Self-Regulatory Organizations; Fixed Income Clearing Corporation; Notice of Filing of Proposed Rule Change Regarding the Close-Out and Funds-Only Settlement Processes Associated With the Sponsoring Member/Sponsored Member Service, 1354-1362 [2020-00203]
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Federal Register / Vol. 85, No. 7 / Friday, January 10, 2020 / Notices
Washington, DC 20549 on official
business days between the hours of
10:00 a.m. and 3:00 p.m. Copies of the
filing also will be available for
inspection and copying at the principal
office of the Exchange. 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–CboeEDGX–2019–077 and
should be submitted on or before
January 31, 2020.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.23
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020–00200 Filed 1–9–20; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–87896; File No. SR–FICC–
2019–007]
Self-Regulatory Organizations; Fixed
Income Clearing Corporation; Notice of
Filing of Proposed Rule Change
Regarding the Close-Out and FundsOnly Settlement Processes Associated
With the Sponsoring Member/
Sponsored Member Service
January 6, 2020.
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 December
27, 2019, Fixed Income Clearing
Corporation (‘‘FICC’’) 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 the clearing agency. The Commission
is publishing this notice to solicit
comments on the proposed rule change
from interested persons.
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I. Clearing Agency’s Statement of the
Terms of Substance of the Proposed
Rule Change
The proposed rule change consists of
amendments to the FICC Government
Securities Division (‘‘GSD’’) Rulebook
(‘‘Rules’’) 3 in order to facilitate the
23 17
CFR 200.30–3(a)(12).
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
3 Capitalized terms not defined herein are defined
in the Rules, available at https://www.dtcc.com/∼/
media/Files/Downloads/legal/rules/ficc_gov_
rules.pdf.
submission of repurchase transactions
(‘‘repos’’) with a scheduled final
settlement date beyond the next
Business Day after the initial settlement
date (‘‘term repo activity’’) through the
Sponsoring Member/Sponsored Member
Service (‘‘Service’’) 4 by: (i) Providing a
mechanism by which a Sponsoring
Member may cause the termination and
liquidation of a Sponsored Member’s
positions arising from Sponsored
Member Trades between the Sponsoring
Member and its Sponsored Member that
have been novated to FICC and (ii)
revising how FICC calculates the fundsonly settlement obligations of
Sponsored Members and Sponsoring
Members with respect to Sponsored
Member Trades that have haircuts 5 in
order to ensure that the calculation does
not result in a return of the haircuts
until final settlement. In addition, the
proposed rule change would make a
correction and certain clarifications and
conforming changes, as described in
greater detail below.
II. Clearing Agency’s Statement of the
Purpose of, and Statutory Basis for, the
Proposed Rule Change
In its filing with the Commission, the
clearing agency 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. The
clearing agency has prepared
summaries, set forth in sections A, B,
and C below, of the most significant
aspects of such 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 amend the Rules in order
to facilitate the submission of term repo
activity through the Service by: (i)
Providing a mechanism by which a
Sponsoring Member may cause the
termination and liquidation of a
Sponsored Member’s positions arising
from Sponsored Member Trades
between the Sponsoring Member and its
Sponsored Member that have been
novated to FICC and (ii) revising how
FICC calculates the funds-only
settlement obligations of Sponsored
Members and Sponsoring Members with
respect to Sponsored Member Trades
1 15
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4 This Service is primarily governed by Rule 3A.
Supra note 3.
5 The term haircut shall refer to the amount of
collateral in excess of the value of the cash due to
the Sponsored Member client at the Close Leg.
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that have haircuts in order to ensure
that the calculation does not result in a
return of the haircuts until final
settlement. In addition, the proposed
rule change would make a correction
and certain clarifications and
conforming changes, as described in
greater detail below.
(i) Background
Under Rule 3A (Sponsoring Members
and Sponsored Members), certain
Netting Members are permitted to
sponsor, as ‘‘Sponsoring Members,’’
qualified institutional buyers as defined
by Rule 144A 6 under the Securities Act
of 1933, as amended (‘‘Securities Act’’),7
and certain legal entities that, although
not organized as entities specifically
listed in paragraph (a)(1)(i) of Rule 144A
under the Securities Act, satisfy the
financial requirements necessary to be
qualified institutional buyers as
specified in that paragraph (i.e.,
Sponsored Members) into GSD
membership.
Under Rule 3A, a Sponsoring Member
is permitted to submit to FICC, for
comparison, novation, and netting,
certain types of eligible securities
transactions between itself and its
Sponsored Members (‘‘Sponsored
Member Trades’’).8 The Sponsoring
Member is required to establish an
omnibus account at FICC for its
Sponsored Members’ positions arising
from such Sponsored Member Trades
(‘‘Sponsoring Member Omnibus
Account’’),9 which is separate from the
Sponsoring Member’s regular netting
accounts. For operational and
administrative purposes, FICC interacts
solely with the Sponsoring Member as
agent for purposes of the day-to-day
satisfaction of its Sponsored Members’
obligations to or from FICC, including
their securities and funds-only
settlement obligations.10 Additionally,
for operational convenience, pursuant to
Section 8(b) of Rule 3A,11 FICC
calculates a single Net Settlement
6 17
CFR 230.144A.
U.S.C. 77a et seq.
8 Rule 1, definition of ‘‘Sponsored Member
Trade’’; Rule 3A, Sections 6(b) and 7(a), supra note
3. In March 2019, the Commission approved FICC
rule filing SR–FICC–2018–013, Securities Exchange
Act Release No. 85470 (March 29, 2019), 84 FR
13328 (April 4, 2019), which expanded the
definition of ‘‘Sponsored Member Trade’’ to include
certain types of eligible securities transactions
between a Sponsored Member and a Netting
Member other than the Sponsoring Member. This
proposed rule change would apply only to
Sponsored Member Trades between the Sponsoring
Member and its Sponsored Member.
9 Rule 1, definition of ‘‘Sponsoring Member
Omnibus Account,’’ supra note 3.
10 Rule 3A, Sections 5, 6, 7, 8, and 9, supra note
3.
11 Rule 3A, Section 8(b), supra note 3.
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Obligation and Fail Net Settlement
Obligation in each CUSIP for the
Sponsoring Member Omnibus Account
and associated Deliver Obligations and
Receive Obligations.12 Such
calculations do not affect the Sponsored
Member’s obligations, which are
calculated in accordance with Section 7
of Rule 3A 13 in a manner that is
generally consistent with how FICC
calculates the obligations of other
Members.
Sponsoring Members are also
responsible for providing FICC with a
Sponsoring Member Guaranty 14
whereby the Sponsoring Member
guarantees to FICC the payment and
performance by its Sponsored Members
of their obligations under the Rules.15
Although Sponsored Members are
principally liable to FICC for their own
settlement obligations under the Rules,
the Sponsoring Member Guaranty
requires the Sponsoring Member to
satisfy those settlement obligations on
behalf of a Sponsored Member if the
Sponsored Member defaults and fails to
perform its settlement obligations.
Although Rule 3A currently permits
Sponsoring Members to submit term
repo activity within the Service,16 most
of the Sponsored Member Trades
submitted to FICC by Sponsoring
Members have a scheduled settlement
date of the next Business Day after the
initial settlement date, i.e., overnight
repo. FICC believes that certain
provisions of the Rules discourage the
submission of term repo activity within
the Service, as discussed more fully
below.
12 See
Rule 3A, Section 7(a), supra note 3.
3A, Section 7, supra note 3.
14 Section 2(c) of Rule 3A provides: ‘‘Each Netting
Member to become a Sponsoring Member shall also
sign and deliver to [FICC] a Sponsoring Member
Guaranty . . . .’’ A ‘‘Sponsoring Member Guaranty’’
is defined in Rule 1 as ‘‘a guaranty . . . that a
Sponsoring Member delivers to [FICC] whereby the
Sponsoring Member guarantees to [FICC] the
payment and performance by its Sponsored
Members of their obligations under [the] Rules,
including, without limitation, all of the securities
and funds-only settlement obligations of its
Sponsored Members under [the] Rules.’’ Supra note
3.
15 Rule 3A, Section 2(c), supra note 3.
16 Rule 3A, Section 5, supra note 3.
(ii) Proposed Change To Facilitate the
Submission of Term Repo Activity
Through the Service by Providing a
Mechanism by Which a Sponsoring
Member May Cause the Termination
and Liquidation of a Sponsored
Member’s Positions Arising From
Sponsored Member Trades Between the
Sponsoring Member and its Sponsored
Member That Have Been Novated to
FICC
(A) Existing Close-Out Framework
The current Rules allow only FICC to
cause the termination and liquidation of
a Sponsored Member’s positions, even
though the relevant Sponsoring Member
is responsible for the Sponsored
Member’s payment and performance in
respect of such positions. Rule 22A
governs any such termination and
liquidation by FICC.17 That rule
provides that, if FICC ceases to act for
a Member, including a Sponsored
Member, FICC will close-out the
Sponsored Member’s positions the same
way it would close-out the positions of
any other Member for which FICC has
ceased to act: By (i) establishing a Final
Net Settlement Position for each Eligible
Netting Security with a distinct CUSIP
equal to the net of all outstanding
deliver and receive obligations of the
Member in respect of the security and
(ii) taking market action to liquidate
such Final Net Settlement Position.18
A Sponsoring Member is required to
advise FICC if circumstances have
arisen that require FICC to cease to act
for a Sponsored Member.19 However, a
Sponsoring Member is not unilaterally
able to cause the termination or
liquidation of any Sponsored Member
Trades. This limitation is inconsistent
with other intermediated relationships.
In the context of those relationships, the
clearing member or similar intermediary
is typically permitted to terminate and
liquidate the positions of its client that
the intermediary guarantees if an event
of default or other similar circumstance
occurs under the customer or similar
bilateral agreement between the
intermediary and the client.20 The
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13 Rule
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17 Rule
3A, Sections 13(c) and 15(b), supra note
3.
18 Rule
22A, Section 2(b), supra note 3.
3A, Section 15(a), supra note 3.
20 For example, in the context of futures and
cleared swaps, a futures commission merchant
(‘‘FCM’’) is generally permitted to terminate and
liquidate positions that the FCM carries for a
customer at a derivatives clearing organization
(‘‘DCO’’) following the customer’s default by either
entering into offsetting positions in the FCM’s
customer account at the DCO or terminating the
position in the customer account and establishing
an identical position in the FCM’s house account
at the DCO. See, e.g., ICE Clear Credit Rule 304(c),
available at https://www.theice.com/publicdocs/
clear_credit/ICE_Clear_Credit_Rules.pdf.
19 Rule
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intermediary’s ability to cause such
termination and liquidation is not
dependent on a third party’s
determination that a certain
circumstance or event has occurred.
Rather, the intermediary and the client
are able to agree bilaterally to the
circumstances and events that give rise
to an event of default allowing the
intermediary to terminate or liquidate
the guaranteed positions.
The inability of a Sponsoring Member
to trigger the termination and
liquidation of a Sponsored Member’s
positions, particularly term repo
activity, may result in additional capital
requirements for Sponsoring Members
and their parent organizations under
regulatory standards that implement the
recommendations of the Basel
Committee on Banking Supervision (the
‘‘BCBS’’). This is because, if a
Sponsoring Member cannot trigger the
termination and liquidation of a
Sponsored Member’s positions, it is less
able to stop the effective extension of
credit to the client under the Sponsoring
Member Guaranty.21 In addition, the
inability to terminate a Sponsored
Member’s positions limits the extent to
which a Sponsoring Member can use
certain risk management tools, such as
cross-defaults or other early warning
triggers, that allow a Sponsoring
Member to close-out the Sponsored
Member’s positions and stem losses
before the Sponsored Member becomes
subject to insolvency proceedings or is
unable to pay its debts as they become
due.22
21 More specifically, FICC’s understanding is that
in order for a Sponsoring Member subject to capital
requirements that implement the BCBS standards to
apply the favorable capital treatment to its
obligations under the Sponsoring Member Guaranty
that it currently applies to bilateral repos, the
Sponsoring Member must conclude with a wellfounded basis that, among other things, it will be
able to terminate the Sponsored Member Trades
subject to the Sponsoring Member Guaranty. See,
e.g., 12 CFR 3.2, 3.3(e), 217.2, 217.3(e), 324.2, and
324.3(e). While a lesser standard applies if the
guaranteed Sponsored Member Trades are limited
to overnight repos, FICC believes that applying the
same termination and liquidation mechanism to
overnight and term repo activity would help to
clarify the capital treatment for both types of
activity and promote consistency across Sponsored
Member Trades. Sponsoring Members interested in
such relief should discuss this matter with their
regulatory capital experts.
22 A ‘‘cross-default’’ is a provision that allows one
party to exercise default rights if its customer or
counterparty defaults under another agreement.
Other early warning triggers include credit rating
downgrades, breaches of representations, and
covenants limiting a party’s ability to incur debt or
suffer liens on its property. If a Sponsoring Member
is unable to initiate the termination of a Sponsored
Member’s Sponsored Member Trades, it cannot use
these ‘‘early warning triggers,’’ but must instead
wait for the occurrence of a circumstance that gives
FICC the ability to cease to act for the Sponsored
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In addition to giving FICC the
exclusive ability to cause the
termination and liquidation of a
Sponsored Member’s positions, Rule
22A provides for FICC to control such
termination and liquidation of a
Sponsored Member’s Final Net
Settlement Positions.23 When FICC
ceases to act for a Member, it generally
looks to buy, borrow, reverse in, sell,
lend, or repo out securities, so as to
facilitate its ability to settle the Final
Net Settlement Positions.24
FICC’s control of such termination
and liquidation of Sponsored Member
Trades could expose the Sponsoring
Member to certain risks that other
intermediaries do not typically face.
This is because, in the event FICC
ceases to act for a Sponsored Member
under Rule 22A,25 the Sponsoring
Member will generally enter into one or
more transactions with third parties in
order to hedge its performance
obligations under the Sponsoring
Member Guaranty. In most other
intermediated relationships, the price at
which the intermediary hedges or closes
out the exposure under the customer’s
defaulted positions typically informs
the pricing of those positions and thus
the amount of the intermediary’s claim
against the customer. However, if FICC,
rather than the Sponsoring Member,
calculates the price of the Sponsored
Member’s positions, there may be
differences arising from the timing of
execution or the type of liquidation or
hedging transactions used by FICC and/
or the use of different pricing sources by
FICC, all of which could limit the ability
of the Sponsoring Member to recover
the losses it incurs in entering into its
hedging transactions.
(B) Proposed Rule Change
FICC is proposing to amend Rule 3A
to add a new Section 18. This new
section would allow a Sponsoring
Member to cause the termination and
liquidation of a Sponsored Member’s
positions arising from Sponsored
Member Trades between the Sponsoring
Member and the Sponsored Member for
which the Sponsoring Member is
responsible. The section would not,
however, limit the ability of FICC to
cease to act for a Sponsored Member.
In the event (i) the Sponsoring
Member triggers the termination of a
Sponsored Member’s positions or (ii)
FICC ceases to act for the Sponsored
Member and the Sponsoring Member
Member. By that point, however, the Sponsoring
Member may have significant uncovered exposure
to the Sponsored Member.
23 Rule 22A, Section 2(b), supra note 3.
24 Id.
25 Rule 22A, supra note 3.
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does not continue to perform the
obligations of the Sponsored Member,
both the Sponsored Member’s positions
and the Sponsoring Member’s
corresponding positions arising from the
Sponsored Member Trades between the
Sponsoring Member and the Sponsored
Member would be terminated.
Thereupon, the Sponsoring Member
would calculate a net liquidation value
of such terminated positions, which
liquidation value would be paid either
to or by the Sponsored Member by or to
the Sponsoring Member. FICC would
not, as a practical matter, be involved in
such settlement and would not need to
take any market action because the
termination of the Sponsored Member’s
positions and the corresponding
Sponsoring Member’s positions would
leave FICC flat. Additionally, the
Sponsoring Member would indemnify
FICC for any claim by a Sponsored
Member arising out of the Sponsoring
Member’s calculation of the net
liquidation value.
(C) Benefits of the Proposal
By allowing Sponsoring Members to
terminate and liquidate a Sponsored
Member’s positions that arise from
Sponsored Member Trades between the
Sponsored Member and the Sponsoring
Member that have been novated to FICC,
FICC believes that the new Section 18
would align the Service to other
intermediated relationships and allow
Sponsoring Members to more effectively
manage the risks of Sponsored Member
Trades, particularly term repo activity.
Sponsoring Members and their
Sponsored Members would be able to
agree with one another in their bilateral
documentation on the circumstances in
which the Sponsoring Member would
be permitted to cause the termination of
the Sponsored Member’s positions.
Such agreement would not affect FICC’s
ability to cease to act for a Sponsored
Member in accordance with existing
Rules 3A, 21 and 22.26
FICC believes that providing
Sponsoring Members with greater
ability to manage their risks associated
with Sponsored Member Trades would
allow Sponsoring Members to submit to
FICC more Sponsored Member Trades,
including, in particular, term repo
activity. FICC believes that having more
centrally cleared term repo transactions
would promote the prompt and accurate
clearance and settlement of securities
transactions because more securities
transactions would benefit from FICC’s
risk management and guaranty of
settlement.
Further, FICC believes that allowing
the Sponsoring Member to take market
action would decrease the price risks
currently faced by Sponsoring Members
(as described in the last paragraph of
Item II(A)1(ii)(A) above) without
increasing the litigation risk to FICC
arising from a Sponsored Member
default because the Sponsoring Member
would indemnify FICC for any losses or
expense arising from a Sponsored
Member’s claim related to the
Sponsoring Member’s calculation of any
liquidation amount.
(D) Proposed Changes to the Rules
Addition of New Section 18 to Rule 3A
(Sponsoring Members and Sponsored
Members)
FICC is proposing to add a new
Section 18 to Rule 3A, which would (i)
permit a Sponsoring Member to cause
the termination and liquidation of a
Sponsored Member’s positions arising
from Sponsored Member Trades
between the Sponsoring Member and
the Sponsored Member and (ii) govern
how the termination and liquidation
would be effectuated. Section 18 would
contain the following subsections.
Subsection (a)
Subsection (a) would clarify the scope
of positions to which proposed Section
18 applies. It would state that Section
18 applies only to positions arising from
Sponsored Member Trades within the
meaning of subsection (a) of the
Sponsored Member Trade definition.27
Subsection (a) of the Sponsored Member
Trade definition 28 encompasses eligible
transactions between a Sponsored
Member and its Sponsoring Member.
Sponsored Member Trades that are
between a Sponsored Member and a
third-party Member would not be
within the scope of Section 18 because,
in that instance, there would not be a
corresponding Sponsoring Member
position to terminate.
Subsection (a) would further state that
Section 18 would not apply if either (i)
FICC has ceased to act for the relevant
Sponsoring Member or (ii) a Corporation
Default has occurred. FICC has
discretion in the event that it ceases to
act for a Sponsoring Member to closeout the positions of Sponsored Members
for which the defaulting Sponsoring
Member was responsible or to allow
them to settle.29 If FICC does close-out
such positions, it will do so in
accordance with Rule 22A.30 If a
Corporation Default has occurred in
27 Rule
29 Rule
26 Rules
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3A, 21 and 22, supra note 3.
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1, supra note 3.
28 Id.
30 Rule
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3A, Section 16, supra note 3.
22A, supra note 3.
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respect of FICC, each Sponsored
Member’s positions, and all other
Members’ positions, will be closed out
in accordance with the provisions of
Rule 22B.31
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Subsection (b)
Subsection (b) of proposed Section 18
would set out the process by which a
Sponsoring Member or FICC may cause
the termination of a Sponsored
Member’s positions. It would provide
that the Sponsoring Member or FICC
may cause such termination by
delivering a notice to FICC or the
Sponsoring Member, respectively. FICC
anticipates that each Sponsored Member
and Sponsoring Member would agree in
the bilateral documentation between
them as to what circumstances or events
give rise to the ability of the Sponsoring
Member to deliver a notice to FICC
terminating the Sponsored Member’s
positions.32
The notice submitted by a Sponsoring
Member to FICC (or vice versa) would
cause the termination of all of the
positions of the Sponsored Member that
arose from Sponsored Member Trades
between the Sponsoring Member and
the Sponsored Member and that have
been novated to FICC. The notice would
also cause the termination of the
corresponding positions of the
Sponsoring Member (i.e., the positions
of the Sponsoring Member that arose
from Sponsored Member Trades
between the Sponsoring Member and
the Sponsored Member). The effect of
such terminations would be to leave
FICC flat.
Subsection (b) would also provide
that the termination of the Sponsored
Member’s positions (and the Sponsoring
Member’s corresponding positions)
would be effected by the Sponsoring
Member’s establishment of a final Net
31 Rule 22B, supra note 3. In September 2018, the
Commission approved FICC rule filing SR–FICC–
2018–008, Securities Exchange Act Release No.
84255 (September 21, 2018), 83 FR 48890
(September 27, 2018), which amended the Rules to
clarify that Rule 22B (Corporation Default) applies
to Sponsored Members.
32 It bears noting in this regard that termination
of the Sponsored Member’s positions would not be
the exclusive mechanism by which a Sponsoring
Member may limit its credit risk. Under Section 2(i)
of current Rule 3A, a Sponsoring Member may
voluntarily elect to terminate its status as a
Sponsoring Member in respect of one or more
Sponsored Members. Such a termination does not
affect the settlement of the Sponsored Member’s
existing positions but does restrict the ability of the
Sponsored Member to have its future trades
accepted for novation to FICC through such
Sponsoring Member. The proposed rule change
would not affect the functioning of Section 2(i) or
the general ability of a Sponsoring Member and the
Sponsored Member to agree on the circumstances
of when the Sponsoring Member may terminate its
status as Sponsoring Member for the Sponsored
Member. Rule 3A, Section 2(i), supra note 3.
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Settlement Position for each Eligible
Netting Security with a distinct CUSIP
number (‘‘Final Net Settlement
Position’’). This provision would align
with existing Rule 22A,33 which
provides for FICC to calculate such
Final Net Settlement Position when it
ceases to act for a Member. As under
existing Rule 22A,34 the Final Net
Settlement Position would equal the net
of all outstanding deliver obligations
and receive obligations of the Sponsored
Member or Sponsoring Member with
respect to the relevant security.
Subsection (c)
Subsection (c) of proposed Section 18
would specify how the Final Net
Settlement Positions established
pursuant to subsection (b) would be
liquidated (i.e., how such positions
would be converted into an amount
payable). It would also provide how the
amount payable arising from the
liquidation of the Final Net Settlement
Positions would be discharged.
Subsection (c) would first provide
that the Sponsoring Member would
liquidate the Final Net Settlement
Positions established pursuant to
subsection (b) by establishing (i) a single
liquidation amount in respect of the
Sponsored Member’s Final Net
Settlement Positions (a ‘‘Sponsored
Member Liquidation Amount’’) and (ii)
a single liquidation amount in respect of
the Sponsoring Member’s Final Net
Settlement Positions (a ‘‘Sponsoring
Member Liquidation Amount’’). The
Sponsored Member Liquidation Amount
would be owed either by FICC to the
Sponsored Member or by the Sponsored
Member to FICC because it would relate
to the Sponsored Member’s Final Net
Settlement Positions with FICC, while
the Sponsoring Member Liquidation
Amount would be owed either by FICC
to the Sponsoring Member or by the
Sponsoring Member to FICC because it
would relate to the Sponsoring
Member’s Final Net Settlement
Positions with FICC.
Because the Final Net Settlement
Positions of the Sponsoring Member
would be identical to, but in the
opposite direction of, the Final Net
Settlement Positions of the Sponsored
Member, the Sponsored Member
Liquidation Amount would equal the
Sponsoring Member Liquidation
Amount. Therefore, if FICC were to owe
the Sponsored Member Liquidation
Amount to the Sponsored Member, the
Sponsoring Member would owe the
Sponsoring Member Liquidation
Amount to FICC. By the same token, if
33 Rule
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the Sponsored Member were to owe the
Sponsored Member Liquidation Amount
to FICC, FICC would owe the
Sponsoring Member the Sponsoring
Member Liquidation Amount. In all
instances, FICC would owe and be owed
the same amount of money.
Subsection (c) would also provide
how the Sponsoring Member may
calculate the Sponsoring Member
Liquidation Amount. It would state that
the Sponsoring Member may calculate
the Sponsoring Member Liquidation
Amount based on prevailing market
prices of the relevant securities and/or
the gains realized and losses incurred by
the Sponsoring Member in hedging its
risk associated with the liquidation of
the Sponsoring Member’s Final Net
Settlement Positions. Subsection (c)
would further clarify that such
Sponsoring Member Liquidation
Amount may also take into account any
losses and expenses incurred by the
Sponsoring Member in connection with
the liquidation of the positions. This
approach would be broadly consistent
with how FICC would calculate an
amount owing by a Member in respect
of its Final Net Settlement Positions
under existing Rule 22A.35
Subsection (c) would provide that, if
a Sponsored Member Liquidation
Amount is due to FICC, the Sponsoring
Member would be obligated to pay such
Sponsored Member Liquidation Amount
to FICC under the Sponsoring Member
Guaranty and that this obligation would,
automatically and without further
action, be set off against the obligation
of FICC to pay the corresponding
Sponsoring Member Liquidation
Amount to the Sponsoring Member. By
virtue of such setoff, the Sponsored
Member’s obligation to FICC would be
discharged, as would FICC’s obligation
to the Sponsoring Member. The
Sponsoring Member would, however,
have a reimbursement claim against the
Sponsored Member in an amount equal
to the Sponsored Member Liquidation
Amount. This reimbursement claim
would arise as a matter of law by virtue
of the Sponsoring Member’s
performance under Sponsoring Member
Guaranty, though Sponsoring Members
and Sponsored Members may specify
terms related to the reimbursement
claim in their bilateral documentation.
FICC would have no rights or
obligations in respect of any such
reimbursement claim.
If a Sponsored Member Liquidation
Amount were owed by FICC to the
Sponsored Member, subsection (c)
would provide for the Sponsoring
Member to satisfy that obligation by
22A, supra note 3.
34 Id.
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transferring the Sponsored Member
Liquidation Amount to the account at
the Funds-Only Settling Member Bank
at which the Sponsoring Member
maintains Funds-Only Settlement
Amounts related to its Sponsored
Member Omnibus Account. Subsection
(c) would state that, to the extent the
Sponsoring Member makes such a
transfer, it will discharge FICC’s
obligation to transfer the Sponsored
Member Liquidation Amount to the
Sponsored Member and the Sponsoring
Member’s corresponding obligation to
transfer the Sponsoring Member
Liquidation Amount to FICC.
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Subsection (d)
Under existing Rule 22A,36 FICC is
responsible for the liquidation of a
Member’s Final Net Settlement
Positions and calculation of an amount
owing by or to the Member. Because
proposed Section 18 would provide for
the Sponsoring Member, rather than
FICC, to liquidate the Sponsored
Member’s (and the Sponsoring
Member’s) Final Net Settlement
Positions and calculate the
corresponding amounts owing, the
Sponsoring Member would be required
to indemnify FICC in the event the
Sponsored Member makes or asserts any
claim relating to such calculation.
Subsection (d) would set forth such
indemnity. It would provide for the
Sponsoring Member to indemnify FICC
and its officers, directors, employees,
shareholders, agents, and Members for
any loss, liability, or expenses resulting
from any claim by a Sponsored Member
relating to the Sponsoring Member’s
calculation of the Sponsored Member
Liquidation Amount or Sponsoring
Member Liquidation Amount.
Subsection (e)
Under Section 8(g) of existing Rule
3A,37 each Sponsored Member grants to
FICC a security interest in all assets and
property placed by the Sponsored
Member in the possession of FICC in
order to secure the obligations of the
Sponsored Member to FICC. This
security interest provides FICC with
credit support in the event that it must
terminate and liquidate the Sponsored
Member’s positions and assert a claim
against the Sponsored Member.
However, if proposed Section 18 were to
apply, the obligation of the Sponsored
Member to FICC under the terminated
positions would be discharged via the
setoff provided for under subsection (c).
Subsection (e) of proposed Section 18
would clarify FICC acknowledges that a
36 Id.
37 Rule
3A, Section 8(g), supra note 3.
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Sponsoring Member may take a security
interest in FICC’s obligations to the
Sponsored Member. Such security
interest would not impose new
obligations on FICC, but could allow the
Sponsoring Member to direct FICC to
submit payments due to the Sponsored
Member to the Sponsoring Member, so
that the Sponsoring Member can apply
such amounts to the Sponsored
Member’s unsatisfied obligations to the
Sponsoring Member. Subsection (e)
additionally would provide that, if
Section 18 were to apply, FICC’s
security interest in the Sponsored
Member’s assets would be subordinated
to the Sponsoring Member’s security
interest. As noted above, if Section 18
applied, FICC would not need to look to
the Sponsored Member or its assets for
performance in respect of the positions
that are terminated under Section 18.
(iii) Proposed Change To Facilitate the
Submission of Term Repo Activity
Through the Service by Revising How
FICC Calculates the Funds-Only
Settlement Obligations of Sponsored
Members and Sponsoring Members
With Respect to Sponsored Member
Trades That Have Haircuts in Order To
Ensure That Such Calculation Does Not
Result in a Return of the Haircuts Until
Final Settlement
In light of the intermediary
relationship between a Sponsoring
Member and its Sponsored Member, a
Sponsoring Member may choose to post
to its Sponsored Member client a
haircut in order to address regulatory
and/or investment guideline concerns.
Specifically, the regulations and/or
investment guidelines to which a
Sponsored Member is subject may
require that it receive Eligible Securities
worth more than the cash that it is due
to receive at final settlement of a FICCcleared reverse repo, i.e., a haircut.38
Similarly, in some circumstances, a
Sponsoring Member may choose to
collect such haircut from its Sponsored
Member client at the Start Leg to
mitigate its exposure under the
Sponsoring Member Guaranty. In both
38 For example, FICC’s understanding is that
Investment Company Act Rule 5b–3 requires that a
repurchase agreement be ‘‘collateralized fully’’ in
order for a registered investment company to apply
favorable regulatory treatment to it. The
‘‘collateralized fully’’ definition requires that the
value of the securities posted to the investment
company at all times equal or exceed the
repurchase price, plus any loss of interest or
transaction costs that could be incurred in a default.
In light of these requirements, FICC understands
that many registered investment companies require
counterparties to post securities with a value that
is equal to the repurchase price, plus a cushion to
cover any changes in value of the securities or lost
interest or transaction costs associated with a
counterparty default.
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situations, FICC’s understanding is that
accounting considerations may favor
those postings being facilitated through
FICC’s systems. Specifically, in light of
the fact that the counterparty on a FICCcleared trade changes after novation—
and the Sponsoring Member and
Sponsored Member thereafter both face
FICC as principal—having an obligation
to receive and/or deliver a haircut at
final settlement directly to FICC as the
post-novation counterparty may be
favorable for the Sponsoring Member
and the Sponsored Member from an
accounting perspective.39
However, under Rule 13, FICC’s
standard funds-only settlement process
involves marking to market twice a day
each Business Day all positions
associated with term repo activity,
including any Sponsored Member Trade
with a Close Leg that is scheduled to
occur two or more Business Days after
the settlement of the Start Leg.40
Specifically, FICC will calculate a
‘‘Collateral Mark’’ equal to the absolute
value of the difference between (i) a
Sponsored Member Trade’s Contract
Value (i.e., the dollar value at which it
is due to finally settle) and (ii) its
Market Value (i.e., FICC’s system price
of the securities underlying the
transaction). This Collateral Mark is
incorporated into the calculation of
certain of the Funds-Only Settlement
Amounts payable under Rule 13.41
When the Market Value exceeds the
Contract Value, the Collateral Mark is
negative for, and thus payable by, the
Member party that has a Net Short
Position (i.e., the party required to
deliver securities at final settlement). As
a result, under FICC’s existing fundsonly settlement process, a Sponsored
Member or Sponsoring Member that has
received a haircut at the Start Leg of a
Sponsored Member Trade would be
required to transfer an amount of cash
equal to that haircut (plus or minus any
interim mark-to-market movements) on
the next Business Day after the Start Leg
has settled. This would frustrate the
purpose of the haircut as between the
Sponsoring Member and Sponsored
Member. Specifically, if the haircut is
returned before final settlement of a
Sponsored Member Trade, the party that
was supposed to retain the haircut for
the duration of the trade would cease to
be overcollateralized, thus defeating the
contractual intent of the parties.42
39 Sponsoring Members interested in such relief
should discuss this matter with their accounting
experts.
40 Rule 13, supra note 3.
41 Id.
42 Because the Schedule of Timeframes in the
Rules provides for intraday funds-only settlement
amounts to be calculated using each Member’s
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In order to ensure that haircuts are not
returned until final settlement, FICC
proposes to amend Rule 3A and Rule 1.
Specifically, FICC proposes to amend
Section 9(a) of Rule 3A to provide that,
if the parties to a Sponsored Member
Trade agree for such Sponsored Member
Trade to have a haircut, then any FundsOnly Settlement Amount applicable to
such Sponsored Member Trade that
includes a Collateral Mark would be
calculated without regard for the
Collateral Mark. Such Collateral Mark
would be replaced by either a Haircut
Deficit or Haircut Surplus. A ‘‘Haircut
Deficit’’ would exist if the amount by
which the Market Value as of the
settlement date of the Start Leg
exceeded the Contract Value of the
Close Leg (the ‘‘Initial Haircut’’) is
greater than the amount by which the
Market Value as of the time of
measurement exceeds the Contract
Value of the Close Leg (the ‘‘Current
Haircut’’). Any Haircut Deficit would be
payable by the Member party with a Net
Long Position. A ‘‘Haircut Surplus’’
would exist if the Current Haircut
exceeds the Initial Haircut, and any
Haircut Surplus would be payable by
the Member party with a Net Short
Position. FICC also proposes to amend
Section 9(a) of Rule 3A to make clear
that any Initial Haircut would be as
agreed between the parties to the
Sponsored Member Trade, and that
FICC would not be under any obligation
to verify the parties’ agreement with
respect to any Initial Haircut, and its
calculation of the Initial Haircut would
be conclusive and binding on the
parties.
For example, if on initial settlement of
a Sponsored Member Trade a Sponsored
Member transferred $98 in cash and
received Eligible Securities worth
$100,43 the Initial Haircut for such
Sponsored Member Trade would be $2
(i.e., Market Value as of the settlement
date of the Start Leg of $100 minus
Contract Value of the Close Leg of $98).
If on the next Business Day after initial
settlement the value of the Eligible
Securities increases in value to $101,
then the Current Haircut on the
Sponsored Member Trade on such
positions as of noon on the relevant Business Day,
FICC’s existing funds-only settlement process will
not materially affect haircuts on overnight
Sponsored Member Trades that are submitted for
clearing in the afternoon. Nonetheless, FICC
believes that applying the same Funds-Only
Settlement calculations to overnight and term repo
activity would help promote consistency across
Sponsored Member Trades.
43 For the sake of simplicity, this example
excludes accrued interest and thus assumes that the
amount of cash transferred at settlement of the Start
Leg equals the amount of cash due to be transferred
at the Close Leg.
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Business Day would be $3 (i.e., Market
Value as of the time of measurement of
$101 minus Contract Value of the Close
Leg of $98), and there would be a
Haircut Surplus of $1 (i.e., Current
Haircut of $3 minus the Initial Haircut
of $2) that would be owing to FICC by
the Sponsored Member, as the Member
party with the Net Short Position.
Similarly, if in the same example, the
value of the Eligible Securities
decreased from $100 to $99 on the next
Business Day after initial settlement,
then the Current Haircut on the
Sponsored Member Trade on such
Business Day would be $1 (i.e., Market
Value of $99 as of the time of
measurement minus Contract Value of
the Close Leg of $98) and there would
be a Haircut Deficit of $1 (i.e., Initial
Haircut of $2 minus the Current Haircut
of $1) that would be owing to FICC by
the Sponsoring Member, as the Member
party with the Net Long Position.
FICC would also revise Rule 1 to add
new defined terms; these new defined
terms are related to the proposed
clarifications to Rule 3A described in
the paragraph above. FICC would add
the following new defined terms: (i)
Current Haircut, (ii) Haircut Deficit, (iii)
Haircut Surplus and (iv) Initial Haircut.
FICC believes that the proposed
changes to Rule 3A and Rule 1
described above would allow a
Sponsoring Member and its Sponsored
Member who intend for one of those
two parties to remain overcollateralized
for the duration of a Sponsored Member
Trade to transfer a haircut between each
other and allow such haircut to remain
with the intended party until final
settlement of the Sponsored Member
Trade.
(iv) Proposed Correction, Clarifications
and Conforming Changes
FICC proposes to make a correction as
well as certain clarifications and
conforming changes to Rule 3A, as
further described below.
(A) Proposed Clarifications to Sections
8(c) and 9(b) of Rule 3A
FICC proposes to make certain
clarifications to Section 8(c) of Rule 3A
related to proposed Section 18
described in Item II(A)1(ii) above.
First, FICC is proposing to add a
parenthetical to Section 8(c) clarifying
that the operational netting provisions
of Section 8(b) do not substantively
modify a Sponsored Member’s
obligations to FICC. As noted above,
Section 8(b) provides that, for
operational convenience, FICC
calculates a single Net Settlement
Position and Fail Net Settlement
Position in each CUSIP for the
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1359
Sponsoring Member’s Sponsoring
Member Omnibus Account. Section
8(c), in turn, provides that each
Sponsored Member shall satisfy its
‘‘allocable portion’’ of the Deliver
Obligations and Receive Obligations
established for the Sponsoring Member
Omnibus Account.
Neither Section 8(b) nor Section 8(c)
modifies the obligations of any
Sponsored Member; those provisions
are simply designed for operational
convenience. Each Sponsored Member
still remains responsible for its Deliver
Obligations to and Receive Obligations
from FICC, which are calculated in
accordance with Section 7 of Rule 3A.
The Sponsored Member’s ‘‘allocable
portion’’ of the Deliver Obligations and
Receive Obligations of the Sponsoring
Member Omnibus Account will always
equal its Deliver Obligations to and
Receive Obligations from FICC, as
calculated under Section 7 of Rule 3A.
Therefore, in order to eliminate doubt
regarding the extent of the Sponsored
Member’s obligations upon a
termination and liquidation of a
Sponsored Member’s positions pursuant
to proposed Section 18, FICC is
proposing to add a parenthetical to
Section 8(c) to make clear that a
Sponsored Member’s ‘‘allocable
portion’’ of the obligations established
for the Sponsoring Member Omnibus
Account are the obligations of the
Sponsored Member, as calculated in
Section 7 of Rule 3A.
FICC is also proposing to add
language at the end of Sections 8(c) and
9(b) to clarify that, if a Sponsoring
Member satisfies the net Deliver
Obligations and Receive Obligations or
the net Funds-Only Settlement Amount
obligations of its Sponsoring Member
Omnibus Account, including through
the setoff described in proposed Section
18, before the Sponsoring Member
receives corresponding performance
from the Sponsored Member, such
satisfaction would constitute
performance by the Sponsoring Member
under the Sponsoring Member Guaranty
with respect to the relevant Sponsored
Member’s allocable portion of the
Sponsoring Member Omnibus Account
Deliver Obligations and Receive
Obligations or Funds-Only Settlement
Amount obligations.
If a termination and liquidation under
proposed Section 18 were to occur, the
Sponsoring Member would be required
to perform on behalf of the Sponsored
Member under the Sponsoring Member
Guaranty. The clarification described
above is designed to ensure that, when
the Sponsoring Member effects such
performance, it would be entitled to
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reimbursement from the Sponsored
Member.
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(B) Proposed Correction, Clarifications
and Conforming Changes to Section 9 of
Rule 3A
FICC also proposes to make a
correction as well as certain
clarifications and conforming changes to
Rule 3A. The proposed correction,
clarifications and conforming changes
are related to the clarifications
described in Item II(A)1(iii) above with
respect to the haircut.
To enhance clarity, FICC proposes to
make certain structural changes to Rule
3A, Section 9. Specifically, FICC
proposes to move language from current
subsection (b) of Section 9 and make it
subsection (c). This, in turn, would
require conforming changes to re-letter
original Sections 9(c) and 9(d) to 9(d)
and 9(e), respectively. FICC also
proposes to make a conforming
grammatical change by deleting ‘‘such’’
and replacing it with ‘‘the’’ in the first
sentence of proposed subsection (c).
FICC also proposes to revise proposed
Section 9(c) of Rule 3A to clarify that
the Sponsored Member is responsible
for satisfying the allocable portion of the
Funds-Only Settlement Amount
calculated for the Sponsoring Member
Omnibus Account.
2. Statutory Basis
FICC believes these proposed changes
are consistent with the requirements of
the Act, and the rules and regulations
applicable to a registered clearing
agency. Specifically, FICC believes that
the proposed changes are consistent
with Section 17A(b)(3)(F) of the Act 44
and Rule 17Ad–22(e)(23)(i),45 as
promulgated under the Act, for the
reasons stated below.
Section 17A(b)(3)(F) of the Act
requires, in part, that the Rules be
designed to (i) remove impediments to
and perfect the mechanism of a national
system for the prompt and accurate
clearance and settlement of securities
transactions and (ii) promote the prompt
and accurate clearance and settlement of
securities transactions.46
FICC believes that the proposed
changes described in Item II(A)1(ii)
above, i.e., to facilitate the submission
of term repo activity through the Service
by providing a mechanism by which a
Sponsoring Member may cause the
termination and liquidation of a
Sponsored Member’s positions arising
from Sponsored Member Trades
between the Sponsoring Member and its
44 15
U.S.C. 78q–1(b)(3)(F).
CFR 240.17Ad–22(e)(23)(i).
46 15 U.S.C. 78q–1(b)(3)(F).
Sponsored Member that have been
novated to FICC, are designed to remove
certain impediments to and perfect the
mechanism of a national settlement
system for the prompt and accurate
clearance and settlement of securities
transactions. In particular, FICC believes
that providing a mechanism by which a
Sponsoring Member may cause the
termination and liquidation of a
Sponsored Member’s positions arising
from Sponsored Member Trades
between the Sponsoring Member and its
Sponsored Member that have been
novated to FICC would give Sponsoring
Members greater ability to manage the
risks associated with Sponsored
Member Trades, particularly Sponsored
Member Trades with a scheduled final
settlement date beyond the next
Business Day after the initial settlement
date. Such effective risk management
would reduce the risk of a Sponsoring
Member failure, which could otherwise
disrupt the prompt and accurate
clearance and settlement of Sponsored
Member Trades and other transactions
submitted to FICC. As described above,
the absence of the ability on the part of
Sponsoring Members to terminate and
liquidate such Sponsored Member
positions is currently an impediment
that discourages term repo activity
within the Service. The proposal to
provide Sponsoring Members with that
ability would remove the impediment,
consistent with Section 17A(b)(3)(F) of
the Act.47
FICC also believes the proposed
changes are designed to promote the
prompt and accurate clearance and
settlement of securities transactions. By
allowing Sponsoring Members to
manage risks associated with Sponsored
Member Trades more effectively, FICC
believes the proposed changes would
enable Sponsoring Members to submit a
greater number of securities transactions
to be cleared and settled by a central
counterparty. In particular, FICC
believes Sponsoring Members would be
able to submit to FICC more term repo
activity. FICC’s clearance and settlement
of such term repo activity would
promote the prompt and accurate
clearance and settlement of securities
transactions by increasing the number of
transactions subject to FICC’s risk
management and guaranty of settlement.
FICC believes the proposed changes
described in Item II(A)1(iii) above, i.e.,
to facilitate the submission of term repo
activity through the Service by revising
how FICC calculates the funds-only
settlement obligations of Sponsored
Members and Sponsoring Members with
respect to Sponsored Member Trades
that have haircuts in order to ensure
that such calculation does not result in
a return of the haircuts until final
settlement, are designed to promote the
prompt and accurate clearance and
settlement of securities transactions. As
described above, FICC believes these
clarifications would honor the
contractual intent of the Sponsoring
Members and their Sponsored Members
to transfer haircuts between each other
for Sponsored Member Trades. FICC
believes that the proposed change to the
calculation (resulting in the return of
haircuts at final settlement only) may
encourage Sponsoring Members to
submit a greater number of securities
transactions to be cleared and settled by
FICC, and in particular, term repo
activity. As described above, FICC’s
clearance and settlement of such term
repo activity would promote the prompt
and accurate clearance and settlement of
securities transactions by increasing the
number of transactions subject to FICC’s
risk management and guaranty of
settlement. Moreover, the current
calculation of the funds-only settlement
obligations of Sponsored Members and
Sponsoring Members is currently an
impediment that discourages term repo
activity within the Service. The
proposal described in Item II(A)1(iii)
above would remove the impediment,
consistent with Section 17A(b)(3)(F) of
the Act.48
FICC believes the proposed
correction, clarifications, and
conforming changes described in Item
II(A)1(iv) above are also designed to
promote the prompt and accurate
clearance and settlement of securities
transactions by enhancing clarity and
transparency regarding the Service.
Having transparent and clear provisions
regarding the Service would enable
Members to better understand the
operation of the Service and would
provide Members with increased
predictability and certainty regarding
their rights and obligations. FICC
believes that this increased
predictability and certainty regarding
their rights and obligations may
encourage Sponsoring Members to
submit a greater number of securities
transactions to be cleared and settled by
FICC, and in particular, term repo
activity. FICC’s clearance and settlement
of such term repo activity would
promote the prompt and accurate
clearance and settlement of securities
transactions by increasing the number of
transactions subject to FICC’s risk
management and guaranty of settlement.
Therefore, FICC believes the proposed
correction, clarifications, and
45 17
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conforming changes described in Item
II(A)1(iv) above are designed to promote
the prompt and accurate clearance and
settlement of securities transactions.
Rule 17Ad–22(e)(23)(i) under the Act
requires FICC to establish, implement,
maintain, and enforce written policies
and procedures reasonably designed to
publicly disclose all relevant rules and
material procedures.49 FICC believes
that the proposed changes described in
Item II(A)1(ii) above would establish a
clear and transparent mechanism by
which a Sponsoring Member may
terminate and liquidate the positions of
a Sponsored Member. Having a clear
mechanism for such termination and
liquidation would allow Sponsoring
Members and Sponsored Members to
understand the circumstances in which
a Sponsored Member’s positions may be
terminated and liquidated and how
such termination and liquidation would
occur. FICC also believes that the
proposed rule changes described in Item
II(A)1(iii) above would enhance clarity
and transparency regarding the fundsonly settlement obligations of
Sponsored Members with respect to any
term repo activity. Specifically, the
proposed changes would revise how
FICC calculates the funds-only
settlement obligations of Sponsored
Members and Sponsoring Members with
respect to Sponsored Member Trades
that have haircuts in order to ensure
that such calculation does not result in
a return of the haircuts until final
settlement. FICC believes that these
proposed changes would provide
enhanced clarity to Sponsoring
Members and Sponsored Members
regarding their rights and obligations as
well as the rights and obligations of
FICC. Additionally, the proposed
correction, clarifications, and
conforming changes described in Item
II(A)1(iv) above would add further
clarity to the Rules. FICC believes the
proposal would ensure that the Rules
remain clear and accurate, and facilitate
Members’ understanding of the Rules,
and provide Members with increased
predictability and certainty regarding
their obligations. As such, FICC believes
that these proposed changes are
consistent with Rule 17Ad–22(e)(23)(i)
under the Act.50
(B) Clearing Agency’s Statement on
Burden on Competition
FICC believes that the proposed
changes in Item II(A)1(ii) above could
have an impact on competition by
promoting and burdening competition.
The proposal to allow a Sponsoring
Member to control the termination and
liquidation of its Sponsored Member’s
FICC-cleared positions could promote
competition by increasing the ability of
Sponsoring Members to more effectively
manage the risks of Sponsored Member
Trades, particularly Sponsored Member
Trades with a scheduled final
settlement date beyond the next
Business Day after the initial settlement
date. Such increased risk management
ability, in turn, could cause more
institutions to become Sponsoring
Members, and existing and future
Sponsoring Members to accept a greater
number and variety of Sponsored
Members and Sponsored Member
Trades, including, in particular, term
repo activity. FICC also believes the
proposed changes in Item II(A)1(ii)
above could promote competition by
allowing Sponsoring Members and
Sponsored Members to negotiate the
circumstances in which the Sponsoring
Member could cause the termination
and liquidation of the Sponsored
Member’s positions. The prospect of
negotiation could allow Sponsored
Members to consider various
Sponsoring Members and the terms they
offer.
Conversely, the proposed changes
described in Item II(A)1(ii) above to
allow a Sponsoring Member to control
the termination and liquidation of its
Sponsored Member’s FICC-cleared
positions could burden competition by
applying a different standard for the
termination and liquidation of
Sponsored Members’ FICC-cleared
positions than the standard that applies
to other Members under Rule 22A.51
However, FICC does not believe that the
proposed changes described in Item
II(A)1(ii) above would result in a
significant burden on competition
because the Sponsored Member would
have the ability to negotiate with
possible Sponsoring Members the
circumstances in which the Sponsoring
Member may effectuate a termination
and the methodology it would use in
calculating the liquidation amount.
Regardless of whether the potential
burden on competition discussed in the
previous paragraph is significant, FICC
believes that any burden on competition
that may be created by these proposed
changes would be necessary and
appropriate in furtherance of the
purposes of the Act, as permitted by
Section 17A(b)(3)(I) of the Act.52
FICC believes that any burden on
competition created by the proposed
changes described in Item II(A)1(ii)
above is necessary in furtherance of the
purposes of the Act to (i) remove
impediments to and perfect the
mechanism of a national system for the
prompt and accurate clearance and
settlement of securities transactions and
(ii) promote the prompt and accurate
clearance and settlement of securities
transactions.53 Specifically, FICC
believes that any burden on competition
resulting from allowing a Sponsoring
Member to control the termination and
liquidation of its Sponsored Member’s
FICC-cleared positions would be
necessary in order to provide
Sponsoring Members with greater
ability to manage the risks associated
with Sponsored Member Trades,
particularly term repo activity. As
described in detail in Item II(A)2 above,
FICC believes that providing Sponsoring
Members with greater ability to manage
the risks associated with Sponsored
Member Trades, particularly term repo
activity, would (i) remove impediments
to and perfect the mechanism of a
national system for the prompt and
accurate clearance and settlement of
securities transactions and (ii) promote
the prompt and accurate clearance and
settlement of securities transactions.
Therefore, FICC believes any burden
that is created by these proposed
changes would be necessary in
furtherance of the purposes of the Act,
as permitted by Section 17A(b)(3)(I) of
the Act.54
Furthermore, FICC believes that any
burden on competition resulting from
allowing a Sponsoring Member to
control the termination and liquidation
of its Sponsored Member’s FICC-cleared
positions would be appropriate in
furtherance of the purposes of the Act,
as permitted by Section 17A(b)(3)(I) of
the Act,55 because the proposed changes
would remove the current impediment
whereby the Sponsoring Member is not
unilaterally able to cause the
termination or liquidation of any
Sponsored Member Trades. As stated
above, there is an intermediary
relationship between a Sponsoring
Member and its Sponsored Member,
including the Sponsoring Member’s
liability to FICC for the Sponsored
Member’s performance under the
Sponsoring Member Guaranty, which
does not apply to other Members. FICC
believes this unique relationship
warrants the Sponsoring Member having
control over the termination and
liquidation of its Sponsored Member’s
FICC-cleared positions. Moreover, the
proposed changes would be more
consistent with other intermediated
53 15
49 17
CFR 240.17Ad–22(e)(23)(i).
51 Rule
22A, supra note 3.
52 15 U.S.C. 78q–1(b)(3)(I).
50 Id.
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54 15
U.S.C. 78q–1(b)(3)(F).
U.S.C. 78q–1(b)(3)(I).
55 Id.
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jbell on DSKJLSW7X2PROD with NOTICES
relationships where the intermediary is
typically permitted to terminate and
liquidate the positions of its client that
the intermediary guarantees if an event
of default or other similar circumstance
occurs under the bilateral agreement
between the intermediary and the client.
The current inability to effectuate such
termination and liquidation is
inconsistent with other intermediated
relationships and discourages term repo
activity within the Service. The
proposed changes would enable the
Sponsoring Member to cause the
termination and liquidation of the
Sponsored Member’s positions for
which the Sponsoring Member is
responsible, thereby providing it with
greater ability to manage the risks
associated with Sponsored Member
Trades, particularly term repo activity.
Therefore, FICC believes any burden
that is created by these proposed
changes would be appropriate in
furtherance of the purposes of the Act,
as permitted by Section 17A(b)(3)(I) of
the Act.56
FICC believes that the proposed
changes described in Item II(A)1(iii)
above to facilitate the submission of
term repo activity through the Service
by revising how FICC calculates the
funds-only settlement obligations of
Sponsored Members and Sponsoring
Members with respect to Sponsored
Member Trades with haircuts could
promote competition. This is because
the proposed changes would honor the
parties’ contractual intent (as described
in Item II(A)1(iii) above) and, thus,
encourage more term repo activity
within the Service. As such, FICC
believes that these proposed changes
could promote competition.
In addition, FICC does not believe
that the proposed correction,
clarifications, and conforming changes
in Item II(A)1(iv) above would have an
impact on competition. These changes
would simply provide additional
clarity, transparency and consistency to
the Rules and not affect Members’ rights
and obligations. As such, FICC believes
that these proposed changes would not
have any impact on competition.
(C) Clearing Agency’s Statement on
Comments on the Proposed Rule
Change Received From Members,
Participants, or Others
FICC reviewed the proposed rule
change with its Sponsoring Members in
order to benefit from their expertise.
Written comments relating to this
proposed rule change have not been
received from the Sponsoring Members
or any other person. FICC will notify the
56 Id.
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Commission of any written comments
received by FICC.
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
such 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 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 rule-comments@
sec.gov. Please include File Number SR–
FICC–2019–007 on the subject line.
Paper Comments
• Send paper comments in triplicate
to Secretary, Securities and Exchange
Commission, 100 F Street NE,
Washington, DC 20549.
All submissions should refer to File
Number SR–FICC–2019–007. 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
PO 00000
Frm 00065
Fmt 4703
Sfmt 4703
10:00 a.m. and 3:00 p.m. Copies of the
filing also will be available for
inspection and copying at the principal
office of FICC and on DTCC’s website
(https://dtcc.com/legal/sec-rulefilings.aspx). 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–FICC–
2019–007 and should be submitted on
or before January 31, 2020.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.57
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020–00203 Filed 1–9–20; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–87892; File No. SR–C2–
2019–028]
Self-Regulatory Organizations; Cboe
C2 Exchange, Inc.; Notice of Filing and
Immediate Effectiveness of a Proposed
Rule Change To Amend the Opening
Triggers for Its Opening Rotation
Process for Equity Options
January 6, 2020
Pursuant to Section 19(b)(1) of the
Securities Exchange Act of 1934 (the
‘‘Act’’),1 and Rule 19b–4 thereunder,2
notice is hereby given that on December
23, 2019, Cboe C2 Exchange, Inc. (the
‘‘Exchange’’ or ‘‘C2’’) filed with the
Securities and Exchange Commission
(the ‘‘Commission’’) the proposed rule
change as described in Items I and II
below, which Items have been prepared
by the Exchange. The Exchange filed the
proposal as a ‘‘non-controversial’’
proposed rule change pursuant to
Section 19(b)(3)(A)(iii) of the Act 3 and
Rule 19b–4(f)(6) thereunder.4 The
Commission is publishing this notice to
solicit comments on the proposed rule
change from interested persons.
I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule Change
The Exchange proposes to amend
Rule 6.11 (Opening Auction Process) in
connection with the opening triggers for
57 17
CFR 200.30–3(a)(12).
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
3 15 U.S.C. 78s(b)(3)(A)(iii).
4 17 CFR 240.19b–4(f)(6).
1 15
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[Federal Register Volume 85, Number 7 (Friday, January 10, 2020)]
[Notices]
[Pages 1354-1362]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-00203]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-87896; File No. SR-FICC-2019-007]
Self-Regulatory Organizations; Fixed Income Clearing Corporation;
Notice of Filing of Proposed Rule Change Regarding the Close-Out and
Funds-Only Settlement Processes Associated With the Sponsoring Member/
Sponsored Member Service
January 6, 2020.
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 December 27, 2019, Fixed Income Clearing Corporation (``FICC'')
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 the clearing agency. 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 consists of amendments to the FICC
Government Securities Division (``GSD'') Rulebook (``Rules'') \3\ in
order to facilitate the submission of repurchase transactions
(``repos'') with a scheduled final settlement date beyond the next
Business Day after the initial settlement date (``term repo activity'')
through the Sponsoring Member/Sponsored Member Service (``Service'')
\4\ by: (i) Providing a mechanism by which a Sponsoring Member may
cause the termination and liquidation of a Sponsored Member's positions
arising from Sponsored Member Trades between the Sponsoring Member and
its Sponsored Member that have been novated to FICC and (ii) revising
how FICC calculates the funds-only settlement obligations of Sponsored
Members and Sponsoring Members with respect to Sponsored Member Trades
that have haircuts \5\ in order to ensure that the calculation does not
result in a return of the haircuts until final settlement. In addition,
the proposed rule change would make a correction and certain
clarifications and conforming changes, as described in greater detail
below.
---------------------------------------------------------------------------
\3\ Capitalized terms not defined herein are defined in the
Rules, available at https://www.dtcc.com/~/media/Files/Downloads/
legal/rules/ficc_gov_rules.pdf.
\4\ This Service is primarily governed by Rule 3A. Supra note 3.
\5\ The term haircut shall refer to the amount of collateral in
excess of the value of the cash due to the Sponsored Member client
at the Close Leg.
---------------------------------------------------------------------------
II. Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change
In its filing with the Commission, the clearing agency 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. The clearing agency has prepared summaries,
set forth in sections A, B, and C below, of the most significant
aspects of such 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 amend the Rules in
order to facilitate the submission of term repo activity through the
Service by: (i) Providing a mechanism by which a Sponsoring Member may
cause the termination and liquidation of a Sponsored Member's positions
arising from Sponsored Member Trades between the Sponsoring Member and
its Sponsored Member that have been novated to FICC and (ii) revising
how FICC calculates the funds-only settlement obligations of Sponsored
Members and Sponsoring Members with respect to Sponsored Member Trades
that have haircuts in order to ensure that the calculation does not
result in a return of the haircuts until final settlement. In addition,
the proposed rule change would make a correction and certain
clarifications and conforming changes, as described in greater detail
below.
(i) Background
Under Rule 3A (Sponsoring Members and Sponsored Members), certain
Netting Members are permitted to sponsor, as ``Sponsoring Members,''
qualified institutional buyers as defined by Rule 144A \6\ under the
Securities Act of 1933, as amended (``Securities Act''),\7\ and certain
legal entities that, although not organized as entities specifically
listed in paragraph (a)(1)(i) of Rule 144A under the Securities Act,
satisfy the financial requirements necessary to be qualified
institutional buyers as specified in that paragraph (i.e., Sponsored
Members) into GSD membership.
---------------------------------------------------------------------------
\6\ 17 CFR 230.144A.
\7\ 15 U.S.C. 77a et seq.
---------------------------------------------------------------------------
Under Rule 3A, a Sponsoring Member is permitted to submit to FICC,
for comparison, novation, and netting, certain types of eligible
securities transactions between itself and its Sponsored Members
(``Sponsored Member Trades'').\8\ The Sponsoring Member is required to
establish an omnibus account at FICC for its Sponsored Members'
positions arising from such Sponsored Member Trades (``Sponsoring
Member Omnibus Account''),\9\ which is separate from the Sponsoring
Member's regular netting accounts. For operational and administrative
purposes, FICC interacts solely with the Sponsoring Member as agent for
purposes of the day-to-day satisfaction of its Sponsored Members'
obligations to or from FICC, including their securities and funds-only
settlement obligations.\10\ Additionally, for operational convenience,
pursuant to Section 8(b) of Rule 3A,\11\ FICC calculates a single Net
Settlement
[[Page 1355]]
Obligation and Fail Net Settlement Obligation in each CUSIP for the
Sponsoring Member Omnibus Account and associated Deliver Obligations
and Receive Obligations.\12\ Such calculations do not affect the
Sponsored Member's obligations, which are calculated in accordance with
Section 7 of Rule 3A \13\ in a manner that is generally consistent with
how FICC calculates the obligations of other Members.
---------------------------------------------------------------------------
\8\ Rule 1, definition of ``Sponsored Member Trade''; Rule 3A,
Sections 6(b) and 7(a), supra note 3. In March 2019, the Commission
approved FICC rule filing SR-FICC-2018-013, Securities Exchange Act
Release No. 85470 (March 29, 2019), 84 FR 13328 (April 4, 2019),
which expanded the definition of ``Sponsored Member Trade'' to
include certain types of eligible securities transactions between a
Sponsored Member and a Netting Member other than the Sponsoring
Member. This proposed rule change would apply only to Sponsored
Member Trades between the Sponsoring Member and its Sponsored
Member.
\9\ Rule 1, definition of ``Sponsoring Member Omnibus Account,''
supra note 3.
\10\ Rule 3A, Sections 5, 6, 7, 8, and 9, supra note 3.
\11\ Rule 3A, Section 8(b), supra note 3.
\12\ See Rule 3A, Section 7(a), supra note 3.
\13\ Rule 3A, Section 7, supra note 3.
---------------------------------------------------------------------------
Sponsoring Members are also responsible for providing FICC with a
Sponsoring Member Guaranty \14\ whereby the Sponsoring Member
guarantees to FICC the payment and performance by its Sponsored Members
of their obligations under the Rules.\15\ Although Sponsored Members
are principally liable to FICC for their own settlement obligations
under the Rules, the Sponsoring Member Guaranty requires the Sponsoring
Member to satisfy those settlement obligations on behalf of a Sponsored
Member if the Sponsored Member defaults and fails to perform its
settlement obligations.
---------------------------------------------------------------------------
\14\ Section 2(c) of Rule 3A provides: ``Each Netting Member to
become a Sponsoring Member shall also sign and deliver to [FICC] a
Sponsoring Member Guaranty . . . .'' A ``Sponsoring Member
Guaranty'' is defined in Rule 1 as ``a guaranty . . . that a
Sponsoring Member delivers to [FICC] whereby the Sponsoring Member
guarantees to [FICC] the payment and performance by its Sponsored
Members of their obligations under [the] Rules, including, without
limitation, all of the securities and funds-only settlement
obligations of its Sponsored Members under [the] Rules.'' Supra note
3.
\15\ Rule 3A, Section 2(c), supra note 3.
---------------------------------------------------------------------------
Although Rule 3A currently permits Sponsoring Members to submit
term repo activity within the Service,\16\ most of the Sponsored Member
Trades submitted to FICC by Sponsoring Members have a scheduled
settlement date of the next Business Day after the initial settlement
date, i.e., overnight repo. FICC believes that certain provisions of
the Rules discourage the submission of term repo activity within the
Service, as discussed more fully below.
---------------------------------------------------------------------------
\16\ Rule 3A, Section 5, supra note 3.
---------------------------------------------------------------------------
(ii) Proposed Change To Facilitate the Submission of Term Repo Activity
Through the Service by Providing a Mechanism by Which a Sponsoring
Member May Cause the Termination and Liquidation of a Sponsored
Member's Positions Arising From Sponsored Member Trades Between the
Sponsoring Member and its Sponsored Member That Have Been Novated to
FICC
(A) Existing Close-Out Framework
The current Rules allow only FICC to cause the termination and
liquidation of a Sponsored Member's positions, even though the relevant
Sponsoring Member is responsible for the Sponsored Member's payment and
performance in respect of such positions. Rule 22A governs any such
termination and liquidation by FICC.\17\ That rule provides that, if
FICC ceases to act for a Member, including a Sponsored Member, FICC
will close-out the Sponsored Member's positions the same way it would
close-out the positions of any other Member for which FICC has ceased
to act: By (i) establishing a Final Net Settlement Position for each
Eligible Netting Security with a distinct CUSIP equal to the net of all
outstanding deliver and receive obligations of the Member in respect of
the security and (ii) taking market action to liquidate such Final Net
Settlement Position.\18\
---------------------------------------------------------------------------
\17\ Rule 3A, Sections 13(c) and 15(b), supra note 3.
\18\ Rule 22A, Section 2(b), supra note 3.
---------------------------------------------------------------------------
A Sponsoring Member is required to advise FICC if circumstances
have arisen that require FICC to cease to act for a Sponsored
Member.\19\ However, a Sponsoring Member is not unilaterally able to
cause the termination or liquidation of any Sponsored Member Trades.
This limitation is inconsistent with other intermediated relationships.
In the context of those relationships, the clearing member or similar
intermediary is typically permitted to terminate and liquidate the
positions of its client that the intermediary guarantees if an event of
default or other similar circumstance occurs under the customer or
similar bilateral agreement between the intermediary and the
client.\20\ The intermediary's ability to cause such termination and
liquidation is not dependent on a third party's determination that a
certain circumstance or event has occurred. Rather, the intermediary
and the client are able to agree bilaterally to the circumstances and
events that give rise to an event of default allowing the intermediary
to terminate or liquidate the guaranteed positions.
---------------------------------------------------------------------------
\19\ Rule 3A, Section 15(a), supra note 3.
\20\ For example, in the context of futures and cleared swaps, a
futures commission merchant (``FCM'') is generally permitted to
terminate and liquidate positions that the FCM carries for a
customer at a derivatives clearing organization (``DCO'') following
the customer's default by either entering into offsetting positions
in the FCM's customer account at the DCO or terminating the position
in the customer account and establishing an identical position in
the FCM's house account at the DCO. See, e.g., ICE Clear Credit Rule
304(c), available at https://www.theice.com/publicdocs/clear_credit/ICE_Clear_Credit_Rules.pdf.
---------------------------------------------------------------------------
The inability of a Sponsoring Member to trigger the termination and
liquidation of a Sponsored Member's positions, particularly term repo
activity, may result in additional capital requirements for Sponsoring
Members and their parent organizations under regulatory standards that
implement the recommendations of the Basel Committee on Banking
Supervision (the ``BCBS''). This is because, if a Sponsoring Member
cannot trigger the termination and liquidation of a Sponsored Member's
positions, it is less able to stop the effective extension of credit to
the client under the Sponsoring Member Guaranty.\21\ In addition, the
inability to terminate a Sponsored Member's positions limits the extent
to which a Sponsoring Member can use certain risk management tools,
such as cross-defaults or other early warning triggers, that allow a
Sponsoring Member to close-out the Sponsored Member's positions and
stem losses before the Sponsored Member becomes subject to insolvency
proceedings or is unable to pay its debts as they become due.\22\
---------------------------------------------------------------------------
\21\ More specifically, FICC's understanding is that in order
for a Sponsoring Member subject to capital requirements that
implement the BCBS standards to apply the favorable capital
treatment to its obligations under the Sponsoring Member Guaranty
that it currently applies to bilateral repos, the Sponsoring Member
must conclude with a well-founded basis that, among other things, it
will be able to terminate the Sponsored Member Trades subject to the
Sponsoring Member Guaranty. See, e.g., 12 CFR 3.2, 3.3(e), 217.2,
217.3(e), 324.2, and 324.3(e). While a lesser standard applies if
the guaranteed Sponsored Member Trades are limited to overnight
repos, FICC believes that applying the same termination and
liquidation mechanism to overnight and term repo activity would help
to clarify the capital treatment for both types of activity and
promote consistency across Sponsored Member Trades. Sponsoring
Members interested in such relief should discuss this matter with
their regulatory capital experts.
\22\ A ``cross-default'' is a provision that allows one party to
exercise default rights if its customer or counterparty defaults
under another agreement. Other early warning triggers include credit
rating downgrades, breaches of representations, and covenants
limiting a party's ability to incur debt or suffer liens on its
property. If a Sponsoring Member is unable to initiate the
termination of a Sponsored Member's Sponsored Member Trades, it
cannot use these ``early warning triggers,'' but must instead wait
for the occurrence of a circumstance that gives FICC the ability to
cease to act for the Sponsored Member. By that point, however, the
Sponsoring Member may have significant uncovered exposure to the
Sponsored Member.
---------------------------------------------------------------------------
[[Page 1356]]
In addition to giving FICC the exclusive ability to cause the
termination and liquidation of a Sponsored Member's positions, Rule 22A
provides for FICC to control such termination and liquidation of a
Sponsored Member's Final Net Settlement Positions.\23\ When FICC ceases
to act for a Member, it generally looks to buy, borrow, reverse in,
sell, lend, or repo out securities, so as to facilitate its ability to
settle the Final Net Settlement Positions.\24\
---------------------------------------------------------------------------
\23\ Rule 22A, Section 2(b), supra note 3.
\24\ Id.
---------------------------------------------------------------------------
FICC's control of such termination and liquidation of Sponsored
Member Trades could expose the Sponsoring Member to certain risks that
other intermediaries do not typically face. This is because, in the
event FICC ceases to act for a Sponsored Member under Rule 22A,\25\ the
Sponsoring Member will generally enter into one or more transactions
with third parties in order to hedge its performance obligations under
the Sponsoring Member Guaranty. In most other intermediated
relationships, the price at which the intermediary hedges or closes out
the exposure under the customer's defaulted positions typically informs
the pricing of those positions and thus the amount of the
intermediary's claim against the customer. However, if FICC, rather
than the Sponsoring Member, calculates the price of the Sponsored
Member's positions, there may be differences arising from the timing of
execution or the type of liquidation or hedging transactions used by
FICC and/or the use of different pricing sources by FICC, all of which
could limit the ability of the Sponsoring Member to recover the losses
it incurs in entering into its hedging transactions.
---------------------------------------------------------------------------
\25\ Rule 22A, supra note 3.
---------------------------------------------------------------------------
(B) Proposed Rule Change
FICC is proposing to amend Rule 3A to add a new Section 18. This
new section would allow a Sponsoring Member to cause the termination
and liquidation of a Sponsored Member's positions arising from
Sponsored Member Trades between the Sponsoring Member and the Sponsored
Member for which the Sponsoring Member is responsible. The section
would not, however, limit the ability of FICC to cease to act for a
Sponsored Member.
In the event (i) the Sponsoring Member triggers the termination of
a Sponsored Member's positions or (ii) FICC ceases to act for the
Sponsored Member and the Sponsoring Member does not continue to perform
the obligations of the Sponsored Member, both the Sponsored Member's
positions and the Sponsoring Member's corresponding positions arising
from the Sponsored Member Trades between the Sponsoring Member and the
Sponsored Member would be terminated. Thereupon, the Sponsoring Member
would calculate a net liquidation value of such terminated positions,
which liquidation value would be paid either to or by the Sponsored
Member by or to the Sponsoring Member. FICC would not, as a practical
matter, be involved in such settlement and would not need to take any
market action because the termination of the Sponsored Member's
positions and the corresponding Sponsoring Member's positions would
leave FICC flat. Additionally, the Sponsoring Member would indemnify
FICC for any claim by a Sponsored Member arising out of the Sponsoring
Member's calculation of the net liquidation value.
(C) Benefits of the Proposal
By allowing Sponsoring Members to terminate and liquidate a
Sponsored Member's positions that arise from Sponsored Member Trades
between the Sponsored Member and the Sponsoring Member that have been
novated to FICC, FICC believes that the new Section 18 would align the
Service to other intermediated relationships and allow Sponsoring
Members to more effectively manage the risks of Sponsored Member
Trades, particularly term repo activity. Sponsoring Members and their
Sponsored Members would be able to agree with one another in their
bilateral documentation on the circumstances in which the Sponsoring
Member would be permitted to cause the termination of the Sponsored
Member's positions. Such agreement would not affect FICC's ability to
cease to act for a Sponsored Member in accordance with existing Rules
3A, 21 and 22.\26\
---------------------------------------------------------------------------
\26\ Rules 3A, 21 and 22, supra note 3.
---------------------------------------------------------------------------
FICC believes that providing Sponsoring Members with greater
ability to manage their risks associated with Sponsored Member Trades
would allow Sponsoring Members to submit to FICC more Sponsored Member
Trades, including, in particular, term repo activity. FICC believes
that having more centrally cleared term repo transactions would promote
the prompt and accurate clearance and settlement of securities
transactions because more securities transactions would benefit from
FICC's risk management and guaranty of settlement.
Further, FICC believes that allowing the Sponsoring Member to take
market action would decrease the price risks currently faced by
Sponsoring Members (as described in the last paragraph of Item
II(A)1(ii)(A) above) without increasing the litigation risk to FICC
arising from a Sponsored Member default because the Sponsoring Member
would indemnify FICC for any losses or expense arising from a Sponsored
Member's claim related to the Sponsoring Member's calculation of any
liquidation amount.
(D) Proposed Changes to the Rules
Addition of New Section 18 to Rule 3A (Sponsoring Members and Sponsored
Members)
FICC is proposing to add a new Section 18 to Rule 3A, which would
(i) permit a Sponsoring Member to cause the termination and liquidation
of a Sponsored Member's positions arising from Sponsored Member Trades
between the Sponsoring Member and the Sponsored Member and (ii) govern
how the termination and liquidation would be effectuated. Section 18
would contain the following subsections.
Subsection (a)
Subsection (a) would clarify the scope of positions to which
proposed Section 18 applies. It would state that Section 18 applies
only to positions arising from Sponsored Member Trades within the
meaning of subsection (a) of the Sponsored Member Trade definition.\27\
Subsection (a) of the Sponsored Member Trade definition \28\
encompasses eligible transactions between a Sponsored Member and its
Sponsoring Member. Sponsored Member Trades that are between a Sponsored
Member and a third-party Member would not be within the scope of
Section 18 because, in that instance, there would not be a
corresponding Sponsoring Member position to terminate.
---------------------------------------------------------------------------
\27\ Rule 1, supra note 3.
\28\ Id.
---------------------------------------------------------------------------
Subsection (a) would further state that Section 18 would not apply
if either (i) FICC has ceased to act for the relevant Sponsoring Member
or (ii) a Corporation Default has occurred. FICC has discretion in the
event that it ceases to act for a Sponsoring Member to close-out the
positions of Sponsored Members for which the defaulting Sponsoring
Member was responsible or to allow them to settle.\29\ If FICC does
close-out such positions, it will do so in accordance with Rule
22A.\30\ If a Corporation Default has occurred in
[[Page 1357]]
respect of FICC, each Sponsored Member's positions, and all other
Members' positions, will be closed out in accordance with the
provisions of Rule 22B.\31\
---------------------------------------------------------------------------
\29\ Rule 3A, Section 16, supra note 3.
\30\ Rule 22A, supra note 3.
\31\ Rule 22B, supra note 3. In September 2018, the Commission
approved FICC rule filing SR-FICC-2018-008, Securities Exchange Act
Release No. 84255 (September 21, 2018), 83 FR 48890 (September 27,
2018), which amended the Rules to clarify that Rule 22B (Corporation
Default) applies to Sponsored Members.
---------------------------------------------------------------------------
Subsection (b)
Subsection (b) of proposed Section 18 would set out the process by
which a Sponsoring Member or FICC may cause the termination of a
Sponsored Member's positions. It would provide that the Sponsoring
Member or FICC may cause such termination by delivering a notice to
FICC or the Sponsoring Member, respectively. FICC anticipates that each
Sponsored Member and Sponsoring Member would agree in the bilateral
documentation between them as to what circumstances or events give rise
to the ability of the Sponsoring Member to deliver a notice to FICC
terminating the Sponsored Member's positions.\32\
---------------------------------------------------------------------------
\32\ It bears noting in this regard that termination of the
Sponsored Member's positions would not be the exclusive mechanism by
which a Sponsoring Member may limit its credit risk. Under Section
2(i) of current Rule 3A, a Sponsoring Member may voluntarily elect
to terminate its status as a Sponsoring Member in respect of one or
more Sponsored Members. Such a termination does not affect the
settlement of the Sponsored Member's existing positions but does
restrict the ability of the Sponsored Member to have its future
trades accepted for novation to FICC through such Sponsoring Member.
The proposed rule change would not affect the functioning of Section
2(i) or the general ability of a Sponsoring Member and the Sponsored
Member to agree on the circumstances of when the Sponsoring Member
may terminate its status as Sponsoring Member for the Sponsored
Member. Rule 3A, Section 2(i), supra note 3.
---------------------------------------------------------------------------
The notice submitted by a Sponsoring Member to FICC (or vice versa)
would cause the termination of all of the positions of the Sponsored
Member that arose from Sponsored Member Trades between the Sponsoring
Member and the Sponsored Member and that have been novated to FICC. The
notice would also cause the termination of the corresponding positions
of the Sponsoring Member (i.e., the positions of the Sponsoring Member
that arose from Sponsored Member Trades between the Sponsoring Member
and the Sponsored Member). The effect of such terminations would be to
leave FICC flat.
Subsection (b) would also provide that the termination of the
Sponsored Member's positions (and the Sponsoring Member's corresponding
positions) would be effected by the Sponsoring Member's establishment
of a final Net Settlement Position for each Eligible Netting Security
with a distinct CUSIP number (``Final Net Settlement Position''). This
provision would align with existing Rule 22A,\33\ which provides for
FICC to calculate such Final Net Settlement Position when it ceases to
act for a Member. As under existing Rule 22A,\34\ the Final Net
Settlement Position would equal the net of all outstanding deliver
obligations and receive obligations of the Sponsored Member or
Sponsoring Member with respect to the relevant security.
---------------------------------------------------------------------------
\33\ Rule 22A, supra note 3.
\34\ Id.
---------------------------------------------------------------------------
Subsection (c)
Subsection (c) of proposed Section 18 would specify how the Final
Net Settlement Positions established pursuant to subsection (b) would
be liquidated (i.e., how such positions would be converted into an
amount payable). It would also provide how the amount payable arising
from the liquidation of the Final Net Settlement Positions would be
discharged.
Subsection (c) would first provide that the Sponsoring Member would
liquidate the Final Net Settlement Positions established pursuant to
subsection (b) by establishing (i) a single liquidation amount in
respect of the Sponsored Member's Final Net Settlement Positions (a
``Sponsored Member Liquidation Amount'') and (ii) a single liquidation
amount in respect of the Sponsoring Member's Final Net Settlement
Positions (a ``Sponsoring Member Liquidation Amount''). The Sponsored
Member Liquidation Amount would be owed either by FICC to the Sponsored
Member or by the Sponsored Member to FICC because it would relate to
the Sponsored Member's Final Net Settlement Positions with FICC, while
the Sponsoring Member Liquidation Amount would be owed either by FICC
to the Sponsoring Member or by the Sponsoring Member to FICC because it
would relate to the Sponsoring Member's Final Net Settlement Positions
with FICC.
Because the Final Net Settlement Positions of the Sponsoring Member
would be identical to, but in the opposite direction of, the Final Net
Settlement Positions of the Sponsored Member, the Sponsored Member
Liquidation Amount would equal the Sponsoring Member Liquidation
Amount. Therefore, if FICC were to owe the Sponsored Member Liquidation
Amount to the Sponsored Member, the Sponsoring Member would owe the
Sponsoring Member Liquidation Amount to FICC. By the same token, if the
Sponsored Member were to owe the Sponsored Member Liquidation Amount to
FICC, FICC would owe the Sponsoring Member the Sponsoring Member
Liquidation Amount. In all instances, FICC would owe and be owed the
same amount of money.
Subsection (c) would also provide how the Sponsoring Member may
calculate the Sponsoring Member Liquidation Amount. It would state that
the Sponsoring Member may calculate the Sponsoring Member Liquidation
Amount based on prevailing market prices of the relevant securities
and/or the gains realized and losses incurred by the Sponsoring Member
in hedging its risk associated with the liquidation of the Sponsoring
Member's Final Net Settlement Positions. Subsection (c) would further
clarify that such Sponsoring Member Liquidation Amount may also take
into account any losses and expenses incurred by the Sponsoring Member
in connection with the liquidation of the positions. This approach
would be broadly consistent with how FICC would calculate an amount
owing by a Member in respect of its Final Net Settlement Positions
under existing Rule 22A.\35\
---------------------------------------------------------------------------
\35\ Id.
---------------------------------------------------------------------------
Subsection (c) would provide that, if a Sponsored Member
Liquidation Amount is due to FICC, the Sponsoring Member would be
obligated to pay such Sponsored Member Liquidation Amount to FICC under
the Sponsoring Member Guaranty and that this obligation would,
automatically and without further action, be set off against the
obligation of FICC to pay the corresponding Sponsoring Member
Liquidation Amount to the Sponsoring Member. By virtue of such setoff,
the Sponsored Member's obligation to FICC would be discharged, as would
FICC's obligation to the Sponsoring Member. The Sponsoring Member
would, however, have a reimbursement claim against the Sponsored Member
in an amount equal to the Sponsored Member Liquidation Amount. This
reimbursement claim would arise as a matter of law by virtue of the
Sponsoring Member's performance under Sponsoring Member Guaranty,
though Sponsoring Members and Sponsored Members may specify terms
related to the reimbursement claim in their bilateral documentation.
FICC would have no rights or obligations in respect of any such
reimbursement claim.
If a Sponsored Member Liquidation Amount were owed by FICC to the
Sponsored Member, subsection (c) would provide for the Sponsoring
Member to satisfy that obligation by
[[Page 1358]]
transferring the Sponsored Member Liquidation Amount to the account at
the Funds-Only Settling Member Bank at which the Sponsoring Member
maintains Funds-Only Settlement Amounts related to its Sponsored Member
Omnibus Account. Subsection (c) would state that, to the extent the
Sponsoring Member makes such a transfer, it will discharge FICC's
obligation to transfer the Sponsored Member Liquidation Amount to the
Sponsored Member and the Sponsoring Member's corresponding obligation
to transfer the Sponsoring Member Liquidation Amount to FICC.
Subsection (d)
Under existing Rule 22A,\36\ FICC is responsible for the
liquidation of a Member's Final Net Settlement Positions and
calculation of an amount owing by or to the Member. Because proposed
Section 18 would provide for the Sponsoring Member, rather than FICC,
to liquidate the Sponsored Member's (and the Sponsoring Member's) Final
Net Settlement Positions and calculate the corresponding amounts owing,
the Sponsoring Member would be required to indemnify FICC in the event
the Sponsored Member makes or asserts any claim relating to such
calculation. Subsection (d) would set forth such indemnity. It would
provide for the Sponsoring Member to indemnify FICC and its officers,
directors, employees, shareholders, agents, and Members for any loss,
liability, or expenses resulting from any claim by a Sponsored Member
relating to the Sponsoring Member's calculation of the Sponsored Member
Liquidation Amount or Sponsoring Member Liquidation Amount.
---------------------------------------------------------------------------
\36\ Id.
---------------------------------------------------------------------------
Subsection (e)
Under Section 8(g) of existing Rule 3A,\37\ each Sponsored Member
grants to FICC a security interest in all assets and property placed by
the Sponsored Member in the possession of FICC in order to secure the
obligations of the Sponsored Member to FICC. This security interest
provides FICC with credit support in the event that it must terminate
and liquidate the Sponsored Member's positions and assert a claim
against the Sponsored Member. However, if proposed Section 18 were to
apply, the obligation of the Sponsored Member to FICC under the
terminated positions would be discharged via the setoff provided for
under subsection (c).
---------------------------------------------------------------------------
\37\ Rule 3A, Section 8(g), supra note 3.
---------------------------------------------------------------------------
Subsection (e) of proposed Section 18 would clarify FICC
acknowledges that a Sponsoring Member may take a security interest in
FICC's obligations to the Sponsored Member. Such security interest
would not impose new obligations on FICC, but could allow the
Sponsoring Member to direct FICC to submit payments due to the
Sponsored Member to the Sponsoring Member, so that the Sponsoring
Member can apply such amounts to the Sponsored Member's unsatisfied
obligations to the Sponsoring Member. Subsection (e) additionally would
provide that, if Section 18 were to apply, FICC's security interest in
the Sponsored Member's assets would be subordinated to the Sponsoring
Member's security interest. As noted above, if Section 18 applied, FICC
would not need to look to the Sponsored Member or its assets for
performance in respect of the positions that are terminated under
Section 18.
(iii) Proposed Change To Facilitate the Submission of Term Repo
Activity Through the Service by Revising How FICC Calculates the Funds-
Only Settlement Obligations of Sponsored Members and Sponsoring Members
With Respect to Sponsored Member Trades That Have Haircuts in Order To
Ensure That Such Calculation Does Not Result in a Return of the
Haircuts Until Final Settlement
In light of the intermediary relationship between a Sponsoring
Member and its Sponsored Member, a Sponsoring Member may choose to post
to its Sponsored Member client a haircut in order to address regulatory
and/or investment guideline concerns. Specifically, the regulations
and/or investment guidelines to which a Sponsored Member is subject may
require that it receive Eligible Securities worth more than the cash
that it is due to receive at final settlement of a FICC-cleared reverse
repo, i.e., a haircut.\38\ Similarly, in some circumstances, a
Sponsoring Member may choose to collect such haircut from its Sponsored
Member client at the Start Leg to mitigate its exposure under the
Sponsoring Member Guaranty. In both situations, FICC's understanding is
that accounting considerations may favor those postings being
facilitated through FICC's systems. Specifically, in light of the fact
that the counterparty on a FICC-cleared trade changes after novation--
and the Sponsoring Member and Sponsored Member thereafter both face
FICC as principal--having an obligation to receive and/or deliver a
haircut at final settlement directly to FICC as the post-novation
counterparty may be favorable for the Sponsoring Member and the
Sponsored Member from an accounting perspective.\39\
---------------------------------------------------------------------------
\38\ For example, FICC's understanding is that Investment
Company Act Rule 5b-3 requires that a repurchase agreement be
``collateralized fully'' in order for a registered investment
company to apply favorable regulatory treatment to it. The
``collateralized fully'' definition requires that the value of the
securities posted to the investment company at all times equal or
exceed the repurchase price, plus any loss of interest or
transaction costs that could be incurred in a default. In light of
these requirements, FICC understands that many registered investment
companies require counterparties to post securities with a value
that is equal to the repurchase price, plus a cushion to cover any
changes in value of the securities or lost interest or transaction
costs associated with a counterparty default.
\39\ Sponsoring Members interested in such relief should discuss
this matter with their accounting experts.
---------------------------------------------------------------------------
However, under Rule 13, FICC's standard funds-only settlement
process involves marking to market twice a day each Business Day all
positions associated with term repo activity, including any Sponsored
Member Trade with a Close Leg that is scheduled to occur two or more
Business Days after the settlement of the Start Leg.\40\ Specifically,
FICC will calculate a ``Collateral Mark'' equal to the absolute value
of the difference between (i) a Sponsored Member Trade's Contract Value
(i.e., the dollar value at which it is due to finally settle) and (ii)
its Market Value (i.e., FICC's system price of the securities
underlying the transaction). This Collateral Mark is incorporated into
the calculation of certain of the Funds-Only Settlement Amounts payable
under Rule 13.\41\
---------------------------------------------------------------------------
\40\ Rule 13, supra note 3.
\41\ Id.
---------------------------------------------------------------------------
When the Market Value exceeds the Contract Value, the Collateral
Mark is negative for, and thus payable by, the Member party that has a
Net Short Position (i.e., the party required to deliver securities at
final settlement). As a result, under FICC's existing funds-only
settlement process, a Sponsored Member or Sponsoring Member that has
received a haircut at the Start Leg of a Sponsored Member Trade would
be required to transfer an amount of cash equal to that haircut (plus
or minus any interim mark-to-market movements) on the next Business Day
after the Start Leg has settled. This would frustrate the purpose of
the haircut as between the Sponsoring Member and Sponsored Member.
Specifically, if the haircut is returned before final settlement of a
Sponsored Member Trade, the party that was supposed to retain the
haircut for the duration of the trade would cease to be
overcollateralized, thus defeating the contractual intent of the
parties.\42\
---------------------------------------------------------------------------
\42\ Because the Schedule of Timeframes in the Rules provides
for intraday funds-only settlement amounts to be calculated using
each Member's positions as of noon on the relevant Business Day,
FICC's existing funds-only settlement process will not materially
affect haircuts on overnight Sponsored Member Trades that are
submitted for clearing in the afternoon. Nonetheless, FICC believes
that applying the same Funds-Only Settlement calculations to
overnight and term repo activity would help promote consistency
across Sponsored Member Trades.
---------------------------------------------------------------------------
[[Page 1359]]
In order to ensure that haircuts are not returned until final
settlement, FICC proposes to amend Rule 3A and Rule 1. Specifically,
FICC proposes to amend Section 9(a) of Rule 3A to provide that, if the
parties to a Sponsored Member Trade agree for such Sponsored Member
Trade to have a haircut, then any Funds-Only Settlement Amount
applicable to such Sponsored Member Trade that includes a Collateral
Mark would be calculated without regard for the Collateral Mark. Such
Collateral Mark would be replaced by either a Haircut Deficit or
Haircut Surplus. A ``Haircut Deficit'' would exist if the amount by
which the Market Value as of the settlement date of the Start Leg
exceeded the Contract Value of the Close Leg (the ``Initial Haircut'')
is greater than the amount by which the Market Value as of the time of
measurement exceeds the Contract Value of the Close Leg (the ``Current
Haircut''). Any Haircut Deficit would be payable by the Member party
with a Net Long Position. A ``Haircut Surplus'' would exist if the
Current Haircut exceeds the Initial Haircut, and any Haircut Surplus
would be payable by the Member party with a Net Short Position. FICC
also proposes to amend Section 9(a) of Rule 3A to make clear that any
Initial Haircut would be as agreed between the parties to the Sponsored
Member Trade, and that FICC would not be under any obligation to verify
the parties' agreement with respect to any Initial Haircut, and its
calculation of the Initial Haircut would be conclusive and binding on
the parties.
For example, if on initial settlement of a Sponsored Member Trade a
Sponsored Member transferred $98 in cash and received Eligible
Securities worth $100,\43\ the Initial Haircut for such Sponsored
Member Trade would be $2 (i.e., Market Value as of the settlement date
of the Start Leg of $100 minus Contract Value of the Close Leg of $98).
If on the next Business Day after initial settlement the value of the
Eligible Securities increases in value to $101, then the Current
Haircut on the Sponsored Member Trade on such Business Day would be $3
(i.e., Market Value as of the time of measurement of $101 minus
Contract Value of the Close Leg of $98), and there would be a Haircut
Surplus of $1 (i.e., Current Haircut of $3 minus the Initial Haircut of
$2) that would be owing to FICC by the Sponsored Member, as the Member
party with the Net Short Position. Similarly, if in the same example,
the value of the Eligible Securities decreased from $100 to $99 on the
next Business Day after initial settlement, then the Current Haircut on
the Sponsored Member Trade on such Business Day would be $1 (i.e.,
Market Value of $99 as of the time of measurement minus Contract Value
of the Close Leg of $98) and there would be a Haircut Deficit of $1
(i.e., Initial Haircut of $2 minus the Current Haircut of $1) that
would be owing to FICC by the Sponsoring Member, as the Member party
with the Net Long Position.
---------------------------------------------------------------------------
\43\ For the sake of simplicity, this example excludes accrued
interest and thus assumes that the amount of cash transferred at
settlement of the Start Leg equals the amount of cash due to be
transferred at the Close Leg.
---------------------------------------------------------------------------
FICC would also revise Rule 1 to add new defined terms; these new
defined terms are related to the proposed clarifications to Rule 3A
described in the paragraph above. FICC would add the following new
defined terms: (i) Current Haircut, (ii) Haircut Deficit, (iii) Haircut
Surplus and (iv) Initial Haircut.
FICC believes that the proposed changes to Rule 3A and Rule 1
described above would allow a Sponsoring Member and its Sponsored
Member who intend for one of those two parties to remain
overcollateralized for the duration of a Sponsored Member Trade to
transfer a haircut between each other and allow such haircut to remain
with the intended party until final settlement of the Sponsored Member
Trade.
(iv) Proposed Correction, Clarifications and Conforming Changes
FICC proposes to make a correction as well as certain
clarifications and conforming changes to Rule 3A, as further described
below.
(A) Proposed Clarifications to Sections 8(c) and 9(b) of Rule 3A
FICC proposes to make certain clarifications to Section 8(c) of
Rule 3A related to proposed Section 18 described in Item II(A)1(ii)
above.
First, FICC is proposing to add a parenthetical to Section 8(c)
clarifying that the operational netting provisions of Section 8(b) do
not substantively modify a Sponsored Member's obligations to FICC. As
noted above, Section 8(b) provides that, for operational convenience,
FICC calculates a single Net Settlement Position and Fail Net
Settlement Position in each CUSIP for the Sponsoring Member's
Sponsoring Member Omnibus Account. Section 8(c), in turn, provides that
each Sponsored Member shall satisfy its ``allocable portion'' of the
Deliver Obligations and Receive Obligations established for the
Sponsoring Member Omnibus Account.
Neither Section 8(b) nor Section 8(c) modifies the obligations of
any Sponsored Member; those provisions are simply designed for
operational convenience. Each Sponsored Member still remains
responsible for its Deliver Obligations to and Receive Obligations from
FICC, which are calculated in accordance with Section 7 of Rule 3A. The
Sponsored Member's ``allocable portion'' of the Deliver Obligations and
Receive Obligations of the Sponsoring Member Omnibus Account will
always equal its Deliver Obligations to and Receive Obligations from
FICC, as calculated under Section 7 of Rule 3A.
Therefore, in order to eliminate doubt regarding the extent of the
Sponsored Member's obligations upon a termination and liquidation of a
Sponsored Member's positions pursuant to proposed Section 18, FICC is
proposing to add a parenthetical to Section 8(c) to make clear that a
Sponsored Member's ``allocable portion'' of the obligations established
for the Sponsoring Member Omnibus Account are the obligations of the
Sponsored Member, as calculated in Section 7 of Rule 3A.
FICC is also proposing to add language at the end of Sections 8(c)
and 9(b) to clarify that, if a Sponsoring Member satisfies the net
Deliver Obligations and Receive Obligations or the net Funds-Only
Settlement Amount obligations of its Sponsoring Member Omnibus Account,
including through the setoff described in proposed Section 18, before
the Sponsoring Member receives corresponding performance from the
Sponsored Member, such satisfaction would constitute performance by the
Sponsoring Member under the Sponsoring Member Guaranty with respect to
the relevant Sponsored Member's allocable portion of the Sponsoring
Member Omnibus Account Deliver Obligations and Receive Obligations or
Funds-Only Settlement Amount obligations.
If a termination and liquidation under proposed Section 18 were to
occur, the Sponsoring Member would be required to perform on behalf of
the Sponsored Member under the Sponsoring Member Guaranty. The
clarification described above is designed to ensure that, when the
Sponsoring Member effects such performance, it would be entitled to
[[Page 1360]]
reimbursement from the Sponsored Member.
(B) Proposed Correction, Clarifications and Conforming Changes to
Section 9 of Rule 3A
FICC also proposes to make a correction as well as certain
clarifications and conforming changes to Rule 3A. The proposed
correction, clarifications and conforming changes are related to the
clarifications described in Item II(A)1(iii) above with respect to the
haircut.
To enhance clarity, FICC proposes to make certain structural
changes to Rule 3A, Section 9. Specifically, FICC proposes to move
language from current subsection (b) of Section 9 and make it
subsection (c). This, in turn, would require conforming changes to re-
letter original Sections 9(c) and 9(d) to 9(d) and 9(e), respectively.
FICC also proposes to make a conforming grammatical change by deleting
``such'' and replacing it with ``the'' in the first sentence of
proposed subsection (c). FICC also proposes to revise proposed Section
9(c) of Rule 3A to clarify that the Sponsored Member is responsible for
satisfying the allocable portion of the Funds-Only Settlement Amount
calculated for the Sponsoring Member Omnibus Account.
2. Statutory Basis
FICC believes these proposed changes are consistent with the
requirements of the Act, and the rules and regulations applicable to a
registered clearing agency. Specifically, FICC believes that the
proposed changes are consistent with Section 17A(b)(3)(F) of the Act
\44\ and Rule 17Ad-22(e)(23)(i),\45\ as promulgated under the Act, for
the reasons stated below.
---------------------------------------------------------------------------
\44\ 15 U.S.C. 78q-1(b)(3)(F).
\45\ 17 CFR 240.17Ad-22(e)(23)(i).
---------------------------------------------------------------------------
Section 17A(b)(3)(F) of the Act requires, in part, that the Rules
be designed to (i) remove impediments to and perfect the mechanism of a
national system for the prompt and accurate clearance and settlement of
securities transactions and (ii) promote the prompt and accurate
clearance and settlement of securities transactions.\46\
---------------------------------------------------------------------------
\46\ 15 U.S.C. 78q-1(b)(3)(F).
---------------------------------------------------------------------------
FICC believes that the proposed changes described in Item
II(A)1(ii) above, i.e., to facilitate the submission of term repo
activity through the Service by providing a mechanism by which a
Sponsoring Member may cause the termination and liquidation of a
Sponsored Member's positions arising from Sponsored Member Trades
between the Sponsoring Member and its Sponsored Member that have been
novated to FICC, are designed to remove certain impediments to and
perfect the mechanism of a national settlement system for the prompt
and accurate clearance and settlement of securities transactions. In
particular, FICC believes that providing a mechanism by which a
Sponsoring Member may cause the termination and liquidation of a
Sponsored Member's positions arising from Sponsored Member Trades
between the Sponsoring Member and its Sponsored Member that have been
novated to FICC would give Sponsoring Members greater ability to manage
the risks associated with Sponsored Member Trades, particularly
Sponsored Member Trades with a scheduled final settlement date beyond
the next Business Day after the initial settlement date. Such effective
risk management would reduce the risk of a Sponsoring Member failure,
which could otherwise disrupt the prompt and accurate clearance and
settlement of Sponsored Member Trades and other transactions submitted
to FICC. As described above, the absence of the ability on the part of
Sponsoring Members to terminate and liquidate such Sponsored Member
positions is currently an impediment that discourages term repo
activity within the Service. The proposal to provide Sponsoring Members
with that ability would remove the impediment, consistent with Section
17A(b)(3)(F) of the Act.\47\
---------------------------------------------------------------------------
\47\ Id.
---------------------------------------------------------------------------
FICC also believes the proposed changes are designed to promote the
prompt and accurate clearance and settlement of securities
transactions. By allowing Sponsoring Members to manage risks associated
with Sponsored Member Trades more effectively, FICC believes the
proposed changes would enable Sponsoring Members to submit a greater
number of securities transactions to be cleared and settled by a
central counterparty. In particular, FICC believes Sponsoring Members
would be able to submit to FICC more term repo activity. FICC's
clearance and settlement of such term repo activity would promote the
prompt and accurate clearance and settlement of securities transactions
by increasing the number of transactions subject to FICC's risk
management and guaranty of settlement.
FICC believes the proposed changes described in Item II(A)1(iii)
above, i.e., to facilitate the submission of term repo activity through
the Service by revising how FICC calculates the funds-only settlement
obligations of Sponsored Members and Sponsoring Members with respect to
Sponsored Member Trades that have haircuts in order to ensure that such
calculation does not result in a return of the haircuts until final
settlement, are designed to promote the prompt and accurate clearance
and settlement of securities transactions. As described above, FICC
believes these clarifications would honor the contractual intent of the
Sponsoring Members and their Sponsored Members to transfer haircuts
between each other for Sponsored Member Trades. FICC believes that the
proposed change to the calculation (resulting in the return of haircuts
at final settlement only) may encourage Sponsoring Members to submit a
greater number of securities transactions to be cleared and settled by
FICC, and in particular, term repo activity. As described above, FICC's
clearance and settlement of such term repo activity would promote the
prompt and accurate clearance and settlement of securities transactions
by increasing the number of transactions subject to FICC's risk
management and guaranty of settlement. Moreover, the current
calculation of the funds-only settlement obligations of Sponsored
Members and Sponsoring Members is currently an impediment that
discourages term repo activity within the Service. The proposal
described in Item II(A)1(iii) above would remove the impediment,
consistent with Section 17A(b)(3)(F) of the Act.\48\
---------------------------------------------------------------------------
\48\ Id.
---------------------------------------------------------------------------
FICC believes the proposed correction, clarifications, and
conforming changes described in Item II(A)1(iv) above are also designed
to promote the prompt and accurate clearance and settlement of
securities transactions by enhancing clarity and transparency regarding
the Service. Having transparent and clear provisions regarding the
Service would enable Members to better understand the operation of the
Service and would provide Members with increased predictability and
certainty regarding their rights and obligations. FICC believes that
this increased predictability and certainty regarding their rights and
obligations may encourage Sponsoring Members to submit a greater number
of securities transactions to be cleared and settled by FICC, and in
particular, term repo activity. FICC's clearance and settlement of such
term repo activity would promote the prompt and accurate clearance and
settlement of securities transactions by increasing the number of
transactions subject to FICC's risk management and guaranty of
settlement. Therefore, FICC believes the proposed correction,
clarifications, and
[[Page 1361]]
conforming changes described in Item II(A)1(iv) above are designed to
promote the prompt and accurate clearance and settlement of securities
transactions.
Rule 17Ad-22(e)(23)(i) under the Act requires FICC to establish,
implement, maintain, and enforce written policies and procedures
reasonably designed to publicly disclose all relevant rules and
material procedures.\49\ FICC believes that the proposed changes
described in Item II(A)1(ii) above would establish a clear and
transparent mechanism by which a Sponsoring Member may terminate and
liquidate the positions of a Sponsored Member. Having a clear mechanism
for such termination and liquidation would allow Sponsoring Members and
Sponsored Members to understand the circumstances in which a Sponsored
Member's positions may be terminated and liquidated and how such
termination and liquidation would occur. FICC also believes that the
proposed rule changes described in Item II(A)1(iii) above would enhance
clarity and transparency regarding the funds-only settlement
obligations of Sponsored Members with respect to any term repo
activity. Specifically, the proposed changes would revise how FICC
calculates the funds-only settlement obligations of Sponsored Members
and Sponsoring Members with respect to Sponsored Member Trades that
have haircuts in order to ensure that such calculation does not result
in a return of the haircuts until final settlement. FICC believes that
these proposed changes would provide enhanced clarity to Sponsoring
Members and Sponsored Members regarding their rights and obligations as
well as the rights and obligations of FICC. Additionally, the proposed
correction, clarifications, and conforming changes described in Item
II(A)1(iv) above would add further clarity to the Rules. FICC believes
the proposal would ensure that the Rules remain clear and accurate, and
facilitate Members' understanding of the Rules, and provide Members
with increased predictability and certainty regarding their
obligations. As such, FICC believes that these proposed changes are
consistent with Rule 17Ad-22(e)(23)(i) under the Act.\50\
---------------------------------------------------------------------------
\49\ 17 CFR 240.17Ad-22(e)(23)(i).
\50\ Id.
---------------------------------------------------------------------------
(B) Clearing Agency's Statement on Burden on Competition
FICC believes that the proposed changes in Item II(A)1(ii) above
could have an impact on competition by promoting and burdening
competition. The proposal to allow a Sponsoring Member to control the
termination and liquidation of its Sponsored Member's FICC-cleared
positions could promote competition by increasing the ability of
Sponsoring Members to more effectively manage the risks of Sponsored
Member Trades, particularly Sponsored Member Trades with a scheduled
final settlement date beyond the next Business Day after the initial
settlement date. Such increased risk management ability, in turn, could
cause more institutions to become Sponsoring Members, and existing and
future Sponsoring Members to accept a greater number and variety of
Sponsored Members and Sponsored Member Trades, including, in
particular, term repo activity. FICC also believes the proposed changes
in Item II(A)1(ii) above could promote competition by allowing
Sponsoring Members and Sponsored Members to negotiate the circumstances
in which the Sponsoring Member could cause the termination and
liquidation of the Sponsored Member's positions. The prospect of
negotiation could allow Sponsored Members to consider various
Sponsoring Members and the terms they offer.
Conversely, the proposed changes described in Item II(A)1(ii) above
to allow a Sponsoring Member to control the termination and liquidation
of its Sponsored Member's FICC-cleared positions could burden
competition by applying a different standard for the termination and
liquidation of Sponsored Members' FICC-cleared positions than the
standard that applies to other Members under Rule 22A.\51\ However,
FICC does not believe that the proposed changes described in Item
II(A)1(ii) above would result in a significant burden on competition
because the Sponsored Member would have the ability to negotiate with
possible Sponsoring Members the circumstances in which the Sponsoring
Member may effectuate a termination and the methodology it would use in
calculating the liquidation amount.
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\51\ Rule 22A, supra note 3.
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Regardless of whether the potential burden on competition discussed
in the previous paragraph is significant, FICC believes that any burden
on competition that may be created by these proposed changes would be
necessary and appropriate in furtherance of the purposes of the Act, as
permitted by Section 17A(b)(3)(I) of the Act.\52\
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\52\ 15 U.S.C. 78q-1(b)(3)(I).
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FICC believes that any burden on competition created by the
proposed changes described in Item II(A)1(ii) above is necessary in
furtherance of the purposes of the Act to (i) remove impediments to and
perfect the mechanism of a national system for the prompt and accurate
clearance and settlement of securities transactions and (ii) promote
the prompt and accurate clearance and settlement of securities
transactions.\53\ Specifically, FICC believes that any burden on
competition resulting from allowing a Sponsoring Member to control the
termination and liquidation of its Sponsored Member's FICC-cleared
positions would be necessary in order to provide Sponsoring Members
with greater ability to manage the risks associated with Sponsored
Member Trades, particularly term repo activity. As described in detail
in Item II(A)2 above, FICC believes that providing Sponsoring Members
with greater ability to manage the risks associated with Sponsored
Member Trades, particularly term repo activity, would (i) remove
impediments to and perfect the mechanism of a national system for the
prompt and accurate clearance and settlement of securities transactions
and (ii) promote the prompt and accurate clearance and settlement of
securities transactions. Therefore, FICC believes any burden that is
created by these proposed changes would be necessary in furtherance of
the purposes of the Act, as permitted by Section 17A(b)(3)(I) of the
Act.\54\
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\53\ 15 U.S.C. 78q-1(b)(3)(F).
\54\ 15 U.S.C. 78q-1(b)(3)(I).
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Furthermore, FICC believes that any burden on competition resulting
from allowing a Sponsoring Member to control the termination and
liquidation of its Sponsored Member's FICC-cleared positions would be
appropriate in furtherance of the purposes of the Act, as permitted by
Section 17A(b)(3)(I) of the Act,\55\ because the proposed changes would
remove the current impediment whereby the Sponsoring Member is not
unilaterally able to cause the termination or liquidation of any
Sponsored Member Trades. As stated above, there is an intermediary
relationship between a Sponsoring Member and its Sponsored Member,
including the Sponsoring Member's liability to FICC for the Sponsored
Member's performance under the Sponsoring Member Guaranty, which does
not apply to other Members. FICC believes this unique relationship
warrants the Sponsoring Member having control over the termination and
liquidation of its Sponsored Member's FICC-cleared positions. Moreover,
the proposed changes would be more consistent with other intermediated
[[Page 1362]]
relationships where the intermediary is typically permitted to
terminate and liquidate the positions of its client that the
intermediary guarantees if an event of default or other similar
circumstance occurs under the bilateral agreement between the
intermediary and the client. The current inability to effectuate such
termination and liquidation is inconsistent with other intermediated
relationships and discourages term repo activity within the Service.
The proposed changes would enable the Sponsoring Member to cause the
termination and liquidation of the Sponsored Member's positions for
which the Sponsoring Member is responsible, thereby providing it with
greater ability to manage the risks associated with Sponsored Member
Trades, particularly term repo activity. Therefore, FICC believes any
burden that is created by these proposed changes would be appropriate
in furtherance of the purposes of the Act, as permitted by Section
17A(b)(3)(I) of the Act.\56\
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\55\ Id.
\56\ Id.
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FICC believes that the proposed changes described in Item
II(A)1(iii) above to facilitate the submission of term repo activity
through the Service by revising how FICC calculates the funds-only
settlement obligations of Sponsored Members and Sponsoring Members with
respect to Sponsored Member Trades with haircuts could promote
competition. This is because the proposed changes would honor the
parties' contractual intent (as described in Item II(A)1(iii) above)
and, thus, encourage more term repo activity within the Service. As
such, FICC believes that these proposed changes could promote
competition.
In addition, FICC does not believe that the proposed correction,
clarifications, and conforming changes in Item II(A)1(iv) above would
have an impact on competition. These changes would simply provide
additional clarity, transparency and consistency to the Rules and not
affect Members' rights and obligations. As such, FICC believes that
these proposed changes would not have any impact on competition.
(C) Clearing Agency's Statement on Comments on the Proposed Rule Change
Received From Members, Participants, or Others
FICC reviewed the proposed rule change with its Sponsoring Members
in order to benefit from their expertise. Written comments relating to
this proposed rule change have not been received from the Sponsoring
Members or any other person. FICC will notify the Commission of any
written comments received by FICC.
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 such 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 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-FICC-2019-007 on the subject line.
Paper Comments
Send paper comments in triplicate to Secretary, Securities
and Exchange Commission, 100 F Street NE, Washington, DC 20549.
All submissions should refer to File Number SR-FICC-2019-007. 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 the filing also will be available for inspection
and copying at the principal office of FICC and on DTCC's website
(https://dtcc.com/legal/sec-rule-filings.aspx). 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-FICC-2019-007 and should be submitted on
or before January 31, 2020.
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\57\ 17 CFR 200.30-3(a)(12).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\57\
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-00203 Filed 1-9-20; 8:45 am]
BILLING CODE 8011-01-P
