Self-Regulatory Organizations; LCH SA; Notice of Filing of Partial Amendment No. 1 and Order Granting Accelerated Approval of Proposed Rule Change, as Modified by Partial Amendment No. 1, Relating to Amendments to CDS Clearing Supplement To Reflect the ISDA NTCE Protocol and Supplement, 5744-5746 [2020-01517]

Download as PDF 5744 Federal Register / Vol. 85, No. 21 / Friday, January 31, 2020 / Notices For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.9 J. Matthew DeLesDernier, Assistant Secretary. [FR Doc. 2020–01780 Filed 1–30–20; 8:45 am] BILLING CODE 8011–01–P II. Description of the Proposed Rule Change SECURITIES AND EXCHANGE COMMISSION [Release No. 34–88021; File No. SR–LCH SA–2019–011] Self-Regulatory Organizations; LCH SA; Notice of Filing of Partial Amendment No. 1 and Order Granting Accelerated Approval of Proposed Rule Change, as Modified by Partial Amendment No. 1, Relating to Amendments to CDS Clearing Supplement To Reflect the ISDA NTCE Protocol and Supplement January 23, 2020. I. Introduction On November 21, 2019, Banque Centrale de Compensation, which conducts business under the name LCH SA (‘‘LCH SA’’), filed with the Securities and Exchange Commission (‘‘Commission’’), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Act’’),1 and Rule 19b–)4 thereunder,2 a proposed rule change to amend its CDS Clearing Supplement (‘‘LCH SA CDS Supplement’’) to: (1) Implement the 2019 Narrowly Tailored Credit Event Supplement to the 2014 ISDA Credit Derivatives Definitions (the ‘‘NTCE Supplement’’) and (2) make certain clarifications as to the defined term ‘‘Outstanding Principal Balance’’. The proposed rule change was published for comment in the Federal Register on December 9, 2019.3 The Commission did not receive comments on the proposed rule change. On January 6, 2020, LCH SA filed Partial Amendment No. 1 to the proposed rule change.4 The Commission is publishing 9 17 CFR 200.30–3(a)(12). U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 3 Securities Exchange Act Release No. 87649 (Dec. 3, 2019), 84 FR 67325 (Dec. 9, 2019) (SR–LCH–SA– 2019–011) (‘‘Notice’’). 4 Partial Amendment No. 1 clarifies the proposed rule change by modifying certain references in the CDS Clearing Supplement. Currently, the CDS Clearing Supplement refers to certain supplements to the standard contract terms as published by ISDA on certain dates. Rather than referring to the supplements as published by ISDA on certain dates, Partial Amendment No. 1 modifies the CDS Clearing Supplement to refer to the latest versions of the supplements in force. In other words, Partial Amendment No. 1 amends the CDS Clearing Supplement to incorporate whichever versions of the ISDA supplements are most recent and therefore jbell on DSKJLSW7X2PROD with NOTICES 1 15 VerDate Sep<11>2014 17:16 Jan 30, 2020 Jkt 250001 this notice to solicit comments on Partial Amendment No. 1 from interested persons and is approving the proposed rule change, as modified by Partial Amendment No. 1 (hereinafter, ‘‘proposed rule change’’) on an accelerated basis. A. Background Following certain events in the credit default swap (‘‘CDS’’) 5 market, the International Swaps and Derivatives Association, Inc. (‘‘ISDA’’), in consultation with market participants, developed and published the NTCE Supplement.6 The NTCE Supplement reflects an effort by ISDA to address socalled narrowly-tailored credit events. According to ISDA, a narrowly-tailored credit event is an arrangement between a participant in the CDS marketplace and a corporation, through which the corporation triggers a credit event on CDS covering the corporation, thereby increasing payment to the buyers of CDS protection on the corporation while minimizing the impact on the corporation.7 The NTCE Supplement, if applied to a CDS transaction, would make two principal changes to the 2014 ISDA Credit Derivatives Definitions to address narrowly-tailored credit events.8 First, the NTCE Supplement would change the definition of the ‘‘Failure to Pay’’ credit event to exclude certain narrowly-tailored credit events through a new Credit Deterioration Requirement. The Credit Deterioration Requirement would provide that a failure of a corporation to make a payment on an obligation would not constitute a currently effective, rather than referring to multiple supplements with specific dates. 5 The following description is substantially excerpted from the Notice. See Notice, 84 FR at 67325. Capitalized terms not otherwise defined herein have the meanings assigned to them in the LCH SA rulebook or LCH SA CDS Supplement. 6 See ISDA Board Statement on Narrowly Tailored Credit Events, available at https:// www.isda.org/2018/04/11/isda-board-statement-onnarrowly-tailored-credit-events/; see also Joint Statement on Opportunistic Strategies in the Credit Derivatives Market (‘‘The continued pursuit of various opportunistic strategies in the credit derivatives markets, including but not limited to those that have been referred to as ‘manufactured credit events,’ may adversely affect the integrity, confidence and reputation of the credit derivatives markets, as well as markets more generally.’’) available at https://www.sec.gov/news/pressrelease/2019-106. 7 See ISDA Board Statement on Narrowly Tailored Credit Events, available at https:// www.isda.org/2018/04/11/isda-board-statement-onnarrowly-tailored-credit-events/. 8 See ISDA 2019 NTCE Protocol FAQ, available at https://www.isda.org/protocol/isda-2019-ntceprotocol. PO 00000 Frm 00134 Fmt 4703 Sfmt 4703 Failure to Pay Credit Event triggering CDS on that corporation if the failure does not directly or indirectly result from, or result in, a deterioration in the creditworthiness or financial condition of the corporation.9 Thus, a narrowlytailored or manufactured failure to pay that does not reflect or result in a credit deterioration by a corporation would not constitute a Credit Event for CDS Contracts that incorporate the NTCE Supplement and thus would not necessarily trigger payment to buyers of CDS protection. The NTCE Supplement would also provide guidance related to the factors that would be relevant to determining whether a Failure to Pay Credit Event satisfies the Credit Deterioration Requirement. As would be the case with other Failure to Pay Credit Events under CDS contracts, the relevant Credit Derivatives Determinations Committee would, in the normal course, make the determination as to whether a Failure to Pay Credit Event satisfies the Credit Deterioration Requirement. Second, the NTCE Supplement would reduce the amount of payout a CDS protection buyer could claim in certain circumstances by imposing a new provision for Fallback Discounting. Fallback Discounting would discount a CDS protection buyer’s claim for payout under a CDS contract where that claim for payout is based on an obligation issued by a corporation at a discount.10 This would address the potential scenario where a corporation issues a bond at a substantial discount to its principal amount and the bond is delivered in settlement of a CDS at its full principal amount. In this scenario, Fallback Discounting would prevent a buyer of CDS protection from using the full principal amount of the bond issued at a discount as a basis for payout under the CDS contract. B. Changes to the LCH SA CDS Supplement Because LCH SA will clear and settle CDS contracts to which the NTCE Supplement will apply, it must ensure that its relevant Rules accurately reflect the changes described above that will be implemented by the NTCE Supplement. Accordingly, the proposed rule change would ensure that the changes being implemented by the NTCE Supplement are accurately reflected in LCH SA’s relevant Rules by making substantially similar amendments to both Part B of 9 See ISDA 2019 Narrowly Tailored Credit Event Supplement to the 2014 ISDA Credit Derivatives Definitions (Published on July 15, 2019), available at https://www.isda.org/a/KDqME/Final-NTCESupplement.pdf. 10 Id. E:\FR\FM\31JAN1.SGM 31JAN1 Federal Register / Vol. 85, No. 21 / Friday, January 31, 2020 / Notices jbell on DSKJLSW7X2PROD with NOTICES the CDS Supplement, which applies to single-name CDS contracts and components of index CDS contracts that incorporate the 2014 ISDA Credit Derivatives Definitions, and Part C of the CDS Supplement, which applies to swaptions transactions. The proposed rule change would do so by amending the CDS Clearing Supplement to incorporate the versions of the ISDA supplement and confirmations that are currently in-force. After the NTCE Supplement becomes effective, the latest versions of the ISDA supplement and confirmations will incorporate the NTCE Supplement and by default specify that the two concepts described above—the Credit Deterioration Requirement and Fallback Discounting—are applicable. Thus, in specifying that the versions of the ISDA supplement and confirmations that are currently in-force would apply to singlename CDS contracts and components of index CDS contracts that incorporate the 2014 ISDA Credit Derivatives Definitions and swaptions, the proposed rule change would automatically apply the NTCE Supplement to such transactions. The proposed rule change would also specify that the amendments resulting from the NTCE Supplement to the 2014 ISDA Credit Derivatives Definitions would only be applicable where the Protocol Effectiveness Condition, as defined in the ISDA 2019 Narrowly Tailored Credit Event Protocol, is satisfied. Because ISDA has already determined that the Protocol Effectiveness Condition is satisfied, effectively the proposed rule change would apply the amendments resulting from the NTCE Supplement to all single-name CDS contracts and components of index CDS contracts that incorporate the 2014 ISDA Credit Derivatives Definitions and all swaptions transactions currently in place or that are entered into on or after January 27, 2020 (the implementation date determined by ISDA).11 C. Outstanding Principal Balance Unrelated to the changes discussed above, the proposed rule change would also harmonize the use of the term ‘‘Outstanding Principal Balance’’ throughout the LCH SA CDS Supplement by ensuring that the term is only used with capital letters. Section 1.1 of the LCH SA CDS Supplement specifies that capitalized terms not otherwise defined therein shall have the meaning given pursuant to, among other documents, the ISDA 2003 and 2014 Credit Derivatives Definitions, and explicitly incorporates into the LCH SA CDS Supplement such defined terms. The term ‘‘Outstanding Principal Balance’’ is defined in the ISDA 2003 and 2014 Credit Derivatives Definitions, and according to LCH SA is intended to be incorporated into the LCH SA CDS Supplement. However, the term ‘‘Outstanding Principal Balance’’ is not consistently capitalized throughout the current version of the LCH SA CDS Supplement. Accordingly, because LCH SA intends that the term ‘‘Outstanding Principal Balance’’ should be an incorporated defined term as defined in Section 1.1 of the LCH SA CDS Supplement, the proposed rule change would amend the LCH SA CDS Supplement by capitalizing the term ‘‘Outstanding Principal Balance’’ where not already capitalized. III. Commission Findings Section 19(b)(2)(C) of the Act directs the Commission to approve a proposed rule change of a self-regulatory organization if it finds that the proposed rule change is consistent with the requirements of the Act and the rules and regulations thereunder applicable to the organization.12 For the reasons given below, the Commission finds that the proposed rule change is consistent with Section 17A(b)(3)(F) of the Act 13 and Rule 17Ad–22(e)(1) thereunder.14 A. Consistency With Section 17A(b)(3)(F) of the Act Section 17A(b)(3)(F) of the Act requires, among other things, that the rules of LCH SA be designed to promote the prompt and accurate clearance and settlement of securities transactions and, to the extent applicable, derivative agreements, contracts, and transactions, to assure the safeguarding of securities and funds which are in the custody or control of LCH SA or for which it is responsible, and, in general, to protect investors and the public interest.15 As described above, the NTCE Supplement would amend the underlying legal terms applicable to CDS contracts and swaptions to which it applies by, among other things, limiting Credit Events to those that reflect a deterioration in the creditworthiness or financial condition of the relevant company. It also would reduce the amount of payout a CDS protection buyer could claim in certain circumstances where the claim for 12 15 11 See ISDA 2019 NTCE Protocol, available at https://www.isda.org/protocol/isda-2019-ntceprotocol/. VerDate Sep<11>2014 17:16 Jan 30, 2020 Jkt 250001 U.S.C. 78s(b)(2)(C). U.S.C. 78q–1(b)(3)(F). 14 17 CFR 240.17Ad–22(e)(1). 15 15 U.S.C. 78q–1(b)(3)(F). 13 15 PO 00000 Frm 00135 Fmt 4703 Sfmt 4703 5745 payout is based on an obligation issued by a company at a discount. Further, because ISDA has determined that the Protocol Effectiveness Condition is satisfied and set an implementation date of January 27, 2020, the NTCE Supplement will apply to all swaptions and single-name CDS contracts and components of index CDS contracts that incorporate the 2014 ISDA Credit Derivatives Definitions currently in place or entered into on or after that date. As noted above, because LCH SA will clear and settle CDS contracts and swaptions that are subject to the changes being made by the NTCE Supplement, the proposed rule change would amend the LCH SA CDS Supplement to incorporate the amendments resulting from the NTCE Supplement, thereby ensuring that LCH SA’s Rules accurately reflect and appropriately apply the legal terms and conditions applicable to such CDS contracts and swaptions. Separately, to help clarify and ensure that the term ‘‘Outstanding Principal Balance’’ is and remains an incorporated defined term pursuant to Section 1.1 of the CDS Supplement, the proposed rule change would amend the CDS Supplement to capitalize the term ‘‘Outstanding Principal Balance’’ consistently throughout the document. In the Commission’s view, a lack of clarity in the underlying legal terms and conditions applicable to the transactions that LCH SA clears and settles could hinder LCH SA’s ability to promptly and accurately clear and settle such transactions. Likewise, disputes regarding the applicable legal terms and conditions of such transactions could lead to disputes or confusion regarding the necessary and appropriate margin submitted in connection with such transactions, thereby threatening LCH SA’s ability to safeguard such margin. Accordingly, by making the changes described above, and in particular by ensuring LCH SA’s Rules accurately reflect and appropriately apply the legal terms and conditions applicable to the CDS contracts and swaptions that are cleared and settled by LCH SA, the Commission believes that the proposed rule change would help ensure that LCH SA’s Rules continue to promote the prompt and accurate clearance and settlement of such the CDS contracts and swaptions and assure the safeguarding of securities and funds in LCH SA’s custody and control. For these same reasons the Commission also finds that the proposed rule change would, in general, protect investors and the public interest. E:\FR\FM\31JAN1.SGM 31JAN1 5746 Federal Register / Vol. 85, No. 21 / Friday, January 31, 2020 / Notices Therefore, the Commission finds that the proposed rule change is consistent with Section 17A(b)(3)(F) of the Act.16 B. Consistency With Rule 17Ad–22(e)(1) Rule 17Ad–22(e)(1) requires that LCH SA establish, implement, maintain, and enforce written policies and procedures reasonably designed to provide for a well-founded, clear, transparent, and enforceable legal basis for each aspect of its activities in all relevant jurisdictions.17 As discussed above, the proposed rule change would help to clarify and ensure that LCH SA’s Rules accurately reflect and appropriately apply the legal terms and conditions applicable to the CDS contracts and swaptions that are cleared and settled by LCH SA. The Commission believes that this, in turn, would help ensure that the LCH SA CDS Supplement provides a consistent and enforceable legal basis for clearing and settling CDS contracts and swaptions to which the NTCE Supplement applies in light of the amendments made by the NTCE Supplement. Therefore, the Commission finds that the proposed rule change is consistent with Rule 17Ad–22(e)(1).18 IV. Solicitation of Comments Interested persons are invited to submit written data, views, and arguments concerning the foregoing, including whether the proposed rule change, as modified by Partial Amendment No. 1, is consistent with the Act. Comments may be submitted by any of the following methods: jbell on DSKJLSW7X2PROD with NOTICES 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– LCH SA–2019–011 on the subject line. Paper Comments • Send paper comments in triplicate to Secretary, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549–1090. All submissions should refer to File Number SR–LCH SA–2019–011. 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 16 15 17 17 U.S.C. 78q–1(b)(3)(F). CFR 240.17Ad–22(e)(1). 18 Id. VerDate Sep<11>2014 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 LCH SA and on LCH SA’s website at: https://www.lch.com/ resources/rules-and-regulations/ proposed-rule-changes-0. 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–LCH SA–2019–011 and should be submitted on or before February 21, 2020. V. Accelerated Approval of the Proposed Rule Change, as Modified by Partial Amendment No. 1 The Commission finds good cause, pursuant to Section 19(b)(2) of the Act,19 to approve the proposed rule change prior to the 30th day after the date of publication of Partial Amendment No. 1 in the Federal Register. As discussed above, Partial Amendment No. 1 amends the CDS Clearing Supplement so that, instead of referring to the specific date for various ISDA supplements, it explicitly refers to and incorporates whichever versions of the supplements to the standard contract terms are currently effective. By providing this additional clarity, Partial Amendment No. 1 provides for a more clear and comprehensive understanding of the estimated application of the proposed rule change, which helps to improve the Commission’s review of the proposed rule change for consistency with the Act and helps market participants understand the impact of the proposed rule change. Additionally, because Partial Amendment No. 1 would help clarify and ensure that the appropriate legal terms and conditions are applied to the CDS contracts and swaptions cleared 19 15 17:16 Jan 30, 2020 Jkt 250001 PO 00000 U.S.C. 78s(b)(2). Frm 00136 Fmt 4703 Sfmt 4703 and settled by LCH SA, and for similar reasons as discussed above, the Commission finds that Partial Amendment No. 1 is designed to promote the prompt and accurate clearance and settlement of securities transactions, help assure the safeguarding of securities and funds which are in the custody or control of LCH SA, and, in general, to protect investors and the public interest, consistent with Section 17A(b)(3)(F) of the Act.20 Accordingly, the Commission finds good cause for approving the proposed rule change, as modified by Partial Amendment No. 1, on an accelerated basis, pursuant to Section 19(b)(2) of the Exchange Act.21 VI. Conclusion On the basis of the foregoing, the Commission finds that the proposed rule change is consistent with the requirements of the Act, and in particular, with the requirements of Section 17A(b)(3)(F) of the Act 22 and Rule 17Ad–22(e)(1) thereunder.23 It is therefore ordered pursuant to Section 19(b)(2) of the Act 24 that the proposed rule change, as modified by Partial Amendment No. 1 (SR–LCH– SA–2019–011), be, and hereby is, approved on an accelerated basis.25 For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.26 Jill M. Peterson, Assistant Secretary. [FR Doc. 2020–01517 Filed 1–30–20; 8:45 am] BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION Sunshine Act Meetings 2:00 p.m. on Wednesday, February 5, 2020. PLACE: The meeting will be held at the Commission’s headquarters, 100 F Street NE, Washington, DC 20549. STATUS: This meeting will be closed to the public. MATTERS TO BE CONSIDERED: Commissioners, Counsel to the Commissioners, the Secretary to the Commission, and recording secretaries will attend the closed meeting. Certain TIME AND DATE: 20 15 U.S.C. 78q–1(b)(3)(F). U.S.C. 78s(b)(2). 22 15 U.S.C. 78q–1(b)(3)(F). 23 17 CFR 240.17Ad–22(e)(1). 24 15 U.S.C. 78s(b)(2). 25 In approving the proposed rule change, the Commission considered the proposal’s impact on efficiency, competition, and capital formation. 15 U.S.C. 78c(f). 26 17 CFR 200.30–3(a)(12). 21 15 E:\FR\FM\31JAN1.SGM 31JAN1

Agencies

SECURITIES AND EXCHANGE COMMISSION

[Federal Register Volume 85, Number 21 (Friday, January 31, 2020)]
[Notices]
[Pages 5744-5746]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-01517]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-88021; File No. SR-LCH SA-2019-011]


Self-Regulatory Organizations; LCH SA; Notice of Filing of 
Partial Amendment No. 1 and Order Granting Accelerated Approval of 
Proposed Rule Change, as Modified by Partial Amendment No. 1, Relating 
to Amendments to CDS Clearing Supplement To Reflect the ISDA NTCE 
Protocol and Supplement

January 23, 2020.

I. Introduction

    On November 21, 2019, Banque Centrale de Compensation, which 
conducts business under the name LCH SA (``LCH SA''), filed with the 
Securities and Exchange Commission (``Commission''), pursuant to 
Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act''),\1\ 
and Rule 19b-)4 thereunder,\2\ a proposed rule change to amend its CDS 
Clearing Supplement (``LCH SA CDS Supplement'') to: (1) Implement the 
2019 Narrowly Tailored Credit Event Supplement to the 2014 ISDA Credit 
Derivatives Definitions (the ``NTCE Supplement'') and (2) make certain 
clarifications as to the defined term ``Outstanding Principal 
Balance''. The proposed rule change was published for comment in the 
Federal Register on December 9, 2019.\3\ The Commission did not receive 
comments on the proposed rule change. On January 6, 2020, LCH SA filed 
Partial Amendment No. 1 to the proposed rule change.\4\ The Commission 
is publishing this notice to solicit comments on Partial Amendment No. 
1 from interested persons and is approving the proposed rule change, as 
modified by Partial Amendment No. 1 (hereinafter, ``proposed rule 
change'') on an accelerated basis.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 87649 (Dec. 3, 2019), 84 
FR 67325 (Dec. 9, 2019) (SR-LCH-SA-2019-011) (``Notice'').
    \4\ Partial Amendment No. 1 clarifies the proposed rule change 
by modifying certain references in the CDS Clearing Supplement. 
Currently, the CDS Clearing Supplement refers to certain supplements 
to the standard contract terms as published by ISDA on certain 
dates. Rather than referring to the supplements as published by ISDA 
on certain dates, Partial Amendment No. 1 modifies the CDS Clearing 
Supplement to refer to the latest versions of the supplements in 
force. In other words, Partial Amendment No. 1 amends the CDS 
Clearing Supplement to incorporate whichever versions of the ISDA 
supplements are most recent and therefore currently effective, 
rather than referring to multiple supplements with specific dates.
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II. Description of the Proposed Rule Change

A. Background

    Following certain events in the credit default swap (``CDS'') \5\ 
market, the International Swaps and Derivatives Association, Inc. 
(``ISDA''), in consultation with market participants, developed and 
published the NTCE Supplement.\6\ The NTCE Supplement reflects an 
effort by ISDA to address so-called narrowly-tailored credit events. 
According to ISDA, a narrowly-tailored credit event is an arrangement 
between a participant in the CDS marketplace and a corporation, through 
which the corporation triggers a credit event on CDS covering the 
corporation, thereby increasing payment to the buyers of CDS protection 
on the corporation while minimizing the impact on the corporation.\7\
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    \5\ The following description is substantially excerpted from 
the Notice. See Notice, 84 FR at 67325. Capitalized terms not 
otherwise defined herein have the meanings assigned to them in the 
LCH SA rulebook or LCH SA CDS Supplement.
    \6\ See ISDA Board Statement on Narrowly Tailored Credit Events, 
available at https://www.isda.org/2018/04/11/isda-board-statement-on-narrowly-tailored-credit-events/; see also Joint Statement on 
Opportunistic Strategies in the Credit Derivatives Market (``The 
continued pursuit of various opportunistic strategies in the credit 
derivatives markets, including but not limited to those that have 
been referred to as `manufactured credit events,' may adversely 
affect the integrity, confidence and reputation of the credit 
derivatives markets, as well as markets more generally.'') available 
at https://www.sec.gov/news/press-release/2019-106.
    \7\ See ISDA Board Statement on Narrowly Tailored Credit Events, 
available at https://www.isda.org/2018/04/11/isda-board-statement-on-narrowly-tailored-credit-events/.
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    The NTCE Supplement, if applied to a CDS transaction, would make 
two principal changes to the 2014 ISDA Credit Derivatives Definitions 
to address narrowly-tailored credit events.\8\ First, the NTCE 
Supplement would change the definition of the ``Failure to Pay'' credit 
event to exclude certain narrowly-tailored credit events through a new 
Credit Deterioration Requirement. The Credit Deterioration Requirement 
would provide that a failure of a corporation to make a payment on an 
obligation would not constitute a Failure to Pay Credit Event 
triggering CDS on that corporation if the failure does not directly or 
indirectly result from, or result in, a deterioration in the 
creditworthiness or financial condition of the corporation.\9\ Thus, a 
narrowly-tailored or manufactured failure to pay that does not reflect 
or result in a credit deterioration by a corporation would not 
constitute a Credit Event for CDS Contracts that incorporate the NTCE 
Supplement and thus would not necessarily trigger payment to buyers of 
CDS protection. The NTCE Supplement would also provide guidance related 
to the factors that would be relevant to determining whether a Failure 
to Pay Credit Event satisfies the Credit Deterioration Requirement. As 
would be the case with other Failure to Pay Credit Events under CDS 
contracts, the relevant Credit Derivatives Determinations Committee 
would, in the normal course, make the determination as to whether a 
Failure to Pay Credit Event satisfies the Credit Deterioration 
Requirement.
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    \8\ See ISDA 2019 NTCE Protocol FAQ, available at https://www.isda.org/protocol/isda-2019-ntce-protocol.
    \9\ See ISDA 2019 Narrowly Tailored Credit Event Supplement to 
the 2014 ISDA Credit Derivatives Definitions (Published on July 15, 
2019), available at https://www.isda.org/a/KDqME/Final-NTCE-Supplement.pdf.
---------------------------------------------------------------------------

    Second, the NTCE Supplement would reduce the amount of payout a CDS 
protection buyer could claim in certain circumstances by imposing a new 
provision for Fallback Discounting. Fallback Discounting would discount 
a CDS protection buyer's claim for payout under a CDS contract where 
that claim for payout is based on an obligation issued by a corporation 
at a discount.\10\ This would address the potential scenario where a 
corporation issues a bond at a substantial discount to its principal 
amount and the bond is delivered in settlement of a CDS at its full 
principal amount. In this scenario, Fallback Discounting would prevent 
a buyer of CDS protection from using the full principal amount of the 
bond issued at a discount as a basis for payout under the CDS contract.
---------------------------------------------------------------------------

    \10\ Id.
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B. Changes to the LCH SA CDS Supplement

    Because LCH SA will clear and settle CDS contracts to which the 
NTCE Supplement will apply, it must ensure that its relevant Rules 
accurately reflect the changes described above that will be implemented 
by the NTCE Supplement. Accordingly, the proposed rule change would 
ensure that the changes being implemented by the NTCE Supplement are 
accurately reflected in LCH SA's relevant Rules by making substantially 
similar amendments to both Part B of

[[Page 5745]]

the CDS Supplement, which applies to single-name CDS contracts and 
components of index CDS contracts that incorporate the 2014 ISDA Credit 
Derivatives Definitions, and Part C of the CDS Supplement, which 
applies to swaptions transactions. The proposed rule change would do so 
by amending the CDS Clearing Supplement to incorporate the versions of 
the ISDA supplement and confirmations that are currently in-force. 
After the NTCE Supplement becomes effective, the latest versions of the 
ISDA supplement and confirmations will incorporate the NTCE Supplement 
and by default specify that the two concepts described above--the 
Credit Deterioration Requirement and Fallback Discounting--are 
applicable. Thus, in specifying that the versions of the ISDA 
supplement and confirmations that are currently in-force would apply to 
single-name CDS contracts and components of index CDS contracts that 
incorporate the 2014 ISDA Credit Derivatives Definitions and swaptions, 
the proposed rule change would automatically apply the NTCE Supplement 
to such transactions.
    The proposed rule change would also specify that the amendments 
resulting from the NTCE Supplement to the 2014 ISDA Credit Derivatives 
Definitions would only be applicable where the Protocol Effectiveness 
Condition, as defined in the ISDA 2019 Narrowly Tailored Credit Event 
Protocol, is satisfied. Because ISDA has already determined that the 
Protocol Effectiveness Condition is satisfied, effectively the proposed 
rule change would apply the amendments resulting from the NTCE 
Supplement to all single-name CDS contracts and components of index CDS 
contracts that incorporate the 2014 ISDA Credit Derivatives Definitions 
and all swaptions transactions currently in place or that are entered 
into on or after January 27, 2020 (the implementation date determined 
by ISDA).\11\
---------------------------------------------------------------------------

    \11\ See ISDA 2019 NTCE Protocol, available at https://www.isda.org/protocol/isda-2019-ntce-protocol/.
---------------------------------------------------------------------------

C. Outstanding Principal Balance

    Unrelated to the changes discussed above, the proposed rule change 
would also harmonize the use of the term ``Outstanding Principal 
Balance'' throughout the LCH SA CDS Supplement by ensuring that the 
term is only used with capital letters. Section 1.1 of the LCH SA CDS 
Supplement specifies that capitalized terms not otherwise defined 
therein shall have the meaning given pursuant to, among other 
documents, the ISDA 2003 and 2014 Credit Derivatives Definitions, and 
explicitly incorporates into the LCH SA CDS Supplement such defined 
terms. The term ``Outstanding Principal Balance'' is defined in the 
ISDA 2003 and 2014 Credit Derivatives Definitions, and according to LCH 
SA is intended to be incorporated into the LCH SA CDS Supplement. 
However, the term ``Outstanding Principal Balance'' is not consistently 
capitalized throughout the current version of the LCH SA CDS 
Supplement. Accordingly, because LCH SA intends that the term 
``Outstanding Principal Balance'' should be an incorporated defined 
term as defined in Section 1.1 of the LCH SA CDS Supplement, the 
proposed rule change would amend the LCH SA CDS Supplement by 
capitalizing the term ``Outstanding Principal Balance'' where not 
already capitalized.

III. Commission Findings

    Section 19(b)(2)(C) of the Act directs the Commission to approve a 
proposed rule change of a self-regulatory organization if it finds that 
the proposed rule change is consistent with the requirements of the Act 
and the rules and regulations thereunder applicable to the 
organization.\12\ For the reasons given below, the Commission finds 
that the proposed rule change is consistent with Section 17A(b)(3)(F) 
of the Act \13\ and Rule 17Ad-22(e)(1) thereunder.\14\
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    \12\ 15 U.S.C. 78s(b)(2)(C).
    \13\ 15 U.S.C. 78q-1(b)(3)(F).
    \14\ 17 CFR 240.17Ad-22(e)(1).
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A. Consistency With Section 17A(b)(3)(F) of the Act

    Section 17A(b)(3)(F) of the Act requires, among other things, that 
the rules of LCH SA be designed to promote the prompt and accurate 
clearance and settlement of securities transactions and, to the extent 
applicable, derivative agreements, contracts, and transactions, to 
assure the safeguarding of securities and funds which are in the 
custody or control of LCH SA or for which it is responsible, and, in 
general, to protect investors and the public interest.\15\
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    \15\ 15 U.S.C. 78q-1(b)(3)(F).
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    As described above, the NTCE Supplement would amend the underlying 
legal terms applicable to CDS contracts and swaptions to which it 
applies by, among other things, limiting Credit Events to those that 
reflect a deterioration in the creditworthiness or financial condition 
of the relevant company. It also would reduce the amount of payout a 
CDS protection buyer could claim in certain circumstances where the 
claim for payout is based on an obligation issued by a company at a 
discount. Further, because ISDA has determined that the Protocol 
Effectiveness Condition is satisfied and set an implementation date of 
January 27, 2020, the NTCE Supplement will apply to all swaptions and 
single-name CDS contracts and components of index CDS contracts that 
incorporate the 2014 ISDA Credit Derivatives Definitions currently in 
place or entered into on or after that date.
    As noted above, because LCH SA will clear and settle CDS contracts 
and swaptions that are subject to the changes being made by the NTCE 
Supplement, the proposed rule change would amend the LCH SA CDS 
Supplement to incorporate the amendments resulting from the NTCE 
Supplement, thereby ensuring that LCH SA's Rules accurately reflect and 
appropriately apply the legal terms and conditions applicable to such 
CDS contracts and swaptions. Separately, to help clarify and ensure 
that the term ``Outstanding Principal Balance'' is and remains an 
incorporated defined term pursuant to Section 1.1 of the CDS 
Supplement, the proposed rule change would amend the CDS Supplement to 
capitalize the term ``Outstanding Principal Balance'' consistently 
throughout the document.
    In the Commission's view, a lack of clarity in the underlying legal 
terms and conditions applicable to the transactions that LCH SA clears 
and settles could hinder LCH SA's ability to promptly and accurately 
clear and settle such transactions. Likewise, disputes regarding the 
applicable legal terms and conditions of such transactions could lead 
to disputes or confusion regarding the necessary and appropriate margin 
submitted in connection with such transactions, thereby threatening LCH 
SA's ability to safeguard such margin. Accordingly, by making the 
changes described above, and in particular by ensuring LCH SA's Rules 
accurately reflect and appropriately apply the legal terms and 
conditions applicable to the CDS contracts and swaptions that are 
cleared and settled by LCH SA, the Commission believes that the 
proposed rule change would help ensure that LCH SA's Rules continue to 
promote the prompt and accurate clearance and settlement of such the 
CDS contracts and swaptions and assure the safeguarding of securities 
and funds in LCH SA's custody and control. For these same reasons the 
Commission also finds that the proposed rule change would, in general, 
protect investors and the public interest.

[[Page 5746]]

    Therefore, the Commission finds that the proposed rule change is 
consistent with Section 17A(b)(3)(F) of the Act.\16\
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    \16\ 15 U.S.C. 78q-1(b)(3)(F).
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B. Consistency With Rule 17Ad-22(e)(1)

    Rule 17Ad-22(e)(1) requires that LCH SA establish, implement, 
maintain, and enforce written policies and procedures reasonably 
designed to provide for a well-founded, clear, transparent, and 
enforceable legal basis for each aspect of its activities in all 
relevant jurisdictions.\17\ As discussed above, the proposed rule 
change would help to clarify and ensure that LCH SA's Rules accurately 
reflect and appropriately apply the legal terms and conditions 
applicable to the CDS contracts and swaptions that are cleared and 
settled by LCH SA. The Commission believes that this, in turn, would 
help ensure that the LCH SA CDS Supplement provides a consistent and 
enforceable legal basis for clearing and settling CDS contracts and 
swaptions to which the NTCE Supplement applies in light of the 
amendments made by the NTCE Supplement.
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    \17\ 17 CFR 240.17Ad-22(e)(1).
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    Therefore, the Commission finds that the proposed rule change is 
consistent with Rule 17Ad-22(e)(1).\18\
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    \18\ Id.
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IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change, as modified by Partial Amendment No. 1, 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-LCH SA-2019-011 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.

All submissions should refer to File Number SR-LCH SA-2019-011. 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 LCH SA and on LCH SA's website 
at: https://www.lch.com/resources/rules-and-regulations/proposed-rule-changes-0. 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-LCH SA-2019-011 and should 
be submitted on or before February 21, 2020.

V. Accelerated Approval of the Proposed Rule Change, as Modified by 
Partial Amendment No. 1

    The Commission finds good cause, pursuant to Section 19(b)(2) of 
the Act,\19\ to approve the proposed rule change prior to the 30th day 
after the date of publication of Partial Amendment No. 1 in the Federal 
Register. As discussed above, Partial Amendment No. 1 amends the CDS 
Clearing Supplement so that, instead of referring to the specific date 
for various ISDA supplements, it explicitly refers to and incorporates 
whichever versions of the supplements to the standard contract terms 
are currently effective. By providing this additional clarity, Partial 
Amendment No. 1 provides for a more clear and comprehensive 
understanding of the estimated application of the proposed rule change, 
which helps to improve the Commission's review of the proposed rule 
change for consistency with the Act and helps market participants 
understand the impact of the proposed rule change.
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    \19\ 15 U.S.C. 78s(b)(2).
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    Additionally, because Partial Amendment No. 1 would help clarify 
and ensure that the appropriate legal terms and conditions are applied 
to the CDS contracts and swaptions cleared and settled by LCH SA, and 
for similar reasons as discussed above, the Commission finds that 
Partial Amendment No. 1 is designed to promote the prompt and accurate 
clearance and settlement of securities transactions, help assure the 
safeguarding of securities and funds which are in the custody or 
control of LCH SA, and, in general, to protect investors and the public 
interest, consistent with Section 17A(b)(3)(F) of the Act.\20\ 
Accordingly, the Commission finds good cause for approving the proposed 
rule change, as modified by Partial Amendment No. 1, on an accelerated 
basis, pursuant to Section 19(b)(2) of the Exchange Act.\21\
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    \20\ 15 U.S.C. 78q-1(b)(3)(F).
    \21\ 15 U.S.C. 78s(b)(2).
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VI. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposed rule change is consistent with the requirements of the Act, 
and in particular, with the requirements of Section 17A(b)(3)(F) of the 
Act \22\ and Rule 17Ad-22(e)(1) thereunder.\23\
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    \22\ 15 U.S.C. 78q-1(b)(3)(F).
    \23\ 17 CFR 240.17Ad-22(e)(1).
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    It is therefore ordered pursuant to Section 19(b)(2) of the Act 
\24\ that the proposed rule change, as modified by Partial Amendment 
No. 1 (SR-LCH-SA-2019-011), be, and hereby is, approved on an 
accelerated basis.\25\
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    \24\ 15 U.S.C. 78s(b)(2).
    \25\ In approving the proposed rule change, the Commission 
considered the proposal's impact on efficiency, competition, and 
capital formation. 15 U.S.C. 78c(f).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\26\
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    \26\ 17 CFR 200.30-3(a)(12).
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Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2020-01517 Filed 1-30-20; 8:45 am]
 BILLING CODE 8011-01-P

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