Self-Regulatory Organizations; The Options Clearing Corporation; Notice of Filing of Proposed Rule Change Related to The Options Clearing Corporation's Margin Methodology for Volatility Index Futures, 13082-13087 [2019-06430]
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Federal Register / Vol. 84, No. 64 / Wednesday, April 3, 2019 / Notices
5. Applicants also request an
exemption from section 22(d) of the Act
and rule 22c–1 under the Act as
secondary market trading in shares will
take place at negotiated prices, not at a
current offering price described in a
Fund’s prospectus, and not at a price
based on NAV. Applicants state that (a)
secondary market trading in shares does
not involve a Fund as a party and will
not result in dilution of an investment
in shares, and (b) to the extent different
prices exist during a given trading day,
or from day to day, such variances occur
as a result of third-party market forces,
such as supply and demand. Therefore,
applicants assert that secondary market
transactions in shares will not lead to
discrimination or preferential treatment
among purchasers. Finally, applicants
represent that share market prices will
be disciplined by arbitrage
opportunities, which should prevent
shares from trading at a material
discount or premium from NAV.
6. With respect to Funds that hold
non-U.S. Portfolio Instruments and that
effect creations and redemptions of
Creation Units in kind, applicants
request relief from the requirement
imposed by section 22(e) in order to
allow such Funds to pay redemption
proceeds within fifteen calendar days
following the tender of Creation Units
for redemption. Applicants assert that
the requested relief would not be
inconsistent with the spirit and intent of
section 22(e) to prevent unreasonable,
undisclosed or unforeseen delays in the
actual payment of redemption proceeds.
7. Applicants request an exemption to
permit Funds of Funds to acquire Fund
shares beyond the limits of section
12(d)(1)(A) of the Act; and the Funds,
and any principal underwriter for the
Funds, and/or any broker or dealer
registered under the Exchange Act, to
sell shares to Funds of Funds beyond
the limits of section 12(d)(1)(B) of the
Act. The application’s terms and
conditions are designed to, among other
things, help prevent any potential (i)
undue influence over a Fund through
control or voting power, or in
connection with certain services,
transactions, and underwritings, (ii)
excessive layering of fees, and (iii)
overly complex fund structures, which
are the concerns underlying the limits
in sections 12(d)(1)(A) and (B) of the
Act.
8. Applicants request an exemption
from sections 17(a)(1) and 17(a)(2) of the
Act to permit persons that are Affiliated
Persons, or Second-Tier Affiliates, of the
Funds, solely by virtue of certain
ownership interests, to effectuate
purchases and redemptions in-kind. The
deposit procedures for in-kind
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purchases of Creation Units and the
redemption procedures for in-kind
redemptions of Creation Units will be
the same for all purchases and
redemptions and Deposit Instruments
and Redemption Instruments will be
valued in the same manner as those
Portfolio Instruments currently held by
the Funds. Applicants also seek relief
from the prohibitions on affiliated
transactions in section 17(a) to permit a
Fund to sell its shares to and redeem its
shares from a Fund of Funds, and to
engage in the accompanying in-kind
transactions with the Fund of Funds.2
The purchase of Creation Units by a
Fund of Funds directly from a Fund will
be accomplished in accordance with the
policies of the Fund of Funds and will
be based on the NAVs of the Funds.
9. Applicants also request relief to
permit a Feeder Fund to acquire shares
of another registered investment
company managed by the Adviser
having substantially the same
investment objectives as the Feeder
Fund (‘‘Master Fund’’) beyond the
limitations in section 12(d)(1)(A) and
permit the Master Fund, and any
principal underwriter for the Master
Fund, to sell shares of the Master Fund
to the Feeder Fund beyond the
limitations in section 12(d)(1)(B).
10. Section 6(c) of the Act permits the
Commission to exempt any persons or
transactions from any provision of the
Act if such exemption is necessary or
appropriate in the public interest and
consistent with the protection of
investors and the purposes fairly
intended by the policy and provisions of
the Act. Section 12(d)(1)(J) of the Act
provides that the Commission may
exempt any person, security, or
transaction, or any class or classes of
persons, securities, or transactions, from
any provision of section 12(d)(1) if the
exemption is consistent with the public
interest and the protection of investors.
Section 17(b) of the Act authorizes the
Commission to grant an order
permitting a transaction otherwise
prohibited by section 17(a) if it finds
that (a) the terms of the proposed
transaction are fair and reasonable and
do not involve overreaching on the part
of any person concerned; (b) the
proposed transaction is consistent with
the policies of each registered
2 The requested relief would apply to direct sales
of shares in Creation Units by a Fund to a Fund of
Funds and redemptions of those shares. Applicants,
moreover, are not seeking relief from section 17(a)
for, and the requested relief will not apply to,
transactions where a Fund could be deemed an
Affiliated Person, or a Second-Tier Affiliate, of a
Fund of Funds because an Adviser or an entity
controlling, controlled by or under common control
with an Adviser provides investment advisory
services to that Fund of Funds.
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investment company involved; and (c)
the proposed transaction is consistent
with the general purposes of the Act.
For the Commission, by the Division of
Investment Management, under delegated
authority.
Eduardo A. Aleman,
Deputy Secretary.
[FR Doc. 2019–06428 Filed 4–2–19; 8:45 am]
BILLING CODE P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–85440; File No. SR–OCC–
2019–002]
Self-Regulatory Organizations; The
Options Clearing Corporation; Notice
of Filing of Proposed Rule Change
Related to The Options Clearing
Corporation’s Margin Methodology for
Volatility Index Futures
March 28, 2019.
Pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934
(‘‘Exchange Act’’ or ‘‘Act’’),1 and Rule
19b–4 thereunder,2 notice is hereby
given that on March 18, 2019, the
Options Clearing Corporation (‘‘OCC’’)
filed with the Securities and Exchange
Commission (‘‘Commission’’) the
proposed rule change as described in
Items I, II, and III below, which Items
have been prepared by OCC. The
Commission is publishing this notice to
solicit comments on the proposed rule
change from interested persons.
I. Clearing Agency’s Statement of the
Terms of Substance of the Proposed
Rule Change
The proposed rule change is filed in
connection with proposed changes to
modify OCC’s margin methodology for
futures on indexes designed to measure
volatilities implied by prices of options
on a particular underlying interest (such
indexes being ‘‘Volatility Indexes,’’ and
futures contracts on such Volatility
Indexes being ‘‘Volatility Index
Futures’’). The proposed methodology
enhancements for Volatility Index
Futures would include: (1) Introducing
‘‘synthetic’’ futures (discussed below)
into the daily re-estimation of prices
and correlations for Volatility Index
Futures; (2) an enhanced statistical
distribution for modeling price returns
of the ‘‘synthetic’’ futures; and (3) a new
anti-procyclical floor for variance
estimates. The proposed changes are
discussed in detail in Section II below.
The proposed changes to OCC’s
Margins Methodology document are
1 15
2 17
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contained in confidential Exhibit 5 of
the filing. Material proposed to be
added is marked by underlining and
material proposed to be deleted is
marked by strikethrough text. OCC also
has included backtesting and impact
analysis of the proposed model changes
in confidential Exhibit 3.
The proposed rule change is available
on OCC’s website at https://
www.theocc.com/about/publications/
bylaws.jsp. All terms with initial
capitalization that are not otherwise
defined herein have the same meaning
as set forth in the OCC By-Laws and
Rules.3
II. Clearing Agency’s Statement of the
Purpose of, and Statutory Basis for, the
Proposed Rule Change
In its filing with the Commission,
OCC included statements concerning
the purpose of and basis for the
proposed rule change and discussed any
comments it received on the proposed
rule change. The text of these statements
may be examined at the places specified
in Item IV below. OCC has prepared
summaries, set forth in sections (A), (B),
and (C) below, of the most significant
aspects of these statements.
(A) Clearing Agency’s Statement of the
Purpose of, and Statutory Basis for, the
Proposed Rule Change
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(1) Purpose
The purpose of the proposed rule
change is to introduce enhancements to
OCC’s margin methodology for
Volatility Index Futures so that OCC’s
margin model reflects more current
market information for Volatility Index
Futures and allows for more appropriate
modeling of the risk attributes of such
products. Specifically, the proposed
methodology enhancements for
Volatility Index Futures would include:
(1) Introducing ‘‘synthetic’’ futures into
the process for daily re-estimation of
prices and correlations for Volatility
Index Futures; (2) an enhanced
statistical distribution for modeling
price returns for ‘‘synthetic’’ futures;
and (3) a new anti-procyclical floor for
variance estimates. OCC’s current model
for Volatility Index Futures and the
proposed changes thereto are described
in further detail below.
Background
OCC’s margin methodology, the
System for Theoretical Analysis and
Numerical Simulations (‘‘STANS’’),4 is
3 OCC’s By-Laws and Rules can be found on
OCC’s public website: https://optionsclearing.com/
about/publications/bylaws.jsp.
4 See Securities Exchange Act Release No. 53322
(February 15, 2006), 71 FR 9403 (February 23, 2006)
(SR–OCC–2004–20).
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OCC’s proprietary risk management
system that calculates Clearing Member
margin requirements. STANS utilizes
large-scale Monte Carlo simulations to
forecast price and volatility movements
in determining a Clearing Member’s
margin requirement.5 The STANS
margin requirement is calculated at the
portfolio level of Clearing Member
accounts with positions in marginable
securities. The STANS margin
requirement consists of an estimate of a
99% expected shortfall 6 over a two-day
time horizon and an add-on margin
charge for model risk (the
concentration/dependence stress test
charge).7 The STANS methodology is
used to measure the exposure of
portfolios of options, futures and cash
instruments, including the Volatility
Index Futures cleared by OCC.8
Volatility Indexes are indexes
designed to measure the volatility that
is implied by the prices of options on a
particular reference index or asset. For
example, the Cboe Volatility Index
(‘‘VIX’’) is an index designed to measure
the 30-day expected volatility of the
Standard & Poor’s 500 index (‘‘SPX’’).9
5 See
OCC Rule 601.
expected shortfall component is established
as the estimated average of potential losses higher
than the 99% value at risk threshold. The term
‘‘value at risk’’ or ‘‘VaR’’ refers to a statistical
technique that, generally speaking, is used in risk
management to measure the potential risk of loss for
a given set of assets over a particular time horizon.
7 A detailed description of the STANS
methodology is available at https://
optionsclearing.com/risk-management/margins/.
8 Pursuant to OCC Rule 601(e)(1), OCC also
calculates initial margin requirements for
segregated futures accounts on a gross basis using
the Standard Portfolio Analysis of Risk Margin
Calculation System (‘‘SPAN’’). Commodity Futures
Trading Commission (‘‘CFTC’’) Rule 39.13(g)(8),
requires, in relevant part, that derivatives clearing
organizations (‘‘DCOs’’) collect initial margin for
customer segregated futures accounts on a gross
basis. While OCC uses SPAN to calculate initial
margin requirements for segregated futures accounts
on a gross basis, OCC believes that margin
requirements calculated on a net basis (i.e.,
permitting offsets between different customers’
positions held by a Clearing Member in a segregated
futures account using STANS) affords OCC
additional protections at the clearinghouse level
against risks associated with liquidating a Clearing
Member’s segregated futures account. As a result,
OCC calculates margin requirements for segregated
futures accounts using both SPAN on a gross basis
and STANS on a net basis, and if at any time OCC
staff observes a segregated futures account where
initial margin calculated pursuant to STANS on a
net basis exceeds the initial margin calculated
pursuant to SPAN on a gross basis, OCC
collateralizes this risk exposure by applying an
additional margin charge in the amount of such
difference to the account. See Securities Exchange
Act Release No. 72331 (June 5, 2014), 79 FR 33607
(June 11, 2014) (SR–OCC–2014–13).
9 Generally speaking, the implied volatility of an
option is a measure of the expected future volatility
of the value of the option’s annualized standard
deviation of the price of the underlying security,
index, or future at exercise, which is reflected in the
current option premium in the market. Using the
6 The
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OCC currently clears futures contracts
on such Volatility Indexes. These
Volatility Index Futures contracts can
consequently be viewed as an indication
of the market’s future expectations of
the volatility of a given Volatility
Index’s underlying reference index (e.g.,
in the case of the VIX, providing a
snapshot of the expected market
volatility of the underlying over the
term of the options making up the
index).
Current Model for Volatility Index
Futures
Under OCC’s existing margin
methodology, OCC models the potential
final settlement prices of Volatility
Index Futures using the underlying
index as the risk factor.10 Final
settlement prices are simulated under
the assumption that the logarithm of the
values of the risk factor (i.e., the
underlying spot Volatility Index)
follows a mean-reverting 11 random
walk 12 with normally-distributed
steps.13 The model is designed to
calibrate the distribution that defines
this mean-reversion behavior so that the
expected final settlement prices of the
futures match their currently-observed
market prices to ensure that margin
coverage is sufficient to limit credit
exposures to OCC’s participants under
normal market conditions. OCC
recalculates the Monte Carlo scenarios
of the returns of each futures series over
its remaining life so that the standard
deviation of the scenarios matches two
days’ worth of the implied volatility of
near-the-money and contemporaneously
expiring options on the Volatility Index,
where available, in order to align with
OCC’s two-day liquidation period
assumption. Currently, the calibration
Black-Scholes options pricing model, the implied
volatility is the standard deviation of the
underlying asset price necessary to arrive at the
market price of an option of a given strike, time to
maturity, underlying asset price and given the
current risk-free rate. In effect, the implied volatility
is responsible for that portion of the premium that
cannot be explained by the then-current intrinsic
value (i.e., the difference between the price of the
underlying and the exercise price of the option) of
the option, discounted to reflect its time value.
10 A ‘‘risk factor’’ within OCC’s margin system
may be defined as a product or attribute whose
historical data is used to estimate and simulate the
risk for an associated product.
11 In finance, the term ‘‘mean reversion’’ describes
a financial time series in which returns can be very
unstable in the short run but very stable in the long
run.
12 A random walk is a continuous process with
random increments drawn independently from a
particular distribution.
13 This is known as a Gaussian OrnsteinUhlenbeck process. See Uhlenbeck, G.E. and L.S.
Ornstein, ‘‘On the Theory of Brownian Motion,’’
Physical Review, 36, 823–841 (1930) (explaining the
Gaussian Ornstein-Uhlenbeck process).
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for the distribution is performed on a
daily basis.
OCC’s current model for Volatility
Index Futures, which utilizes the
underlying Volatility Index as the sole
risk factor, is subject to certain
limitations, which would be addressed
by the proposed changes described
herein. Volatility Indexes, unlike futures
contracts, are not investible (i.e., they
cannot be replicated by static portfolios
of traded contracts). In addition, the
futures market has a term structure that
cannot be modeled using just the
underlying index. Finally, futures on a
Volatility Index are less volatile and less
fat-tailed 14 than the index itself, and
these features are term-dependent. The
current model was developed before
sufficient data on the futures was
available, so a model based on
‘‘synthetic’’ futures,15 as proposed
herein, was not an option at the time.
Also, the current model does not
account for certain strategies Clearing
Members might employ involving
spreads between delivery dates, which
may result in under-margining of those
positions.
In recent years, OCC has seen
significant growth in trading volume for
Volatility Index Futures. As a result,
OCC is proposing a number of
enhancements to its margin
methodology designed to provide for
more accurate and responsive margin
requirements for Volatility Index
Futures.
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Proposed Changes
The purpose of the proposed rule
change is to introduce enhancements to
OCC’s margin methodology so that
OCC’s margin models reflect more
current market information for Volatility
Index Futures, introduce asymmetry
into the statistical distribution used to
model price returns of the ‘‘synthetic’’
futures, and reduce procyclicality 16 in
the model.
14 A data set with a ‘‘fat tail’’ is one in which
extreme price returns have a higher probability of
occurrence than would be the case in a normal
distribution.
15 As discussed in further detail below, a
‘‘synthetic’’ futures time series, for the intended
purposes of OCC, relates to a uniform substitute for
a time series of daily settlement prices for actual
futures contracts, which persists over many
expiration cycles and thus can be used as a basis
for econometric analysis.
16 A quality that is positively correlated with the
overall state of the market is deemed to be
‘‘procyclical.’’ For example, procyclicality may be
evidenced by increasing margin or Clearing Fund
requirements in times of stressed market conditions
and low margin or Clearing Fund requirements
when markets are calm. Hence, anti-procyclical
features in a model are measures intended to
prevent risk-based models from fluctuating too
drastically in response to changing market
conditions.
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The proposed changes would
specifically include: (1) The daily reestimation of prices and correlations
using ‘‘synthetic’’ futures; (2) an
enhanced statistical distribution for
modeling price returns for ‘‘synthetic’’
futures; and (3) a new anti-procyclical
floor for variance estimates.17 The main
feature of the proposed model, relative
to the current model, is the replacement
of the underlying Volatility Index itself
as a risk factor by risk factors that are
based on observed futures prices (i.e.,
the ‘‘synthetic’’ futures contracts). The
proposed change would introduce a
new set of risk factors and method for
generating scenarios for those risk
factors, and hence Volatility Index
Futures settlement prices, to be
incorporated into the STANS margin
calculations. OCC believes its proposed
methodology would provide for more
accurate and responsive margin
requirements and that the imposition of
a floor for variance estimates would
mitigate procyclicality in OCC’s margin
methodology for Volatility Index
Futures. The proposed changes are
described in further detail below.
1. Daily Re-Estimations Using Synthetic
Futures
As noted above, OCC currently
models the potential final settlement
prices of Volatility Index Futures based
on the underlying index itself. OCC
proposes to modify its modeling
approach for Volatility Index Futures by
modeling the price distributions of
‘‘synthetic’’ futures on a daily basis
based on the historical returns of futures
contracts with approximately the same
tenor (as opposed to OCC’s current
approach of calibrating the distribution
based on the Volatility Index itself). A
‘‘synthetic’’ futures time series for the
intended purposes of OCC relates to a
uniform substitute for a time series of
daily settlement prices for actual futures
contracts, which persists over many
expiration cycles and thus can be used
as a basis for econometric analysis. One
feature of futures contracts is that each
contract may have a different expiration
date, and at any one point in time there
may be a variety of futures contracts on
the same underlying interest, all with
varying dates of expiry, so that there is
no one continuous time series for those
futures. ‘‘Synthetic’’ futures can be used
to generate a continuous time series of
futures contract prices across multiple
expirations. These ‘‘synthetic’’ futures
price return histories would be inputted
17 OCC would also make a number of conforming
changes throughout it Margins Methodology so that
the document arcuately reflects the adoption of the
new model.
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into the existing Copula simulation
process in STANS alongside the
underlying interests of OCC’s other
cleared and cross-margin products and
collateral. The purpose of this use of
‘‘synthetic’’ futures is to allow the
margin system to better approximate
correlations between futures contracts of
different tenors by creating more price
data points and their margin offsets.
Under the proposal, the historical
‘‘synthetic’’ time series for these
Volatility Indexes would be updated
daily and mapped to their
corresponding futures contracts. By
construction, the first ‘‘synthetic’’ time
series would always contain returns of
the front contract (i.e., the contract
closest to maturity, on any given day),
the second, which would correspond to
the next month out, and the remaining
series would follow the same pattern.
Following the expiration date of the
front contract, each contract within a
time series would be replaced with a
contract maturing one month later.
While ‘‘synthetic’’ time series contain
returns from different contracts, a return
on any given date is constructed from
prices of the same contract (e.g., as the
front month futures contract ‘‘rolls’’
from the current month to the
subsequent month, returns on the roll
date would be constructed by using the
same contract and not by calculating
returns across months). The marginal
probability distribution parameters for
the ‘‘synthetic’’ time series (i.e.,
marginal probabilities of various values
of the variables in the distribution
without reference to the values of the
other variables) would be estimated
daily using recent historical
observations.18 In cases in which the
GARCH variance 19 forecast falls below
the sample variance, in addition to
being floored by the sample variance,
the ‘‘synthetic’’ time series would
additionally be ‘‘scaled up’’ through the
introduction of a new floor on variance
estimates based on the corresponding
underlying index in order to reduce
18 However, for any tenor extension or new
contract that does not have enough historical data
for the associated ‘‘synthetic’’ security, the
scenarios for the longest tenor ‘‘synthetic’’ with
enough history would be used as a proxy for
generating futures theoretical price scenarios. In
this case, the long run floor (discussed below)
would be borrowed from the proxy ‘‘synthetic.’’
19 See generally Tim Bollerslev, ‘‘Generalized
Autoregressive Conditional Heteroskedasticity,’’
Journal of Econometrics, 31(3), 307–327 (1986). The
acronym ‘‘GARCH’’ refers to an econometric model
that can be used to estimate volatility based on
historical data. The general distinction between the
‘‘GARCH variance’’ and the ‘‘sample variance’’ for
a given time series is that the GARCH variance uses
the underlying time series data to forecast volatility.
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procyclicality in the model (as
discussed in further detail below).
OCC believes that using synthetic
futures in its daily re-estimation process
would allow OCC’s econometric model
for Volatility Index Futures to reflect
more current market information and
achieve better coverage across the term
curve.20 As a result, OCC believes the
proposed changes would result more
accurate margin requirements for
Clearing Members under the current
market conditions.
2. Enhancements to Statistical
Distribution for Volatility Index Futures
In addition to using a ‘‘synthetic’’
futures price return history in the
process for daily re-estimation of model
parameters, OCC is proposing additional
enhancements to its margin
methodology for Volatility Index
Futures to introduce asymmetry into the
statistical distribution used to model
price returns of the ‘‘synthetic’’ futures.
The econometric model currently used
in STANS for all price risk factors is an
asymmetric GARCH(1,1) with
symmetric Standardized Normal
Reciprocal Inverse Gaussian (or
‘‘NRIG’’)-distributed logarithmic
returns.21 OCC proposes to move to an
asymmetric NRIG distribution for
purposes of modeling proportionate
returns of the ‘‘synthetic’’ futures. OCC
believes the asymmetric NRIG
distribution has a better ‘‘goodness of
fit’’ 22 to the historical data and allows
for more appropriate modeling of
observed asymmetry of the distribution.
As a result, OCC believes that the
proposed change would lead to more
consistent treatment of returns both on
the upside as well as downside of the
distribution. Accordingly, OCC believes
that the proposed changes would result
in margin requirements for Volatility
Index Futures that respond more
appropriately to changes in market
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20 In
2018, the Commission approved, and issued
a Notice of No-Objection to, proposed changes to
OCC’s margin methodology designed to enable OCC
to: (1) Obtain daily price data for equity products
for use in the daily estimation of econometric
model parameters; (2) enhance OCC’s econometric
model for updating statistical parameters for all risk
factors that reflect the most recent data obtained; (3)
improve the sensitivity and stability of correlation
estimates across risk factors by using de-volatized
returns; and (4) improve OCC’s methodology related
to the treatment of defaulting securities. See
Securities Exchange Act Release No. 83326 (May
24, 2018), 83 FR 25081 (May 31, 2018) (SR–OCC–
2017–022) and Securities Exchange Act Release No.
83305 (May 23, 2018), 83 FR 24536 (May 29, 2018)
(SR–OCC–2017–811). Under the proposal,
correlation updates for ‘‘synthetic’’ futures would
be done daily with a one-day lag.
21 See id.
22 The goodness of fit of a statistical model
describes the extent to which observed data match
the values generated by the model.
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volatility and therefore are more
accurate.
3. Introduction of Anti-Procyclical Floor
for Variance Estimates
OCC also proposes to introduce a new
floor for variance estimates of the
Volatility Index Futures that would be
modeled under the newly proposed
approach to mitigate procyclicality in
OCC’s margin model. In order to
incorporate a variance level implied by
a longer time series of data, OCC would
calculate a floor for variance estimates
based on the underlying index (e.g.,
VIX) which is expected to have a longer
history that is more reflective of the
long-run variance level that cannot be
otherwise captured using the
‘‘synthetic’’ futures data. The floor
would therefore reduce the impact of a
sudden increase in margin requirements
from a low level and therefore mitigate
procyclicality in the model.
Clearing Member Outreach
In order to inform Clearing Members
of the proposed change, OCC has
provided updates to members at OCC
Roundtable 23 and Financial Risk
Advisory Council (or ‘‘FRAC’’) 24
meetings and will provide additional
reminders about the proposed changes
at its next FRAC meeting. In addition,
OCC will publish an Information Memo
to all Clearing Members describing the
proposed changes and will provide
additional periodic Information Memo
updates prior to the implementation
date. Additionally, OCC will perform
targeted and direct outreach with
Clearing Members that would be most
impacted by the proposed change, and
OCC would work closely with such
Clearing Members to coordinate the
implementation and to discuss the
impact and timing of any required
collateral deposits that may result from
the proposed change.25
Implementation Timeframe
OCC plans to implement the proposed
changes on May 20, 2019, provided that
all necessary regulatory approvals are
received by that date. If all regulatory
approvals are not received by May 20,
23 The OCC Roundtable was established to bring
Clearing Members, exchanges and OCC together to
discuss industry and operational issues. It is
comprised of representatives of senior OCC staff,
participant exchanges and Clearing Members,
representing the diversity of OCC’s membership in
industry segments, OCC-cleared volume, business
type, operational structure and geography.
24 The Financial Risk Advisory Council is a
working group comprised of exchanges, Clearing
Members and indirect participants of OCC.
25 Specifically, OCC will discuss with those
Clearing Members how they plan to satisfy any
increase in their margin requirements associated
with the proposed change.
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13085
2019, or if implementation on that date
becomes otherwise impractical, OCC
will implement the proposed changes
within thirty (30) days after the date that
OCC receives all necessary regulatory
approvals for the proposed changes.
OCC will announce any alternative
implementation date of the proposed
changes by an Information Memo posted
to its public website at least one week
prior to implementation.
(2) Statutory Basis
OCC believes that the proposed rule
change is consistent with Section 17A of
the Act 26 and the rules thereunder
applicable to OCC. Section 17A(b)(3)(F)
of Act 27 requires that the rules of a
clearing agency be designed to promote
the prompt and accurate clearance and
settlement of securities and derivatives
transactions and assure the safeguarding
of securities and funds which are in the
custody or control of the clearing agency
or for which it is responsible. The
purpose of the proposed rule change is
to introduce enhancements to OCC’s
margin methodology so that OCC’s
margin models reflect more current
market information for Volatility Index
Futures; use a statistical distribution for
modeling proportionate returns of the
‘‘synthetic’’ futures, which OCC believes
has a better ‘‘goodness of fit’’ to the
historical data and allows for more
appropriate modeling of observed
asymmetry of the distribution; and
reduce procyclicality in the model.
The main feature of the proposed
model, relative to the current model, is
the replacement of the underlying
Volatility Index itself as a risk factor by
risk factors that are based on observed
futures prices (i.e., the ‘‘synthetic’’
futures contracts). OCC believes that
using ‘‘synthetic’’ futures in its daily reestimation process would allow OCC’s
econometric model for Volatility Index
Futures to reflect more current market
information and achieve better coverage
across the term curve. As a result, OCC
believes the proposed changes would
result more accurate margin
requirements for Clearing Members
under the current market conditions
that respond more appropriately to
changes in market volatility. In
addition, OCC believes that the
proposed change to an asymmetrical
NRIG statistical distribution would lead
to more consistent treatment of returns
both on the upside as well as downside
of the distribution and therefore result
in margin requirements for Volatility
Index Futures that respond more
appropriately to changes in market
26 15
27 15
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03APN1
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volatility and therefore are more
accurate. Finally, the proposed rule
change would also enhance OCC’s
approach for modeling Volatility Index
Futures by introducing a floor on
variance estimates in the model to
mitigate procyclicality.
The proposed model would be used
by OCC to calculate margin
requirements designed to limit its credit
exposures to participants, and OCC uses
the margin it collects from a defaulting
Clearing Member to protect other
Clearing Members from losses as a result
of the default and ensure that OCC is
able to continue the prompt and
accurate clearance and settlement of its
cleared products. As a result, OCC
believes the proposed rule changed is
designed to promote the prompt and
accurate clearance and settlement of
securities and derivatives transactions
and assure the safeguarding of securities
and funds in its custody or control in
accordance with Section 17A(b)(3)(F) of
the Act.28
Rule 17Ad–22(b)(1) 29 requires that a
registered clearing agency that performs
central counterparty services establish,
implement, maintain and enforce
written policies and procedures
reasonably designed to measure its
credit exposures to its participants at
least once a day and limit its exposures
to potential losses from defaults by its
participants under normal market
conditions so that the operations of the
clearing agency would not be disrupted
and non-defaulting participants would
not be exposed to losses that they
cannot anticipate or control. As
described above, the proposed rule
change would introduce new model
enhancements for OCC’s cleared
Volatility Index Futures. OCC would
use the risk-based model enhancements
described herein to measure its credit
exposures to its participants on a daily
basis and determine margin
requirements based on such
calculations. OCC believes that the
proposed enhancements would result in
more accurate and responsive margin
requirements by ensuring that OCC’s
margin models reflect more current
market information for Volatility Index
Futures and using an asymmetric
distribution in its model that has a
better ‘‘goodness of fit’’ to the historical
data and allows for more appropriate
modeling of observed asymmetry of the
distribution. The proposed rule change
would also introduce a new floor on
variance estimates in the model to
mitigate procyclicality. OCC believes
the proposed rule change is therefore
designed to ensure that OCC sets margin
requirements that would serve to limit
OCC’s exposures to potential losses
from defaults by its participants under
normal market conditions so that the
operations of OCC would not be
disrupted, and non-defaulting
participants would not be exposed to
losses that they cannot anticipate or
control. Accordingly, OCC believes the
proposed rule change is consistent with
Rule 17Ad–22(b)(1).30
Rule 17Ad–22(b)(2) 31 further
requires, in part, that a registered
clearing agency that performs central
counterparty services establish,
implement, maintain and enforce
written policies and procedures
reasonably designed use margin
requirements to limit its credit
exposures to participants under normal
market conditions and use risk-based
models and parameters to set margin
requirements. As noted above, OCC
would use the proposed model
enhancements to calculate margin
requirements for Volatility Index
Futures in a manner designed to limit
its credit exposures to participants
under normal market conditions.
Moreover, OCC believes that the
proposed risk-based model
enhancements for Volatility Index
Futures would result in more accurate
and responsive margin requirements for
OCC’s Clearing Members and would
introduce an asymmetric distribution
into its model that has a better
‘‘goodness of fit’’ to the historical data
and allows for more appropriate
modeling of observed asymmetry of the
distribution. The proposed floor on
variance estimates would also help to
reduce procyclicality in margin
requirements for Volatility Index
Futures. The risk-based model would
therefore be used to calculate margin
requirements designed to limit OCC’s
credit exposures to participants under
normal market conditions in a manner
consistent with Rule 17Ad–22(b)(2).32
Rules 17Ad–22(e)(6)(i), (iii), and (v) 33
further require that a covered clearing
agency establish, implement, maintain
and enforce written policies and
procedures reasonably designed to cover
its Credit exposures to its participants
by establishing a risk-based margin
system that, among other things: (1)
Considers, and produces margin levels
commensurate with, the risks and
particular attributes of each relevant
product, portfolio, and market; (2)
calculates margin sufficient to cover its
30 Id.
31 17
28 Id.
29 17
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(B) Clearing Agency’s Statement on
Burden on Competition
Section 17A(b)(3)(I) requires that the
rules of a clearing agency do not impose
any burden on competition not
necessary or appropriate in furtherance
of the purposes of Act.35 OCC does not
believe that the proposed rule change
would impact or impose any burden on
competition. The proposed risk model
enhancements would apply to all
Clearing Members clearing Volatility
Index Futures at OCC. The overall
impact of the proposed changes will be
CFR 240.17Ad–22(b)(2).
32 Id.
CFR 240.17Ad–22(b)(1).
potential future exposure to participants
in the interval between the last margin
collection and the close out of positions
following a participant default; and (3)
uses an appropriate method for
measuring credit exposure that accounts
for relevant product risk factors and
portfolio effects across products.
As described in detail above, OCC
believes that the proposed model
enhancements would result in more
accurate, more responsive, and less
procyclical margin requirements for
OCC’s Clearing Members clearing
Volatility Index Futures, with such
margin serving to protect other Clearing
Members from losses arising as a result
of a Clearing Member default. The
proposed changes are intended to
ensure that OCC’s margin models reflect
more current market information for
Volatility Index Futures and would
introduce an asymmetric distribution
into its model that has a better
‘‘goodness of fit’’ to the historical data
and allows for more appropriate
modeling of the observed asymmetry of
the distribution. Additionally, OCC
would introduce a floor on variance
estimates in the model to limit
procyclicality. OCC therefore believes
the proposed changes are reasonably
designed to consider and produce
margin levels commensurate with the
risks and particular attributes of OCC’s
cleared Volatility Index Futures,
calculate margin sufficient to cover its
potential future exposure to participants
in the interval between the last margin
collection and the close out of positions
following a participant default, and
apply an appropriate method for
measuring credit exposure that accounts
for risk factors and portfolio effects of
Volatility Index Futures in a manner
consistent with Rules 17Ad–22(e)(6)(i),
(iii), and (v).34
The proposed rule changes are not
inconsistent with the existing rules of
OCC, including any other rules
proposed to be amended.
34 Id.
CFR 240.17Ad–22(e)(6)(i), (iii), and (v).
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mixed and depend on the composition
of the portfolio in question. For
instance, if a Clearing Member’s
portfolio is comprised of hedged spread
positions in Volatility Index Futures
along the term structure, then margins
could be much lower when compared to
a portfolio that is heavily short the front
month futures contract. While at a
product level, margins are identical for
futures contracts, it is the increased
term structure correlations that aid in
providing increased offsets depending
on the portfolio. OCC does not believe
that the proposed rule change would
unfairly inhibit access to OCC’s services
or disadvantage or favor any particular
user in relationship to another user. In
addition, the proposed rule change
would be applied uniformly to all
Clearing Members in establishing their
margin requirements.
For the foregoing reasons, OCC
believes that the proposed rule change
is in the public interest, would be
consistent with the requirements of the
Act applicable to clearing agencies, and
would not impact or impose a burden
on competition.
(C) Clearing Agency’s Statement on
Comments on the Proposed Rule
Change Received From Members,
Participants or Others
Written comments on the proposed
rule change were not and are not
intended to be solicited with respect to
the proposed rule change and none have
been received.
III. Date of Effectiveness of the
Proposed Rule Change and Timing for
Commission Action
khammond on DSKBBV9HB2PROD with NOTICES
Within 45 days of the date of
publication of this notice in the Federal
Register or within such longer period
up to 90 days (i) as the Commission may
designate if it finds such longer period
to be appropriate and publishes its
reasons for so finding or (ii) as to which
the self- regulatory organization
consents, the Commission will:
(A) By order approve or disapprove
the proposed rule change, or
(B) institute proceedings to determine
whether the proposed rule change
should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to
submit written data, views and
arguments concerning the foregoing,
including whether the proposed rule
change is consistent with the Exchange
Act. Comments may be submitted by
any of the following methods:
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Electronic Comments
• Use the Commission’s internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rule-comments@
sec.gov. Please include File Number SR–
OCC–2019–002 on the subject line.
Paper Comments
• Send paper comments in triplicate
to Secretary, Securities and Exchange
Commission, 100 F Street NE,
Washington, DC 20549–1090.
All submissions should refer to File
Number SR–OCC–2019–002. This file
number should be included on the
subject line if email is used. To help the
Commission process and review your
comments more efficiently, please use
only one method. The Commission will
post all comments on the Commission’s
internet website (https://www.sec.gov/
rules/sro.shtml). Copies of the
submission, all subsequent
amendments, all written statements
with respect to the proposed rule
change that are filed with the
Commission, and all written
communications relating to the
proposed rule change between the
Commission and any person, other than
those that may be withheld from the
public in accordance with the
provisions of 5 U.S.C. 552, will be
available for website viewing and
printing in the Commission’s Public
Reference Room, 100 F Street NE,
Washington, DC 20549, on official
business days between the hours of
10:00 a.m. and 3:00 p.m. Copies of such
filing also will be available for
inspection and copying at the principal
office of OCC and on OCC’s website at
https://www.theocc.com/about/
publications/bylaws.jsp.
All comments received will be posted
without change. Persons submitting
comments are cautioned that we do not
redact or edit personal identifying
information from comment submissions.
You should submit only information
that you wish to make available
publicly.
All submissions should refer to File
Number SR–OCC–2019–002 and should
be submitted on or before April 24,
2019.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.36
Eduardo A. Aleman,
Deputy Secretary.
[FR Doc. 2019–06430 Filed 4–2–19; 8:45 am]
BILLING CODE 8011–01–P
36 17
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13087
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–85439; File No. SR–ICEEU–
2019–005]
Self-Regulatory Organizations; ICE
Clear Europe Limited; Notice of Filing
and Immediate Effectiveness of
Proposed Rule Change Relating To
Adoption of a New Futures & Options
Capital-to-Margin and Shortfall Margin
Policy (the ‘‘F&O Margin Shortfall
Policy’’)
March 28, 2019.
Pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934
(‘‘Act’’),1 and Rule 19b–4 thereunder,2
notice is hereby given that on March 15,
2019, ICE Clear Europe Limited (‘‘ICE
Clear Europe’’) filed with the Securities
and Exchange Commission
(‘‘Commission’’) the proposed rule
changes described in Items I, II and III
below, which Items have been prepared
by ICE Clear Europe. ICE Clear Europe
filed the proposed rule change pursuant
to Section 19(b)(3)(A) of the Act 3 and
Rule 19b–4(f)(4) 4 thereunder, such that
the proposed rule change was
immediately effective upon filing with
the Commission. The Commission is
publishing this notice to solicit
comments on the proposed rule change
from interested persons.
I. Clearing Agency’s Statement of the
Terms of Substance of the Proposed
Rule Change Notice
ICE Clear Europe proposes to adopt a
new F&O Margin Shortfall Policy. These
revisions do not involve any changes to
the ICE Clear Europe Clearing Rules or
Procedures.5
II. Clearing Agency’s Statement of the
Purpose of, and Statutory Basis for, the
Proposed Rule Change
In its filing with the Commission, ICE
Clear Europe included statements
concerning the purpose of and basis for
the proposed rule change and discussed
any comments it received on the
proposed rule change. The text of these
statements may be examined at the
places specified in Item IV below. ICE
Clear Europe has prepared summaries,
set forth in sections (A), (B), and (C)
below, of the most significant aspects of
such statements.
1 15
U.S.C. 78s(b)(1).
CFR 240.19b–4.
3 15 U.S.C. 78s(b)(3)(A).
4 17 CFR 240.19b–4(f)(4).
5 Capitalized terms used but not defined herein
have the meanings specified in the ICE Clear
Europe Clearing Rules (the ‘‘Rules’’).
2 17
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]]>Agencies
[Federal Register Volume 84, Number 64 (Wednesday, April 3, 2019)]
[Notices]
[Pages 13082-13087]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-06430]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-85440; File No. SR-OCC-2019-002]
Self-Regulatory Organizations; The Options Clearing Corporation;
Notice of Filing of Proposed Rule Change Related to The Options
Clearing Corporation's Margin Methodology for Volatility Index Futures
March 28, 2019.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Exchange Act'' or ``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice
is hereby given that on March 18, 2019, the Options Clearing
Corporation (``OCC'') filed with the Securities and Exchange Commission
(``Commission'') the proposed rule change as described in Items I, II,
and III below, which Items have been prepared by OCC. The Commission is
publishing this notice to solicit comments on the proposed rule change
from interested persons.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------
I. Clearing Agency's Statement of the Terms of Substance of the
Proposed Rule Change
The proposed rule change is filed in connection with proposed
changes to modify OCC's margin methodology for futures on indexes
designed to measure volatilities implied by prices of options on a
particular underlying interest (such indexes being ``Volatility
Indexes,'' and futures contracts on such Volatility Indexes being
``Volatility Index Futures''). The proposed methodology enhancements
for Volatility Index Futures would include: (1) Introducing
``synthetic'' futures (discussed below) into the daily re-estimation of
prices and correlations for Volatility Index Futures; (2) an enhanced
statistical distribution for modeling price returns of the
``synthetic'' futures; and (3) a new anti-procyclical floor for
variance estimates. The proposed changes are discussed in detail in
Section II below.
The proposed changes to OCC's Margins Methodology document are
[[Page 13083]]
contained in confidential Exhibit 5 of the filing. Material proposed to
be added is marked by underlining and material proposed to be deleted
is marked by strikethrough text. OCC also has included backtesting and
impact analysis of the proposed model changes in confidential Exhibit
3.
The proposed rule change is available on OCC's website at https://www.theocc.com/about/publications/bylaws.jsp. All terms with initial
capitalization that are not otherwise defined herein have the same
meaning as set forth in the OCC By-Laws and Rules.\3\
---------------------------------------------------------------------------
\3\ OCC's By-Laws and Rules can be found on OCC's public
website: https://optionsclearing.com/about/publications/bylaws.jsp.
---------------------------------------------------------------------------
II. Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change
In its filing with the Commission, OCC included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. OCC has prepared summaries, set forth in sections (A),
(B), and (C) below, of the most significant aspects of these
statements.
(A) Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change
(1) Purpose
The purpose of the proposed rule change is to introduce
enhancements to OCC's margin methodology for Volatility Index Futures
so that OCC's margin model reflects more current market information for
Volatility Index Futures and allows for more appropriate modeling of
the risk attributes of such products. Specifically, the proposed
methodology enhancements for Volatility Index Futures would include:
(1) Introducing ``synthetic'' futures into the process for daily re-
estimation of prices and correlations for Volatility Index Futures; (2)
an enhanced statistical distribution for modeling price returns for
``synthetic'' futures; and (3) a new anti-procyclical floor for
variance estimates. OCC's current model for Volatility Index Futures
and the proposed changes thereto are described in further detail below.
Background
OCC's margin methodology, the System for Theoretical Analysis and
Numerical Simulations (``STANS''),\4\ is OCC's proprietary risk
management system that calculates Clearing Member margin requirements.
STANS utilizes large-scale Monte Carlo simulations to forecast price
and volatility movements in determining a Clearing Member's margin
requirement.\5\ The STANS margin requirement is calculated at the
portfolio level of Clearing Member accounts with positions in
marginable securities. The STANS margin requirement consists of an
estimate of a 99% expected shortfall \6\ over a two-day time horizon
and an add-on margin charge for model risk (the concentration/
dependence stress test charge).\7\ The STANS methodology is used to
measure the exposure of portfolios of options, futures and cash
instruments, including the Volatility Index Futures cleared by OCC.\8\
---------------------------------------------------------------------------
\4\ See Securities Exchange Act Release No. 53322 (February 15,
2006), 71 FR 9403 (February 23, 2006) (SR-OCC-2004-20).
\5\ See OCC Rule 601.
\6\ The expected shortfall component is established as the
estimated average of potential losses higher than the 99% value at
risk threshold. The term ``value at risk'' or ``VaR'' refers to a
statistical technique that, generally speaking, is used in risk
management to measure the potential risk of loss for a given set of
assets over a particular time horizon.
\7\ A detailed description of the STANS methodology is available
at https://optionsclearing.com/risk-management/margins/.
\8\ Pursuant to OCC Rule 601(e)(1), OCC also calculates initial
margin requirements for segregated futures accounts on a gross basis
using the Standard Portfolio Analysis of Risk Margin Calculation
System (``SPAN''). Commodity Futures Trading Commission (``CFTC'')
Rule 39.13(g)(8), requires, in relevant part, that derivatives
clearing organizations (``DCOs'') collect initial margin for
customer segregated futures accounts on a gross basis. While OCC
uses SPAN to calculate initial margin requirements for segregated
futures accounts on a gross basis, OCC believes that margin
requirements calculated on a net basis (i.e., permitting offsets
between different customers' positions held by a Clearing Member in
a segregated futures account using STANS) affords OCC additional
protections at the clearinghouse level against risks associated with
liquidating a Clearing Member's segregated futures account. As a
result, OCC calculates margin requirements for segregated futures
accounts using both SPAN on a gross basis and STANS on a net basis,
and if at any time OCC staff observes a segregated futures account
where initial margin calculated pursuant to STANS on a net basis
exceeds the initial margin calculated pursuant to SPAN on a gross
basis, OCC collateralizes this risk exposure by applying an
additional margin charge in the amount of such difference to the
account. See Securities Exchange Act Release No. 72331 (June 5,
2014), 79 FR 33607 (June 11, 2014) (SR-OCC-2014-13).
---------------------------------------------------------------------------
Volatility Indexes are indexes designed to measure the volatility
that is implied by the prices of options on a particular reference
index or asset. For example, the Cboe Volatility Index (``VIX'') is an
index designed to measure the 30-day expected volatility of the
Standard & Poor's 500 index (``SPX'').\9\ OCC currently clears futures
contracts on such Volatility Indexes. These Volatility Index Futures
contracts can consequently be viewed as an indication of the market's
future expectations of the volatility of a given Volatility Index's
underlying reference index (e.g., in the case of the VIX, providing a
snapshot of the expected market volatility of the underlying over the
term of the options making up the index).
---------------------------------------------------------------------------
\9\ Generally speaking, the implied volatility of an option is a
measure of the expected future volatility of the value of the
option's annualized standard deviation of the price of the
underlying security, index, or future at exercise, which is
reflected in the current option premium in the market. Using the
Black-Scholes options pricing model, the implied volatility is the
standard deviation of the underlying asset price necessary to arrive
at the market price of an option of a given strike, time to
maturity, underlying asset price and given the current risk-free
rate. In effect, the implied volatility is responsible for that
portion of the premium that cannot be explained by the then-current
intrinsic value (i.e., the difference between the price of the
underlying and the exercise price of the option) of the option,
discounted to reflect its time value.
---------------------------------------------------------------------------
Current Model for Volatility Index Futures
Under OCC's existing margin methodology, OCC models the potential
final settlement prices of Volatility Index Futures using the
underlying index as the risk factor.\10\ Final settlement prices are
simulated under the assumption that the logarithm of the values of the
risk factor (i.e., the underlying spot Volatility Index) follows a
mean-reverting \11\ random walk \12\ with normally-distributed
steps.\13\ The model is designed to calibrate the distribution that
defines this mean-reversion behavior so that the expected final
settlement prices of the futures match their currently-observed market
prices to ensure that margin coverage is sufficient to limit credit
exposures to OCC's participants under normal market conditions. OCC
recalculates the Monte Carlo scenarios of the returns of each futures
series over its remaining life so that the standard deviation of the
scenarios matches two days' worth of the implied volatility of near-
the-money and contemporaneously expiring options on the Volatility
Index, where available, in order to align with OCC's two-day
liquidation period assumption. Currently, the calibration
[[Page 13084]]
for the distribution is performed on a daily basis.
---------------------------------------------------------------------------
\10\ A ``risk factor'' within OCC's margin system may be defined
as a product or attribute whose historical data is used to estimate
and simulate the risk for an associated product.
\11\ In finance, the term ``mean reversion'' describes a
financial time series in which returns can be very unstable in the
short run but very stable in the long run.
\12\ A random walk is a continuous process with random
increments drawn independently from a particular distribution.
\13\ This is known as a Gaussian Ornstein-Uhlenbeck process. See
Uhlenbeck, G.E. and L.S. Ornstein, ``On the Theory of Brownian
Motion,'' Physical Review, 36, 823-841 (1930) (explaining the
Gaussian Ornstein-Uhlenbeck process).
---------------------------------------------------------------------------
OCC's current model for Volatility Index Futures, which utilizes
the underlying Volatility Index as the sole risk factor, is subject to
certain limitations, which would be addressed by the proposed changes
described herein. Volatility Indexes, unlike futures contracts, are not
investible (i.e., they cannot be replicated by static portfolios of
traded contracts). In addition, the futures market has a term structure
that cannot be modeled using just the underlying index. Finally,
futures on a Volatility Index are less volatile and less fat-tailed
\14\ than the index itself, and these features are term-dependent. The
current model was developed before sufficient data on the futures was
available, so a model based on ``synthetic'' futures,\15\ as proposed
herein, was not an option at the time. Also, the current model does not
account for certain strategies Clearing Members might employ involving
spreads between delivery dates, which may result in under-margining of
those positions.
---------------------------------------------------------------------------
\14\ A data set with a ``fat tail'' is one in which extreme
price returns have a higher probability of occurrence than would be
the case in a normal distribution.
\15\ As discussed in further detail below, a ``synthetic''
futures time series, for the intended purposes of OCC, relates to a
uniform substitute for a time series of daily settlement prices for
actual futures contracts, which persists over many expiration cycles
and thus can be used as a basis for econometric analysis.
---------------------------------------------------------------------------
In recent years, OCC has seen significant growth in trading volume
for Volatility Index Futures. As a result, OCC is proposing a number of
enhancements to its margin methodology designed to provide for more
accurate and responsive margin requirements for Volatility Index
Futures.
Proposed Changes
The purpose of the proposed rule change is to introduce
enhancements to OCC's margin methodology so that OCC's margin models
reflect more current market information for Volatility Index Futures,
introduce asymmetry into the statistical distribution used to model
price returns of the ``synthetic'' futures, and reduce procyclicality
\16\ in the model.
---------------------------------------------------------------------------
\16\ A quality that is positively correlated with the overall
state of the market is deemed to be ``procyclical.'' For example,
procyclicality may be evidenced by increasing margin or Clearing
Fund requirements in times of stressed market conditions and low
margin or Clearing Fund requirements when markets are calm. Hence,
anti-procyclical features in a model are measures intended to
prevent risk-based models from fluctuating too drastically in
response to changing market conditions.
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The proposed changes would specifically include: (1) The daily re-
estimation of prices and correlations using ``synthetic'' futures; (2)
an enhanced statistical distribution for modeling price returns for
``synthetic'' futures; and (3) a new anti-procyclical floor for
variance estimates.\17\ The main feature of the proposed model,
relative to the current model, is the replacement of the underlying
Volatility Index itself as a risk factor by risk factors that are based
on observed futures prices (i.e., the ``synthetic'' futures contracts).
The proposed change would introduce a new set of risk factors and
method for generating scenarios for those risk factors, and hence
Volatility Index Futures settlement prices, to be incorporated into the
STANS margin calculations. OCC believes its proposed methodology would
provide for more accurate and responsive margin requirements and that
the imposition of a floor for variance estimates would mitigate
procyclicality in OCC's margin methodology for Volatility Index
Futures. The proposed changes are described in further detail below.
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\17\ OCC would also make a number of conforming changes
throughout it Margins Methodology so that the document arcuately
reflects the adoption of the new model.
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1. Daily Re-Estimations Using Synthetic Futures
As noted above, OCC currently models the potential final settlement
prices of Volatility Index Futures based on the underlying index
itself. OCC proposes to modify its modeling approach for Volatility
Index Futures by modeling the price distributions of ``synthetic''
futures on a daily basis based on the historical returns of futures
contracts with approximately the same tenor (as opposed to OCC's
current approach of calibrating the distribution based on the
Volatility Index itself). A ``synthetic'' futures time series for the
intended purposes of OCC relates to a uniform substitute for a time
series of daily settlement prices for actual futures contracts, which
persists over many expiration cycles and thus can be used as a basis
for econometric analysis. One feature of futures contracts is that each
contract may have a different expiration date, and at any one point in
time there may be a variety of futures contracts on the same underlying
interest, all with varying dates of expiry, so that there is no one
continuous time series for those futures. ``Synthetic'' futures can be
used to generate a continuous time series of futures contract prices
across multiple expirations. These ``synthetic'' futures price return
histories would be inputted into the existing Copula simulation process
in STANS alongside the underlying interests of OCC's other cleared and
cross-margin products and collateral. The purpose of this use of
``synthetic'' futures is to allow the margin system to better
approximate correlations between futures contracts of different tenors
by creating more price data points and their margin offsets.
Under the proposal, the historical ``synthetic'' time series for
these Volatility Indexes would be updated daily and mapped to their
corresponding futures contracts. By construction, the first
``synthetic'' time series would always contain returns of the front
contract (i.e., the contract closest to maturity, on any given day),
the second, which would correspond to the next month out, and the
remaining series would follow the same pattern. Following the
expiration date of the front contract, each contract within a time
series would be replaced with a contract maturing one month later.
While ``synthetic'' time series contain returns from different
contracts, a return on any given date is constructed from prices of the
same contract (e.g., as the front month futures contract ``rolls'' from
the current month to the subsequent month, returns on the roll date
would be constructed by using the same contract and not by calculating
returns across months). The marginal probability distribution
parameters for the ``synthetic'' time series (i.e., marginal
probabilities of various values of the variables in the distribution
without reference to the values of the other variables) would be
estimated daily using recent historical observations.\18\ In cases in
which the GARCH variance \19\ forecast falls below the sample variance,
in addition to being floored by the sample variance, the ``synthetic''
time series would additionally be ``scaled up'' through the
introduction of a new floor on variance estimates based on the
corresponding underlying index in order to reduce
[[Page 13085]]
procyclicality in the model (as discussed in further detail below).
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\18\ However, for any tenor extension or new contract that does
not have enough historical data for the associated ``synthetic''
security, the scenarios for the longest tenor ``synthetic'' with
enough history would be used as a proxy for generating futures
theoretical price scenarios. In this case, the long run floor
(discussed below) would be borrowed from the proxy ``synthetic.''
\19\ See generally Tim Bollerslev, ``Generalized Autoregressive
Conditional Heteroskedasticity,'' Journal of Econometrics, 31(3),
307-327 (1986). The acronym ``GARCH'' refers to an econometric model
that can be used to estimate volatility based on historical data.
The general distinction between the ``GARCH variance'' and the
``sample variance'' for a given time series is that the GARCH
variance uses the underlying time series data to forecast
volatility.
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OCC believes that using synthetic futures in its daily re-
estimation process would allow OCC's econometric model for Volatility
Index Futures to reflect more current market information and achieve
better coverage across the term curve.\20\ As a result, OCC believes
the proposed changes would result more accurate margin requirements for
Clearing Members under the current market conditions.
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\20\ In 2018, the Commission approved, and issued a Notice of
No-Objection to, proposed changes to OCC's margin methodology
designed to enable OCC to: (1) Obtain daily price data for equity
products for use in the daily estimation of econometric model
parameters; (2) enhance OCC's econometric model for updating
statistical parameters for all risk factors that reflect the most
recent data obtained; (3) improve the sensitivity and stability of
correlation estimates across risk factors by using de-volatized
returns; and (4) improve OCC's methodology related to the treatment
of defaulting securities. See Securities Exchange Act Release No.
83326 (May 24, 2018), 83 FR 25081 (May 31, 2018) (SR-OCC-2017-022)
and Securities Exchange Act Release No. 83305 (May 23, 2018), 83 FR
24536 (May 29, 2018) (SR-OCC-2017-811). Under the proposal,
correlation updates for ``synthetic'' futures would be done daily
with a one-day lag.
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2. Enhancements to Statistical Distribution for Volatility Index
Futures
In addition to using a ``synthetic'' futures price return history
in the process for daily re-estimation of model parameters, OCC is
proposing additional enhancements to its margin methodology for
Volatility Index Futures to introduce asymmetry into the statistical
distribution used to model price returns of the ``synthetic'' futures.
The econometric model currently used in STANS for all price risk
factors is an asymmetric GARCH(1,1) with symmetric Standardized Normal
Reciprocal Inverse Gaussian (or ``NRIG'')-distributed logarithmic
returns.\21\ OCC proposes to move to an asymmetric NRIG distribution
for purposes of modeling proportionate returns of the ``synthetic''
futures. OCC believes the asymmetric NRIG distribution has a better
``goodness of fit'' \22\ to the historical data and allows for more
appropriate modeling of observed asymmetry of the distribution. As a
result, OCC believes that the proposed change would lead to more
consistent treatment of returns both on the upside as well as downside
of the distribution. Accordingly, OCC believes that the proposed
changes would result in margin requirements for Volatility Index
Futures that respond more appropriately to changes in market volatility
and therefore are more accurate.
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\21\ See id.
\22\ The goodness of fit of a statistical model describes the
extent to which observed data match the values generated by the
model.
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3. Introduction of Anti-Procyclical Floor for Variance Estimates
OCC also proposes to introduce a new floor for variance estimates
of the Volatility Index Futures that would be modeled under the newly
proposed approach to mitigate procyclicality in OCC's margin model. In
order to incorporate a variance level implied by a longer time series
of data, OCC would calculate a floor for variance estimates based on
the underlying index (e.g., VIX) which is expected to have a longer
history that is more reflective of the long-run variance level that
cannot be otherwise captured using the ``synthetic'' futures data. The
floor would therefore reduce the impact of a sudden increase in margin
requirements from a low level and therefore mitigate procyclicality in
the model.
Clearing Member Outreach
In order to inform Clearing Members of the proposed change, OCC has
provided updates to members at OCC Roundtable \23\ and Financial Risk
Advisory Council (or ``FRAC'') \24\ meetings and will provide
additional reminders about the proposed changes at its next FRAC
meeting. In addition, OCC will publish an Information Memo to all
Clearing Members describing the proposed changes and will provide
additional periodic Information Memo updates prior to the
implementation date. Additionally, OCC will perform targeted and direct
outreach with Clearing Members that would be most impacted by the
proposed change, and OCC would work closely with such Clearing Members
to coordinate the implementation and to discuss the impact and timing
of any required collateral deposits that may result from the proposed
change.\25\
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\23\ The OCC Roundtable was established to bring Clearing
Members, exchanges and OCC together to discuss industry and
operational issues. It is comprised of representatives of senior OCC
staff, participant exchanges and Clearing Members, representing the
diversity of OCC's membership in industry segments, OCC-cleared
volume, business type, operational structure and geography.
\24\ The Financial Risk Advisory Council is a working group
comprised of exchanges, Clearing Members and indirect participants
of OCC.
\25\ Specifically, OCC will discuss with those Clearing Members
how they plan to satisfy any increase in their margin requirements
associated with the proposed change.
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Implementation Timeframe
OCC plans to implement the proposed changes on May 20, 2019,
provided that all necessary regulatory approvals are received by that
date. If all regulatory approvals are not received by May 20, 2019, or
if implementation on that date becomes otherwise impractical, OCC will
implement the proposed changes within thirty (30) days after the date
that OCC receives all necessary regulatory approvals for the proposed
changes. OCC will announce any alternative implementation date of the
proposed changes by an Information Memo posted to its public website at
least one week prior to implementation.
(2) Statutory Basis
OCC believes that the proposed rule change is consistent with
Section 17A of the Act \26\ and the rules thereunder applicable to OCC.
Section 17A(b)(3)(F) of Act \27\ requires that the rules of a clearing
agency be designed to promote the prompt and accurate clearance and
settlement of securities and derivatives transactions and assure the
safeguarding of securities and funds which are in the custody or
control of the clearing agency or for which it is responsible. The
purpose of the proposed rule change is to introduce enhancements to
OCC's margin methodology so that OCC's margin models reflect more
current market information for Volatility Index Futures; use a
statistical distribution for modeling proportionate returns of the
``synthetic'' futures, which OCC believes has a better ``goodness of
fit'' to the historical data and allows for more appropriate modeling
of observed asymmetry of the distribution; and reduce procyclicality in
the model.
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\26\ 15 U.S.C. 78q-1.
\27\ 15 U.S.C. 78q-1(b)(3)(F).
---------------------------------------------------------------------------
The main feature of the proposed model, relative to the current
model, is the replacement of the underlying Volatility Index itself as
a risk factor by risk factors that are based on observed futures prices
(i.e., the ``synthetic'' futures contracts). OCC believes that using
``synthetic'' futures in its daily re-estimation process would allow
OCC's econometric model for Volatility Index Futures to reflect more
current market information and achieve better coverage across the term
curve. As a result, OCC believes the proposed changes would result more
accurate margin requirements for Clearing Members under the current
market conditions that respond more appropriately to changes in market
volatility. In addition, OCC believes that the proposed change to an
asymmetrical NRIG statistical distribution would lead to more
consistent treatment of returns both on the upside as well as downside
of the distribution and therefore result in margin requirements for
Volatility Index Futures that respond more appropriately to changes in
market
[[Page 13086]]
volatility and therefore are more accurate. Finally, the proposed rule
change would also enhance OCC's approach for modeling Volatility Index
Futures by introducing a floor on variance estimates in the model to
mitigate procyclicality.
The proposed model would be used by OCC to calculate margin
requirements designed to limit its credit exposures to participants,
and OCC uses the margin it collects from a defaulting Clearing Member
to protect other Clearing Members from losses as a result of the
default and ensure that OCC is able to continue the prompt and accurate
clearance and settlement of its cleared products. As a result, OCC
believes the proposed rule changed is designed to promote the prompt
and accurate clearance and settlement of securities and derivatives
transactions and assure the safeguarding of securities and funds in its
custody or control in accordance with Section 17A(b)(3)(F) of the
Act.\28\
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\28\ Id.
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Rule 17Ad-22(b)(1) \29\ requires that a registered clearing agency
that performs central counterparty services establish, implement,
maintain and enforce written policies and procedures reasonably
designed to measure its credit exposures to its participants at least
once a day and limit its exposures to potential losses from defaults by
its participants under normal market conditions so that the operations
of the clearing agency would not be disrupted and non-defaulting
participants would not be exposed to losses that they cannot anticipate
or control. As described above, the proposed rule change would
introduce new model enhancements for OCC's cleared Volatility Index
Futures. OCC would use the risk-based model enhancements described
herein to measure its credit exposures to its participants on a daily
basis and determine margin requirements based on such calculations. OCC
believes that the proposed enhancements would result in more accurate
and responsive margin requirements by ensuring that OCC's margin models
reflect more current market information for Volatility Index Futures
and using an asymmetric distribution in its model that has a better
``goodness of fit'' to the historical data and allows for more
appropriate modeling of observed asymmetry of the distribution. The
proposed rule change would also introduce a new floor on variance
estimates in the model to mitigate procyclicality. OCC believes the
proposed rule change is therefore designed to ensure that OCC sets
margin requirements that would serve to limit OCC's exposures to
potential losses from defaults by its participants under normal market
conditions so that the operations of OCC would not be disrupted, and
non-defaulting participants would not be exposed to losses that they
cannot anticipate or control. Accordingly, OCC believes the proposed
rule change is consistent with Rule 17Ad-22(b)(1).\30\
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\29\ 17 CFR 240.17Ad-22(b)(1).
\30\ Id.
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Rule 17Ad-22(b)(2) \31\ further requires, in part, that a
registered clearing agency that performs central counterparty services
establish, implement, maintain and enforce written policies and
procedures reasonably designed use margin requirements to limit its
credit exposures to participants under normal market conditions and use
risk-based models and parameters to set margin requirements. As noted
above, OCC would use the proposed model enhancements to calculate
margin requirements for Volatility Index Futures in a manner designed
to limit its credit exposures to participants under normal market
conditions. Moreover, OCC believes that the proposed risk-based model
enhancements for Volatility Index Futures would result in more accurate
and responsive margin requirements for OCC's Clearing Members and would
introduce an asymmetric distribution into its model that has a better
``goodness of fit'' to the historical data and allows for more
appropriate modeling of observed asymmetry of the distribution. The
proposed floor on variance estimates would also help to reduce
procyclicality in margin requirements for Volatility Index Futures. The
risk-based model would therefore be used to calculate margin
requirements designed to limit OCC's credit exposures to participants
under normal market conditions in a manner consistent with Rule 17Ad-
22(b)(2).\32\
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\31\ 17 CFR 240.17Ad-22(b)(2).
\32\ Id.
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Rules 17Ad-22(e)(6)(i), (iii), and (v) \33\ further require that a
covered clearing agency establish, implement, maintain and enforce
written policies and procedures reasonably designed to cover its Credit
exposures to its participants by establishing a risk-based margin
system that, among other things: (1) Considers, and produces margin
levels commensurate with, the risks and particular attributes of each
relevant product, portfolio, and market; (2) calculates margin
sufficient to cover its potential future exposure to participants in
the interval between the last margin collection and the close out of
positions following a participant default; and (3) uses an appropriate
method for measuring credit exposure that accounts for relevant product
risk factors and portfolio effects across products.
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\33\ 17 CFR 240.17Ad-22(e)(6)(i), (iii), and (v).
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As described in detail above, OCC believes that the proposed model
enhancements would result in more accurate, more responsive, and less
procyclical margin requirements for OCC's Clearing Members clearing
Volatility Index Futures, with such margin serving to protect other
Clearing Members from losses arising as a result of a Clearing Member
default. The proposed changes are intended to ensure that OCC's margin
models reflect more current market information for Volatility Index
Futures and would introduce an asymmetric distribution into its model
that has a better ``goodness of fit'' to the historical data and allows
for more appropriate modeling of the observed asymmetry of the
distribution. Additionally, OCC would introduce a floor on variance
estimates in the model to limit procyclicality. OCC therefore believes
the proposed changes are reasonably designed to consider and produce
margin levels commensurate with the risks and particular attributes of
OCC's cleared Volatility Index Futures, calculate margin sufficient to
cover its potential future exposure to participants in the interval
between the last margin collection and the close out of positions
following a participant default, and apply an appropriate method for
measuring credit exposure that accounts for risk factors and portfolio
effects of Volatility Index Futures in a manner consistent with Rules
17Ad-22(e)(6)(i), (iii), and (v).\34\
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\34\ Id.
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The proposed rule changes are not inconsistent with the existing
rules of OCC, including any other rules proposed to be amended.
(B) Clearing Agency's Statement on Burden on Competition
Section 17A(b)(3)(I) requires that the rules of a clearing agency
do not impose any burden on competition not necessary or appropriate in
furtherance of the purposes of Act.\35\ OCC does not believe that the
proposed rule change would impact or impose any burden on competition.
The proposed risk model enhancements would apply to all Clearing
Members clearing Volatility Index Futures at OCC. The overall impact of
the proposed changes will be
[[Page 13087]]
mixed and depend on the composition of the portfolio in question. For
instance, if a Clearing Member's portfolio is comprised of hedged
spread positions in Volatility Index Futures along the term structure,
then margins could be much lower when compared to a portfolio that is
heavily short the front month futures contract. While at a product
level, margins are identical for futures contracts, it is the increased
term structure correlations that aid in providing increased offsets
depending on the portfolio. OCC does not believe that the proposed rule
change would unfairly inhibit access to OCC's services or disadvantage
or favor any particular user in relationship to another user. In
addition, the proposed rule change would be applied uniformly to all
Clearing Members in establishing their margin requirements.
---------------------------------------------------------------------------
\35\ 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------
For the foregoing reasons, OCC believes that the proposed rule
change is in the public interest, would be consistent with the
requirements of the Act applicable to clearing agencies, and would not
impact or impose a burden on competition.
(C) Clearing Agency's Statement on Comments on the Proposed Rule Change
Received From Members, Participants or Others
Written comments on the proposed rule change were not and are not
intended to be solicited with respect to the proposed rule change and
none have been received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 45 days of the date of publication of this notice in the
Federal Register or within such longer period up to 90 days (i) as the
Commission may designate if it finds such longer period to be
appropriate and publishes its reasons for so finding or (ii) as to
which the self- regulatory organization consents, the Commission will:
(A) By order approve or disapprove the proposed rule change, or
(B) institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Exchange Act. Comments may be submitted
by any of the following methods:
Electronic Comments
Use the Commission's internet comment form (https://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-OCC-2019-002 on the subject line.
Paper Comments
Send paper comments in triplicate to Secretary, Securities
and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.
All submissions should refer to File Number SR-OCC-2019-002. This file
number should be included on the subject line if email is used. To help
the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's internet website (https://www.sec.gov/rules/sro.shtml).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for website viewing and printing in
the Commission's Public Reference Room, 100 F Street NE, Washington, DC
20549, on official business days between the hours of 10:00 a.m. and
3:00 p.m. Copies of such filing also will be available for inspection
and copying at the principal office of OCC and on OCC's website at
https://www.theocc.com/about/publications/bylaws.jsp.
All comments received will be posted without change. Persons
submitting comments are cautioned that we do not redact or edit
personal identifying information from comment submissions. You should
submit only information that you wish to make available publicly.
All submissions should refer to File Number SR-OCC-2019-002 and
should be submitted on or before April 24, 2019.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\36\
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\36\ 17 CFR 200.30-3(a)(12).
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Eduardo A. Aleman,
Deputy Secretary.
[FR Doc. 2019-06430 Filed 4-2-19; 8:45 am]
BILLING CODE 8011-01-P
