7560 / What option contracts are classified as “equity” options?

Single stock futures and narrow-based stock index futures are subject to the joint jurisdiction of the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC). (Prior to December 21, 2000, if the CFTC had designated a contract market for trading an option the value of which was determined directly or indirectly by reference to a particular stock, or if the Treasury had determined that the requirements for CFTC designation had been met, then the option was a nonequity option.)³ Broad-based stock index futures, however, remain under the exclusive jurisdiction of the CFTC.

An option may be an “equity” option regardless of whether it is listed or unlisted (see Q 7558). The term “equity option” includes an option on a group of stocks only if that group meets the requirements for a narrow-based security index (as defined in Section 3(a)(55)(A) of the Securities Exchange Act of 1934).⁴ According to securities law provisions, the term “narrow-based security index” means an index:

(1)   which has nine or fewer component securities;

(2)   in which a component security comprises more than 30 percent of the index’s weighting;

(3)   in which the five highest weighted component securities in the aggregate comprise more than 60 percent of the index’s weighting; or

(4)  in which the lowest weighted component securities comprising, in the aggregate, 25 percent of the index’s weighting have an aggregate dollar value of average daily trading volume of less than $50,000,000 (or in the case of an index with 15 or more component securities, $30,000,000), except that if there are two or more securities with equal weighting that could be included in the calculation of the lowest weighted component securities comprising, in the aggregate, 25 percent of the index’s weighting, such securities will be ranked from lowest to highest dollar value of average daily trading volume and will be included based on their ranking starting with the lowest ranked security.⁵

Any security index that does not have any of the four characteristics set forth in (1), (2), (3), or (4) is, in effect, a broad-based security index. For example, the Standard and Poor’s 500 (S&P 500) would be a broad-based security index. Proposed rules state that indices that satisfy certain criteria are specifically excluded from the definition of narrow-based security index.⁶