulations more closely resemble existing limits on security and
securities index options.17 The Commission noted that the provisions
in Commission regulation 41.25(a)(3) as finalized were consistent with
the Commission’s customary approach for all other futures markets,18
were necessary to effectively oversee the markets, and were consistent
with the obligation of a DCM to prevent manipulation of the price of an
SFP and its underlying security or securities.19
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    15 The Commission understands that “gross” in this context
means on the same side of the market, as discussed infra.
    16 2001 Final SFP Rules at 55081.
    17 Id. at 55082.
    18 See infra discussion regarding part 150 of the Commission’s
regulations.
    19 2001 Final SFP Rules at 55082.
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    There was one other difference between the position limit rules for
SFPs and security options, on which no one commented. Specifically, the
volume test adopted by the Commission for position limits on SFPs was
based on average trading volume over a six-month period while the
volume test for security options was based on total trading volume over
a six-month period. This difference typically results in position
limits for SFPs that are more restrictive than those on analogous
security options.20
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    20 Although DCMs may adopt for certain SFPs position
accountability provisions with an accountability level of 22,500
(100-share) SFP contracts, in lieu of position limits, the analogous
security option is subject to a position limit likely to be set at a
level of 250,000 (100-share) option contracts, as shown below in
Table A.

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[[Page 36801]]

C. Subsequent Developments in SFP Position Limit Regulations

    Since the 2001 Final SFP Rules, the Commission’s SFP position limit
regulations have not been substantively amended to account for SFPs on
securities other than common stock, although the statute authorizes it.
CEA section 2(a)(1)(D)(i) authorizes DCMs to list for trading SFPs
based upon common stock and such other equity securities as the
Commission and the Securities and Exchange Commission jointly determine
appropriate.21 The CFMA further authorized the Commission and the SEC
(collectively “Commissions”) to allow SFPs to be based on securities
other than equity securities.22 The Commissions used their authority
to allow SFPs on Depositary Receipts; 23 Exchange Traded Funds, Trust
Issued Receipts and Closed End Funds; 24 and debt securities.25
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    21 7 U.S.C. 2(a)(1)(D)(i)(III).
    22 7 U.S.C. 2(a)(1)(D)(v)(I).
    23 See Joint Order Granting the Modification of Listing
Standards Requirements under section 6(h) of the Securities Exchange
Act of 1934 and the Criteria under section 2(a)(1) of the Commodity
Exchange Act, August 20, 2001 https://www.sec.gov/rules/other/34-44725.htm.
    24 See 67 FR 42760 (June 25, 2002).
    25 See 17 CFR 41.21(a)(2)(iii) (providing that the underlying
security of an SFP may include a note, bond, debenture, or evidence
of indebtedness); see also 71 FR 39534 (July 13, 2006) (describing
debt securities to include notes, bonds, debentures, or evidences of
indebtedness).
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D. Subsequent Equity Security Option Position Limit Increases

    Since the Commission’s initial adoption of SFP position limits, the
SEC has granted approval to increase position limits for equity
security options listed on NSEs, but the Commission has not amended its
SFP regulations to reflect those changes. For example, under current
position limits for equity security options that are uniform across
rules of NSEs,26 position limits are at least 25,000 option
contacts.27 Also, as noted above, NSEs set higher levels based on
six-month total trading volume or, alternatively, a combination of six-
month total trading volume and shares outstanding, as shown in Table
A.28
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    26 See, e.g., the Cboe Exchange, Inc. (“Cboe”) rule 4.11,
Nasdaq ISE, LLC (“ISE”) rule 412, NYSE American LLC (“NYSE
American”) rule 904, Nasdaq PHLX LLC (“Phlx”) rule 1001.
    27 See, e.g., 73 FR 10076 (February 25, 2008) (granting
permanent approval of an increase in position and exercise limits
for equity security options).
    28 Id. at 10076-77.

                               Table A–NSE Equity Security Option Position Limits
                                              [As of Dec. 6, 2017]
—————————————————————————————————————-
                                       Six-month total trading  Or, if six-month total trading volume and shares
  Option contract limit (100 shares/     volume is at least:           currently outstanding are at least:
              contract)               ————————————————————————–
                                       Trading volume (shares)  Trading volume (shares)     Shares outstanding
—————————————————————————————————————-
25,000………………………….  Default…………….  Default…………….  Default.
50,000………………………….  20 million………….  15 million………….  40 million.
75,000………………………….  40 million………….  30 million………….  120 million.
200,000…………………………  80 million………….  60 million………….  240 million.
250,000…………………………  100 million…………  75 million………….  300 million.
—————————————————————————————————————-

    Each equity security option contract limit is applicable on a gross
basis to option positions on both sides of the market.29 The NSEs
permit certain exemptions, including for qualified hedging transactions
and positions and for facilitation of orders with customers. Generally,
limits for options on registered investment companies, organized as
open-end management companies, unit investment trusts or similar
entities, are the same as the positions limits applicable to equity
options.30
—————————————————————————

    29 For example, Cboe applies limits to an aggregate position
in an option contract “of the put type and call type on the same
side of the market.” Cboe rule 4.11. For this purpose, under the
rule, long positions in put options are combined with short
positions in call options; and short positions in put options are
combined with long position in call options.
    30 NSEs have established position limits higher than shown in
Table A for certain security options on products with broad-based
holdings of underlying securities; for example, the Cboe position
limit in the DIAMONDS Trust option is 300,000 contracts, iShares
Russell 2000 Index Fund option is 500,000 contracts, PowerShares QQQ
Trust option is 900,000 contracts, and iShares MSCI Emerging Markets
Index Fund option is 500,000 contracts. Similarly, BOX Options
Exchange, Inc., Cboe, Nasdaq ISE, LLC, Nasdaq PHLX, LLC, NYSE
American, LLC, and NYSE Arca, Inc. all recently adopted position
limits for security options on the Standard and Poor’s Depositary
Receipts Trust that are 1,800,000 contracts. See, e.g., 83 FR 28274
(June 18, 2018) (allowing the SPY Pilot Program to terminate and
making immediately effective the new limit).
—————————————————————————

    In addition to position limits under NSE rules, NSEs establish
uniform exercise limits for the aggregate exercise of a long position
in any option contract within any five consecutive business days,
generally at the levels of the applicable position limits.31 This
exercise limit may serve to reduce the potential for manipulation (such
as a squeeze on short option position holders) by restricting the
number of shares demanded for delivery by a long call option position
holder, in a similar manner to a DCM’s position limit, under current
Commission regulation 41.25(a)(3), thus restricting the number of
shares that may be demanded during the last five days of trading.
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    31 See, e.g., Cboe rule 4.12, ISE rule 414, NYSE American rule
905, and Phlx rule 1001.
—————————————————————————

E. Commission’s Position Limit Approach in Other Commodity Futures

    The Commission’s customary approach for position limits in futures
contracts other than SFPs is found in part 150 of the Commission’s
regulations, which establishes a position limits regime that generally
includes three components: (1) The level of the limits, which sets a
threshold that restricts the number of speculative positions that a
person may hold in the spot-month, individual month, and all months
combined; (2) exemptions for positions that constitute bona fide
hedging transactions and certain other types of transactions; and (3)
rules to determine which accounts and positions a person must aggregate
for the purpose of determining compliance with the position limit
levels. For exchange-set position limits, on physically-delivered
contracts, the spot month limit level should be no greater than one-
quarter of the estimated spot month deliverable supply, calculated
separately for each month to be listed, and for cash settled contracts,
the spot month limit level should be no greater than necessary to
minimize the potential for manipulation

[[Page 36802]]

or distortion of the contract’s or the underlying commodity’s
price.32
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    32 See 17 CFR 150.5(b)(1); see also supra note 14.
—————————————————————————

II. The Proposal

A. Overview

    The Commission notes that SFPs and security options may serve
economically equivalent or similar functions.33 As noted above, when
adopted, the Commission’s SFP position limits regulations were set at
levels that are generally comparable but not identical to the limits
that currently apply to options on individual securities. However, over
time, while the default level for position limits for SFPs did not
change, those of security options on the same security have in some
cases changed, allowing the position limit for the security option, as
observed above, to be set at a much higher default level. This may
place SFPs at a competitive disadvantage. One goal of this proposal,
therefore, is to provide a level regulatory playing field.34
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    33 For example, the price of a long call option with a strike
price well below the prevailing market price of the underlying
security is expected to move almost in lock step with the price of a
long SFP on the same underlying security. Similarly, the price of a
long put option with a strike price well above the prevailing market
price of the underlying security is expected to move almost in lock
step with the price of a short SFP on the same underlying security.
    34 As the Commission notes above, commenters also requested
that the SFP position limit regulations be the same as those
applicable to security and securities index options, or,
alternatively, that such position limit regulations more closely
resemble existing limits on security and securities index options.
See supra note 17 and accompanying text.
—————————————————————————

    When determining appropriate limit levels, the Commission took note
of the experience of NSEs over several years with higher position limit
levels on security options, with no apparent significant issues,
suggesting, therefore, that it may be reasonable for SFP position
limits to closely resemble existing contract limits for equity options
at NSEs. To allow DCMs to adapt as NSE position limits change, the
current draft would be flexible, providing a formula for a DCM to set a
higher level, rather than the specific levels in a current rule of an
NSE.
    However, as has been noted, some aspects of the position limits
regime under current Commission regulation 41.25 differ from those on
security options as the Commission determined certain approaches were
necessary to effectively oversee the markets, and consistent with the
obligation of a DCM to prevent manipulation of the price of an SFP and
its underlying security or securities.35 In light of its experience
since the first adoption of a position limits regime for SFPs in 2001,
the Commission believes in the merit of updating Commission regulation
41.25 under an incremental approach, for example, by providing DCMs
with discretion to increase limits, generally consistent with those
currently permitted for equity options listed by an NSE, while allowing
the Commission to assess the impact on SFP markets.
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    35 See 2001 Final SFP Rules at 55082. The approach NSEs may
use to set an equity option’s position limit is not consistent with
existing Commission policy and may, in the Commission’s opinion, as
noted previously, render position limits ineffective.
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    The Commission proposes to maintain the requirement in current
Commission regulation 41.25(a)(3) that DCMs establish position limits
or, in certain cases, accountability standards for SFPs. The proposal
would increase the default level for speculative position limits in
SFPs in equity securities to 25,000 100-share contracts (or the
equivalent if the contract size is different than 100 shares per
contract) from 13,500 100-share contracts. The proposal would change
the criterion that DCMs use to set higher levels of speculative
position limits to no more than 12.5 percent of the estimated
deliverable supply 36 of the relevant underlying security, from no
greater than 22,500 100-share contracts if certain criteria are met in
current Commission regulation 41.25(a)(3)(i).37 The proposed 12.5
percent criterion is discussed further below. In this regard, the
Commission believes that exchange-set position limits for SFPs based on
estimated deliverable supply would provide flexibility to DCMs while
ensuring that position limits appropriately reflect current market
conditions for the specific securities that underlie their SFPs.
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    36 See infra regarding proposed guidance on estimated
deliverable supply.
    37 The current criteria for a level higher than 13,500 100-
share contracts are six-month average daily trading volume in the
underlying security exceeds 20 million shares, or exceeds 15 million
shares and there are more than 40 million shares of the underlying
security outstanding.
—————————————————————————

    The Commission also proposes to amend the position accountability
provisions so that a DCM could substitute position accountability for
position limits when six-month total trading volume in the underlying
security exceeds 2.5 billion shares and there are more than 40 million
shares of estimated deliverable supply, rather than the current
criteria of six-month average daily trading volume in the underlying
security exceeds 20 million shares and there are more than 40 million
outstanding shares. In addition, the maximum accountability level under
the position accountability regime would be increased to 25,000
contracts, from the current level of 22,500 contracts.
    This proposal also addresses SFPs based on products other than a
single equity security. As discussed below, these products are a
physically-delivered basket equity SFP, a cash-settled equity index
SFP, and an SFP on one or more debt securities.38
—————————————————————————

    38 The SFP definition permits the listing of SFPs on debt
securities (other than exempted securities). See supra note 22 and
accompanying text. While an SFP may not be listed on a debt security
that is an exempted security, futures contracts may be listed on an
exempted security. See infra note 69 and accompanying text.
—————————————————————————

    The Commission proposes to maintain the provision that requires
position limits to be applied during a period of time of no shorter
than the last five trading days in an expiring contract month. However,
the proposed regulation would require a longer period than five trading
days in the event the terms of an SFP provide for delivery prior to the
last five trading days.
    The Commission proposes that a DCM should have discretion to apply
position limits or position accountability levels either on a net
basis, as under current regulations, or on the same side of the
market.39 If a DCM imposes limits on the same side of the market,
then the DCM could not net positions in SFPs in the same security on
opposite sides of the market.
—————————————————————————

    39 The Commission notes that, although it has not proposed an
aggregation rule that would define “person” for purposes of SFP
position limits, current 17 CFR 150.5(g) provides guidance to DCMs
in setting aggregation standards for exchange-set position limits.
The Commission believes a DCM should have reasonable discretion to
set aggregate standards based on a person’s control or ownership of
SFP positions, including in the same manner as that of an NSE for
equity security options.
—————————————————————————

    This proposal permits DCMs to approve exemptions to limits,
provided such exemptions are consistent with the guidance in current
Commission regulation 150.5, which addresses exchange-set position
limits, rather than consistent with current Commission regulation
150.3, which addresses exemptions to Commission-set position limits. In
addition, the proposal permits DCMs to approve exemptions consistent
with those of an NSE.
    Under this proposal, DCMs would be required to calculate estimated
deliverable supply and six-month total trading volume no less
frequently than semi-annually, rather than the monthly requirement
under the current regulations. The proposal requires that a DCM lower
the position limit levels if the estimated deliverable supply

[[Page 36803]]

justifies lower position limits. Similarly, the proposal requires that
a DCM adopt position limits if the estimated deliverable supply or six-
month total trading volume no longer supports position accountability
provisions.
    Finally, as discussed further below, these proposed regulations
provide the definitions for “estimated deliverable supply and “same
side of the market”, terms used in Commission regulation 41.25, by
adding those definitions into a new paragraph (a).40
—————————————————————————

    40 In connection with adding the definitions into a new
paragraph (a), paragraphs (a) through (d) would be re-designated as
paragraphs (b) through (e).
—————————————————————————

B. Section-by-Section Discussion

1. Commission Regulation 41.25(a), Definitions
    The proposal includes two definitions used in Commission regulation
41.25: Estimated deliverable supply; and same side of the market. These
definitions are included in new paragraph (a).
    Estimated deliverable supply is defined under the proposal as the
quantity of the security underlying a security futures product that
reasonably can be expected to be readily available to short traders and
salable by long traders at its market value in normal cash marketing
channels during the specified delivery period. The proposal provides
guidance for estimating deliverable supply in proposed appendix A to
subpart C of part 41, as discussed below.
    The proposal defines same side of the market to mean long positions
in physically-delivered security futures contracts and cash settled
security futures contracts, in the same security, and, separately,
short positions in physically-delivered security futures contracts and
cash settled security futures contracts, in the same security. The
Commission invites comment on whether it should also include options on
security futures contracts in this definition, although options on SFPs
are not currently permitted to be listed.41 Generally, a long call
and a short put, on a futures equivalent basis, would be aggregated
with a long futures contract; and a short call and a long put, on a
futures equivalent basis, would be aggregated with a short futures
contract.
—————————————————————————

    41 Under CEA section 2(a)(1)(D)(iii)(II), the CFTC and SEC
may, by Order, jointly determine to permit the listing of options on
SFPs; that authority has not been exercised.
—————————————————————————

2. Commission Regulation 41.25(b)(3), Position Limits or Accountability
Rules Required
    As with current Commission regulation 41.25(a)(3), under this
proposal, the paragraph, as re-designated regulation 41.25(b)(3), would
continue to require a DCM to establish position limits or position
accountability rules in each SFP for the expiring futures contract
month.
3. Commission Regulation 41.25(b)(3)(i), Limits for Equity SFPs
    Proposed changes to regulation 41.25(a)(3)(i), re-designated as
regulation 41.25(b)(3)(i), would increase the default level of position
limits in an equity SPF to no greater than 25,000 100-share contracts
(or the equivalent if the contract size is different than 100 shares
per contract), either net or on the same side of the market, from the
existing regulation’s default level of no greater than 13,500 100-share
contracts on a net basis. The default level of 25,000 100-share
contracts is equal to 2,500,000 shares. The Commission notes that 12.5
percent of 20 million shares equals 2,500,000 shares. Thus, for an
equity security with less than 20 million shares of estimated
deliverable supply, the default position limit level for the equity SFP
would be larger than 12.5 percent of estimated deliverable supply.
While a DCM could adopt the default position limit for SFPs in equity
securities with fewer than 20 million shares, consistent with a
position limit applicable to an option on that security, the Commission
would expect a DCM to assess the liquidity of trading in the underlying
security to determine whether the DCM should set a lower position limit
level, as appropriate to ensure compliance with DCM Core Principles 3
and 5. In this regard, the Commission seeks comment on whether it
should provide greater specificity with respect to this liquidity
assessment and whether there are circumstances where the position limit
level should be set lower than 25,000 100-share contracts (for example,
no greater than 12.5 percent of estimated deliverable supply).42
—————————————————————————

    42 Core Principle 3, 7 U.S.C. 7(d)(3), provides that DCMs
shall list only contracts that are not readily susceptible to
manipulation, while Core Principle 5, 7 U.S.C. 7(d)(5), provides for
the adoption of position limits and position accountability, as is
necessary and appropriate, to deter the threat of manipulation.
Moreover, 7 U.S.C. 2(a)(1)(D)(i)(VII) and 17 CFR 41.22(f) require
that trading in an SFP: (i) Be not readily susceptible to
manipulation of the SFP; or (ii) cause the manipulation of any
underlying security, an option on such security, or an option on a
group or index including such security or securities.
—————————————————————————

    The Commission notes that minimum position limits for equity
security option positions on NSEs are 25,000 100-share option contracts
on the same side of the market. Thus, the proposal would allow a DCM to
coordinate the default position limit level for SFPs to that of an
equity option traded on a NSE. Accordingly, as previously requested by
commenters in the context of the CFTC’s adoption of its current SFP
position limit requirements, this proposed default level for SFP limits
would closely resemble existing minimum limit levels on security
options.
    As noted above, SFPs and security options may serve economically
equivalent or similar functions.43 However, under current Commission
regulation 41.25(a)(3), as previously detailed, the default level for
position limits for SFPs must be set no greater than 13,500 (100-share)
contracts, while security options on the same security may be, and
currently are, set at a much higher default level of 25,000
contracts,44 which may place SFPs at a competitive disadvantage.
Closer coordination of limit levels is intended to provide a level
regulatory playing field.
—————————————————————————

    43 For example, the price of a long call option with a strike
price well below the prevailing market price of the underlying
security is expected to move almost in lock step with the price of a
long SFP on the same underlying security. Similarly, the price of a
long put option with a strike price well above the prevailing market
price of the underlying security is expected to move almost in lock
step with the price of a short SFP on the same underlying security.
    44 See current Cboe rule 4.11.
—————————————————————————

    However, because limit levels would not apply to a market
participant’s combined position between SFPs and security options, the
Commission is not proposing a default limit level for an SFP higher
than 12.5 percent of estimated deliverable supply. That is, under the
proposal, a market participant with positions at the limits in each of
an SFP and a security option on the same underlying security might be
equivalent to about 25 percent of estimated deliverable supply, which
is at the outer bound of where the Commission has historically
permitted spot month limit levels. The Commission invites comment on
whether this proposed default level is appropriate.
    The proposal would include, in the requirements for limits for
equity SFPs, securities such as exchange trading funds (“ETFs”) and
other securities that represent ownership in a group of underlying
securities. The Commission requests comment on whether this is
appropriate and invites further comment, below, in the discussion of
estimated deliverable supply.
    This proposal would provide discretion to a DCM to apply position
limits on a gross basis (“on the same side of the market”) or net
basis, rather than the current regulation’s net basis.

[[Page 36804]]

For example, if there were a physically-delivered SFP on equity XYZ, a
dividend-adjusted SFP on equity XYZ, and a cash-settled SFP on equity
XYZ, then a DCM’s rules could provide that long positions held by the
same person across each of these classes of SFP based on equity XYZ
would be aggregated for the purpose of determining compliance with the
position limit. A gross position in a futures contract is larger than a
net position in the event a person holds positions on opposite sides of
the market. That is, a net basis is computed by subtracting a person’s
short futures position from that person’s long futures positions, and,
under current regulations, a single position limit applies on a net
basis to that net long or net short position. Under the proposal, at
the discretion of a DCM, a person’s long futures position would be
subject to the position limit and, separately, a person’s short futures
position also would be subject to the position limit. As previously
requested by commenters, adding this proposed gross basis approach (in
addition to net basis) to SFP limits would more closely resemble
existing limits on security options that apply on the same side of the
market per the rules of the NSEs. A DCM that elects to implement limits
on a gross basis would be providing its market participants with the
same metric for position limit compliance as is currently the case on
NSEs, which may reduce compliance costs and encourage cross-market
participation. However, limits on a gross basis may be more restrictive
than limits on a net basis, which could reduce the position sizes that
may be held, without an applicable exemption.
    In addition, the Commission would continue to permit DCMs to apply
limits on a net basis at the DCM’s discretion. In this regard, the
Commission believes it is possible for a DCM’s application of limits to
further the goals of the CEA whether applied on a net or a gross
basis.45 This would be true, for example, if a DCM applied limits on
a net basis and did not permit netting of physically-delivered
contracts with cash settled contracts. But if, instead, the DCM
permitted netting of physically-delivered contracts and cash settled
contracts in the same security, it would render position limits
ineffective.46 For example, a person should not be permitted to avoid
limits by obtaining a large long position in a physically-delivered
contract (which could be used to corner or squeeze) and a similarly
large short position in a cash settled contract that would net to zero.
—————————————————————————

    45 CEA section 2(a)(1)(D)(i)(VII) requires that trading in
SFPs is not readily susceptible to manipulation of the price of the
SFP, the SFP’s underlying security, or an option on the SFP’s
underlying security.
    46 Although no DCM currently lists both physically-delivered
SFPs contracts and cash-settled SFP contracts for the same
underlying security, and this concern may be theoretical, the
Commission believes that providing clarity reduces uncertainty
regarding netting in such circumstances, which may facilitate
listing of such contracts in the future. Therefore, the Commission
proposes to provide in 17 CFR 41.25(b)(3)(vii) that, for a DCM
applying limits on a net basis, netting of physically-delivered
contracts and cash settled-contracts in the same security is not
permitted as it would render position limits ineffective. This
concern is not applicable to a DCM applying limits on the same side
of the market, as limits are applied separately to long positions
and to short positions.
—————————————————————————

4. Commission Regulation 41.25(b)(3)(i)(A), Higher Position Limits in
Equity SFPs 47
—————————————————————————

    47 As noted above, the proposal would re-designate 17 CFR
41.25(a)(3)(i)(A) as 17 CFR 41.25(b)(3)(i)(A).
—————————————————————————

    For an SFP based on an underlying security with an estimated
deliverable supply of more than 20 million shares, the proposal would
permit a DCM to set a higher limit level based on 12.5 percent of the
estimated deliverable supply of the underlying security, if appropriate
in light of the liquidity of trading in the underlying security. By way
of example, if the estimated deliverable supply were 40 million shares,
then the proposed regulation would permit a DCM to set a limit level of
no greater than 50,000 100-share contracts; computed as 40 million
shares times 12.5 percent divided by 100 shares per contract.
    This level of 50,000 100-share contracts is the same as permitted
under current rules of NSEs for an underlying security with 40 million
shares outstanding, although an NSE would also require the most recent
six-month trading volume of the underlying security to have totaled at
least 15 million shares. While this proposed provision for SFP position
limits would more closely resemble existing limits on security options,
the Commission is proposing to permit a DCM to use its discretion in
assessing the liquidity of trading in the underlying security, rather
than imposing a prescriptive trading volume requirement.48 The
Commission preliminarily does not believe that trading volume alone is
an appropriate indicator of liquidity.49 In this regard, the proposed
regulation would permit a DCM to set a position limit at a level lower
than 12.5 percent of estimated deliverable supply. The Commission
invites comment on whether it is appropriate to provide a DCM with
discretion in its assessment of liquidity in the underlying security,
rather than the Commission imposing a liquidity requirement. Core
Principle 5 requires DCMs to adopt, as is necessary and appropriate,
position limits to deter the adverse market impact of manipulation. The
Commission invites comment on whether estimated deliverable supply
alone serves as an adequate proxy for market impact.
—————————————————————————

    48 Generally, under CEA section 5(d)(1)(B), unless otherwise
restricted by a Commission regulation, a DCM has reasonable
discretion in establishing the manner in which it complies with core
principles, including Core Principle 5 regarding position limits or
position accountability. See 7 U.S.C. 7(d)(1) and (5).
    49 Under current 17 CFR 41.25(a)(3)(i)(A), for example, a DCM
may adopt a net position limit no greater than 22,500 shares,
provided the six-month average daily trading volume exceeds 15
million shares and there are more than 40 million shares of the
security outstanding. The Commission notes that almost all stocks
with at least 40 million shares outstanding also had a six-month
average trading volume of at least 15 million shares. Thus, the
current trading volume criterion generally is not a meaningful
restriction.
—————————————————————————

    Although the Commission is proposing a criterion of 12.5 percent of
estimated deliverable supply, the Commission expects a DCM to conduct a
reasoned analysis as to whether setting a level for a limit based on
such criterion is appropriate. In this regard, for example, assume
security QRS and security XYZ have equal free float of shares. Assume,
however, that trading in QRS is not as liquid as trading in XYZ. Under
these assumptions, it may be appropriate for a DCM to adopt a position
limit for XYZ equivalent to 12.5 percent of deliverable supply, but to
adopt a lower limit for QRS because a lesser number of shares would be
readily available for shorts to make delivery.
    The Commission notes that the proposed criterion of 12.5 percent of
estimated deliverable supply is half the level for DCM-set spot month
speculative position limits in current Commission regulation
150.5(c),50 which, as previously noted, has been rendered “mere
guidance” since the CFMA.51 That regulation provides that, for
physically-delivered contracts, the spot month limit level should be no
greater than one-quarter of the estimated spot month deliverable
supply.52 The Commission is proposing a lower percent of estimated
deliverable supply in light of current limits on equity security
options listed at NSEs. In this regard, the proposal would result in
SFP position limits that closely resemble the existing 25,000 and
50,000 contract

[[Page 36805]]

limits for equity options at NSEs, set when certain trading volume has
been reached or a combination of trading volume and shares currently
outstanding, as shown in Table A above. For example, a position at a
50,000 (100-share) option contract limit is equivalent to 5 million
shares. 12.5 percent of 40 million shares equals 5 million shares; that
is, the proposed criterion for a DCM to set a limit would be similar to
that of the criteria for an NSE to set such a limit. Under this
proposal, a similar 50,000 contract position limit on an SFP on such a
security would be an increase from the 22,500 contract limit currently
permitted for such an SFP. The Commission believes the proposed
incremental approach to increasing SFP limits is a measured response to
changes in the SFP markets, while retaining consistency with the
existing requirements for equity security options listed by NSEs.
—————————————————————————

    50 17 CFR 150.5(c).
    51 See supra discussion of the impact of the CFMA on part 150;
see also 74 FR 12177 at 12183 (March 23, 2009).
    52 17 CFR 150.5(c)(1).
—————————————————————————

    However, as noted above, SFPs and equity security options in the
same underlying security are not subject to a combined position limit
across DCMs and NSEs. Accordingly, the Commission is proposing a
maximum SFP limit level that is half the guidance level for DCM-set
spot month futures contract limits of 25 percent of estimated
deliverable supply.
    Further, as shown in Table A above, the Commission notes that
limits for equity security options at NSEs do not increase in a linear
manner for all increases in shares outstanding; for example, upon a
doubling of shares outstanding, the 100-share equity security option
contract limit increases only to 75,000 contracts from 50,000
contracts, while, under similar circumstances of a doubling of
estimated deliverable supply, the Commission proposes to permit a
linear increase for a SFP limit to 100,000 contracts from 50,000
contracts. The Commission invites comments as to whether the proposed
linear approach based on estimated deliverable supply is appropriate.
    Alternative Criteria for Setting Levels of Limits. As an
alternative to the proposed criteria for setting position limit levels
based on estimated deliverable supply, the Commission invites comments
on whether the Commission should permit a DCM to mirror the position
limit level set by an NSE in a security option with the same underlying
security or securities as that of the DCM’s SFP. This alternative has
the advantage of consistency in position limits across exchange-traded
derivatives based on the same security.
    However, the Commission notes that NSEs may set an equity option’s
position limit by the use of trading volume as a sole criterion. That
approach is not consistent with existing Commission policy regarding
use of estimated deliverable supply to support position limits in an
expiring contract month, as stated in part 150 of the Commission’s
regulations.53 The Commission notes that use of trading volume as a
sole criterion for setting the level of a position limit could result
in a position limit that exceeds the number of outstanding shares when
the underlying security exhibits a very high degree of turnover. Such a
resulting high limit level would render position limits ineffective.
—————————————————————————

    53 For example, Cboe rules also permit a 50,000 contract
position limit based on the total most recent six-month trading
volume of 20 million shares, without regard to shares outstanding.
—————————————————————————

5. Commission Regulation 41.25(b)(3)(i)(B), Position Accountability in
Lieu of Limits 54
—————————————————————————

    54 As noted above, the proposal would re-designate 17 CFR
41.25(a)(3)(i)(B) as 17 CFR 41.25(b)(3)(i)(B).
—————————————————————————

    This proposal would continue to permit a DCM to substitute position
accountability for a position limit in an equity SFP that meets two
criteria. The proposal would require six-month total trading volume of
at least 2.5 billion shares, which generally is equivalent to the
current first criterion that six-month average daily trading volume in
the underlying security must exceed 20 million shares.55 The proposal
would tighten the second criterion. Rather than require that the
underlying security have more than 40 million shares outstanding, under
the proposal the second criterion would require the underlying security
to have more than 40 million shares of estimated deliverable supply,
which generally would be smaller than shares outstanding. This change
conforms to the proposed use of estimated deliverable supply in setting
a position limit. The Commission believes an appropriate refinement to
its criterion for position accountability is to quantify those equity
shares that are readily available in the market, rather than all shares
outstanding. Generally, a short position holder may expect to obtain at
or close to fair value shares that are readily available in the market
and a long position holder may expect to sell such shares at or close
to fair value. However, in contrast, shares that are issued and
outstanding by a corporation may not be readily available in a timely
manner, such as shares held by the corporation as treasury stock.56
Therefore, to ensure that position holders will generally be able to
obtain equity shares at or close to fair value, the DCM should consider
whether the shares are readily available in the market when estimating
deliverable supply.
—————————————————————————

    55 20 million shares times 125 trading days in a typical six-
month period equals 2.5 billion shares. In regards to total trading
volume rather than average daily trading volume, the Commission
notes that use of total trading volume is consistent with the rules
of NSEs, which use six-month total trading volume in their criteria
for setting position limits, as shown in Table A above.
    56 Treasury stock means any shares that a company holds
itself. Such treasury stock may be authorized by the corporate
charter but not yet issued to the public or, in contrast, may have
been previously issued to the public but was the subject of a stock
repurchase program to buy back the shares from the public.
—————————————————————————

    In addition, the proposal would amend the accountability level to
no greater than 25,000 contracts, either net or on the same side of the
market, from 22,500 contracts net, conforming to the proposed default
position limit level. The Commission notes a DCM would be able to set a
lower accountability level, should it desire. The Commission
preliminarily believes it is appropriate to set a position
accountability level no higher than 25,000 contracts because the
Commission believes a DCM should have the authority, but not the
obligation, to inquire with very large position holders and to order
such position holders not to increase positions.57 The Commission
preliminarily believes a maximum position accountability level of
25,000 contracts is at the outer bounds for purposes of providing a DCM
with authority to obtain information from position holders; for
example, a position of 25,000 100-share contracts has a notional size
of $125 million when the price of the underlying stock is $50 per
share.
—————————————————————————

    57 By way of comparison, under 17 CFR 15.03, the Commission’s
reporting level for large traders (“reportable position”) is 1,000
contracts for individual equity SFPs and 200 contracts for narrow-
based SFPs. Under 17 CFR 18.05, the Commission may request any
pertinent information concerning such a reportable position.
—————————————————————————

6. Commission Regulation 41.25(b)(3)(ii), Limits for Physically-
Delivered Basket Equity SFPs
    This proposal would amend the existing position limits and position
accountability provisions for a physically-delivered SFP comprised of
more than one equity security 58 by

[[Page 36806]]

basing the criteria on the underlying equity security with the lowest
estimated deliverable supply, rather than the lowest average daily
trading volume.59 Specifically, under the proposal, for an SFP on
more than one security, the criteria in proposed regulations
41.25(b)(3)(i)(A) and (B) 60 would apply to the underlying security
with the lowest estimated deliverable supply in the basket, with an
appropriate adjustment to the level of the position limit or
accountability level for a contract size different than 100 shares per
underlying security.
—————————————————————————

    58 The Commission notes that there is not a limit per se on
the maximum number of securities in a narrow-based security index.
Rather, under CEA section 1a(35), a narrow-based security index
generally means, among other criteria, an index that has 9 or fewer
component securities; in which a component security comprises more
than 30 percent of the index’s weighting; in which the five highest
weighted component securities in the aggregate comprise more than 60
percent of the index’s weight; or in which the lowest weighted
component securities, comprising the lowest 25 percent of the
index’s weight, have an aggregate dollar value of average daily
trading volume of less than $50 million.
    59 This means that, under proposed 17 CFR 41.25(b)(3)(i), the
default level position limit would be no greater than 25,000 100-
share contracts, unless the underlying equity security with the
lowest estimated deliverable supply supports a higher level.
    60 As noted above, as proposed, 17 CFR 41.25(a)(3)(i)(A) and
(B) would be re-designated as 17 CFR 41.25(b)(3)(i)(A) and (B).
—————————————————————————

    The proposal is based on the premise that the limit on a
physically-delivered basket equity SFP should be consistent with the
most restrictive of each limit that would be applicable to SFPs based
on each component of such basket of deliverable securities. This would
restrict a person from obtaining a larger exposure to a particular
security through a physically-delivered basket equity SFP, than could
be obtained directly in a single equity SFP. However, this proposal
would not aggregate positions in single equity SFPs with positions in
basket deliverable SFPs.
7. Commission Regulation 41.25(b)(3)(iii), Limits for Cash-Settled
Equity Index SFPs
    For setting levels of limits on an SFP comprised of more than one
security, current Commission regulation 41.25(a)(3)(ii) specifies
certain criteria for trading volume and shares outstanding that must be
applied to the security in the index with the lowest average daily
trading volume. However, the Commission is not proposing to retain
those criteria for setting levels of limits for cash-settled equity
index SFPs for a number of reasons. For an equity index that is price
weighted, it appears that use of shares outstanding or trading volume
may result in an inappropriately restrictive level for a position
limit.61 For an equity index that is value weighted, it also appears
that such use may result in an inappropriately restrictive level for a
position limit.62 The Commission observes that while trading volume,
as an indicator of liquidity, may be an appropriate factor for a DCM to
consider in setting position limits, trading volume is not generally
used in construction of equity indexes.
—————————————————————————

    61 For example, assume the level of a simple price-weighted
index is computed by adding the price of each equity security in the
index and dividing by the number of different equity securities. For
such a simple index, a given percentage change in the price of a
company with a higher share price would have a greater impact on the
index than a given percentage change in the price of a company with
a lower share price. In such a circumstance, the Commission
preliminarily believes the DCM should have discretion, in setting
the position limit, to give consideration to the equity (or
equities) with the greater weight(s) in the index, rather than only
with regard to the equity with the lowest number of shares
outstanding.
    62 For example, the level of a value-weighted index will
change in relation to the change in the market capitalization of
each component equity security. In such a circumstance, a given
percentage change in the market value of a higher capitalized
company would have a greater impact on the index than a given
percentage change in the market value of a lower capitalized
company. In such a circumstance, the Commission preliminarily
believes the DCM should have discretion, in setting the position
limit, to give consideration to the equity (or equities) with the
greater weight(s) in the index, rather than only with regard to the
equity with the lowest number of shares outstanding.
—————————————————————————

    Proposed appendix A to subpart C provides guidance and acceptable
practices for setting the limit level for a cash-settled equity index
SFP, discussed below. However, as noted above, the proposal would
continue to require a DCM, for cash-settled equity index SFPs, to
establish position limits or position accountability rules in each SFP
for the expiring futures contract month in the last five trading days
of an expiring contract month. As also discussed above, the proposal
provides discretion to a DCM to set such a limit either net or on the
same side of the market.
8. Commission Regulation 41.25(b)(3)(iv), Limits for Debt SFPs 63
—————————————————————————

    63 As noted above, as proposed, 17 CFR 41.25(a)(3) would be
re-designated as 17 CFR 41.25(b)(3).
—————————————————————————

    As previously detailed, for setting levels of limits on an SFP
comprised of more than one security, current Commission regulation
41.25(a)(3)(ii) specifies certain criteria for trading volume and
shares outstanding that must be applied to the security in the index
with the lowest average daily trading volume. However, the Commission
is not proposing to retain those criteria for setting levels of limits
for debt SFPs because debt securities generally are neither issued in
terms of shares nor trading volume measured in terms of shares.
    Proposed appendix A to subpart C provides guidance and acceptable
practices for setting the limit level for a debt SFP, discussed below.
This proposal would require a DCM to set a position limit on a debt
SFP, either net or on the same side of the market, applicable to
positions held during the last five trading days of an expiring
contract month, as is the case for equity SFPs under the proposal.
9. Commission Regulation 41.25(b)(3)(v), Required Minimum Position
Limit Time Period
    Although DCMs do not currently list SFPs where the product permits
delivery before the close of trading, the Commission proposes that, for
such a product, the DCM would be required to apply position limits
beginning no later than the first day that long position holders may be
assigned delivery notices, if such period is longer than the last five
trading days of an expiring contract month. The Commission notes that
the current DCM practice for other commodity futures contracts is to
apply spot month position limits at the close of business before
delivery notices are assigned to holders of long positions in futures
contracts that provide for physical delivery prior to the close of
trading. Further, this provision is analogous to provisions of NSEs
that apply exercise limits for any five consecutive business days,
applicable to American exercise style equity options.64
—————————————————————————

    64 American exercise style refers to the right of an option
holder to exercise the option at any time prior to, and including,
expiration. In contrast, a European exercise style option only can
be exercised at expiration.
—————————————————————————

10. Commission Regulation 41.25(b)(3)(vi), Requirements for Re-Setting
Levels of Position Limits 65
—————————————————————————

    65 The proposal would re-designate 17 CFR 41.25(a)(3)(iv) to
17 CFR 41.25(b)(3)(vi).
—————————————————————————

    This proposal would require a DCM to consider, on at least a semi-
annual basis, whether position limits were set at appropriate levels,
through consideration of estimated deliverable supply. In the event
that estimated deliverable supply has decreased, then a DCM would be
required to lower the level of a position limit in light of that
decreased deliverable supply. In the event that estimated deliverable
supply has increased, then a DCM would have discretion to increase the
level of a position limit. In addition, a DCM that has substituted a
position accountability rule for a position limit would be required to
consider whether estimated deliverable supply and total six-month

[[Page 36807]]

trading volume continue to justify that position accountability rule.
    Current provisions require a DCM to calculate trading volume
monthly. The Commission believes that review of position limit levels
and position accountability rules on at least a semi-annual basis
rather than a monthly basis generally should be adequate to ensure
appropriate levels because deliverable supply generally does not change
to a great degree from month to month. For example, the number of
shares outstanding may increase through periodic issuance of additional
shares, and may decrease through stock repurchase programs, but, as a
general observation, such issuance or repurchases are not a large
percentage of free float. Of course, there could be situations where
deliverable supply changes to a great degree before the semi-annual
period and the rule does not prevent a DCM from considering those
changes before such period.
    The Commission also proposes a technical change to the filing
requirement whenever a DCM makes such changes to limit levels. While
the proposal continues to provide that changes to limit levels be filed
pursuant to the requirements of Commission regulation 41.24, it removes
the superfluous provision in the current regulation that provides that
the change be effective no earlier than the day after the DCM has
provided notification to the Commission and to the public. Instead, the
regulation simply cites to Commission regulation 41.24, which specifies
that changes must be received by the Commission no later than the day
prior to the implementation.
11. Appendix A to Subpart C of Part 41, Guidance and Acceptable
Practices for Position Limits and Position Accountability for SFPs
    Section (a), Guidance on Estimating Deliverable Supply. The
proposal provides guidance for estimating deliverable supply. For an
equity security, deliverable supply should be no greater than the free
float of the security. For a debt security, deliverable supply should
not include securities that are committed for long-term agreements
(e.g., closed-end investment companies, structured products, or similar
securities).
    Regarding the guidance for estimating deliverable supply for equity
securities, free float of the security generally means issued and
outstanding shares less restricted shares. Restricted shares include
restricted and control securities, which are not registered with the
SEC to sell in a public marketplace.66 The Commission requests
comment on whether there are any other adjustments that should be made
in estimating deliverable supply for equities. For example, should the
guidance exclude from deliverable supply any equity shares held by
ETFs, mutual funds, or similar investment vehicles? If so, how would
such counts of shares be determined or estimated?
—————————————————————————

    66 For a general discussion of restricted and control
securities, see https://www.sec.gov/reportspubs/investor-publications/investorpubsrule144htm.html.
—————————————————————————

    Also regarding the guidance for estimating deliverable supply for
equity securities, the Commission notes that authorized participants
may increase the number of outstanding shares in an ETF.67 In setting
a position limit for an ETF, the Commission has not proposed that DCMs
look through the ETF to the lowest deliverable supply in an underlying
security, as is the case in the proposal for limits for physically-
delivered basket equity SFPs. Rather, the Commission has proposed to
restrict the estimate of deliverable supply in an ETF to existing
shares of the ETF. As an alternative, the Commission requests comment
on whether an estimate of deliverable supply for an ETF should include
an allowance for the creation of ETF shares. If so, how would one
estimate such an allowance?
—————————————————————————

    67 An authorized participant generally is an institutional
investor, such as a broker dealer, who acts to create or redeem ETF
shares. The authorized participant buys shares that underlie the ETF
and exchanges those underlying shares with the ETF sponsor for
shares in the ETF, thus creating new ETF shares that it may sell to
the public. An authorized participant may also purchase ETF shares
in the market place and redeem those shares with the ETF sponsor,
thus reducing the number of ETF shares outstanding.
—————————————————————————

    Section (b), Guidance on Setting Limits on Cash-Settled Equity
Index SFPs. As noted above, the Commission is proposing guidance for
setting limits on cash-settled equity index SFPs. This proposed
guidance would permit a DCM to set the limit level for a cash-settled
SFP on a narrow-based security index of equity securities to that of a
similar narrow-based security index equity option listed on an NSE. As
an alternative for setting the level based on that of a similar equity
option, the proposal provides guidance and acceptable practices that
would allow a DCM, in setting a limit, to consider the deliverable
supply of securities underlying the equity index, and the equity index
weighting and SFP contract multiplier.
    As an example of an acceptable practice, for a cash-settled equity
index SFP on a security index weighted by the number of shares
outstanding, a DCM could set a position limit as follows: First,
compute the limit on an SFP on each underlying security under proposed
regulation (b)(3)(i)(A) (currently designated as (a)(3)(i)(A)); second,
multiply each such limit by the ratio of the 100-share contract size
and the shares of the security in the index; and third, determine the
minimum level from step two and set the limit to that level, given a
contract size of one dollar times the index, or for a larger contract
size, reduce the level proportionately. As the Commission is proposing
for physically-delivered basket equity SFPs, the proposal is based on
the premise that the limit on a cash-settled SFP on a narrow-based
security index of equity securities should be as restrictive as the
limit for an SFP based on the underlying security with the most
restrictive limit.
    Section (c), Guidance on Setting Limits on Debt SFPs. The proposal
would provide guidance that an appropriate level for limits on debt
SFPs generally would be no greater than the equivalent of 12.5 percent
of the par value of the estimated deliverable supply of the underlying
debt security. The Commission notes that this approach is guidance
because there may be other reasonable bases for setting levels of debt
SFPs position limits and the Commission does not want to foreclose
those bases. For example, a coupon stripped from an interest bearing
corporate bond does not have a par value in terms of such corporate
bond, but instead such coupon is the amount of interest due at the time
the corporate issuer is scheduled to pay such coupon under the
corporate bond indenture.68
—————————————————————————

    68 An interest bearing bond may be structured in a conduit and
divided into separate obligations, where the cash flow from the
principal of the bond and the cash flow from each coupon may be sold
as separate securities. Each such separate security is a zero-coupon
security.
—————————————————————————

    Although no DCM currently lists an SFP based on a debt security,
the Commission believes a framework for position limits may reduce
uncertainty regarding acceptable practices for listing such contracts
on non-exempted securities and, thereby, may facilitate listing of such
contracts. The Commission notes that futures contracts in exempted
securities, such as U.S. Treasury notes, have been listed for many
years.69 The Commission is proposing 12.5 percent of the par value of
the estimated deliverable supply of the underlying debt security as
guidance

[[Page 36808]]

on an appropriate basis based on the existing levels of limits for
equity option contracts on NSEs. The Commission invites comment on
whether a level based on par value is appropriate, or whether some
other metric would be appropriate.
—————————————————————————

    69 In this regard, an exempted security refers to certain
exempted securities under the Securities Act of 1933 or the
Securities Exchange Act of 1934. See CEA section 2(a)(1)(C).
—————————————————————————

    Section (d), Guidance on Position Accountability. The Commission
proposes, as guidance, that a DCM may adopt a position accountability
rule for any SFP, including an SFP where a position limit is required
or adopted. Under the proposal, a position accountability rule would
provide, at a minimum, that the DCM have authority to obtain
information from a market participant with a position at or above the
accountability level and that the DCM have authority, in its
discretion, to order such a market participant to halt increasing their
position. The Commission notes that position accountability can work in
tandem with a position limit rule, particularly where the
accountability level is set at a low level, in comparison to the level
of the position limit. Further, the Commission notes that a DCM may
adopt a position accountability rule to provide authority to the DCM to
order market participants to reduce position sizes, for example, to
maintain orderly trading or to ensure an orderly delivery.
    Section (e), Guidance for Exemptions.70 The proposed regulation
would continue to provide a DCM with discretion to grant exemptions to
position limits. The proposal provides guidance that such exemptions
may be consistent with current Commission regulation 150.5 regarding
exchange-set position limits or consistent with rules of an NSE
regarding securities option exemptions. This guidance differs from the
provisions of the current regulation, which references Commission
regulation 150.3 regarding federal position limits in certain physical
commodity futures contracts. The Commission believes the guidance
should reference exemption provisions applicable to exchange-set limits
in Commission regulation 150.5, rather than federal limits, because the
exemptions for federal limits are written largely in terms of the
federal limits on physical commodity contracts in Commission regulation
150.2.
—————————————————————————

    70 In addition to re-designating 17 CFR 41.25(a)(3) as 17 CFR
41.25(b)(3), the proposal would re-designate current 17 CFR
41.25(a)(3)(iii) to appendix A to subpart C.
—————————————————————————

III. Related Matters

A. Regulatory Flexibility Act

    The Regulatory Flexibility Act (“RFA”) 71 requires that federal
agencies consider whether a proposed rule will have a significant
economic impact on a substantial number of small entities and, if so,
provide a regulatory flexibility analysis of the impact. The proposed
amendments generally apply to exchange-set position limits. The
proposed amendments would permit a DCM to increase the level of
position limits for SFPs and may change the application of those limits
from a trader’s net position to a trader’s gross position. The proposed
amendments would affect DCMs. The Commission has previously established
certain definitions of “small entities” to be used in evaluating the
impact of its rules on small entities in accordance with the RFA, and
has previously determined that DCMs are not small entities for purpose
of the RFA.72
—————————————————————————

    71 5 U.S.C. 601 et seq.
    72 See Policy Statement and Establishment of Definitions of
“Small Entities” for Purposes of the Regulatory Flexibility Act,
47 FR 18618, 18619 (Apr. 30, 1982).
—————————————————————————

    Therefore, the Commission believes that the amendments to the SFP
position limits regulations would not have a significant economic
impact on a substantial number of small entities. Accordingly, the
Chairman, on behalf of the Commission, hereby certifies, pursuant to 5
U.S.C. 605(b), that the proposed amendments will not have a significant
economic impact on a substantial number of small entities.

B. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (“PRA”) 73 provides that a
federal agency may not conduct or sponsor, and a person is not required
to respond to, a collection of information unless it displays a
currently valid control number issued by the Office of Management and
Budget (“OMB”). The collection of information related to this
proposed rule is OMB control number 3038-0059–Security Futures
Products.74 As a general matter, the proposed amendments to the SFP
position limits regulation (1) permit a DCM to increase the level of
limits; and (2) may change the application of exchange-set limits from
a net basis to a gross basis. The Commission believes that the proposed
amendments will not impose any new information collection requirements
that require approval of OMB under the PRA. As such, the proposed
amendments do not impose any new burden or any new information
collection requirements in addition to those that already exist in
connection with filing to list SFPs under Commission regulation 41.23
or to amend exchange rules for SFPs under Commission regulation
41.24.75
—————————————————————————

    73 44 U.S.C. 3501 et seq.
    74 Regarding Security Futures Products (OMB Control No. 3038-
0059), the Commission recently published a notice of a request for
extension of the currently approved information collection. See 82
FR 48496 (Oct. 18, 2017).
    75 Similarly, the Commission previously determined that a rule
expanding the listing standards for security futures did not require
a new collection of information on the part of any entities. See 71
FR 39534 at 39539 (July 13, 2006) (adopting a rule to permit
security futures to be based on individual debt securities or a
narrow-based security index comprised of such securities).
—————————————————————————

C. Cost-Benefit Considerations

1. Introduction
    Section 15(a) of the CEA requires the CFTC to consider the costs
and benefits of its actions before promulgating a regulation under the
CEA or issuing certain orders.76 CEA section 15(a) further specifies
that the costs and benefits shall be evaluated in light of five broad
areas of market and public concern: (1) Protection of market
participants and the public; (2) efficiency, competitiveness, and
financial integrity of futures markets; (3) price discovery; (4) sound
risk management practices; and (5) other public interest
considerations. The CFTC considers the costs and benefits resulting
from its discretionary determinations with respect to the section 15(a)
factors below.
—————————————————————————

    76 7 U.S.C. 19(a).
—————————————————————————

    Where reasonably feasible, the CFTC has endeavored to estimate
quantifiable costs and benefits. Where quantification is not feasible,
the CFTC identifies and describes costs and benefits qualitatively.
    The CFTC requests comment on the costs and benefits associated with
the proposed rule amendments. In particular, the CFTC requests that
commenters provide data and any other information or statistics that
the commenters relied on to reach any conclusions regarding the CFTC’s
proposed considerations of costs and benefits.
2. Economic Baseline
    The CFTC’s economic baseline for this proposed rule amendment
analysis is the SFP position limits rule requirement that exists today.
In the 2001 Final SFP Rules, the Commission adopted an SFP position
limits rule that is consistent with the statutory requirements of CEA
section 2(a)(1)(D). In particular, CEA section 2(a)(1)(D)(i)(VII)
requires generally that

[[Page 36809]]

trading in an SFP is not readily susceptible to manipulation of the
price of that SFP or its underlying security. The CFTC regulation that
is in effect currently states that, “the [DCM] shall have rules in
place establishing position limits or position accountability
procedures for the expiring futures contract month.” 77 The 2001
Final SFP Rules also provide criteria for a maximum level of position
limits and criteria that permit a DCM to adopt an exchange rule for
position accountability in lieu of position limits.78 In addition,
the 2001 Final SFP Rules permit a DCM to approve exemptions from
position limits pursuant to exchange rules that are consistent with
CFTC regulation 150.3.
—————————————————————————

    77 17 CFR 41.25(a)(3).
    78 17 CFR 41.25(a)(3).
—————————————————————————

    The CFTC will analyze the costs and benefits of the rules in this
proposal against the current default net position limit level of 13,500
(100-share) contracts; or a higher net position limit level of 22,500
(100-share) contracts for equity SFPs meeting either a criterion of at
least 20 million shares of average daily trading volume, or criteria of
at least 15 million shares of average daily trading volume and more
than 40 million shares of the underlying security outstanding.
    The current regulation permits (but does not require) a DCM to
adopt an exchange rule for position accountability in lieu of position
limits, provided that average daily trading volume in the underlying
security exceeds 20 million shares and there are more than 40 million
shares of the underlying security outstanding.
3. Summary of Proposed Requirements
    For equity SFPs, the proposed amendment would increase the default
position limit level from 13,500 (100-share) contracts to 25,000 (100-
share) contracts. The proposed amendment also permits a DCM to
establish a higher position limit level than 25,000 (100-share)
contracts, equivalent to 12.5 percent of estimated deliverable supply
of the underlying security (which, under proposed guidance, should not
exceed the free float of the underlying security). In connection with
this change, a DCM would be required to estimate deliverable supply at
least semi-annually, rather than to calculate the average daily trading
volume at least monthly.
    Also for equity SFPs, the proposed amendment would change one of
the criteria that permit a DCM to adopt an exchange rule for position
accountability in lieu of position limits, from more than 40 million
shares of the underlying security outstanding, to an estimated
deliverable supply of more than 40 million shares. The proposal
generally would retain the other criterion, namely six-month average
daily trading volume in the underlying security exceeding 20 million
shares, but convert that criterion to 2.5 billion shares of six-month
total trading volume, based on 125 trading days in a typical six-month
period.
    For physically-delivered basket equity SFPs, the proposed amendment
would change the criteria for the position limit to the underlying
security with the lowest estimated deliverable supply, from the
security in the index with the lowest average daily trading volume. The
proposed amendment also would clarify that an appropriate adjustment
would be made to the level of the limit for a contract size different
than 100 shares per underlying security.
    For SFPs that are cash settled to a narrow-based security index of
equity securities, the proposed amendment provides guidance that a DCM
may set the limit level to that of a similar narrow-based security
index equity option. The proposal also provides guidance and an
acceptable practice, which would provide a safe harbor for a DCM itself
to set such a limit level.
    For SFPs in debt securities, the proposal would establish a
requirement that a DCM must adopt a position limit either net or on the
same side of the market, and would provide guidance that the level of
such limit generally should be set no greater than the equivalent of
12.5 percent of the par value of the estimated deliverable supply of
the underlying debt security. There currently are no SFPs in debt
securities listed for trading.
    The proposal would establish a required minimum position limit time
period beginning no later than the first day that a holder of a long
position may be assigned a delivery notice, if such period is longer
than the last five trading days, where the SFP permits delivery before
the close of trading. There currently are no SFPs listed for trading
that provide for delivery before the close of trading.
    The proposed amendment would provide DCMs with the discretion to
alter the basis for applying a position limit from a net position to a
gross position on the same side of the market.79
—————————————————————————

    79 In this regard, OneChicago, LLC (“OneChicago”), a DCM
listing SFPs, permits concurrent long and short positions to be
held. See OneChicago exchange rule 424, available at https://www.onechicago.com/wp-content/uploads/content/OneChicago_Current_Rulebook.pdf.
—————————————————————————

    The proposal would establish guidance that a DCM may adopt an
exchange rule for position accountability in addition to an exchange
rule for a position limit.
    The proposal would amend the guidance for exemptions from position
limits by changing the reference to CFTC regulation 150.3, regarding
exemptions to federal position limits, to CFTC regulation 150.5,
regarding guidance for exchange-set limits. The proposal also would add
guidance for exemptions from position limits to permit a DCM to provide
exemptions consistent with those of a NSE regarding securities options
position limits or exercise limits.
    The proposal would amend the requirements for re-setting levels of
position limits by changing the required review period from monthly to
semi-annually; and imposing a requirement that a DCM must lower the
position limit for an SFP with data that no longer justifies a higher
limit level, rather than guidance that a DCM may lower such position
limit. The proposal also would make clear that a DCM must impose a
position limit for an SFP with data that no longer justifies an
exchange rule for position accountability in lieu of a position limit.
The proposal would continue to permit a DCM to use discretion as to
whether to increase the level of a position limit for an SFP with data
that justifies a higher level.
    The proposal would establish a general definition of estimated
deliverable supply, consistent with the guidance on estimating
deliverable supply in appendix C to part 38, and provide guidance on
estimating delivery supply that is specific to an SFP.
    Finally, the proposal would establish a definition of same side of
the market, for clarity in the proposed limit levels on a gross basis.
The definition would distinguish long positions for an SFP in the same
security from short positions in an SFP in the same security.80
—————————————————————————

    80 These two definitions would be added into a new paragraph
(a) of 17 CFR 41.25; in conjunction with the addition of the new
paragraph (a), current paragraphs (a) through (d) would be re-
designated as paragraphs (b) through (e).
—————————————————————————

4. Costs
    The proposal would as a general matter reduce costs relative to the
existing Commission regulation 41.25(a)(3),81 since it will reduce
the frequency of hedge exemption requests (as discussed in the benefits
section) and reduce the frequency of required DCM reviews of position
limits from monthly to semi-annually. Under the

[[Page 36810]]

proposal, DCMs that list SFPs for trading would continue to be required
to adopt position limits or position accountability, but the proposal
would generally increase the levels of position limits. The Commission
preliminarily believes that the proposal would impose certain costs on
such DCMs, and that these costs are necessary to establish appropriate
position limits or position accountability trigger levels based on
deliverable supply and such additional criteria that the listing DCM
determines to be appropriate. The Commission also believes that these
costs are comparable to those incurred under current regulations
(whereby DCMs must calculate average daily trading volume) and notes
that these costs will be incurred only semi-annually under the proposal
rather than monthly as under current regulations. The Commission
believes that DCMs would be able to exercise control over the extent of
these costs depending on the degree of standardization such DCMs use to
determine position limits and accountability and the Commission
anticipates that DCMs will choose from among the lower-cost options.
For example, a DCM could, consistent with the proposal, adopt a simple
rule for equity securities based on the number of free-float
outstanding shares. For equity securities, free-float information is
readily available on certain publicly-available market websites and on
Bloomberg terminals and similar services (which DCMs are likely to have
access to for other business reasons). Reducing the frequency with
which DCMs are required to review position limits and accountability to
semi-annually from monthly will reduce costs to DCMs. Thus, the
Commission anticipates that estimating deliverable supply would not be
more costly (and would likely be less costly) than estimating average
daily trading volume as required under current regulations.
—————————————————————————

    81 Re-designated under the proposal as 17 CFR 41.25(b)(3).
—————————————————————————

    The Commission notes that under the proposed rule, DCMs have the
discretion to implement the default position limit of 25,000 contracts
regardless of deliverable supply and that this may result in position
limit levels in some contracts greater than 12.5 percent of deliverable
supply. However, this discretion is limited by Core Principle 5 (which
requires DCMs to set position levels at necessary and appropriate
levels to deter manipulation) and by Core Principle 3 (which requires
that DCMs may only list contracts that are not readily susceptible to
manipulation). To the extent that DCMs comply with these core
principles, this DCM discretion should not impair the protection of
market participants and the public or otherwise impose significant
costs on the markets for SFPs market or related securities.
    To the extent that a DCM lists equity SFPs on deliverable baskets,
the costs of implementing the proposed position limit provisions for
such SFPs would be similar to the costs of the analogous provisions for
single stock SFPs, but there are no current costs associated with those
proposed changes to the regulations since such SFPs are not currently
listed for trading. There are also no listed SFPs at this time on debt
securities. To the extent that there is less publicly-available
information related to the deliverable supply of debt securities,
estimating deliverable supply may be more costly for debt securities
than for equity securities. However, these costs will only be incurred
in the event that a DCM begins listing security futures on non-exempted
debt securities. Moreover, these deliverable supply provisions are set
out as guidance so that DCMs are free to implement less costly methods
to comply with the rule, which provides only that futures on debt
securities must have position limits. While DCMs have not listed debt
security SFPs absent the proposed changes to the regulation, it is
theoretically possible that the costs associated with estimating
deliverable supply or otherwise determining position limit levels may
affect future decisions regarding whether or not to list such SFPs. The
costs of the proposed regulation for debt securities would be otherwise
similar to the costs of the proposed regulation for equity securities.
    The proposal to permit DCMs to implement position limits on a net
basis or on positions on the same side of the market (e.g., on
physically-delivered and cash settled contracts on the same security,
should a DCM ever list both types of contracts) would not require DCMs
to change their current practice, and will thus not impose new costs on
DCMs. Any change that imposes new costs on market participants would be
made at the discretion of the DCM.
    The proposal to establish a required minimum position limit time
period beginning no later than the first day that a holder of a long
position may be assigned a delivery notice, if such period is longer
than the last five trading days, in instances where the SFP permits
delivery before the close of trading currently imposes no costs since
contracts of this nature are not currently listed for trading. If a DCM
listed such contracts, the proposal would require market participants
to incur the costs of complying with position limits or applying for
hedge exemptions (and would require DCMs to incur the costs of
reviewing such applications) earlier in the life of the contract than
absent the proposal.
5. Benefits
    The Commission reviews its regulations to help ensure they keep
pace with technological developments and industry trends, and to reduce
regulatory burden where needed. The proposal would allow DCMs to adopt
position limits that they deem to be appropriate. The Commission
preliminarily believes that DCMs will adopt position limits that are
large enough not to significantly inhibit liquidity, but will
appropriately mitigate against potential manipulations and other
concerns that may be associated with overly large positions in SFPs.
Moreover, to the extent that the proposal would lead to position limits
that are higher than current position limits, the proposal could
alleviate the costs to hedgers of filing hedge exemptions for positions
that are larger than a current position limit, but lower than a new
position limit under the proposal. In that regard, Commission staff
reviewed the largest positions in SFPs that were held during the
calendar year 2017 and found that there were 16 positions held during
the last five trading days of expiring SFP contract months across all
listed SFPs on OneChicago, currently the only DCM to list SFPs for
trading. These positions generally appear to have been associated with
securities lending agreements 82 and thus appear to have been
eligible for hedge exemptions. These 16 positions exceeded the current
applicable limit for their underlying securities of the default 13,500
contracts. If the proposed default position limit of 25,000 contracts
had been in effect in 2017, fewer than four positions would have been
above that default position limit and would have required hedge
exemptions. While the Commission believes that the monetary cost of
filing a hedge exemption form is very small for an entity large enough
to maintain a position that exceeds a position limit (perhaps less than
$100), it is possible that the burden of filing a hedge exemption may
discourage hedging at sizes exceeding position limits and, thus, that
raising position limits may encourage larger hedges. The Commission
also notes that to the extent SFPs are now or in the future used for

[[Page 36811]]

speculation,83 speculators could establish larger positions under the
proposal without a need for concern about position limits and may thus
increase their trading activity. Any potential increase in trading
activity could improve liquidity in the SFP markets.
—————————————————————————

    82 OneChicago describes itself on its website, https://onechicago.com, as “the Securities Finance Exchange” and states
that “single stock futures are ideally suited to replace
`agreements’ in equity repo and securities lending transactions.”
    83 As noted above, SFPs may be used for securities finance
transactions that are not speculative in nature.
—————————————————————————

    Requiring DCMs to set position limits and accountability based on
semi-annual deliverable supply estimates should help ensure on an
ongoing basis that position limits and accountability are set at levels
that are necessary and appropriate to deter manipulation consistent
with DCM Core Principles 3 and 5.
    The Commission preliminarily believes that the proposed frameworks
for position limits in SFPs on deliverable equity baskets and debt
securities (all based on deliverable supply estimates) should help
ensure that such products, if they are ever listed for trading, are
reasonably protected from manipulation. Further, the Commission
preliminarily believes that the proposal may help foster position
limits consistent with those in analogous securities options (where
applicable).
    The proposal to permit DCMs to implement position limits on a net
basis or on positions on the same side of the market (such as
physically-delivered or cash settled contracts on the same security,
should a DCM ever list both types of contracts) will give DCMs the
discretion to implement position limits in a manner that they see fit.
    The proposal to establish a required minimum position limit time
period beginning no later than the first day that a holder of a long
position may be assigned a delivery notice, if such period is longer
than the last five trading days, where the SFP permits delivery before
the close of trading currently provides no benefits since contracts of
this nature are not listed for trading. If a DCM listed such contracts,
the proposal would help ensure that such contracts are not readily
susceptible to manipulation during the entire delivery period.
6. CEA Section 15(a) Factors
i. Protection of Market Participants and the Public
    The Commission preliminarily believes that this proposal maintains
the protection of market participants and the public provided by the
current regulation. The proposal will continue to protect market
participants and the public by maintaining the requirement that DCMs
that list SFPs adopt and enforce appropriate position limits or
position accountability consistent with DCM Core Principle 5 and
implementing for SFPs the longstanding Commission policy that spot-
month position limits should be set based on estimates of deliverable
supply. Linking the levels of position limits and accountability to
deliverable supply protects market participants and the public by
helping prevent congestion, manipulation, or other problems that can be
associated with speculative positions in expiring contracts that are
overly large relative to deliverable supply.
ii. Efficiency, Competitiveness, and Financial Integrity of Markets
    As discussed above, under the proposal, it is reasonable to
anticipate that many or most SFPs would be subject to higher position
limits compared to the current position limits. Therefore, hedgers may
be able to take larger positions without the need to apply for hedge
exemptions. This also could alleviate the DCM’s need to review hedge
exemptions improving resource allocation efficiency for exchanges and
certain market participants. Moreover, with less restrictive position
limits, it is theoretically possible that more traders could be enticed
into the market and thus improve the liquidity and pricing efficiency
of the SFP market.
    The current position limit regulation (a default of 13,500
contracts) often leads to position limits that are tighter than
analogous position limits for security options (a default of 25,000
contracts). The proposal would raise the default limit level in SFPs to
match that in securities options. More closely aligning the position
limits in SFPs to those in securities options may enhance the
competitiveness of the SFP market relative to the securities option
market.
iii. Price Discovery
    The Commission believes that price discovery typically occurs in
the liquid and generally transparent security markets underlying
existing SFPs rather than the relatively low-volume SFPs themselves.
Nevertheless, as noted above, to the extent that trading activity in
SFP markets increases due to less restrictive position limits, the
price discovery function of SFPs could be enhanced by reducing
liquidity risk and thereby facilitating arbitrage between the
underlying security and SFP markets.
iv. Sound Risk Management Practices
    The current position limit regulation often leads to position
limits that are tighter than analogous position limits for security
options. It is conceivable that this could discourage potential hedgers
or other risk managers from using SFPs rather than security options
because of burdens associated with the hedge exemption process. Risk
managers might also find that the liquidity risk in the current SFP
market is too high, due to a lack of speculators in the SFP market
(among other causes). In this regard, it is possible that the current
position limits might be too tight for speculators to perform
adequately their role of providing liquidity in a futures market.
Because the proposal raises the default limit to 25,000 contracts to
match the default in security options, and thus would likely lead to
higher position limits for many SFPs, it is possible that both risk
managers and speculators enter or increase trading in the SFP market
under the proposal.
v. Other Public Interest Considerations
    The Commission has not identified any additional public interest
considerations associated with the proposal.
7. Consideration of Alternatives
    The Commission considered regulations that would require DCMs to
conform the position limits in SFPs to those in securities options to a
greater degree than under the proposal (consistent with comments to the
original SFP rule proposal), including applying position limits
throughout the life of the contract (rather than only in the last five
trading days) and no longer permitting position accountability for SFPs
on securities with higher trading volume and deliverable supply. The
Commission believes that permitting position accountability for certain
SFPs and only requiring spot month limits is consistent with Core
Principle 5 and that these requirements are sufficient to ensure that
SFPs are not readily susceptible to manipulation as required by Core
Principle 3. Thus, not permitting position accountability and requiring
DCMs to apply position limits throughout the life of the contract would
significantly increase costs on market participants while not
significantly enhancing protection of market participants and the
public or providing significant benefits beyond those of the proposed
position limits framework.
    The Commission also considered not setting default position limits
for equity

[[Page 36812]]

SFPs and simply requiring that position limits and accountability be
set based on deliverable supply, as is done in many other futures
products. However, the Commission preliminarily determined not to make
such a proposal because some exchanges and market participants (based
on past comments) 84 appear to believe that there are benefits to
conforming position limits in SFPs to those in securities options to
the extent practicable.
—————————————————————————

    84 See supra discussion of the 2001 Final SFP Rules.
—————————————————————————

8. Request for Comments
    The Commission invites public comment on its cost-benefit
considerations, including the CEA section 15(a) factors described
above. Commenters are also invited to submit any data or other
information that they may have quantifying or qualifying the costs and
benefits of the proposal with their comment letters.
    The Commission specifically seeks comment on the following:
    1. Are there alternatives to the proposal (whether discussed in
this release or not) that would be superior from a cost-benefit
standpoint?
    2. Would the proposal affect costs for those market participants
that seek hedge exemptions?
    3. Would DCMs that list for trading SFPs face additional costs in
adopting and setting position limits and position accountability levels
for SFPs under the proposal that are not discussed in this
consideration of costs and benefits?
    4. Do DCMs and market participants expect to see benefits under the
proposal that are not discussed in this consideration of costs and
benefits? Please quantify or describe such benefits.
    5. Should the Commission eliminate default position limits for
equity SFPs and instead simply require that position limits and
accountability be set based on deliverable supply, as is done in many
other futures products?
    6. Is it feasible to estimate deliverable supply for debt
securities at reasonable cost?
    7. Are there benefits associated with the Commission implementing
rules for types of SFPs that are not currently listed for trading? Does
implementing such rules have the potential to impose costs associated
with possibly deterring innovation?

D. Anti-Trust Considerations

    CEA Section 15(b) requires the Commission to take into
consideration the public interest to be protected by the antitrust laws
and endeavor to take the least anticompetitive means of achieving the
objectives, polices and purposes of the CEA, in issuing any order or
adopting any Commission rule or regulation (including any exemption
under section 4(c) or 4c(b)), or in requiring or approving any bylaw,
rule, or regulation of a contract market or registered futures
association established pursuant to CEA section 17.85
—————————————————————————

    85 7 U.S.C. 19(b).
—————————————————————————

    The Commission believes that the public interest to be protected by
the antitrust laws is generally to protect competition. The Commission
requests comment on whether the proposal implicates any other specific
public interest to be protected by the antitrust laws. The Commission
has considered the proposal to determine whether it is anticompetitive
and has preliminarily identified no anticompetitive effects. The
Commission requests comment on whether the proposal is anticompetitive
and, if it is, what the anticompetitive effects are.
    Because the Commission has preliminarily determined that the
proposal is not anticompetitive and has no anticompetitive effects, the
Commission has not identified any less anticompetitive means of
achieving the purposes of the Act. The Commission requests comment on
whether there are less anticompetitive means of achieving the relevant
purposes of the Act that would further the objective of this proposal,
such as leveling the regulatory playing field between SFPs and security
options listed on NSEs.

List of Subjects in 17 CFR Part 41

    Position accountability, Position limits, Security futures
products.

    For the reasons discussed in the preamble, the Commodity Futures
Trading Commission proposes to amend 17 CFR part 41 as set forth below:

PART 41–SECURITY FUTURES PRODUCTS

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1. The authority citation for part 41 continues to read as follows:

    Authority:  Sections 206, 251 and 252, Pub. L. 106-554, 114
Stat. 2763, 7 U.S.C. 1a, 2, 6f, 6j, 7a-2, 12a; 15 U.S.C. 78g(c)(2).

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2. In Sec.  41.25:
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a. Redesignate paragraphs (a) through (d) as paragraphs (b) through
(e);
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b. Add new paragraph (a);
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c. Revise newly redesignated paragraphs (b)(3), (c)(2) and (3), and
(e).
    The addition and revisions read as follows:

Sec.  41.25  Additional conditions for trading for security futures
products.

    (a) Definitions. For purposes of this section:
    Estimated deliverable supply means the quantity of the security
underlying a security futures product that reasonably can be expected
to be readily available to short traders and salable by long traders at
its market value in normal cash marketing channels during the specified
delivery period. For guidance on estimating deliverable supply,
designated contract markets may refer to appendix A of this subpart.
    Same side of the market means the aggregate of long positions in
physically-delivered security futures products and cash-settled
security futures products, in the same security, and, separately, the
aggregate of short positions in physically-delivered security futures
products and cash-settled security futures products, in the same
security.
    (b) * * *
    (3) Speculative position limits. A designated contract market shall
have rules in place establishing position limits or position
accountability procedures for the expiring futures contract month as
specified in this paragraph (b)(3).
    (i) Limits for equity security futures products. For a security
futures product on a single equity security, including a security
futures product on an underlying security that represents ownership in
a group of securities, e.g., an exchange traded fund, a designated
contract market shall adopt a position limit no greater than 25,000
100-share contracts (or the equivalent if the contract size is
different than 100 shares), either net or on the same side of the
market, applicable to positions held during the last five trading days
of an expiring contract month; except where:
    (A) For a security futures product on a single equity security
where the estimated deliverable supply of the underlying security
exceeds 20 million shares, a designated contract market may adopt, if
appropriate in light of the liquidity of trading in the underlying
security, a position limit no greater than the equivalent of 12.5
percent of the estimated deliverable supply of the underlying security,
either net or on the same side of the market, applicable to positions
held during the last five trading days of an expiring contract month;
or
    (B) For a security futures product on a single equity security
where the six-month total trading volume in the underlying security
exceeds 2.5 billion shares and there are more than 40

[[Page 36813]]

million shares of estimated deliverable supply, a designated contract
market may adopt a position accountability rule, either net or on the
same side of the market, applicable to positions held during the last
five trading days of an expiring contract month. Upon request by a
designated contract market, traders who hold positions greater than
25,000 100-share contracts (or the equivalent if the contract size is
different than 100 shares), or such lower level specified pursuant to
the rules of the designated contract market, must provide information
to the designated contract market and consent to halt increasing their
positions when so ordered by the designated contract market.
    (ii) Limits for physically-delivered basket equity security futures
products. For a physically-delivered security futures product on more
than one equity security, e.g., a basket of deliverable securities, a
designated contract market shall adopt a position limit, either net or
on the same side of the market, applicable to positions held during the
last five trading days of an expiring contract month and the criteria
in paragraph (b)(3)(i) of this section must apply to the underlying
security with the lowest estimated deliverable supply. For a
physically-delivered security futures product on more than one equity
security with a contract size different than 100 shares per underlying
security, an appropriate adjustment to the limit must be made. If each
of the underlying equity securities in the basket of deliverable
securities is eligible for a position accountability level under
paragraph (b)(3)(i)(B) of this section, then the security futures
product is eligible for a position accountability level in lieu of
position limits.
    (iii) Limits for cash-settled equity index security futures
products. For a security futures product cash settled to a narrow-based
security index of equity securities, a designated contract market shall
adopt a position limit, either net or on the same side of the market,
applicable to positions held during the last five trading days of an
expiring contract month. For guidance on setting limits for a cash-
settled equity index security futures product, designated contract
markets may refer to section (b) of appendix A of this subpart.
    (iv) Limits for debt security futures products. For a security
futures product on one or more debt securities, a designated contract
market shall adopt a position limit, either net or on the same side of
the market, applicable to positions held during the last five trading
days of an expiring contract month. For guidance on setting limits for
a debt security futures product, designated contract markets may refer
to section (c) of appendix A of this subpart.
    (v) Required minimum position limit time period. For position
limits required under this section where the security futures product
permits delivery before the termination of trading, a designated
contract market shall apply such position limits for a period beginning
no later than the first day that long position holders may be assigned
delivery notices, if such period is longer than the last five trading
days of an expiring contract month.
    (vi) Requirements for re-setting levels of position limits. A
designated contract market shall calculate estimated deliverable supply
and six-month total trading volume no less frequently than semi-
annually.
    (A) If the estimated deliverable supply data supports a lower
speculative limit for a security futures product, then the designated
contract market shall lower the position limit for that security
futures product pursuant to the submission requirements of Sec.  41.24.
If the data require imposition of a reduced position limit for a
security futures product, the designated contract market may permit any
trader holding a position in compliance with the previous position
limit, but in excess of the reduced limit, to maintain such position
through the expiration of the security futures contract; provided, that
the designated contract market does not find that the position poses a
threat to the orderly expiration of such contract.
    (B) If the estimated deliverable supply or six-month total trading
volume data no longer supports a position accountability rule in lieu
of a position limit for a security futures product, then the designated
contract market shall establish a position limit for that security
futures product pursuant to the submission requirements of Sec.  41.24.
    (C) If the estimated deliverable supply data supports a higher
speculative limit for a security futures product, as provided under
paragraph (b)(3)(i)(A) of this section, then the designated contract
market may raise the position limit for that security futures product
pursuant to the submission requirements of Sec.  41.24.
    (vii) Restriction on netting of positions. If the designated
contract market lists both physically-delivered contracts and cash
settled-contracts in the same security, it shall not permit netting of
positions in the physically-delivered contract with that of the cash-
settled contract for purposes of determining applicability of position
limits.
    (c) * * *
    (2) Notwithstanding paragraph (c)(1) of this section, if an opening
price for one or more securities underlying a security futures product
is not readily available, the final settlement price of the security
futures product shall fairly reflect:
    (i) The price of the underlying security or securities during the
most recent regular trading session for such security or securities; or
    (ii) The next available opening price of the underlying security or
securities.
    (3) Notwithstanding paragraph (c)(1) or (2) of this section, if a
derivatives clearing organization registered under Section 5b of the
Act or a clearing agency exempt from registration pursuant to Section
5b(a)(2) of the Act, to which the final settlement price of a security
futures product is or would be reported determines, pursuant to its
rules, that such final settlement price is not consistent with the
protection of customers and the public interest, taking into account
such factors as fairness to buyers and sellers of the affected security
futures product, the maintenance of a fair and orderly market in such
security futures product, and consistency of interpretation and
practice, the clearing organization shall have the authority to
determine, under its rules, a final settlement price for such security
futures product.
* * * * *
    (e) Exemptions. The Commission may exempt a designated contract
market from the provisions of paragraphs (b)(2) and (c) of this
section, either unconditionally or on specified terms and conditions,
if the Commission determines that such exemption is consistent with the
public interest and the protection of customers. An exemption granted
pursuant to this paragraph shall not operate as an exemption from any
Securities and Exchange Commission rules. Any exemption that may be
required from such rules must be obtained separately from the
Securities and Exchange Commission.
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3. Add appendix A to subpart C to read as follows:

Appendix A to Subpart C of Part 41–Guidance on and Acceptable
Practices for Position Limits and Position Accountability for Security
Futures Products

    (a) Guidance for estimating deliverable supply. (1) For an
equity security, deliverable supply should be no greater than the
free float of the security.
    (2) For a debt security, deliverable supply should not include
securities that are committed for long-term agreements (e.g.,
closed-end investment companies, structured products, or similar
securities).

[[Page 36814]]

    (3) Further guidance on estimating deliverable supply, including
consideration of whether the underlying security is readily
available, is found in appendix C to part 38 of this chapter.
    (b) Guidance and acceptable practices for setting limits on
cash-settled equity index security futures products–(1) Guidance
for setting limits on cash-settled equity index security futures
products. For a security futures product cash settled to a narrow-
based security index of equity securities, a designated contract
market:
    (i) May set the level of a position limit to that of a similar
equity index option listed on a national security exchange or
association; or
    (ii) Should consider the deliverable supply of equity securities
underlying the index, and should consider the index weighting and
contract multiplier.
    (2) Acceptable practices for setting limits on cash-settled
equity index security futures products. For a security futures
product cash settled to a narrow-based security index of equity
securities weighted by the number of shares outstanding, a
designated contract market may set a position limit as follows:
First, determine the limit on a security futures product on each
underlying equity security pursuant to Sec.  41.25(b)(3)(i); second,
multiply each such limit by the ratio of the 100-share contract size
and the shares of the equity securities in the index; and third,
determine the minimum level from step two and set the limit to that
level, given a contract size of one U.S. dollar times the index, or
for a larger contract size, reduce the level proportionately. If
under these procedures each of the equity securities underlying the
index is determined to be eligible for position accountability
levels, the security futures product on the index itself is eligible
for a position accountability level.
    (c) Guidance and acceptable practices for setting limits on debt
security futures products–(1) Guidance for setting limits on debt
security futures products. A designated contract market should set
the level of a position limit to no greater than the equivalent of
12.5 percent of the par value of the estimated deliverable supply of
the underlying debt security. For a security futures product on more
than one debt security, the limit should be based on the underlying
debt security with the lowest estimated deliverable supply.
    (2) Acceptable practices for setting limits on debt security
futures products.
    [Reserved.]
    (d) Guidance on position accountability. A designated contract
market may adopt a position accountability rule for any security
futures product, in addition to a position limit rule required or
adopted under this section. Upon request by the designated contract
market, traders who hold positions, either net or on the same side
of the market, greater than such level specified pursuant to the
rules of the designated contract market must provide information to
the designated contract market and consent to halt increasing their
positions when so ordered by the designated contract market.
    (e) Guidance on exemptions from position limits. A designated
contract market may approve exemptions from these position limits
pursuant to rules that are consistent with Sec.  150.5 of this
chapter, or to rules that are consistent with rules of a national
securities exchange or association regarding exemptions to
securities option position limits or exercise limits.

    Issued in Washington, DC, on July 24, 2018, by the Commission.
Robert Sidman,
Deputy Secretary of the Commission.

    Note: The following appendices will not appear in the Code of
Federal Regulations.

Appendices to Position Limits and Position Accountability for Security
Futures Products–Commission Voting Summary and Commissioner’s
Statement

Appendix 1–Commission Voting Summary

    On this matter, Chairman Giancarlo and Commissioners Quintenz
and Behnam voted in the affirmative. No Commissioner voted in the
negative.

Appendix 2–Concurring Statement of Commissioner Rostin Behnam

    I respectfully concur with the Commodity Futures Trading
Commission’s approval of its proposed rule regarding Position Limits
and Position Accountability for Security Futures Products (the
“Proposal”). I commend staff on their hard work in producing this
Proposal, and for their thoughtful responses to my questions. I look
forward to hearing from market participants and other stakeholders
regarding the amendments to the existing position limits rules for
security futures products. In particular, I will be interested in
comments regarding the appropriateness of increasing the default
level of equity security futures products position limits from
13,500 contracts to 25,000 contracts. While today’s Proposal only
would amend the Commission’s Part 41 rules regarding security
futures products, I nonetheless encourage market participants and
interested stakeholders to consider how the Proposal might impact or
interplay with the Commission’s position limits rules in Part 150
and any future amendments to them.

[FR Doc. 2018-16079 Filed 7-30-18; 8:45 am]
 BILLING CODE 6351-01-P