| January 8, 1998 |
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Mr. James M. McNeil Dear Mr. McNeil: This responds to your letter of December 3, 1997, concerning a new issue of securities you expect to begin trading on the American Stock Exchange in January 1998. We understand that the securities will be known as DIAMONDSSM and will be issued by a unit investment trust composed of a portfolio of Dow Jones Industrial Average (DJIA) stocks. Your letter addresses the margin requirements for DIAMONDS, the use of DIAMONDS to offset margin requirements for short sales of DJIA stocks, the use of DIAMONDS to offset margin requirements for DJIA options, and permitted offsets for specialists in DIAMONDS. The definition of margin security in section 220.2 Regulation T includes any security registered on a national securities exchange, as well as any security issued by a unit investment trust which is registered under section 8 of the Investment Company Act. DIAMONDS are therefore margin securities for purposes of Regulation T and are subject to the margin requirements for margin equity securities contained in the Supplement to Regulation T (the Supplement is currently section 220.18 of Regulation T, but will be section 220.12 under the revised version of Regulation T that will be effective April 1, 1998). The margin requirements for margin equity securities are currently 50 percent for long positions and 150 percent for short positions. We further understand that DIAMONDS can be redeemed so that the customer receives the stocks that comprise the DJIA. DIAMONDS are therefore "exchangeable or convertible within 90 calendar days without restriction other than the payment of money" into the stocks that make up the DJIA. The quoted language is found in the Supplement in section 220.18(c) (section 220.12(c) after April 1, 1998) and will allow customers to sell short any individual stock or subset of stocks in the DJIA subject to a 100 percent margin requirement, rather than the usual 150 percent margin requirement, as long as the account is "long" a sufficient quantity of DIAMONDS to yield at least the number of shares of stock sold short upon redemption. The Supplement to Regulation T was amended effective June 1, 1997 to provide that the margin requirements for options is "the amount, or other position" specified by the national securities exchange that trades the option (for listed options) or the broker-dealer's designated examining authority (for unlisted options). DIAMONDS could be used as cover in lieu of margin for a short position in options if the rules of the appropriate self-regulatory organization specify that DIAMONDS qualify for such treatment. The National Securities Markets Improvement Act of 1996 reduced the scope of the Board's margin authority by amending the Securities Exchange Act of 1934 (SEA). Under section 7(c)(2)(B) of the SEA, the Board's margin authority no longer covers extensions of credit to a member of a national securities exchange or a registered broker-dealer "to finance its activities as a market maker." The Board has recently confirmed that it views this language as eliminating the Board's authority to establish permitted offset requirements for specialists. Any rules concerning permitted offsets for specialists in DIAMONDS established by the American Stock Exchange would be without regard to Regulation T. We trust you will find this information responsive to your questions. This is a staff opinion only, as the matter has not been presented to the Board.
Yours truly,
(signed) Scott Holz
Scott Holz Enclosure
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