e8-5203

[Federal Register: March 14, 2008 (Volume 73, Number 51)]

[Notices]

[Page 13867-13870]

From the Federal Register Online via GPO Access [wais.access.gpo.gov]

[DOCID:fr14mr08-39]

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COMMODITY FUTURES TRADING COMMISSION

RIN 3038-AC52

Proposed Exemptive Order for ST Gold Futures Contracts

AGENCY: Commodity Futures Trading Commission.

ACTION: Notice of proposed order and request for comment.

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SUMMARY: The Commodity Futures Trading Commission (Commission) is

proposing to exempt certain transactions in physically delivered

futures contracts based on streetTRACKS[reg] Gold Trust Shares (ST gold

futures contracts) \1\ from those provisions of the Commodity Exchange

Act (CEA or Act),\2\ and the Commission's regulations thereunder, that

are inconsistent with the trading and clearing of ST gold futures

contracts as security futures. The proposed exemption would be

conditioned on the compliance of transactions in ST gold futures

contracts with the requirements established for security futures. The

authority for the issuance of this exemption is found in Section 4(c)

of the Act.\3\

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\1\ streetTRACKS[reg] is a registered service mark of State

Street Corporation, an affiliate of State Street Global Markets,

LLC, the marketing agent for the streetTRACKS[reg] Gold Trust.

\2\ 7 U.S.C. 1 et seq.

\3\ 7 U.S.C. 6(c).

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DATES: Comments must be received on or before March 31, 2008.

ADDRESSES: Comments should be sent to the Commodity Futures Trading

Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington,

DC 20581, attention: Office of the Secretariat. Comments may be sent by

facsimile to 202.418.5521, or by e-mail to [email protected]tc.gov.

Reference should be made to the ``Proposed Exemptive Order for ST Gold

Futures Contracts.'' Comments may also be submitted through the Federal

eRulemaking Portal at http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.regulations.gov. All comments received

will be posted without change to http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.CFTC.gov.

FOR FURTHER INFORMATION CONTACT: Bruce Fekrat, Special Counsel, Office

of the Director (telephone 202.418.5578, e-mail [email protected]),

Division of Market Oversight, Commodity Futures Trading Commission,

Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.

SUPPLEMENTARY INFORMATION:

I. Introduction

In correspondence dated October 26, 2007, OneChicago, LLC

(OneChicago or the Exchange),\4\ a contract market designated with the

Commission pursuant to Sections 5 and 6(a) of the Act, proposed and

requested Commission approval to list for trading ST gold futures

contracts as security futures.\5\ OneChicago is notice-registered with

the Securities and Exchange Commission (SEC) as a national securities

exchange under Section 6(g) of the Securities Exchange Act of 1934 ('34

Act) for the purpose of listing and trading security futures products.

The approval request was filed pursuant to Section 5c(c)(2) of the Act

and Commission Regulations 40.5 and 41.23.\6\ OneChicago submitted its

request for approval under the 45-day fast-track review period

established by Commission Regulation 40.5. The fast-track review period

for the Exchange's submission was scheduled to expire on December 10,

2007. The review period was extended by the Director of the

[[Page 13868]]

Division of Market Oversight, pursuant to Regulations 40.5(c) and

40.7(a)(1), by another 45 days beyond December 10, 2007 to January 24,

2008 on the grounds that the ST gold futures contracts raised novel and

complex issues that required additional time for review.\7\ By letter

dated January 23, 2008, the Exchange, upon the request of the

Commission's staff, voluntarily extended the review period to March 17,

2008.\8\ On February 26, 2008, the Exchange gave a further voluntary

extension of the review period until April 30, 2008.

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\4\ OneChicago is jointly owned by the CME Group, Inc., IB

Exchange Corp., and the Chicago Board Options Exchange.

\5\ In accordance with Section 2(a)(9)(B)(i) of the Act,

Commission staff forwarded the new contract filing to the Securities

and Exchange Commission, the U.S. Department of Treasury and the

Board of Governors of the Federal Reserve System on October 29,

2007. No comments were received in response to this correspondence.

On January 4, 2008, the Exchange filed a rule amendment concerning

minimum price fluctuations to supplement its initial submission.

\6\ 7 U.S.C. 7a-2(c)(2), 17 CFR 40.5, 41.23.

\7\ Commission Regulations 40.5(c) and 40.7(a)(1) allow the

Commission, and certain staff acting pursuant to delegated

authority, to extend the 45-day fast-track review period by an

additional 45 days if the product raises novel or complex issues

requiring additional time for review. 17 CFR 40.5(c), 40.7(a)(1).

\8\ Section 5c(c) of the Act requires the Commission to approve

any designated contract market instrument submitted for approval

within 90 days after the submission of the request unless (1) it

finds that the trading or clearing of the instrument would violate

the Act (or the Commission's regulations), or (2) the person

submitting the request for approval agrees to extend the period of

review beyond the 90-day time limitation.

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II. Description of the Underlying Commodity

ST gold futures contracts would overlie 100 Shares of the

streetTRACKS[reg] Gold Trust (Trust).\9\ The Trust was formed under New

York law pursuant to a trust indenture on November 12, 2004. World Gold

Trust Services, LLC, a wholly owned limited liability company of the

World Gold Council,\10\ is the sponsor of the Trust. In addition, The

Bank of New York is the trustee of the Trust, HSBC Bank USA, N.A. is

the custodian of the Trust, and State Street Global Markets, LLC is the

marketing agent for the Trust.\11\ The Trust presently does not engage

in the business of investing or trading securities or commodity futures

or options contracts. As a result, the Trust is not registered as an

investment company under the Investment Company Act of 1940 and it is

not managed by a commodity pool operator registered under the CEA.

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\9\ By its terms, an ST gold futures contract would expire on

the third Friday of each contract month. The contract would not be

subject to speculative position limits prior to the last five days

of trading. During the last five trading days, however, speculative

positions would be limited to 13,500 contracts, net long or short.

Positions in ST gold futures contracts would become reportable to

OneChicago when equal to or above 200 contracts. Positions in ST

gold futures contracts would become reportable to the Commission

when equal to or above 1,000 contracts.

\10\ The World Gold Council (founded in 1987) is a not-for-

profit association registered under the laws of Switzerland. The

Council is funded by gold mining companies and is tasked, in part,

with increasing the demand for gold through marketing initiatives

and lowering regulatory barriers to the widespread ownership of gold

products. About the World Gold Council, available at http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.gold.org/discover/about_us/index.html.

\11\ Prospectus for the Trust's offering of Shares (July 24,

2007), available at http://frwebgate.access.gpo.gov/cgi-bin/leaving.cgi?from=leavingFR.html&log=linklog&to=http://www.streettracksgoldshares.com/pdf/streetTRACKS.pdf (provides a detailed description of the Trust and

its operations).

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The Trust, from time to time, creates, issues, and redeems Shares

which represent fractional undivided beneficial interests in the assets

of the Trust. The sole assets of the Trust consist of gold bullion and

limited amounts of cash. Accordingly, the value of each Share will

fluctuate with the value of the Trust's holdings,\12\ which in turn is

dependent on the spot price of gold.\13\ That value may be found by

dividing the aggregate value of the gold and cash held by the Trust

less applicable fees and expenses by the quantity of Shares outstanding

at any specific moment in time.\14\ The Trust is not actively managed

and does not engage in any investment activities that are designed to

avoid losses or profit from changes in the price of gold. Rather, the

investment purpose of the Trust is to issue Shares that will track the

spot price of gold and thereby give shareholders the opportunity to

gain exposure to the commodity's price volatility.

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\12\ The Net Asset Value (NAV) of the Trust is the aggregate

value of the Trust's assets less its liabilities which include (1)

fees paid to the Sponsor, (2) fees paid to the Trustee, (3) fees

paid to the Custodian, (4) fees paid to the Marketing Agent, and (5)

certain administrative expenses assessed as fees.

\13\ In determining the NAV of the Trust, the Trustee values the

gold held by the Trust on the basis of the price of an ounce of gold

as set by the afternoon session of the London Bullion Market

Association's twice-daily fix of the price of gold. The gold fix is

performed by five members of the association. HSBC Bank USA, NA, the

Custodian of the Trust, is one of five gold fixing members.

\14\ By way of a simplified example, assume that the Trust holds

10,000 ounces of gold, the spot price of gold is $900 per ounce, and

that there are 50,000 Shares outstanding. Assume further that the

Trust has accrued fees and expenses of $50,000. Under this example,

the value of the Trust's holdings of gold would be $8,950,000, and

the value of each Share would be 1/50,000 of $8,950,000, or $179.

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The Trust, on an ongoing basis, will only issue Shares to, and only

redeem Shares from, Authorized Participants in baskets of 100,000

Shares (ST Share Baskets). An Authorized Participant must (1) be a

participant in the Depository Trust Company that is a registered

broker-dealer or other securities market participant (such as a bank or

other financial institution) that is not required to register as a

broker-dealer to engage in securities transactions, (2) have entered

into an agreement with the Trust and the Sponsor of the Trust, and (3)

have established an unallocated gold account (paper transfer account)

with the Custodian. Upon the payment of a transaction fee, Authorized

Participants may purchase ST Share Baskets by depositing gold (and cash

if necessary) in an amount equal to the NAV of an ST Share Basket per

purchased basket. Likewise, Authorized Participants may redeem ST Share

Baskets in exchange for an amount of gold (and cash if necessary) that

corresponds to the NAV of an ST Share Basket per redeemed basket. All

transfers of gold are accomplished through paper transfers, as opposed

to physical transfers of gold, and are cleared through the clearing

members of the London Bullion Market Association. Such members utilize

mutually maintained unallocated gold accounts for the settlement of

proprietary over-the-counter trades as well as for the settlement of

client transfers.

Upon purchasing ST Share Baskets, Authorized Participants may

divide the baskets into individual Shares for resale. Trust Shares are

registered as securities under the Securities Act of 1933 ('33 Act) and

listed on the NYSE Arca Exchange under the ticker symbol GLD.\15\ The

continuous Share creation, sale, resale, and redemption process,

coupled with a highly liquid market, creates an arbitrage mechanism

that functions to keep the Shares trading at or near the NAV of the

Trust's gold holdings.\16\ Authorized Participants act as arbitrageurs

by taking advantage of significant premiums or discounts in the trading

price of outstanding Shares relative to the spot price of gold. If

individual exchange-traded Shares trade at a price that is below the

spot market price of gold, Authorized Participants will purchase and

aggregate Shares into ST Share Baskets and redeem the Baskets with the

Trust for an amount of gold with an aggregate value that is greater

than the aggregate trading value of the individual Shares that comprise

the redeemed ST Share Baskets. Similarly, if ST Shares are trading at a

price that is above the spot market price of gold, Authorized

Participants will deposit gold with the Trust in exchange for ST Share

Baskets that can then be divided into individual Shares for resale to

retail investors at a premium.

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\15\ NYSE Arca is the electronic equities trading facility of

NYSE Arca Equities, Inc., a wholly-owned subsidiary of NYSE

Euronext.

\16\ See Elisabeth Hehn, Exchange Traded Funds: Structure,

Regulation and Application of a New Fund Class (January 16, 2006).

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III. Section 4(c) of the Commodity Exchange Act

Section 4(c)(1) of the CEA empowers the Commission to ``promote

[[Page 13869]]

responsible economic or financial innovation and fair competition'' by

exempting any transaction or class of transactions \17\ from any of the

provisions of the Act upon determining that the exemption would be

consistent with the public interest.\18\ Section 4(c)(2) of the Act

provides that the Commission may grant exemptions only when it

determines that the requirements for which an exemption is being

provided should not be applied to the agreements, contracts or

transactions at issue; that the exemption is consistent with the public

interest and the purposes of the Act; that the agreements, contracts or

transactions will be entered into solely between appropriate persons;

and that the exemption will not have a material adverse effect on the

ability of the Commission or any designated contract market or

derivatives transaction execution facility to discharge its regulatory

or self-regulatory responsibilities under the CEA.\19\ With respect to

the term ``appropriate persons,'' Section 4(c)(3) of the Act enumerates

several categories of appropriate persons and provides in subparagraph

(K) that the term shall include ``[s]uch other persons that the

Commission determines to be appropriate in light of * * * the

applicability of appropriate regulatory protections.''

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\17\ Covered transactions are subject to certain exceptions not

relevant to the publication of this proposal.

\18\ Section 4(c)(1) of the CEA, 7 U.S.C. Sec. 6(c)(1), provides

in full that:

In order to promote responsible economic or financial innovation

and fair competition, the Commission by rule, regulation, or order,

after notice and opportunity for hearing, may (on its own initiative

or on application of any person, including any board of trade

designated or registered as a contract market or derivatives

transaction execution facility for transactions for future delivery

in any commodity under section 7 of this title) exempt any

agreement, contract, or transaction (or class thereof) that is

otherwise subject to subsection (a) of this section (including any

person or class of persons offering, entering into, rendering advice

or rendering other services with respect to, the agreement,

contract, or transaction), either unconditionally or on stated terms

or conditions or for stated periods and either retroactively or

prospectively, or both, from any of the requirements of subsection

(a) of this section, or from any other provision of this chapter

(except subparagraphs (c)(ii) and (D) of section 2(a)(1) of this

title, except that the Commission and the Securities and Exchange

Commission may by rule, regulation, or order jointly exclude any

agreement, contract, or transaction from section 2(a)(1)(D) of this

title), if the Commission determines that the exemption would be

consistent with the public interest.

\19\ Section 4(c)(2) of the CEA, 7 U.S.C. Sec. 6(c)(2),

provides in full that:

The Commission shall not grant any exemption under paragraph (1)

from any of the requirements of subsection (a) of this section

unless the Commission determines that--

(A) The requirement should not be applied to the agreement,

contract, or transaction for which the exemption is sought and that

the exemption would be consistent with the public interest and the

purposes of this Act; and

(B) The agreement, contract, or transaction--

(i) Will be entered into solely between appropriate persons; and

(ii) Will not have a material adverse effect on the ability of

the Commission or any contract market or derivatives transaction

execution facility to discharge its regulatory or self-regulatory

duties under this Act.

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In order for the Commission to approve the Exchange's request to

list for trading ST gold futures contracts as security futures, it

would have to find that the interest that would underlie an ST gold

futures contract is a security. However, if the contracts are

considered to be futures contracts based on a commodity that is not a

security, then they would be subject to the exclusive jurisdiction of

the CFTC under CEA Section Sec. 2(a)(1)(A), and listing the contract

for trading as a security future as the Exchange proposes would violate

the CEA.\20\

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\20\ 7 U.S.C. Sec. 2(a)(1)(A). Security futures are subject to

joint regulation by the CFTC and the SEC under Section 2(a)(1)(D) of

the CEA, 7 U.S.C. Sec. 2(a)(1)(D).

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ST gold futures contracts would be based on an innovative and

highly successful product that efficiently and transparently creates

exposure to the spot price of gold by combining attributes of exchange

traded financial products, cash commodity ownership interests, and

speculative participation in the price volatility of a commodity. The

jurisdictional classification of the underlying instrument, whether as

a security or a commodity that is not a security, is not

straightforward.

In enacting Section 4(c) of the Act, Congress noted that the goal

of the provision ``is to give the Commission a means of providing

certainty and stability to existing and emerging markets so that

financial innovation and market development can proceed in an effective

and competitive manner.'' \21\ Accordingly, the Commission proposes to

use its authority under Section 4(c) of the Act to exempt transactions

in ST gold futures contracts that would be listed for trading on

OneChicago from those provisions of the Act and the Commission's

regulations thereunder that, if the underlying were considered to be a

commodity that is not a security, would be inconsistent with the

trading and clearing of ST gold futures contracts as security

futures.\22\ The proposed exemption would require that transactions in

ST gold futures contracts comply with the requirements established for

transactions in security futures by the Act and the Commission's

regulations thereunder.\23\

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\21\ H.R. Conf. Rep. No. 102-978, 1992 U.S.C.C.A.N. 3179, at

3213 (H.R. Conf. Rep.).

\22\ The Commission recently issued a similar order with respect

to exchange traded credit default products. See Order Exempting the

Trading and Clearing of Certain Credit Default Products Pursuant to

the Exemptive Authority in Section 4(c) of the Commodity Exchange

Act, 72 FR 32079 (June 11, 2007).

\23\ Transactions in ST gold futures contracts would be subject

to the provisions of the securities laws, including any applicable

provision of the '33 and '34 Acts.

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In proposing to exercise its exemptive authority under Section 4(c)

of the Act, the Commission is not required to, and does not, find

either that an ST gold futures contract is based on a security, or that

it is not based on a security and is thereby subject to exclusive

regulation under the CEA. In this regard, the House-Senate Conference

Committee in the legislative process leading to the enactment of CEA

Section 4(c) noted that:

[T]his provision provides flexibility for the Commission to

provide legal certainty to novel instruments where the determination

as to jurisdiction is not straightforward. Rather than making a

finding as to whether a product is or is not a futures contract, the

Commission in appropriate cases may proceed directly to issuing an

exemption.\24\

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\24\ H.R. Conf. Rep. at 3214-3215.

Futures contracts based on the underlying Shares of the Trust are

``novel instruments'' and, as noted above, the ``determination as to

[their] jurisdiction is not straightforward.'' Given the potential

usefulness of ST gold futures contracts to the significant market for

the Shares that would underlie such contracts, as well as all gold-

linked markets, the Commission believes that this may be an appropriate

case for issuing an exemption without making a finding as to the

precise nature of the underlying Shares of the Trust.

Exempting transactions in ST gold futures contracts from the

provisions of the Act, and the Commission's regulations thereunder,

that are inconsistent with the trading and clearing of security

futures, and thereby permitting the trading of ST gold futures

contracts as security futures on OneChicago, may foster both financial

innovation by expeditiously bringing an innovative derivatives product

to market, and competition by not potentially excluding other similarly

innovative products from trading on regulated futures markets. In

addition, ST gold futures contracts, if traded as security futures

pursuant to an exemption, would be subject to regulation by both the

SEC and the Commission. The implementation of an exemption, under these

circumstances, would not erode customer protections

[[Page 13870]]

or impair the ability of the Commission or OneChicago to discharge any

regulatory or self-regulatory duty under the Act.

IV. Request for Comment

The purposes of the CEA include ``promot[ing] responsible

innovation and fair competition among boards of trade, other markets

and market participants.'' \25\ Based on the foregoing, it may be

consistent with these and the other purposes of the CEA, and with the

public interest, for ST gold futures contracts to trade on OneChicago

as security futures. The Commission urges interested persons to provide

comments that will assist the Commission in conducting its analysis of

the issues relevant to this proposal. This release is not intended in

any way to alter the current status of any transaction that is subject

to one or more provisions of the '33 or '34 Acts or the CEA, including

any regulations adopted thereunder.

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\25\ CEA section 3(b), 7 U.S.C. 5(b). See also CEA section

4(c)(1), 7 U.S.C. 6(c)(1) (purpose of exemption is ``to promote

responsible economic or financial innovation and fair

competition.'')

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V. Related Matters

A. Paperwork Reduction Act

The Paperwork Reduction Act of 1995 (PRA) \26\ imposes certain

requirements on federal agencies (including the Commission) in

connection with their conducting or sponsoring any collection of

information as defined by the PRA. The proposed exemptive order would

not, if issued, require a new collection of information from any entity

that would be subject to the proposed order.

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\26\ 44 U.S.C. 3507(d).

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B. Cost-Benefit Analysis

Section 15(a) of the CEA, as amended by Section 119 of the

Commodity Futures Modernization Act of 2000,\27\ requires the

Commission to consider the costs and benefits of its action before

issuing an order under the CEA. Section 15(a) of the Act further

specifies that costs and benefits shall be evaluated in light of the

following five broad areas of market and public concern: Protection of

market participants and the public; efficiency, competitiveness, and

financial integrity of futures markets; price discovery; sound risk

management practices; and other public interest considerations. By its

terms, Section 15(a) does not require the Commission to quantify the

costs and benefits of an order or to determine whether the benefits of

the order outweigh its costs. Rather, Section 15(a) simply requires the

Commission to ``consider the costs and benefits'' of its action.

Accordingly, the Commission could in its discretion give greater weight

to any one of the five enumerated areas and could in its discretion

determine that, notwithstanding its costs, a particular order was

necessary or appropriate to protect the public interest or to

effectuate any of the provisions or to accomplish any of the purposes

of the CEA. The Commission specifically invites public comment on its

analysis of the costs and benefits associated with the proposed

issuance of an exemptive order under Section 4(c) of the Act.

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\27\ 7 U.S.C. 19(a).

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The primary cost that could be associated with the proposed

exemptive order is the burden that may arise from subjecting

transactions in ST gold futures contracts, and thereby the market

participants transacting in such contracts, to the dual regulation of

security futures by the Commission and the SEC. Potential costs arising

from dual regulation, however, are outweighed by the legal certainty

and additional benefits that could arise from the issuance of the

proposed exemptive order. For example, permitting the trading of ST

gold futures contracts on OneChicago, through the issuance of the

proposed exemptive order, could facilitate price discovery for gold and

gold-linked interests given that a liquid market in ST gold futures

contracts would serve as an additional source for discerning the

appropriate market value of gold. As discussed previously, the issuance

of the proposed exemptive order may also foster competition by bringing

a new derivatives product to market expeditiously without negatively

impacting potential innovations in other markets for other commodities.

In addition, the issuance of the proposed exemptive order would not

result in any costs in terms of reduced protections for Commission-

regulated markets or market participants. Transactions in ST gold

futures contracts, pursuant to the proposed exemption, would be

executed on OneChicago as security futures and would be subject to

extensive and detailed regulation by the SEC and the Commission.

Consequently, only intermediaries registered or notice-registered with

the Commission and the SEC would be able to solicit, accept orders for,

or deal in any transactions in connection with ST gold futures

contracts. The implementation of an exemption, under these

circumstances, would not negatively impact any applicable regulatory

measure designed to protect market participants or the public interest.

With respect to financial integrity, The Options Clearing Corporation,

as both a derivatives clearing organization registered as such with the

Commission and a clearing agency registered as such with the SEC, would

carry out the clearing and settlement of OneChicago's ST gold futures

contracts, including directing appropriate arrangements for the payment

and physical delivery of the Shares that would underlie the ST gold

futures contracts.

After considering the factors presented in this release, the

Commission has determined to seek comment on the proposed order as

discussed above.

Issued in Washington, DC, on March 10, 2008 by the Commission.

David A. Stawick,

Secretary of the Commission.

[FR Doc. E8-5203 Filed 3-13-08; 8:45 am]

BILLING CODE 6351-01-P

Last Updated: March 14, 2008