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SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
Release No. 34-36530, International Series Release No. 893, File
No. S7-26-95
RIN 3235-AG65
Exemption of the Securities of the United Mexican States Under
the Securities Exchange Act of 1934 for Purposes of Trading
Futures Contracts on Those Securities
AGENCY: Securities and Exchange Commission
ACTION: Final Rule
SUMMARY: The Securities and Exchange Commission ("SEC" or
"Commission") is adopting an amendment to Rule 3a12-8 under the
Securities Exchange Act of 1934 that would designate debt
obligations issued by the United Mexican States ("Mexico") as
"exempted securities" for the purpose of marketing and trading
futures contracts on those securities in the United States. The
purpose of this amendment is solely to permit futures on Mexican
government debt to be traded in the United States. This change
is not intended to have any substantive effect on the operation
of the Rule.
EFFECTIVE DATE: [Insert date of publication in the Federal
Register]
FOR FURTHER INFORMATION CONTACT: James T. McHale, Attorney,
Office of Market Supervision, Division of Market Regulation,
Securities and Exchange Commission (Mail Stop 5-1), 450 Fifth
Street, N.W., Washington, D.C. 20549, at 202/942-0190.
SUPPLEMENTARY INFORMATION:
I. Introduction
Under the Commodity Exchange Act ("CEA"), it is unlawful to
trade a futures contract on any individual security, unless the
security in question is an exempted security (other than a
municipal security) for the purposes of the Securities Act of
1933 ("Securities Act") or the Securities Exchange Act of 1934
("Exchange Act").-[1]- Debt obligations of foreign governments
are not exempted securities under either of these statutes. The
Commission, however, has adopted Rule 3a12-8 under the Exchange
Act ("Rule")-[2]- to designate debt obligations issued by certain
foreign governments as exempted securities under the Exchange Act
solely for the purpose of marketing and trading futures contracts
on those securities in the United States. The foreign
governments currently designated in the Rule are Great Britain,
Canada, Japan, Australia, France, New Zealand, Austria, Denmark,
Finland, the Netherlands, Switzerland, Germany, the Republic of
Ireland, Italy, and the Kingdom of Spain (the "Designated Foreign
--------- FOOTNOTES ---------
-[1]- The term "exempted security" is defined in Section 3 of
the Securities Act, 15 U.S.C. Section 77c, and Section
3(a)(12) of the Exchange Act, 15 U.S.C. Section
78c(a)(12).
-[2]- 17 CFR 240.3a12-8
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Governments"). As a result of being included in the Rule,
futures contracts on the debt obligations of these countries may
be sold in the United States, as long as the other terms of the
Rule are satisfied.
On September 11, 1995, the Commission issued a release
proposing to amend Rule 3a12-8 to designate the debt obligations
of Mexico as exempted securities, solely for the purpose of
futures trading.-[3]- Four commentators, the Chicago Mercantile
Exchange ("CME"), Euro Brokers Investment Corporation ("Euro
Brokers"), Sakura Dellsher, Inc. ("SDI"), and Centre Financial
Products Limited ("Centre Financial"), submitted letters
supporting the proposal.-[4]-
The Commission is adopting this amendment to the Rule,
adding Mexico to the list of countries whose debt obligations are
exempted by Rule 3a12-8. In order to qualify for the exemption,
futures contracts on debt obligations of Mexico would have to
meet all the other requirements of the Rule.
II. Background
Rule 3a12-8 was adopted in 1984-[5]- pursuant to the
exemptive authority in Section 3(a)(12) of the Exchange Act in
order to provide limited relief from the CEA's prohibition on the
trading of futures overlying individual securities.-[6]- As
originally adopted, the Rule provided that debt obligations of
the United Kingdom and Canada would be deemed to be exempted
securities, solely for the purpose of permitting the offer, sale,
and confirmation of "qualifying foreign futures contracts" on
such securities, so long as the securities in question were
--------- FOOTNOTES ---------
-[3]- See Securities Exchange Act Release No. 36213
("Proposing Release") (September 11, 1995), 60 FR 48078
(September 18, 1995).
-[4]- See Letter from William J. Brodsky, President and Chief
Executive Officer, CME to Jonathan G. Katz, Secretary,
Commission, dated October 18, 1995; letter from Donald
R. A. Marshall, President, Euro Brokers to Jonathan G.
Katz, Secretary, Commission, dated October 18, 1995;
letter from Leo Melamed, Chairman and Chief Executive
Officer, SDI to Jonathan G. Katz, Secretary,
Commission, dated October 18, 1995; and letter from
Richard L. Sandor, Ph.D., Chairman and Chief Executive
Officer, Centre Financial to Jonathan G. Katz,
Secretary, Commission, dated October 19, 1995.
-[5]- Securities Exchange Act Release Nos. 20708 ("Original
Adopting Release") (March 2, 1984), 49 FR 8595 (March
8, 1984) and 19811 ("Original Proposing Release") (May
25, 1983), 48 FR 24725 (June 2, 1983).
-[6]- In enacting the Futures Trading Act of 1982, Congress
expressed its understanding that neither the SEC nor
the Commodity Futures Trading Commission ("CFTC") had
intended to bar the sale of futures contracts on debt
obligations of the United Kingdom of Great Britain and
Northern Ireland ("United Kingdom") to U.S. persons,
and its expectation that administrative action would be
taken to allow the sale of such futures contracts in
the United States. See Original Proposing Release,
supra note 5, 48 FR at 24725 [citing 128 Cong. Rec.
H7492 (daily ed. September 23, 1982) (statements of
Representatives Daschle and Wirth)].
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neither registered under the Securities Act nor the subject of
any American depositary receipt so registered. A futures
contract on such a debt obligation is deemed under the Rule to be
a "qualifying foreign futures contract" if delivery under the
contract is settled outside the United States and is traded on a
board of trade.-[7]-
The conditions imposed by the Rule were intended to
facilitate the trading of futures contracts on foreign government
securities in the United States while requiring offerings of
foreign government securities to comply with the federal
securities laws. Accordingly, the conditions set forth in the
Rule were designed to ensure that, absent registration, a
domestic market in foreign government securities would not
develop, and that markets for futures on these instruments would
not be used to avoid the securities law registration
requirements.
Subsequently, the Commission amended the Rule to include the
debt securities issued by Japan, Australia, France, New Zealand,
Austria, Denmark, Finland, the Netherlands, Switzerland, Germany,
Ireland, Italy, and Spain.-[8]-
The CME has informed the Commission that U.S. citizens may
be interested in futures products based on the debt obligations
of Mexico, and has requested that Rule 3a12-8 be amended to
facilitate such trading.-[9]- The CME has represented that it
intends to develop a contract market in Mexican Certificados de
la Tesoreria de la Federacion ("Cetes"), which are short-term
--------- FOOTNOTES ---------
-[7]- As originally adopted, the Rule required that the board
of trade be located in the country that issued the
underlying securities. This requirement was eliminated
in 1987. See Securities Exchange Act Release No. 24209
(March 12, 1987), 52 FR 8875 (March 20, 1987).
-[8]- As originally adopted, the Rule applied only to British
and Canadian government debt securities. See Original
Adopting Release, supra note 5. In 1986, the Rule was
amended to include Japanese government debt securities.
See Securities Exchange Act Release No. 23423 (July 11,
1986), 51 FR 25996 (July 18, 1986). In 1987, the Rule
was amended to include debt securities issued by
Australia, France and New Zealand. See Securities
Exchange Act Release No. 25072 (October 29, 1987), 52
FR 42277 (November 4, 1987). In 1988, the Rule was
amended to include debt securities issued by Austria,
Denmark, Finland, the Netherlands, Switzerland, and
West Germany. See Securities Exchange Act Release No.
26217 (October 26, 1988), 53 FR 43860 (October 31,
1988). In 1992 the Rule was again amended to (1)
include debt securities offered by the Republic of
Ireland and Italy, (2) change the country designation
of "West Germany" to the "Federal Republic of Germany,"
and (3) replace all references to the informal names of
the countries listed in the Rule with references to
their official names. See Securities Exchange Act
Release No. 30166 (January 6, 1992), 57 FR 1375
(January 14, 1992). Finally, the Rule was amended to
include debt securities issued by the Kingdom of Spain.
See Securities Exchange Act Release No. 34908 (October
27, 1994), 59 FR 54812 (November 2, 1994).
-[9]- See Letter from William J. Brodsky, President and Chief
Executive Officer, CME, to Arthur Levitt, Jr.,
Chairman, Commission, dated May 3, 1995.
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Mexican government securities, and in Mexican Brady bonds, a
class of longer term sovereign Mexican debt issues.-[10]-
Mexican Brady bonds were issued pursuant to the Brady plan, which
allows developing countries to restructure their commercial bank
debt by issuing long-term dollar denominated bonds.-[11]- The
Commission understands that Mexican Brady bonds are currently
traded primarily in the over-the-counter market in the United
States.
The Commission is amending Rule 3a12-8 to add Mexico to the
list of countries whose debt obligations are deemed to be
"exempted securities" under the terms of the Rule. Under this
amendment, the existing conditions set forth in the Rule (i.e.,
that the underlying securities not be registered in the United
States,-[12]- that the futures contracts require delivery outside
--------- FOOTNOTES ---------
-[10]- The marketing and trading of foreign futures contracts
is subject to regulation by the CFTC. In particular,
Section 4b of the CEA authorizes the CFTC to regulate
the offer and sale of foreign futures contracts to U.S.
residents, and Rule 9 (17 CFR 30.9), promulgated under
Section 2(a)(1)(A) of the CEA, is intended to prohibit
fraud in connection with the offer and sale to U.S.
persons of futures contracts executed on foreign
exchanges. Additional rules promulgated under
2(a)(1)(A) of the CEA govern the domestic offer and
sale of futures and options contracts traded on foreign
boards of trade. These rules require, among other
things, that the domestic offer and sale of foreign
futures be effected through the CFTC registrants or
through entities subject to a foreign regulatory
framework comparable to that governing domestic futures
trading. See 17 CFR 30.3, 30.4, and 30.5 (1991).
-[11]- There are several types of Brady bonds, but "Par
Bradys" and "Discount Bradys" represent the great
majority of issues in the Brady bond market. In
general, both Par Bradys and Discount Bradys are
secured as to principal at maturity by U.S. Treasury
zero-coupon bonds. Additionally, usually 12 to 18
months of interest payments are also secured in the
form of a cash collateral account, which is maintained
to pay interest in the event that the sovereign debtor
misses an interest payment.
-[12]- The Commission notes that neither Mexican Cetes nor
Mexican Brady bonds are currently registered in the
United States. The Commission is aware, however, that
certain Mexican sovereign debt is registered in the
United States and that the trading of futures on these
debt issues would not be exempted under Rule 3a12-8
from the CEA's prohibition on the trading of futures
overlying individual securities that are not exempted
securities.
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the United States,-[13]- and that the contracts be traded on a
board of trade) would continue to apply.
III. Discussion
A. Comment Letters
As noted above, the Commission received four comment
letters, all in support of the proposal.-[14]- The CME
additionally recommended that the Commission eliminate its
practice of granting exemptions under the Rule on a country-by-
country basis.-[15]- In support of adding Mexico to the list of
Designated Foreign Governments in the Rule, the CME restated its
belief that futures on Mexican sovereign debt would serve a
valuable economic purpose and would benefit both U.S. investors
and the Mexican economy. The CME asserted that Mexican Brady
bonds are actively traded in the over-the-counter market in the
United States, and that dealers and investors in Mexican Brady
bonds could use the CME's proposed futures contracts to hedge the
price risk in holding the underlying bonds.
Euro Brokers noted that while the underlying cash market for
emerging market debt securities, including Mexico, has
experienced considerable growth, there does not exist a proper
hedging vehicle for positions in emerging market debt. According
to Euro Brokers, this lack of an effective hedging tool limits
the growth, liquidity, and stability of the market. If the CME
is permitted to market and trade futures contracts on Mexican
sovereign debt, Euro Brokers asserted, traders and investors will
have the ability to hedge their exposure, thus generating depth,
liquidity, and stability for the emerging markets as a whole both
in the cash and futures markets.
SDI additionally suggested that the Commission be "flexible"
in allowing the debt obligations of additional foreign
governments to qualify for such exempt status.
Finally, according to Centre Financial, the fact that
Mexico's debt is not rated in one of the two highest rating
categories by at least two Nationally Recognized Statistical
Rating Organizations ("NRSROs") is immaterial when considering
the obligations as the basis of a futures or options contract.
Moreover, Centre Financial suggested that the Commission consider
an exemption for all sovereign debt, thereby allowing individual
exchanges to determine whether a futures or options contract on a
country's debt is appropriate.
--------- FOOTNOTES ---------
-[13]- The CME's proposed futures contracts will be cash-
settled (i.e., settlement of the futures contracts will
not entail delivery of the underlying securities). The
Commission has recognized that a cash-settled futures
contract is consistent with the requirement of the Rule
that delivery must be made outside the United States.
See Securities Exchange Act Release No. 25072 (October
29, 1987), 52 FR 42277 (November 4, 1987).
-[14]- See supra note 4.
-[15]- Instead of the current country-by-country analysis, the
CME suggested that the Commission's approach should be
to permit futures trading on any country's sovereign
debt, provided that the futures contracts do not allow
delivery of unregistered foreign government securities
in the United States. See CME comment letter, supra
note 4. This approach would require an amendment to
Rule 3a12-8 that has not been proposed at this time.
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It should be noted that in the Proposing Release, the
Commission sought comment on: the appropriateness of designating
Mexican sovereign debt as exempted securities even though its
long-term debt is not rated in one of the two highest rating
categories by at least two NRSROs (a factor the Commission has
traditionally looked to as an indication of the liquidity of the
underlying market); whether debt ratings should continue to be
used in evaluating proposals to add countries to the Rule, and
what alternative criteria, such as volume and depth of trading or
amount of outstanding debt, could be used; whether the proposed
amendment is appropriate in light of the fact that Mexico would
be the first emerging market country to be included as a
Designated Foreign Government; whether the CME's proposal to
develop a contract market in Mexican Brady bonds raises any
unique issues; and the general application and operation of the
Rule given the increased globalization of the securities markets
since the Rule was adopted. The commenters did not address all
of these issues, but instead focused on the economic benefits of
including Mexico as a Designated Foreign Government and adopting
a liberal approach for further amendments to the Rule to include
the sovereign debt of other countries.
B. Analysis
For the reasons discussed below, the Commission finds that
it is consistent with the public interest and the protection of
investors that Rule 3a12-8 be amended to include the sovereign
debt obligations of Mexico. The Commission believes that the
trading of futures on Mexican sovereign debt could provide U.S.
investors and dealers with a vehicle for hedging the risks
involved in holding Mexican debt instruments and that the
sovereign debt of Mexico should be subject to the same regulatory
treatment under the Rule as that of the Designated Foreign
Governments for purposes of trading futures contracts on such
debt obligations by U.S. persons.
In determining whether to amend the Rule to add new
countries, the Commission has considered whether there is an
active and liquid secondary trading market in the particular
sovereign debt. The market for Mexican sovereign debt
instruments appears to be active and liquid. As of March 31,
1995, there was approximately US$87.5 billion face amount Mexican
government debt issued and outstanding of various classes and
maturities.-[16]- According to the CME petition, the cash market
for Cetes evidences active trading. For example, between 1993
and 1994 the monthly trading volume (in principal amount),
according to the CME, of Cetes ranged from a low of approximately
US$18.5 billion to a high of US$1.1 trillion. Moreover,
according to a recent survey of members of the Emerging Markets
Traders Association ("EMTA"), Mexican debt instruments are one of
the most actively traded of all emerging markets instruments.
According to the survey, the total annual trading volume for
Mexican Brady bonds amounted to approximately US$ 282.3
billion.-[17]- As is the case for all sovereign issuers, there
are less actively traded Mexican sovereign debt issues, but the
--------- FOOTNOTES ---------
-[16]- See Exhibit D to Form 18-K, Annual Report for Foreign
Governments and Political Subdivisions Thereof, filed
by Mexico on June 30, 1995.
-[17]- The survey, which was responded to by 80 out of 333
members of the EMTA, was prepared for the EMTA by Price
Waterhouse LLP. See 1994 Debt Trading Volume Survey,
Emerging Markets Traders Association (May 1, 1995).
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Commission believes that as a whole the market for Mexican
sovereign debt is sufficiently liquid and deep for purposes of
Rule 3a12-8.
In amending the Rule to include the debt obligations of
Mexico, however, the Commission has considered additional factors
relating to Mexican government debt. In connection with some of
the prior amendments to the Rule, the Commission noted that the
long-term sovereign debt of those countries was rated in one of
the two highest rating categories by at least two NRSROs.-[18]-
This factor, as previously stated by the Commission, could be
viewed as indirect evidence of an active and liquid secondary
trading market. Mexico's long-term sovereign debt obligations
are not rated in one of the two highest rating categories.-[19]-
Although the Commission in 1987 proposed to incorporate a
rating standard specifically exempting securities issued by any
country with outstanding long-term sovereign debt rated in one of
the two highest rating categories by at least two NRSROs,-[20]-
it ultimately declined to adopt such a rule.-[21]- At the time
of the 1987 Rule proposal, the Commission expressed concerns that
in the absence of such a requirement, the Rule might be used as a
subterfuge to market or trade unregistered sovereign foreign debt
through futures trading. The Commission, however, indicated that
it did not intend to preclude futures trading on foreign debt
that did not meet this ratings requirement and indeed
subsequently sought comment on the feasibility of other factors
for consideration, such as volume and depth of trading in a
sovereign issuer's debt.
As discussed above, the Commission has independently
determined that it is appropriate to exempt the sovereign debt of
Mexico under the Rule because of the overall depth and liquidity
of the existing cash market for Mexican sovereign debt. The
Commission does not believe that either Mexico's status as an
emerging market country with potentially more volatile debt
prices, or its issuance of Brady bonds changes this conclusion.
In the Proposing Release the Commission solicited comment on
whether there are alternative approaches to the country-by-
country designation process for adding countries to the Rule.
The Commission intends to consider this issue further, but does
not believe it should delay the inclusion of Mexico in the list
of Designated Foreign Governments pending action on a more
generic approach. Nevertheless, the Commission continues to
--------- FOOTNOTES ---------
-[18]- See Securities Exchange Act Release No. 26217 (October
26, 1988), 53 FR 43860 (October 31, 1988)(Austria,
Denmark, Finland, the Netherlands, Switzerland, and
[West] Germany); Securities Exchange Act Release No.
30166 (January 6, 1992), 57 FR 1375 (Republic of
Ireland and Italy); Securities Exchange Act Release No.
34908 (October 27, 1994), 59 FR 54812 (November 2,
1994) (Kingdom of Spain).
-[19]- As of June, 1995, Standard and Poor's Corp. ("S&P")
rated Mexico's long-term foreign currency debt BB and
its long-term local currency debt BBB+. As of the same
date, Mexico's Bonos de Desarrollo (Bondes) were rated
Baa3 by Moody's Investors Service.
-[20]- See Securities Exchange Act Release No. 24428 (May 5,
1987), 52 FR 18237 (May 14, 1987).
-[21]- See Securities Exchange Act Release No. 25072 (October
29, 1987), 52 FR 42277 (November 4, 1987).
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welcome suggestions on an objective means of including countries
within Rule 3a12-8 that are consistent with the Rule's overall
objectives.
IV. Regulatory Flexibility Act Consideration
Chairman Levitt has certified in connection with the
Proposing Release that this amendment, if adopted, would not have
a significant economic impact on a substantial number of small
entities. The Commission received no comments on this
certification.
V. Effects on Competition and Other Findings
Section 23(a)(2) of the Exchange Act-[22]- requires the
Commission, in adopting rules under the Exchange Act, to consider
the competitive effects of such rules, if any, and to balance any
impact with the regulatory benefits gained in terms of furthering
the purposes of the Exchange Act. The Commission has considered
the amendment to the Rule in light of the standards cited in
Section 23(a)(2) and believes that adoption of the amendment will
not impose any burden on competition not necessary or appropriate
in furtherance of the purposes of the Exchange Act. As stated
above, the amendment is designed to assure the lawful
availability in this country of Mexican government bond futures
that otherwise would not be permitted to be marketed under the
terms of the CEA. The amendment thus serves to expand the range
of financial products available in the United States and enhances
competition in financial markets. Insofar as the Rule contains
limitations, they are designed to promote the purposes of the
Exchange Act by ensuring that futures trading on Mexican
government securities is consistent with the goals and purposes
of the federal securities laws by minimizing the impact of the
Rule on securities trading and distribution in the United States.
Because the amendment to the rule is exemptive in nature,
the Commission has determined to make the foregoing action
effective immediately upon publication in the Federal
Register.-[23]-
VI. Statutory Basis
The amendment to Rule 3a12-8 is being adopted pursuant to 15
U.S.C. Sections 78a et seq., particularly Sections 3(a)(12) and
23(a), 15 U.S.C. Sections 78c(a)(12) and 78w(a).
List of Subjects in 17 CFR Part 240
Reporting and recordkeeping requirements, Securities.
VII. Text of the Adopted Amendment
For the reasons set forth above, the Commission is amending
Part 240 of Chapter II, Title 17 of the Code of Federal
Regulations as follows:
Part 240 - GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT
OF 1934
1. The authority citation for Part 240 continues to read
in part as follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77eee, 77ggg,
77nnn, 77sss, 77ttt, 78c, 78d, 78i, 78j, 78l, 78m, 78n, 78o, 78p,
78q, 78s, 78w, 78x, 78ll(d), 79q, 79t, 80a-20, 80a-23, 80a-29,
80a-37, 80b-3, 80b-4 and 80b-11, unless otherwise noted.
* * * * *
--------- FOOTNOTES ---------
-[22]- 15 U.S.C. Section 78w(a)(2).
-[23]- 15 U.S.C. Section 553(d).
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2. Section 240.3a12-8 is amended by removing the word "or"
at the end of paragraph (a)(1)(xiv), removing the "period" at the
end of paragraph (a)(1)(xv) and adding "; or" in its place, and
adding paragraph (a)(1)(xvi) to read as follows:
Section 240.3a12-8 Exemption for designated foreign government
securities for purposes of futures trading.
(a) * * *
(1) * * *
(xvi) the United Mexican States.
* * * * *
By the Commission.
Jonathan G. Katz
Secretary
Dated: November 30, 1995