Notice2023-08987
Self-Regulatory Organizations; Cboe Exchange, Inc.; Notice of Filing of a Proposed Rule Change To Make Permanent the Operation of its Flexible Exchange Options Pilot Program Regarding Permissible Exercise Settlement Values for FLEX Index Options
Primary source
Metadata and text below are from the Federal Register, a public-domain U.S. government work. Always verify the official published version before relying on it for any legal matter.
Published
April 28, 2023
Issuing agencies
Securities and Exchange Commission
Full Text
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<title>Federal Register, Volume 88 Issue 82 (Friday, April 28, 2023)</title>
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[Federal Register Volume 88, Number 82 (Friday, April 28, 2023)]
[Notices]
[Pages 26353-26359]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2023-08987]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-97368; File No. SR-CBOE-2023-018]
Self-Regulatory Organizations; Cboe Exchange, Inc.; Notice of
Filing of a Proposed Rule Change To Make Permanent the Operation of its
Flexible Exchange Options Pilot Program Regarding Permissible Exercise
Settlement Values for FLEX Index Options
April 24, 2023.
Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on April 10, 2023, Cboe Exchange, Inc. (``Exchange'' or ``Cboe
Options'') filed with the Securities and Exchange Commission
(``Commission'') the proposed rule change as described in Items I, II,
and III below, which Items have been prepared by the Exchange. The
Commission is publishing this notice to solicit comments on the
proposed rule change from interested persons.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
Cboe Exchange, Inc. (the ``Exchange'' or ``Cboe Options'') proposes
to make permanent the operation of its Flexible Exchange Options
(``FLEX Options'') pilot program (``Pilot Program'') regarding
permissible exercise settlement values for FLEX Index Options. The text
of the proposed rule change is provided below.
(additions are italicized; deletions are [bracketed])
* * * * *
Rules of Cboe Exchange, Inc.
* * * * *
Rule 4.21. Series of FLEX Options
(a) No change.
(b) Terms. When submitting a FLEX Order for a FLEX Option series
to the System, the submitting FLEX Trader must include one of each
of the following terms in the FLEX Order (all other terms of a FLEX
Option series are the same as those that apply to non-FLEX Options),
provided that a FLEX Index Option with an index multiplier of one
may not be the same type (put or call) and may not have the same
exercise style, expiration date, settlement type, and exercise price
as a non-FLEX Index Option overlying the same index listed for
trading (regardless of the index multiplier of the non-FLEX Index
Option), which terms constitute the FLEX Option series:
(1)-(4) No change.
(5) settlement type:
(A) No change.
(B) FLEX Index Options. FLEX Index Options are settled in U.S.
dollars, and may be:
(i) No change.
(ii) p.m.-settled (with exercise settlement value determined by
reference to the reported level of the index derived from the
reported closing prices of the component securities)[, except for a
FLEX Index Option that expires on any business day that falls on or
within two business days of a third Friday-of-the-month expiration
day for a non-FLEX Option (other than a QIX option) may only be
a.m.-settled; however, for a pilot period ending the earlier of May
8, 2023 or the date on which the pilot program is approved on a
permanent basis, a FLEX Index Option with an expiration date on the
third-Friday of the month may be p.m.-settled];
* * * * *
The text of the proposed rule change is also available on the
Exchange's website (<a href="http://www.cboe.com/AboutCBOE/CBOELegalRegulatoryHome.aspx">http://www.cboe.com/AboutCBOE/CBOELegalRegulatoryHome.aspx</a>), at the Exchange's Office of the
Secretary, and at the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the Exchange included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. The Exchange has prepared summaries, set forth in
sections A, B, and C below, of the most significant aspects of such
statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
The Exchange proposes to make permanent its Pilot Program that
permits the Exchange to list FLEX Options whose exercise settlement
value is derived from closing prices on the last trading day prior to
expiration that expire on or within two business days of a third
Friday-of-the-month expiration day for a non-FLEX Option (other than
QIX options) (``FLEX PM Third Friday''). The Securities and Exchange
Commission (the ``Commission'') approved a Cboe Options rule change
that, among other things, established a pilot program regarding
permissible exercise settlement values for FLEX Index
[[Page 26354]]
Options on January 28, 2010.\3\ The Exchange has extended the pilot
period numerous times, which is currently set to expire on the earlier
of May 8, 2023 or the date on which the pilot program is approved on a
permanent basis.\4\ The Exchange hereby requests that the Commission
approve the FLEX PM Third Friday Pilot Program on a permanent basis.
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\3\ Securities Exchange Act Release No. 61439 (January 28,
2010), 75 FR 5831 (February 4, 2010) (SR-CBOE-2009-087) (``Approval
Order''). The initial pilot period was set to expire on March 28,
2011, which date was added to the rules in 2010. See Securities
Exchange Act Release No. 61676 (March 9, 2010), 75 FR 13191 (March
18, 2010) (SR-CBOE-2010-026).
\4\ See Securities Exchange Act Release Nos. 64110 (March 23,
2011), 76 FR 17463 (March 29, 2011) (SR-CBOE-2011-024); 66701 (March
30, 2012), 77 FR 20673 (April 5, 2012) (SR-CBOE-2012-027); 68145
(November 2, 2012), 77 FR 67044 (November 8, 2012) (SR-CBOE-2012-
102); 70752 (October 24, 2013), 78 FR 65023 (October 30, 2013) (SR-
CBOE-2013-099); 73460 (October 29, 2014), 79 FR 65464 (November 4,
2014) (SR-CBOE-2014-080); 77742 (April 29, 2016), 81 FR 26857 (May
4, 2016) (SR-CBOE-2016-032); 80443 (April 12, 2017), 82 FR 18331
(April 18, 2017) (SR-CBOE-2017-032); 83175 (May 4, 2018), 83 FR
21808 (May 10, 2018) (SR-CBOE-2018-037); 84537 (November 5, 2018),
83 FR 56113 (November 9, 2018) (SR-CBOE-2018-071); 85707 (April 23,
2019), 84 FR 18100 (April 29, 2019) (SR-CBOE-2019-021); 87515
(November 13, 2020), 84 FR 63945 (November 19, 2019) (SR-CBOE-2019-
108); 88782 (April 30, 2020), 85 FR 27004 (May 6, 2020) (SR-CBOE-
2020-039); 90279 (October 28, 2020), 85 FR 69667 (November 3, 2020)
(SR-CBOE-2020-103); 91782 (May 5, 2021), 86 FR 25915 (May 11, 2021)
(SR-CBOE-2021-031); 93500 (November 1, 2021), 86 FR 61340 (November
5, 2021) (SR-CBOE-2021-064); 94812 (April 28, 2022), 87 FR 26381
(May 4, 2022) (SR-CBOE-2022-020); and 96239 (November 4, 2022), 87
FR 67985 (November 10, 2022) (SR-CBOE-2022-053). At the same time
the permissible exercise settlement values pilot was established for
FLEX Index Options, the Exchange also established a pilot program
eliminating the minimum value size requirements for all FLEX
Options. See Approval Order, supra note 3. The pilot program
eliminating the minimum value size requirements was extended twice
pursuant to the same rule filings that extended the permissible
exercise settlement values (for the same extended periods) and was
approved on a permanent basis in a separate rule change filing. See
id; and Securities Exchange Act Release No. 67624 (August 8, 2012),
77 FR 48580 (August 14, 2012) (SR-CBOE-2012-040) (Order Granting
Approval of Proposed Rule Change Related to Permanent Approval of
Its Pilot on FLEX Minimum Value Sizes).
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By way of background, when cash-settled \5\ index options were
first introduced in the 1980s, settlement was based on the closing
value of the underlying index on the option's expiration date. The
Commission later became concerned about the impact of P.M.-settled,
cash-settled index options on the markets for the underlying stocks at
the close on expiration Fridays. Specifically, certain episodes of
price reversals around the close on quarterly expiration dates
attracted the attention of regulators to the possibility that the
simultaneous expiration of index futures, futures options, and options
might be inducing abnormal volatility in the index value around the
close.\6\ Academic research at the time provided at least some evidence
suggesting that futures and options expirations contributed to excess
volatility and reversals around the close on those days.\7\ In light of
the concerns with P.M.-settlement and to help ameliorate the price
effects associated with expirations of P.M.-settled, cash-settled index
products, in 1987, the Commodity Futures Trading Commission (``CFTC'')
approved a rule change by the Chicago Mercantile Exchange (``CME'') to
provide for A.M. settlement \8\ for index futures, including futures on
the S&P 500.\9\ The Commission subsequently approved a rule change by
Cboe Options to list and trade A.M.-settled SPX options.\10\ In 1992,
the Commission approved Cboe Options' proposal to transition all of its
European-style cash-settled options on the S&P 500 Index to A.M.-
settlement; \11\ however, in 1993, the Commission approved a rule
allowing Cboe Options to list P.M.-settled options on certain broad-
based indices, including the S&P 500, expiring at the end of each
calendar quarter (``Quarterly Index Expirations'') (since adopted as
permanent).\12\ Starting in 2006, the Commission approved numerous rule
changes, on a pilot basis, permitting the Cboe Options to introduce
other index options, including SPX options, with P.M.-settlement. These
include P.M.-settled index options expiring weekly (other than the
third Friday) and at the end of each month (``EOM''),\13\ P.M.-settled
options on the S&P 500 Index that expire on the third Friday-of-the-
month (``SPXPM''),\14\ as well as P.M.-settled Mini-SPX Index (``XSP'')
options and Mini-Russell 2000 Index (``MRUT'') options expiring on the
third Friday.\15\
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\5\ The seller of a ``cash-settled'' index option pays out the
cash value of the applicable index on expiration or exercise. A
``physically settled'' option, like equity and ETF options, involves
the transfer of the underlying asset rather than cash. See
Characteristics and Risks of Standardized Options, available at:
<a href="https://www.theocc.com/Company-Information/Documents-and-Archives/Options-Disclosure-Document">https://www.theocc.com/Company-Information/Documents-and-Archives/Options-Disclosure-Document</a>.
\6\ The close of trading on the quarterly expiration Friday
(i.e., the third Friday of March, June, September and December),
when options, index futures, and options on index futures all expire
simultaneously, became known as the ``triple witching hour.''
\7\ See Securities and Exchange Commission, Division of Economic
Risk and Analysis, Memorandum, Cornerstone Analysis of PM Cash-
Settled Index Option Pilots (February 2, 2021) (``DERA Staff PM
Pilot Memo'') at 5, available at: <a href="https://www.sec.gov/files/Analysis_of_PM_Cash_Settled_Index_Option_Pilots.pdf">https://www.sec.gov/files/Analysis_of_PM_Cash_Settled_Index_Option_Pilots.pdf</a>.
\8\ The exercise settlement value for an A.M.-settled index
option is determined by reference to the reported level of the index
as derived from the opening prices of the component securities on
the business day before expiration.
\9\ See Securities Exchange Act Release No. 24367 (April 17,
1987), 52 FR 13890 (April 27, 1987) (SR-CBOE-87-11) (noting that CME
moved S&P 500 futures contract's settlement value to opening prices
on the delivery date).
\10\ See id.
\11\ See Securities Exchange Act Release No. 30944 (July 21,
1992), 57 FR 33376 (July 28, 1992) (SR-CBOE-92-09). Thereafter, the
Commission approved proposals by the options markets to transfer
most of their cash-settled index products to A.M. settlement.
\12\ See Securities Exchange Act Release No. 31800 (February 1,
1993), 58 FR 7274 (February 5, 1993) (SR-CBOE-92-13); and see Rule
4.13(a)(2)(B); see also Securities Exchange Act Release Nos. 54123
(July 11, 2006), 71 FR 40558 (July 17, 2006) (SR-CBOE-2006-65); and
60164 (June 23, 2009), 74 FR 31333 (June 30, 2009) (SR-CBOE-2009-
029).
\13\ See Securities Exchange Act Release Nos. 62911 (September
14, 2010), 75 FR 57539 (September 21, 2010) (SR-CBOE-2009-075);
76529 (November 30, 2015), 80 FR 75695 (December 3, 2015) (SR-CBOE-
2015-106); 78132 (June 22, 2016), 81 FR 42018 (June 28, 2016) (SR-
CBOE-2016-046); and 78531 (August 10, 2016), 81 FR 54643 (August 16,
2016) (SR-CBOE-2016-046).
\14\ See Securities Exchange Act Release No. 68888 (February 8,
2013), 78 FR 10668 (February 14, 2013) (SR-CBOE-2012-120) (the
``SPXPM Approval Order''). Pursuant to Securities Exchange Act
Release No. 80060 (February 17, 2017), 82 FR 11673 (February 24,
2017) (SR-CBOE-2016-091), the Exchange moved third-Friday P.M.-
settled options into the S&P 500 Index options class, and as a
result, the trading symbol for P.M.-settled S&P 500 Index options
that have standard third Friday-of-the-month expirations changed
from ``SPXPM'' to ``SPXW.'' This change went into effect on May 1,
2017, pursuant to Cboe Options Regulatory Circular RG17-054.
\15\ See Securities Exchange Act Release Nos. 70087 (July 31,
2013), 78 FR 47809 (August 6, 2013) (SR-CBOE-2013-055); and 91067
(February 5, 2021) 86 FR 9108 (February 11, 2021) (SR-CBOE-2020-
116).
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As stated above, since its inception in 2010, the Exchange has
continuously extended the FLEX PM Third Friday Pilot Program period
and, during the course of the FLEX PM Third Friday Pilot Program and in
support of the extensions of the FLEX PM Third Friday Pilot Program,
the Exchange has submitted reports to the Commission regarding the
Pilot Program that detail the Exchange's experience with the Pilot
Program, pursuant to the FLEX PM Third Friday Pilot Program.\16\
Specifically, the Exchange provided the Commission with annual reports
analyzing volume and open interest for each broad-based FLEX Index
Options class overlying a third Friday-of-the-month expiration day,
p.m.-settled FLEX Index Options series. The annual reports also
contained certain pilot period and pre-pilot period analyses of volume
and open interest for third Friday-of-the-month expiration days, a.m.-
settled FLEX Index series and third Friday-of-the-month expiration day
Non-FLEX Index series overlying the
[[Page 26355]]
same index as a third Friday-of-the-month expiration day, p.m.-settled
FLEX Index option. The annual reports also contained information and
analysis of FLEX Index Options trading patterns, and index price
volatility and underlying share trading activity for each broad-based
index class overlying an Expiration Friday, p.m.-settled FLEX Index
Option that exceeds certain minimum open interest parameters. The
Exchange also provided the Commission, on a periodic basis, interim
reports of volume and open interest.
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\16\ See supra note 3.
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Also, during the course of the FLEX PM Third Friday Pilot Program,
the Exchange provided the Commission with any additional data or
analyses the Commission requested if it deemed such data or analyses
necessary to determine whether the Pilot Program was consistent with
the Exchange Act. The Exchange has made public on its website all data
and analyses previously submitted to the Commission under the FLEX PM
Third Friday,\17\ and will continue to make public any data and
analyses it submits to the Commission while the FLEX PM Third Friday is
still in effect.
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\17\ Available at <a href="https://www.cboe.com/aboutcboe/legal-regulatory/national-market-system-plans/pm-settlement-spxpm-data">https://www.cboe.com/aboutcboe/legal-regulatory/national-market-system-plans/pm-settlement-spxpm-data</a>.
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The Exchange has concluded that the FLEX PM Third Friday does not
negatively impact market quality or raise any unique or prohibitive
regulatory concerns. The Exchange has not identified any evidence from
the pilot data indicating that the trading of P.M.-settled FLEX options
has any adverse impact on fair and orderly markets on Expiration
Fridays for broad-based indexes or the underlying securities comprising
those indexes, nor have there been any observations of abnormal market
movements attributable to P.M.-settled FLEX options from any market
participants that have come to the attention of the Exchange.
Based on a study conducted by the Commission's Division of Economic
and Risk Analysis (``DERA'') staff on the pilot data from 2006 through
2018,\18\ and the Exchange's review of the pilot data from 2019 through
2021, the size of the market for P.M.-settled SPX options (including
quarterly, weekly, EOM and third Friday expirations) since 2007 has
grown from a trivial portion of the overall market to a substantial
share (from around 0.1% of open interest in 2007 to 30% in 2021).\19\
Notional value of open interest in P.M.-settled SPX options increased
from approximately a median of $1.5 billion in 2007 to $1.9 trillion in
2021, approximately 1260 times its value in 2007. Notional open
interest in A.M.-settled SPX options was already hovering around a
median of $1.4 trillion in 2007, and it has since increased to
approximately $4.4 trillion in 2021. It is also important to note that
open interest on expiring P.M.-settled SPX options, as compared to
A.M.-settled options, is spread out across a greater number of
expiration dates, which results in a smaller percentage of open
interest expiring on any one date, thus mitigating concerns that SPXPM
option expiration may have a disruptive effect on the market.\20\ Daily
trading volume in P.M.-settled SPX options has increased from a median
of about 700 contracts in 2007 to nearly 1.9 million contracts in
2021,\21\ and now exceeds trading volume in A.M.-settled SPX options.
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\18\ See DERA Staff PM Pilot Memo, at 13 (``Option settlement
quantity data for A.M.- and P.M.-settled options were obtained from
the Cboe, including the number of contracts that settled in-the-
money for each exchange-traded option series on the S&P 500 index .
. . on expiration days from January 20, 2006 through December 31,
2018. Daily open interest and volume data for [SPX] option series
were also obtained from Cboe, including open interest data from
January 3, 2006 through December 31, 2018 and trading volume data
from January 3, 2006 through December 31, 2018.'')
\19\ The DERA staff study reviewed and provided statistics for
market share, median notional value of open interest and median
volume in 2007 and in 2018. The Exchange provides updated statistics
for market share, median notional value of open interest and median
volume in 2021, replacing the 2018 statistics provided in the
Commission staff study.
\20\ See DERA Staff PM Pilot Memo, at 2.
\21\ The Exchange notes that the DERA staff study used two-sided
volume data for the median volume in 2007 and in 2018; therefore,
the Exchange provides two-sided volume data for the median volume in
2021.
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Moreover, the DERA staff study of the P.M.-settled SPX options
pilot data (2006 through 2018) did not identify any significant
economic impact on S&P 500 futures,\22\ the S&P 500, or the underlying
component securities of the S&P 500 surrounding the close. For purposes
of the study, volatility was by and large measured by using the
standard deviation \23\ of one-minute returns of S&P 500 futures values
and the index value during regular hours on each day reviewed
(excluding the first and last 15 minutes of trading) and then compared
with the standard deviation of one-minute returns (for S&P 500 futures,
the S&P 500, and the underlying component securities of the S&P 500)
over the last 15 minutes of a trading day.\24\ Using this as a general
measure,\25\ the DERA staff study then reviewed whether, and to what
extent, the settlement quantity of SPXPM options and the levels of open
interest in SPXPM options on expiration days (as compared to non-
expiration days) may be associated with general price volatility and
price reversals for S&P 500 futures, the S&P 500, and the underlying
component securities of the S&P 500 near the close. From its review of
the study, the Exchange agrees that, although volatility before the
market close is generally higher than during the rest of the trading
day, there is no evidence of any significant adverse economic impact to
the futures, index, or underlying index component securities markets as
a result of the quantity of P.M.-settled SPX options that settle at the
close or the amount of expiring open interest in P.M.-settled SPX
options. For example, the largest settlement event that occurred during
the time period of the study (a settlement of $100.4 billion of
notional on December 29, 2017) had an estimated impact on the futures
price of only approximately 0.02% (a predicted impact of $0.54 relative
to a closing futures price of $2,677).
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\22\ Futures on the S&P 500 experience high volume and liquidity
both before and after the close of the underlying market. Therefore,
futures are a useful measure of abnormal volatility surrounding the
close and the open. See DERA Staff PM Pilot Memo, at 14. The
Exchange agrees with this approach.
\23\ Standard deviation applied to a rate of return (in this
case, one-minute) of an instrument can indicate that instrument's
historical volatility. The greater the standard deviation, the
greater the variance between price and the mean, which indicates a
larger price range, i.e., higher volatility.
\24\ For example, if on a particular day the standard deviation
of one-minute returns between 3:45 p.m. ET and 4:00 p.m. ET is 0.004
and the standard deviation of returns from 9:45 a.m. ET to 3:45 p.m.
ET is 0.002, this metric would take on a value of 2 for that day,
indicating that volatility during the last 15 minutes of the trading
day was twice as high as it was during the rest of the trading day.
See DERA Staff PM Pilot Memo, at 15; see also DERA Staff PM Pilot
Memo, at Section V, which discusses in detail the metrics used to
measure, for the purposes of the study, the extent to which the
market may experience abnormal volatility surrounding SPXPM option
settlement.
\25\ See DERA Staff PM Pilot Memo, at Section V, which discusses
in detail the metrics used to measure, for the purposes of the
study, the extent to which the market may experience abnormal
volatility surrounding SPXPM option settlement.
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In particular, the DERA staff study found that an additional P.M.-
settled SPX options settlement quantity equal to $10 billion in
notional value is associated with a marginal impact on futures prices
during the last 15 minutes of the trading day of only about $0.06
(where the hypothetical index level is 2,500), additional expiring open
interest in P.M.-settled SPX options equal to $10 billion in notional
value is associated with a marginal impact on futures prices during the
last 15 minutes of the trading day of only about $0.05 (assumed index
level is 2,500). Also, an additional
[[Page 26356]]
increase in settlement quantity or in expiring open interest, each
equal to $20 million in notional value, did not result in any
meaningful futures price reversals near the close (neither was found to
cause a price reversal of over one standard deviation \26\).
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\26\ See supra note 22.
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Likewise, the study identified that an additional total P.M.-
settled SPX options settlement quantity equal to $10 billion in
notional value corresponds to price movement in the S&P 500 of only
about $0.08 (assuming an index level of 2,500) during the last 15
minutes of the trading day, and that additional expiring open interest
equal to $10 billion in notional value corresponds to a price movement
in the S&P 500 of only about $0.06 (assuming an index level of 2,500)
during the last 15 minutes of the trading day. The study also
identified that it would take an increase of $34 billion in notional
value of total settlement quantity and of expiring open interest for
one additional S&P 500 price reversal of greater than two standard
deviations to occur in the last 15 minutes before the market close.
Also, regarding potential impact to S&P 500 component securities, it
would take an increase in total P.M.-settled SPX options settlement
quantity equal to $20 billion to effect a price movement of only
approximately $0.03 for a $200 stock, an increase in expiring open
interest in P.M.-settled SPX options equal to $10 billion to effect a
price movement less than half a standard deviation, and an increase in
total P.M.-settled SPX settlement quantity equal to $7 billion to
achieve a price reversal greater two standard deviations.
The study employed the same metrics to determine whether there is
greater price volatility for S&P 500 futures, the S&P 500, and the
component securities of the S&P 500 related to SPXPM option settlements
during an environment of high market volatility (i.e., on days in which
the VIX Index was in the top 10% of closing index values) and did not
identify indicators of any significant economic impact on these markets
near the close as a result of the P.M.-settled SPX options
settlement.\27\ In addition to this, the DERA staff study, applying the
same metrics and analysis as for P.M.-settled SPX options to A.M.-
settled SPX options, did not identify any evidence of a statistically
significant relationship between settlement quantity or expiring open
interest of A.M.-settled options and volatility near the open.
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\27\ The Exchange also notes that the study did not identify any
evidence that less liquid S&P 500 constituent securities experienced
any greater impact from the settlement of P.M.-settled SPX options.
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Upon review of the results of the DERA staff study, the Exchange
agrees that each of the above-described marginal price movements in S&P
500 futures, the S&P 500, and the S&P 500 component securities affected
by increases in P.M.-settled SPX options settlement quantity and
expiring open interest appear to be de minimis pricing changes from
those that occur over regular trading hours (outside of the last 15
minutes of the trading day). Further, the Exchange has not observed any
significant economic impact or other adverse effects on the market from
similar reviews of its pilot reports and data submitted after 2018.\28\
In its review of a sample of the pilot data from 2019 through 2021, the
Exchange similarly measured volatility over the final fifteen minutes
of each trading day by taking the standard deviation of rolling one-
minute returns of the S&P 500 level (excluding the first and last
fifteen minutes of trading) and comparing such with the standard
deviation of one-minute returns \29\ of the S&P 500 level, over the
last 15 minutes of a trading day. The Exchange identified an average
standard deviation ratio of 1.42 for the S&P 500 on non-expiration days
and an average standard deviation ratio of 1.54 for the S&P 500 on
expiration days (a ratio between expiration days and non-expiration
days of 1.09). The Exchange also notes that, using the same
methodology, it observed that, from 2015 through 2019,\30\ the average
standard deviation ratio for the S&P 500 on non-expiration days was
1.11 and the average standard deviation ratio for the S&P 500 on
expiration days was 1.22 (a ratio between expiration days and non-
expiration days of 1.10). While the average standard deviation ratio on
both expiration and non-expiration days was higher in 2019 through 2021
due to overall market volatility, the ratios between the standard
deviation ratios on expiration days and non-expirations days remained
nearly identical between the 2015 through 2019 timeframe and the 2019
through 2021. This shows that, in cases where overall market volatility
may increase, the normalized impact on expiration days to non-
expiration days generally remains consistent.
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\28\ Total SPX open interest volumes were examined for
expiration dates over a roughly two-year period between October 2019
and November 2021.
\29\ Calculated at every tick for the prior minute.
\30\ November 2015 through November 2021.
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In addition to this, the Exchange notes that the S&P 500 is
rebalanced quarterly. The changes resulting from each rebalancing
coincide with the third-Friday of the quarterly rebalancing month
(i.e., March, June, September, October and December) \31\ and generally
drive an increase in trading activity from investors that seek to track
the S&P 500. As such, the Exchange measured volatility on quarterly
rebalancing dates and found that the average standard deviation ratio
was 1.62, which suggests more closing volatility on quarterly rebalance
dates compared to non-quarterly expiration dates (for which the average
standard deviation ratio was 1.22), thus indicating that the impact
rebalancing may have on the S&P 500 is greater than any impact that
P.M.-settled SPX options may have on the S&P 500.
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\31\ See S&P Dow Jones Indices, Equity Indices Policies &
Practices, Methodology (August 2021), at 15, available at <a href="https://www.spglobal.com/spdji/en/documents/methodologies/methodology-sp-equity-indices-policies-practices.pdf">https://www.spglobal.com/spdji/en/documents/methodologies/methodology-sp-equity-indices-policies-practices.pdf</a>.
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The Exchange additionally focused its study of the post-2018 sample
pilot data on reviewing for potential correlation between excess market
volatility and price reversals and the hedging activity of liquidity
providers. As explained in the DERA staff study, potential impact of
P.M.-settled SPX options on the correlated equity markets is thought to
stem from the hedging activity of liquidity providers in such
options.\32\ To determine any such potential correlation, the Exchange
studied the expected action of liquidity providers that are the primary
source of the hedging on settlement days. These liquidity providers
generally delta-hedge their S&P 500 index exposure via S&P 500 futures
and on settlement day unwind their futures positions that correspond
with the delta of their in-the-money (ITM) expiring P.M.-settled SPX
options. Assuming such behavior, the Exchange estimated the Market-On-
Close (``MOC'') \33\ volume for the shares of the S&P 500 component
securities (i.e., ``MOC share volume'') that could ultimately result
from the unwinding of the liquidity providers' futures positions by
equating the notional value of the futures positions that correspond to
expiring ITM open interest to the number S&P 500 component security
contracts (based on the weight of each S&P 500 component security).
That is, the Exchange calculated (an estimate) of the amount of MOC
volume in the S&P 500 component markets attributable hedging activity
as a result of expiring ITM P.M.-settled SPX options (i.e., ``hedging
MOC''). The Exchange then:
[[Page 26357]]
(1) compared the hedging MOC share volume to all MOC share volume on
expiration days and non-expiration trading days; and (2) compared the
notional value of the hedging futures positions (i.e., that correspond
to expiring ITM P.M.-settled SPX options open interest) to the notional
value of expiring ITM P.M.-settled SPX options open interest, the
notional value of all expiring P.M.-settled SPX options open interest
and the notional value of all P.M.-settled SPX options open interest.
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\32\ See DERA Staff PM Pilot Memo, at 10-12.
\33\ MOC orders allow a market participant to trade at the
closing price. Market participants generally utilize MOC orders to
ensure they exit positions at the end of the trading day.
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The Exchange observed that, on average, there were approximately
25% more MOC shares executed on expiration days (332 expiration days)
than non-expiration days (209 non-expiration days). While, at first
glance, the volume of MOC shares executed on expiration days seems much
greater than the volume executed on non-expiration days, the Exchange
notes that much of this difference is attributable to just eight
expiration days--the quarterly index rebalancing dates captured within
the scope of the post-2018 sample pilot data. The average MOC share
volume on the eight quarterly rebalancing dates was approximately 4.8
times the average MOC share volume on the non-quarterly rebalancing
expiration dates; again, indicating that the impact rebalancing may
have on the S&P 500 Index is greater than any impact that P.M.-settled
SPX options may have on the S&P 500 Index. That is, the Exchange
observed that the majority of closing volume on quarterly rebalance
dates is driven by rebalancing of shares in in the S&P 500, and not by
P.M.-settled SPX options expiration-related hedging activity.
Notwithstanding the MOC share volume on quarterly rebalancing dates,
the volume of MOC shares executed on expiration days (324 expiration
days) was only approximately 13% more than that on non-expiration days,
substantially less than the increase in volume over non-expiration days
wherein the eight index rebalancing dates are included in expiration
day volume. In addition to this, the Exchange observed that the hedging
MOC share volume (i.e., the expected MOC share volume resulting from
hedging activity in connection with expiring ITM P.M.-settled SPX
options) was, on average, less than the MOC share volume on non-
expiration days, and was only approximately 20% of the total MOC share
volume on expiration days, indicating that other sources of MOC share
volume generally exceed the volume resulting from hedging activity of
expiring ITM P.M.-settled SPX options and would more likely be a source
of any potential market volatility.
The Exchange also observed that, across all third-Friday
expirations, the notional value of the hedging futures positions was
approximately 25% of the notional value of expiring ITM P.M.-settled
SPX options, approximately 3.8% of the notional value of all expiring
P.M.-settled SPX options, and approximately only 0.5% of the notional
value of all P.M.-settled SPX options. As such, the estimated hedging
activity from liquidity providers on expiration days is a fraction of
the expiring open interest in P.M.-settled SPX options, which, the
Exchange notes, is only 14% of the total open interest in P.M.-settled
SPX options; thus, indicating negligible capacity for hedging activity
to increase volatility in the underlying markets.
While unrelated to the initial concerns of P.M.-settlement as
described above, at the request of the Commission, the Exchange
recently completed an analysis intended to evaluate whether the
introduction of P.M.-settled options impacted the quality of the A.M.-
settled option market. Specifically, the Exchange compared values of
key market quality indicators (specifically, the bid-ask spread \34\
and effective spread \35\) in SPXW options both before and after the
introduction of Tuesday expirations and Thursday expirations for SPXW
options on April 18 and May 11, 2022, respectively.\36\ Options on the
Standard & Poor's Depositary Receipts S&P 500 ETF (``SPY'') were used
as a control group to account for any market factors that might
influence key market quality indicators. The Exchange used data from
January 3, 2022 through March 4, 2022 (the two-month period prior to
the introduction of SPXW options with Tuesday expirations) and data
from May 11, 2022 to July 10, 2022 (the two-month period following the
introduction of SPXW options with Thursday expirations).\37\
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\34\ The Exchange calculated for each of SPXW options (with
Monday, Wednesday, and Friday expirations) and SPY Weekly options
(with Monday, Wednesday, and Friday expirations) the daily time-
weighted bid-ask spread on the Exchange during its regular trading
hours session, adjusted for the difference in size between SPXW
options and SPY options (SPXW options are approximately ten times
the value of SPY options).
\35\ The Exchange calculated the volume-weighted average daily
effective spread for simple trades for each of SPXW options (with
Monday, Wednesday, and Friday expirations) and SPY Weekly options
(with Monday, Wednesday, and Friday expirations) as twice the amount
of the absolute value of the difference between an order execution
price and the midpoint of the national best bid and offer at the
time of execution, adjusted for the difference in size between SPXW
options and SPY options.
\36\ For purposes of comparison, the Exchange paired SPXW
options and SPY options with the same moneyness and same days to
expiration.
\37\ The Exchange observed comparable market volatility levels
during the pre-intervention and post-intervention time ranges.
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Given the time that as passed since the introduction of FLEX P.M.-
settled options, the Exchange is unable to analyze whether the
introduction of those options significantly impacted the market quality
of FLEX P.M.-settled options. Additionally, the Exchange is unable to
analyze whether the introduction of the FLEX P.M.-settled options
significantly impacted the market quality of A.M.-settled FLEX options,
as there is no book for FLEX options, as FLEX options are listed only
if and when market participants create them for trading. However, the
Exchange believes analyzing whether the introduction of new SPXW P.M.-
settled expirations (i.e., SPXW options with Tuesday and Thursday
expirations) impacted the market quality of then-existing SPXW P.M.-
settled expirations (i.e., SPXW options with Monday, Wednesday, and
Friday expirations) provides a reasonable substitute to evaluate
whether the introduction of P.M.-settled index options impacted the
market quality of the underlying cash markets when the pilot began. The
full analysis is included in Exhibit 3 of this rule filing.
As a result of this analysis, the Exchange believes the
introduction of SPX options with Tuesday and Thursday options had no
significant impact on the market quality of SPXW options with Monday,
Wednesday, and Friday expirations. With respect to the majority of
series analyzed, the Exchange observed no statistically significant
difference in the bid-ask spread or the effective spread of the series
in the period prior to introduction of the Tuesday and Thursday
expirations and the period following the introduction of the Tuesday
and Thursday expirations. While statistically insignificant, the
Exchange notes that in many series, particularly as they were closer to
expiration, the Exchange observed that the values of these spreads
decreased during the period following the introduction of the Tuesday
and Thursday expirations.\38\
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\38\ In any series in which the Exchange observed an increase in
the market quality indicators, the Exchange notes any such increase
was also statistically insignificant.
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To further note, given the significant changes in the closing
procedures of the primary markets in recent decades, including
considerable advances in trading systems and technology, the Exchange
believes that the risks of any potential impact of P.M.-, cash-settled
[[Page 26358]]
FLEX options on the underlying cash markets are also de minimis.
The Exchange proposes to make the FLEX PM Third Friday Program
permanent as P.M.-settled index products have become an integral part
of the Exchange's product offerings, providing investors with greater
trading opportunities and flexibility. As indicated by the significant
growth in the size of the market for P.M.-settled options, such options
have been, and continue to be, well-received and widely used by market
participants. Therefore, the Exchange wishes to be able to continue to
provide investors with the ability to trade FLEX PM options on a
permanent basis. The Exchange believes that the permanent continuation
of the FLEX PM Third Friday Pilot Program will serve to maintain the
status quo by continuing to offer a product to which investors have
become accustomed and have incorporated into their business models and
day-to-day trading methodologies for nearly ten years. As such, the
Exchange also believes that ceasing to offer FLEX PM options may result
in significant market disruption and investor confusion. The Exchange
has not identified any significant impact on market quality nor any
unique or prohibitive regulatory concerns as a result of the FLEX PM
Third Friday Pilot Program, and, as such, the Exchange believes that
the continuation of the FLEX PM Third Friday Pilot Program as a pilot,
including the use of time and resources to compile and analyze
quarterly and annual pilot reports and pilot data, is no longer
necessary and that making the FLEX PM Third Friday Pilot Program
permanent will allow the Exchange to otherwise allocate time and
resources to other industry initiatives.
2. Statutory Basis
The Exchange believes the proposed rule change is consistent with
the Securities Exchange Act of 1934 (the ``Act'') and the rules and
regulations thereunder applicable to the Exchange and, in particular,
the requirements of section 6(b) of the Act.\39\ Specifically, the
Exchange believes the proposed rule change is consistent with the
section 6(b)(5) \40\ requirements that the rules of an exchange 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 regulating, clearing,
settling, processing information with respect to, and 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.
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\39\ 15 U.S.C. 78f(b).
\40\ 15 U.S.C. 78f(b)(5).
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In particular, the Exchange believes that the making the FLEX PM
Third Friday Pilot Program permanent will allow the Exchange to be able
to continue to offer FLEX PM options on a continuous and permanent
basis. These products have been, and continue to be, well-received and
widely used by market participants, providing investors with greater
trading opportunities and flexibility. The Exchange believes that the
permanent continuation of the FLEX PM Third Friday Pilot Program will
remove impediments to and perfect the mechanism of a free and open
market and a national market system, and, in general, protect investors
and the public interest by continuing to offer a product to which
investors have become accustomed and have incorporated into their
business models and day-to-day trading strategies for approximately 13
years. The Exchange believes ceasing to offer the FLEX PM Third Friday
Pilot Program may result in significant market disruption and investor
confusion, as P.M.-settled index products, particularly SPX options,
have become an integral part of the Exchange's product offerings,
providing investors with greater trading opportunities and flexibility.
The Exchange further believes that making the FLEX PM Third Friday
Pilot Program permanent will remove impediments to and perfect the
mechanism of a free and open market and a national market system and
protect investors, while maintaining a fair and orderly market, as the
Exchange believes that previous concerns (arising in the 1980s)
regarding options expirations potentially contributing to excess
volatility and reversals around the close have been adequately
diminished. As described in detail above, the Exchange has observed no
significant adverse market impact or identified any meaningful
regulatory concerns during the approximately 13-year operation of the
FLEX PM Third Friday Program as a pilot nor during the 15 years since
P.M.-settled index options (SPX) were reintroduced to the
marketplace.\41\ Notably, the Exchange did not identify any significant
economic impact (including on pricing or volatility or in connection
with reversals) on related futures, the underlying indexes, or the
underlying component securities of the underlying indexes surrounding
the close as a result of the quantity of P.M.-settled FLEX options that
settle at the close or the amount of expiring open interest in P.M.-
settled FLEX options, nor any demonstrated capacity for options hedging
activity to impact volatility in the underlying markets. While the DERA
staff study and corresponding Exchange study described above
specifically evaluated SPX options, P.M.-settled FLEX options overlay
broad-based indexes (including the S&P 500), the Exchange believes it
is appropriate to extrapolate the data to apply the FLEX PM options.
This is particularly true given that the reports submitted by the
Exchange during the pilot period have similarly demonstrated no
significant economic impact on the respective underlying indexes or
other products.
---------------------------------------------------------------------------
\41\ See supra notes 18-31.
---------------------------------------------------------------------------
The Exchange also believes the introduction of FLEX PM options had
no significant impact on the market quality of corresponding A.M.-
settled options or other options. The Exchange believes this as a
result of its analysis conducted after the introduction of SPXW options
with Tuesday and Thursday expirations, which demonstrated no
statistically significant impact on the bid-ask or effective spreads of
SPXW options with Monday, Wednesday, and Friday expirations after
trading in the SPXW options with Tuesday and Thursday expirations
began. FLEX options are nearly identical to non-FLEX options and
overlay the same indexes. Therefore, the Exchange believes analyzing
the impact of new SPXW options on then-existing SPXW options permit the
Exchange to extrapolate from this data that it is unlikely the
introduction of P.M.-settled FLEX options significantly impacted the
market quality of A.M.-settled options when the pilot began.
Additionally, the significant changes in the closing procedures of
the primary markets in recent decades, including considerable advances
in trading systems and technology, has significantly minimized risks of
any potential impact of P.M.-, cash-settled FLEX options on the
underlying cash markets. As such, the Exchange believes that a
permanent FLEX PM Third Friday Pilot Program does not raise any unique
or prohibitive regulatory concerns and that such trading has not, and
will not, adversely impact fair and orderly markets on Expiration
Fridays for the underlying indexes or their component securities.
Further, as the Exchange has not identified any significant impact on
market quality or any unique or prohibitive regulatory concerns as a
result of offering FLEX PM options, the
[[Page 26359]]
Exchange believes that the continuation of the FLEX PM Third Friday
Pilot Program as a pilot, including the gathering, submission and
review of the pilot reports and data, is no longer necessary and that
making the FLEX PM Third Friday Pilot Program permanent will allow the
Exchange to otherwise allocate time and resources to other industry
initiatives.
B. Self-Regulatory Organization's Statement on Burden on Competition
Cboe Options does not believe that the proposed rule change will
impose any burden on competition that is not necessary or appropriate
in furtherance of the purposes of the Act. The Exchange does not
believe that making the FLEX PM Third Friday Pilot Program permanent
will impose any unnecessary or inappropriate burden on intramarket
competition because FLEX PM options will continue to be available to
all market participants who wish to participate in the FLEX PM options
market. The Exchange believes that the growth that the P.M.-settled
options market, including FLEX PM options, has experienced since their
reintroduction through pilot programs indicates strong, continued
investor interest and demand, warranting a permanent FLEX PM Third
Friday Pilot Program. The Exchange believes that, for the period that
P.M.-settled FLEX options have been in operation as pilot programs,
they have provided investors with a desirable product with which to
trade and wishes to permanently offer this product to investors.
Furthermore, during the pilot period, the Exchange has not observed any
significant adverse market effects nor identified any regulatory
concerns as a result of the FLEX PM Third Friday Pilot Program, and, as
such, the continuation of the FLEX PM Third Friday Pilot Program as a
pilot, including the gathering, submission and review of the pilot
reports and data, is no longer necessary--a permanent FLEX PM Third
Friday Pilot Program will allow the Exchange to otherwise allocate time
and resources to other industry initiatives.
The Exchange further does not believe that making the FLEX PM Third
Friday Pilot Program permanent will impose any burden on intermarket
competition that is not necessary or appropriate in furtherance of the
purposes of the Act because it applies to a class of options listed
only for trading on Cboe Options. The Exchange notes that other
exchanges are free to and do offer competing products. To the extent
that the permanent offering and continued trading of FLEX PM options
may make Cboe Options a more attractive marketplace to market
participants at other exchanges, such market participants may elect to
become Cboe Options market participants.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
The Exchange neither solicited nor received comments on the
proposed rule change.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 45 days of the date of publication of this notice in the
Federal Register or within such longer period up to 90 days (i) as the
Commission may designate if it finds such longer period to be
appropriate and publishes its reasons for so finding or (ii) as to
which the Exchange consents, the Commission will:
A. by order approve or disapprove such proposed rule change, or
B. institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
<bullet> Use the Commission's internet comment form (<a href="http://www.sec.gov/rules/sro.shtml">http://www.sec.gov/rules/sro.shtml</a>); or
<bullet> Send an email to <a href="/cdn-cgi/l/email-protection#c7b5b2aba2eaa4a8aaaaa2a9b3b487b4a2a4e9a0a8b1"><span class="__cf_email__" data-cfemail="b8cacdd4dd95dbd7d5d5ddd6cccbf8cbdddb96dfd7ce">[email protected]</span></a>. Please include
File Number SR-CBOE-2023-018 on the subject line.
Paper Comments
<bullet> Send paper comments in triplicate to Secretary, Securities
and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.
All submissions should refer to File Number SR-CBOE-2023-018. This file
number should be included on the subject line if email is used. To help
the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's internet website (<a href="http://www.sec.gov/rules/sro.shtml">http://www.sec.gov/rules/sro.shtml</a>).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for website viewing and printing in
the Commission's Public Reference Room, 100 F Street NE, Washington, DC
20549 on official business days between the hours of 10:00 a.m. and
3:00 p.m. Copies of the filing also will be available for inspection
and copying at the principal office of the Exchange. Do not include
personal identifiable information in submissions; you should submit
only information that you wish to make available publicly. We may
redact in part or withhold entirely from publication submitted material
that is obscene or subject to copyright protection. All submissions
should refer to File Number SR-CBOE-2023-018, and should be submitted
on or before May 19, 2023.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\42\
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\42\ 17 CFR 200.30-3(a)(12).
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Sherry R. Haywood,
Assistant Secretary.
[FR Doc. 2023-08987 Filed 4-27-23; 8:45 am]
BILLING CODE 8011-01-P
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</html>Indexed from Federal Register on April 28, 2023.
This is legal information, not legal advice. Laws vary by jurisdiction and change frequently. Always verify current law with official sources and consult a licensed attorney in your jurisdiction for advice on your specific situation.