The U.S. Court of Appeals for the Second Circuit recently affirmed the ruling of a district court that an options exchange, by creating, listing and facilitating the trading of options on shares in an exchange-traded fund (ETF) designed to track a proprietary market index, does not misappropriate intellectual-property rights of the creator of the index. Dow Jones & Company, Inc. v. International Securities Exchange, Inc., Case Nos. 05-4812-cv, 05-4972-cv (June 16, 2006) (Leval, J.).

Dow Jones is the creator of the widely known Dow Jones Industrial Average (DIJA), a stock index that reflects an average of the stock market value of the shares of 30 leading U.S. companies. McGraw-Hill is the creator of the Standard and Poor's 500 Index (S&P 500), which reflects the average stock market value of shares of 500 leading U.S. companies. Dow Jones created the DIAMONDS® ETF to track performance of the DJIA, while McGraw-Hill created the SPDR® ETF to track the performance of the S&P 500.

In 2005, defendant International Securities Exchange, Inc. (ISE), an options exchange, announced its intention to trade options on shares of DIAMONDS® and SPDR®. The plaintiffs filed suit, alleging that, by "issuing and trading options on DIAMONDS and SPDR®, the defendants will misappropriate plaintiffs’ intellectual-property interest in the underlying indexes and engage in unfair competition." The complaints further alleged that the marketing of SPDR® and DIAMONDS® options infringes on and dilutes the plaintiffs’ trademarks. Finding that ISE’s unlicensed trading did not infringe on the plaintiffs’ intellectual property rights, the district court dismissed plaintiffs' complaints and denied Dow Jones’ motion for a preliminary injunction. The plaintiffs appealed.

On appeal, the Second Circuit first addressed the plaintiffs’ argument that, because they have an intellectual-property right in the index and the ETF that tracks the index, defendants may not create, list, trade and clear options on the ETF shares without licenses from plaintiffs. Finding that plaintiffs’ failed to establish some wrongful appropriation or use of their intellectual property, the Court unanimously held that ISE’s creating, listing, trading and clearing of options on the ETF did not constitute misappropriation of plaintiffs’ intellectual property, nor did it constitute unfair competition. The Court reasoned that "[b]y authorizing the creation of ETFs using their proprietary formulas, and the sale of the ETF shares to the public, the plaintiffs have relinquished any right to control resale and public trading of those shares, notwithstanding the fact that plaintiffs’ intellectual property may be embedded in those shares." With respect to the alleged trademark violations, the Second Circuit held that Dow Jones’ complaint consisted of nothing more than "conclusory allegations unsupported by factual assertions," and thus failed to state a proper claim under Rule 12(b)(6). Remarking that McGraw-Hill’s complaint did not suffer from the "same deficiency" as Dow Jones’ complaint, the Court nevertheless found the allegations contained therein legally insufficient to survive the motion to dismiss.

Practice Note: As long as the options trading is accurately described by its brand name and does not imply an affiliation with the owner of the product, such use will not infringe or dilute the index owner’s trademark.

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