October 25, 2005
Stuart M. Strauss, Esq.
Dear Mr. Strauss:
In your letter dated October 25, 2005,1 as supplemented by conversations with the staff of the Division of Market Regulation ("Staff"), PowerShares Exchange-Traded Fund Trust on behalf of itself, the Lux Nanotech Fund, the AmEx, and any other Market on which the Shares may subsequently trade, and persons or entities engaging in transactions in the Shares, requests exemptive, interpretive, or no-action advice regarding Section 11(d)(1) of the Exchange Act and Rules 10a-1, 10b-10, 10b-17, 11d1-2, 14e-5, 15c1-5 and 15c1-6 thereunder, Rules 101 and 102 of Regulation M, and Rule 200(g) of Regulation SHO under the Exchange Act, in connection with secondary market transactions in the Shares on the AmEx, or any other Market on which the Shares may subsequently trade, and the creation and redemption of Creation Units of the Fund.
The Trust is registered with the Securities and Exchange Commission as an open-end management investment company which was organized as a Massachusetts business trust on June 9, 2000. The Trust currently offers nineteen separate investment series and plans to add additional series. The shares of the nineteen separate investment series currently offered by the Trust and certain shares of the New Funds are listed and traded on the AmEx. The AmEx is expected to rely on Rule 19b-4(e) under the Exchange Act to list and trade the Shares. The Trust expects that the AmEx will grant approval for the Shares to be listed and traded on the AmEx upon the Trust's issuance of the Shares. The Fund will invest in common stocks consisting of the Component Stocks of the Lux Nanotech Index2 and will issue and redeem Shares only in aggregations of 100,000 Shares. The Fund utilizes a passive investment approach and seeks to track the performance of the Index by investing in a portfolio of stocks that seeks to replicate the Index through the use of quantitative analytical procedures. The investment objective of the Fund is to provide investment results that, before expenses, correspond generally to the total return of the Index, the value of which will be published by the AmEx.3
Rule 200 of Regulation SHO defines "short sale" and Rule 10a-1 under the Exchange Act governs short sales generally. Paragraph (a) of Rule 10a-1 covers transactions in any security registered on a national securities exchange, if trades in such security are reported pursuant to an effective transaction reporting plan, and prohibits short sales with respect to these securities unless such sales occur on a "plus tick," (that is, a price above the price at which the immediately preceding sale was effected), or "zero-plus tick," (that is, at the last sale price if it was higher than the last different price). Rule 10a-1 is designed to prevent the market price of a security registered on, or admitted to unlisted trading privileges on, a national securities exchange from being manipulated downward by unrestricted short selling.
On the basis of your representations and the facts presented, in particular the composite and derivative nature of the Shares, it would not appear that trading in the Shares would be susceptible to the practices that Rule 10a-1 is designed to prevent. In particular, the Trust anticipates that the market value of the Shares will rise or fall based on changes in the net asset value of the Component Stocks of the Index and supply and demand. Moreover, the short sale rule does not apply to analogous derivative products such as index options and index futures contracts. Accordingly, the Commission hereby grants an exemption from Rule 10a-1 to permit sales of the Shares without regard to the "tick" requirements of Rule 10a-1.
We note that the exemption from Rule 10a-1 would not apply to secondary market portfolio sales of Component Stocks made in connection with the redemption of the Shares. In addition, this exemption is contingent upon the Funds maintaining at least 20 Component Stocks.
Rule 200(g) of Regulation SHO
Rule 200(g) of Regulation SHO provides that a broker-dealer must mark all sell orders of any equity security as "long," "short," or "short exempt." Rule 200(g)(2) requires that a short sale order must be marked "short exempt" if the seller is relying on an exception from the tick test of Rule 10a-1 of the Exchange Act or any short sale price test of any exchange or national securities association.
Accordingly, in conjunction with the exemption granted above to permit sales of Shares without regard to the "tick" requirements of Rule 10a-1, on the basis of your representations and the facts presented, and without necessarily concurring in your analysis, the Staff will not recommend to the Commission enforcement action under Rule 200(g) of Regulation SHO if a broker-dealer marks "short," rather than "short exempt," a short sale that is effected in the Shares, subject to the following conditions:
Redeemable securities issued by an open-end management investment company are excepted from the provisions of Rule 101 and 102 of Regulation M. The Commission granted the Trust and its co-applicants exemptions from certain provisions of the 1940 Act with respect to the Powershares Dynamic Market Portfolio and the Powershares Dynamic OTC Portfolio in order to permit the Trust to maintain its registration as an open-end investment company and to issue shares that are redeemable only in Creation Unit size aggregations of Shares.
Rule 101 of Regulation M
Generally, Rule 101 of Regulation M is an anti-manipulation regulation that, subject to certain exemptions, prohibits any "distribution participant" and its "affiliated purchasers" from bidding for, purchasing, or attempting to induce any person to bid for or purchase any security which is the subject of a distribution until after the applicable restricted period except as specifically permitted in the Regulation.4 The provisions of Rule 101 of Regulation M apply to underwriters, prospective underwriters, brokers, dealers, or other persons who have agreed to participate or are participating in a distribution of securities.
On the basis of your representations and the facts presented, particularly that the Trust is a registered open-end management investment company that will continuously redeem at net asset value Creation Unit size aggregations of the Shares; and the secondary market price of the Shares should not vary substantially from the net asset value of such Shares, which is based on the value of the Component Stocks in the underlying Index and will be computed on a daily basis, the Staff hereby confirms that the Trust is excepted under paragraph (c)(4) of Rule 101 of Regulation M, thus permitting persons who may be deemed to be participating in a distribution of the Shares to bid for or purchase the Shares during their participation in such distribution.5
The Staff also confirms the interpretation of Rule 101 of Regulation M that a redemption of Creation Unit size aggregations of the Shares and the receipt of Component Stocks in exchange therefor by a participant in a distribution of the Shares would not constitute an "attempt to induce any person to bid for or purchase a covered security, during the applicable restricted period" within the meaning of Regulation M, and therefore would not violate Regulation M.
Rule 102 of Regulation M
Rule 102 of Regulation M prohibits issuers, selling security holders, or any affiliated purchaser of such person from bidding for, purchasing, or attempting to induce any person to bid for or purchase a covered security during the applicable restricted period in connection with a distribution of securities effected by or on behalf of an issuer or selling security holder. Rule 100 of Regulation M defines "distribution" to mean any offering of securities that is distinguished from ordinary trading transactions by the magnitude of the offering and the presence of special selling efforts and selling methods.
On the basis of your representations and the facts presented, particularly that the Trust is a registered open-end management investment company that will redeem at net asset value Creation Units of the Shares, the Staff hereby confirms that the Trust is excepted under paragraph (d)(4) of Rule 102 of Regulation M, thus permitting the Fund to redeem the Shares during the continuous offering of the Shares.
Rule 14e-5 under the Exchange Act, among other things, prohibits a person making a tender offer or exchange offer for any equity security from directly or indirectly, purchasing or arranging to purchase any subject or related securities except as part of the offer, from the time the offer is publicly announced until its expiration.
Rule 14e-5 explicitly includes dealer-managers within the rule's definition of "covered person." Accordingly, while acting as dealer-manager of a tender offer for a Component Stock, a dealer-manager is prohibited from purchasing or arranging to purchase that Component Stock until the expiration of the offer.
On the basis of your representations and the facts presented, particularly that purchases or redemptions of the Shares would not appear to result in the abuses at which Rule 14e-5 is directed, and that any bids or purchases by dealer-managers would not be effected for the purpose of facilitating a tender offer, the Commission hereby grants an exemption from Rule 14e-5 to permit any person acting as dealer-manager of a tender offer for a Component Stock to: (1) redeem the Shares in Creation Unit size aggregations to the Trust for Component Stocks that may include a security subject to the tender offer; and (2) purchase the Shares during such offer.6
Rule 10b-17, with certain exceptions, requires an issuer of a class of publicly traded securities to give notice of certain specified actions (for example, a dividend distribution, stock split, or rights offering) relating to such class of securities in accordance with Rule 10b-17(b).
On the basis of your representations and the facts presented, particularly that the Commission has determined to grant an exemption from the 1940 Act to register the Trust as an open-end management investment company notwithstanding the fact that it issues Shares with limited redeemability, the Commission hereby grants an exemption from the requirements of Rule 10b-17 to the Trust with respect to transactions in the Shares.7
Rule 10b-10 under the Exchange Act requires a broker-dealer that effects a securities transaction with or for the account of a customer to provide, at or before the completion of the transaction, a written confirmation statement to the customer disclosing the information specified in paragraph (a) of Rule 10b-10. The required information includes the identity, price, and number of shares or units (or principal amount) of the security purchased or sold by the customer.
On the basis of your representations and the facts presented, and particularly the expected institutional nature of the market for Shares in Creation Unit size aggregations and the public availability of information regarding the composition of the Component Stocks to be tendered or received by customers in the Fund's creation and redemption transactions, we find that it is appropriate in the public interest and consistent with the protection of investors to grant, and hereby grant, an exemption from Rule 10b-10 under the Exchange Act in order to permit broker-dealers that create or redeem Shares on behalf of their customers to confirm such creation or redemption transactions without providing a statement of the identity, price, or number of shares of each individual Component Stocks tendered to or delivered by the Trust pursuant to the creation or redemption transaction. This exemption does not apply to purchases and sales of Shares in the secondary market. This exemption is subject to the following conditions:
Section 11(d)(1); Rule 11d1-2
On the basis of your representations and the facts presented, the Staff will not recommend enforcement action to the Commission under Section 11(d)(1) of the Exchange Act if broker-dealers treat Shares, for the purposes of Rule 11d1-2 under the Exchange Act, as "securities issued by a registered ... open-end investment company as defined in the Investment Company Act of 1940" and thereby extend or maintain or arrange for the extension or maintenance of credit on Shares that have been owned by the persons to whom credit is provided for more than 30 days, in reliance on the exemption contained in the rule. The exemption provided in Rule 11d1-2 will not be available, however, with respect to any Shares owned for 30 days or less by the person to whom credit is provided.
In addition, on the basis of your representations and the facts presented, the Staff will not recommend enforcement action to the Commission under Section 11(d)(1) of the Exchange Act if broker-dealers that do not create Shares, but engage in transactions in Shares exclusively in the secondary market, extend or maintain or arrange for the extension or maintenance of credit on Shares, in connection with such secondary market transactions.8
Rule 15c1-5 and 15c1-6
Rule 15c1-5 under the Exchange Act requires a broker-dealer controlled by, controlling, or under common control with the issuer of any security, before entering into any contract with or for a customer for the purchase or sale of such security, to disclose that relationship and to provide written disclosure to the customer of such control relationship at or before the completion of the transaction.
Rule 15c1-6 under the Exchange Act generally requires a broker-dealer that effects a transaction with a customer in any security in a primary or secondary distribution in which the broker-dealer is participating or is otherwise financially interested to provide written notification to the customer of the existence of such participation or interest at or before the completion of each transaction.
In light of the composite nature of the Shares and the relatively small proportionate share of any Component Stock, transactions in Shares do not appear to result in any of the harms that Rules 15c1-5 and 15c1-6 are designed to prevent. Therefore, on the basis of your representations and the facts presented, the Staff will not recommend that the Commission take enforcement action under Rule 15c1-5 if a broker-dealer executes transactions in Shares without disclosing any control relationship with an issuer of a Component Stock. Moreover, on the basis of your representations and the facts presented, the Staff will not recommend that the Commission take enforcement action under Rule 15c1-6 if a broker-dealer executes transactions in Shares without disclosing its participation or interest in a primary or secondary distribution of a Component Stock.
The foregoing exemptions from Rules 10a-1, 10b-10, 10b-17, 14e-5, interpretations of Rules 101 and 102 of Regulation M, and no-action positions taken under Section 11(d)(1) and Rules 11d1-2, 15c1-5, and 15c1-6 and Regulation SHO under the Exchange Act are based solely on your representations and the facts presented to Staff, and are strictly limited to the application of those rules to transactions involving the Shares under the circumstances described above and in your letter. Such transactions should be discontinued, pending presentation of the facts for our consideration, in the event that any material change occurs with respect to any of those facts or representations. Moreover, the foregoing exemptions from Rules 10a-1, 10b-10, 10b-17, and 14e-5, interpretations Rules 101 and 102 of Regulation M and no-action positions taken under Section 11(d)(1) and Rules 11d1-2, 15c1-5, and 15c1-6 and Regulation SHO under the Exchange Act are subject to the condition that such transactions in Shares, any Component Stock, or any related securities are not made for the purpose of creating actual, or apparent, active trading in or raising or otherwise affecting the price of such securities.
These exemptions, interpretations, and no-action positions are subject to modification or revocation if at any time the Commission or Staff determines that such action is necessary or appropriate in furtherance of the purposes of the Exchange Act. In addition, persons relying on these exemptions, interpretations, and no-action positions are directed to the anti-fraud and anti-manipulation provisions of the Exchange Act, particularly Sections 9(a), 10(b), and Rule 10b-5 thereunder. Responsibility for compliance with these and other provisions of the federal or state securities laws must rest with persons relying on these exemptions, interpretations, and no-action positions. The Staff expresses no view with respect to other questions that the proposed transactions may raise, including, but not limited to, the adequacy of disclosure concerning, and the applicability of other federal and state laws to, the proposed transactions.
For the Commission,
James A. Brigagliano
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