FLEXIBLY STRUCTURED OPTIONS

Flexibly structured options, like the other options discussed in this booklet, are traded on the U.S. options markets and are issued by OCC. However, unlike other options, the terms of flexibly structured options are not all standardized. When a flexibly structured option is purchased and sold in an opening transaction, the parties to the transaction have the flexibility, within limitations set forth in the rules of the options market on which the transaction occurs, to fix certain of the option's terms. The terms of a flexibly structured option which may be fixed by the parties are called variable terms. The flexibility to fix these variable terms is what makes flexibly structured options different from other options.

The principal risks of holders and writers of flexibly structured options are discussed in Chapter X . Readers who are interested in buying or writing flexibly structured options should read not only this chapter but also all of Chapter X .

Because many of the terms of flexibly structured options are not standardized, it is less likely that there will be an active secondary market in which holders and writers of such options will be able to close out their positions by offsetting sales and purchases. See paragraph 1 under "Special Risks of Flexibly Structured Options" in Chapter X .

The trading procedures established by the options markets for transactions in flexibly structured options differ from the procedures for transactions in other options. Readers desiring information about the trading procedures of an options market for flexibly structured options may obtain that information from that market.

The options markets may fix minimum size or minimum monetary values for transactions in flexibly structured options. Flexibly structured options may be useful to sophisticated investors seeking to manage particular portfolio and trading risks. However, as a result of these minimums, as well as the special trading procedures and reduced likelihood of there being a secondary market, flexibly structured options transactions are not suitable for investors who are not financially able to bear the risks of maintaining such minimum positions in flexibly structured options.

SPECIAL FEATURES OF FLEXIBLY STRUCTURED OPTIONS

DESIGNATION OF TERMS

The parties to an opening transaction in a flexibly structured call option on an individual stock may fix the exercise price of the option only at a price that would qualify under the rules of the options market where the opening transaction occurs as the exercise price of a series of non-flexibly structured option on the same stock, and that is evenly divisible by the applicable minimal exercise price interval on that market. For example, for a flexibly structured call option on a stock for which the minimum exercise price interval is $5, the exercise price may be designated as $25, $30, $35, $40, etc. This restriction does not apply to the exercise prices of flexibly structured stock put options. Investors considering strategies involving combinations of flexibly structured put and call stock options should therefore be aware of this difference between the two types of options.

Only those terms identified as variable terms by the options market where the opening transaction occurs may be designated by the parties. All other terms are standardized in accordance with the rules of OCC and the options market. The rules of an options market may impose limitations on the variable terms which the parties may designate. For example, an options market may require that the expiration date of a flexibly structured option not fall within a specified period of time or that the life of the option not exceed a maximum permissible term. As another example, if the exercise settlement value of an index option is based on a specified average, an options market may require that the average conform with the averaging parameters established by the market. In addition, the underlying interest, the settlement currency, the premium currency and the trading currency, may be designated only from those available for flexibly structured options on the options market, and an options market may require that the premium currency be the same as the settlement currency.

MINIMUM SIZE REQUIREMENTS

Every transaction in flexibly structured options must satisfy the minimum size or monetary value requirements of the options market where the transaction occurs. The minimum requirements may be larger for an opening transaction in a series in which there is no open interest than for other transactions (whether opening or closing) in that series. An options market may also impose minimum size or monetary value requirements on exercises of flexibly structured options. Information as to such minimums may be obtained from the options market where the options are traded.

POSITION and EXERCISE LIMITS

The options markets may establish special position and exercise limits for flexibly structured options. Such limits may differ from the limits applicable to other options, although an options market may require that positions in certain flexibly structured options be aggregated with positions in certain other options. Information concerning position and exercise limits of particular flexibly structured options may be obtained from the options market where the options are traded or from brokerage firms.

TRADING PROCEDURES

The trading hours and trading procedures for flexibly structured options may differ from the trading hours and procedures for other options. These special procedures may mean that the market-making systems that are applicable to other options may not be applicable to flexibly structured options, that there may not be continuous quotations for flexibly structured options, and that quotations may be provided only in response to a specific request as the basis for trading with the party making the request.

EXERCISES and SETTLEMENTS

In general, the exercise, assignment and settlement of flexibly structured options occurs in the same manner as, and are subject to the same time frames and procedures that are applicable to, other options of the same style and having the same underlying interest. See Chapter VIII . However, unlike most other options, flexibly structured index options that are in the money on the expiration date may be exercised automatically. In the future it may be provided that flexibly structured index options will be exercised automatically only if they are in the money by a specified amount.

EXERCISE SETTLEMENT VALUE

The method of determining the exercise settlement value on the expiration date of a flexibly structured index option is a variable term that is fixed by the parties in their opening transaction. For example, the parties may specify that such exercise settlement value will be determined with reference to opening prices of the constituent securities of the index, their closing prices, an average of their high and low prices, an average of opening and closing prices, an average over a stated period of time, or another average that conforms with the parameters established by the options market. However, under the OCC rules in effect at the date of this booklet, the method of determining the exercise settlement value for an exercise that occurs on a day other than the expiration date is not a variable term. The exercise settlement value for such exercises of flexibly structured index options will be the value derived from the closing prices of the constituent securities on the day of exercise (as reported by the reporting authority), and the exercise settlement value of other flexibly structured options will be determined in the same manner as it is determined for other options on the same underlying interest that are traded on the options market where the opening transaction in the flexibly structured option occurred.

SETTLEMENT CURRENCY

The settlement currency may be a variable term to be fixed by the parties out of those currencies specified by the options market on which the transaction occurs as being available for flexibly structured options. The settlement currency may be the currency in which the premium is payable. In addition, brokerage firms may require their customers to make margin payments in the settlement currency.

If the settlement currency and premium currency are not U.S. dollars, settlement of premiums and exercises is generally made through the procedures and arrangements established by OCC for cross-rate foreign currency options. See "Special Features of Cross- Rate Options" in Chapter VI . If ECUs are the settlement currency, settlements can occur in the country or countries designated by OCC.

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