Self-Regulatory Organizations; NASDAQ OMX PHLX LLC; Order Granting Approval of Proposed Rule Change To Increase the Position Limit for Options on the Standard and Poor's® Depositary Receipts (SPDRs®)

I. Introduction

On April 18, 2011, NASDAQ OMX PHLX LLC (“Exchange” or “Phlx”) filed with the Securities and Exchange Commission (“Commission”), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”) and Rule 19b-4 thereunder, a proposed rule change to increase the position and exercise limits for options on Standard and Poor's Depositary Receipts (“SPDRs®” or “SPY”). The proposed rule change was published for comment in the Federal Register on May 3, 2011. The Commission received one comment letter in response to the proposal. This order approves the proposed rule change.

II. Description of the Proposed Rule Change

The Exchange proposes to amend Phlx Rule 1001 to increase the position limit applicable to options on SPDRs®, which trade under the symbol SPY, from 300,000 to 900,000 contracts on the same side of the market. The Exchange notes that options on Nasdaq-100 Index® Tracking Stock (“QQQ^SM”) —to which, Phlx believes, SPY options are most comparable for these purposes—have a position limit of 900,000 contracts.

In particular, Phlx represents that options on SPY traded a total of 33,341,698 contracts across all exchanges from March 1, 2011 through March 16, 2011. In contrast, over the same time period options on the QQQ traded a total of 8,730,718 contracts (less than 26.2% of the volume of options on SPY.) The Phlx further represents that, for 2010, options on SPY had an average daily trading volume of 3.63 million contracts, while options on QQQs had an average daily trading volume of 963,502. In addition, the option notional value of SPY options on December 31, 2010, was $177,823.76 million, while the optional notional value of QQQ options on the same date was $27,141.91 million.

With regard to the underlying ETFs, Phlx represents that, for 2010, the SPY had an average daily trading volume of 210,232,241 shares with an average dollar volume of $20,794 million, while the QQQ had an average daily trading volume of 85,602,200 shares with an average dollar volume of $3,593 million. In addition, the market capitalization of the SPY was $90,280.71 million on December 31, 2010, while the market capitalization of the QQQ on that date was $23,564.8 million.

Phlx argues that the current position limit of 300,000 contracts for SPY options prevents large customers, such as mutual funds and pension funds, from using these options to gain meaningful exposure and hedging protection, which it believes can result in lost liquidity in both the options market and the equity market. In addition, the Exchange believes that increasing the limit to 900,000 contracts would lead to a more liquid and competitive market environment for options on SPDRs® that would benefit customers interested in this product.

Phlx adds that traders who trade SPY options to hedge positions in SPY and in SPX options have indicated that the current position limit is too restrictive, and the Exchange believes that this may adversely affect traders' (and the Exchange's) ability to provide liquidity in this product.

In addition, Phlx states that its reporting requirements and surveillance procedures, as well as the reporting requirements and surveillance procedures other markets and of clearing firms, are capable of properly identifying unusual and/or illegal trading activity.

III. Discussion and Commission's Findings

The Commission received one comment letter on the proposed rule change, from NYSE Euronext, on behalf of the NYSE Amex and NYSE Arca options exchanges. The comment letter supported the proposal, and expressed agreement with several of the statements made by Phlx therein.

After careful review, the Commission finds that the proposed rule change is consistent with the requirements of Section 6 of the Act and the rules and regulations thereunder applicable to a national securities exchange. In particular, the Commission finds that the proposed rule change is consistent with Section 6(b)(5) of the Act, which requires, among other things, that the Exchange's rules be designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, to foster cooperation and coordination with persons engaged in facilitating transactions in securities, to remove impediments to and perfect the mechanism of a free and open market and a national market system, and, in general, to protect investors and the public interest.

Position and exercise limits serve as a regulatory tool designed to address manipulative schemes and adverse market impact surrounding the use of options. Since the inception of standardized options trading, the options exchanges have had rules limiting the aggregate number of options contracts that a member or customer may hold or exercise. These position and exercise limits are intended to prevent the establishment of options positions that can be used or might create incentives to manipulate the underlying market so as to benefit the options position. In particular, position and exercise limits are designed to minimize the potential for mini-manipulations and for corners or squeezes of the underlying market. In addition, such limits serve to reduce the possibility for disruption of the options market itself, especially in illiquid classes. As discussed below, over time, the Commission has approved options exchanges' proposals to increase these limits for options products overlying certain ETFs where there is considerable liquidity in both the underlying cash markets and the options markets.

The Commission believes that it is reasonable for the Exchange to increase position limits for options on SPY to 900,000 contracts (the same level currently applicable to the QQQ options). As in the case of the markets for QQQ options and for the underlying ETF, the markets for standardized options on SPY and the SPY itself have substantial trading volume and liquidity. Indeed, Phlx cites statistics showing that, while options on SPY and options on QQQ both are in the top ranks of equity options in terms of trading volume, SPY options exceeded QQQ options by a significant margin—both in terms of the total volume traded for a sample period in March of this year, and in terms of average daily volume for the year 2010. Similarly, the Exchange cites statistics regarding the underlying ETFs, showing that SPY exceeded QQQ significantly in average daily trading volume and average dollar volume for the year.

The Commission believes that increasing position limits on the highly liquid SPY options to the same level currently applicable to the QQQ options represents the next step of a measured approach to position limits on these options, which have increased steadily over a number of years to their current levels. Further, the Commission expects that the Exchange will continue to monitor trading in the SPY options for the purpose of discovering and sanctioning manipulative acts and practices, and to reassess the position and exercise limits, if and when appropriate, in light of its findings.

Accordingly, as stated above, given the measure of liquidity for SPY, the Commission believes that increasing position limits in the SPY options to 900,000 contracts is consistent with Section 6(b)(5) of the Act, which requires that the rules of a national securities exchange be designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, to remove impediments to and perfect the mechanism of a free and open market and a national market system, and, in general, to protect investors and the public interest.

IV. Conclusion

It Is Therefore Ordered, pursuant to Section 19(b)(2) of the Act, that the proposed rule change (SR-Phlx-2011-58) be, and it hereby is, approved.