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 the Clearing of Options on Index Credit Default Swaps in Respect of North American Indices (More Specifically, CDX.NA.IG and CDX.NA.HY), 78153-78157 [2020-26597]

Download as PDF Federal Register / Vol. 85, No. 233 / Thursday, December 3, 2020 / Notices SECURITIES AND EXCHANGE COMMISSION [Release No. 34–90525; File No. SR–LCH SA–2020–005] 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 the Clearing of Options on Index Credit Default Swaps in Respect of North American Indices (More Specifically, CDX.NA.IG and CDX.NA.HY) November 27, 2020. I. Introduction On September 24, 2020, 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–4,2 a proposed rule change to permit the clearing of options on index credit default swaps (‘‘CDS’’) in respect of North American indices (more specifically, CDX.NA.IG and CDX.NA.HY) (‘‘CDX Swaptions’’). The proposed rule change was published for comment in the Federal Register on October 13, 2020.3 The Commission did not receive comments on the proposed rule change. On November 27, 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. II. Description of the Proposed Rule Change LCH SA is proposing to amend its rules to permit the clearing of CDX Swaptions.5 As LCH SA currently clears 1 15 U.S.C. 78s(b)(1). CFR 240.19b–4. 3 Self-Regulatory Organizations; LCH SA; Notice of Filing of Proposed Rule Change Relating to the Clearing of Options on Index Credit Default Swaps in Respect of North American Indices (More Specifically, CDX.NA.IG and CDX.NA.HY), Exchange Act Release No. 90099 (October 6, 2020); 85 FR 64551 (October 13, 2020) (SR–LCH SA–2020– 005) (‘‘Notice’’). 4 Partial Amendment No. 1 amends the LCH SA Reference Guide: CDS Margin Framework to reflect all of the changes discussed herein. Partial Amendment No. 1 also includes Exhibit 4 (Text of the proposed change with the differences from the initial Exhibit 5C). 5 The description herein is substantially excerpted from the Notice. khammond on DSKJM1Z7X2PROD with NOTICES 2 17 VerDate Sep<11>2014 19:48 Dec 02, 2020 Jkt 253001 options in which certain European index CDS are the underlying asset, i.e., CDS on Markit iTraxx® Europe Index and iTraxx® Crossover Index (‘‘iTraxx Swaptions’’), the proposed introduction of CDX Swaptions requires minimal changes to extend LCH SA’s existing risk framework to this new product.6 As described below, LCH SA is proposing such changes in its (i) Reference Guide: CDS Margin Framework (‘‘CDSClear Margin Framework’’); 7 (ii) CDS Clearing Supplement (‘‘Supplement’’); and (iii) CDS Clearing Procedures (‘‘Procedures’’).8 In addition, LCH SA proposes to make other changes unrelated to the introduction of CDX Swaptions, including changes to the Vega Margin that will apply to both iTraxx Swaptions and CDX Swaptions, which are also described below.9 A. Proposed Changes With Respect to CDX Swaptions 1. CDSClear Margin Framework LCH SA is proposing to amend Paragraph 2.3.4, which concerns the Daily Contributions Assessment, to include CDX Swaptions. The Daily Contributions Assessment is the primary method by which LCH SA obtains Members’ daily price contributions to update implied volatilities on options. These price contributions, in turn, would be used by LCH SA for marking the options book, if certain conditions are met. The proposed change to the Daily Contributions Assessment will require Members to make price contributions on CDX Swaptions for all strikes that are multiples of 2.5 basis points for CDX.NA.IG and 0.5 cents for CDX.NA.HY of a given expiry when Members have at least one open position on one strike for that expiry. This change would ensure that daily updates are available for LCH SA’s implied volatility measurements. Without this change, LCH SA would rely on Markit’s composite prices or use pre-defined rules to fill in missing data in accordance with section 2.3.3.2 (Missing Data Points) of the CDSClear Margin Framework, consistent with what LCH does for other options that it currently clears. LCH SA is also proposing changes in paragraph 4.1.9 of the CDSClear Margin Framework, as outlined below: 6 See Notice, 85 FR at 64552. terms used but not defined herein have the same definitions as in the CDSClear Margin Framework or Default Fund Methodology, as applicable. 8 See Notice, 85 FR at 64552. 9 Id. 7 Capitalized PO 00000 Frm 00041 Fmt 4703 Sfmt 4703 78153 (a) LCH SA would add a comment to highlight that although the given example pertains to iTraxx Swaptions, the same logic applies to CDX Swaptions. (b) In the description of Step 2 regarding the calculation of the cost of vega hedging, LCH SA would specify that the volume of delta neutral Swaption notional that it can unwind in a day will be derived from a clearing member survey. (c) In the description of Step 3 regarding the contributions to the macro-hedge cost, LCH SA would specify that the volume of principal index 5YR Off-The-Run-1 series Swaption notional that one can reasonably unwind in a day is defined in the previous section on indices. LCH SA would also add CDX Swaptions to the description of the variable beta (‘‘b’’) that defines an index sub-family, either Main or Xover for iTraxx and IG or HY for CDX. (d) In the description of Step 4 regarding the final Liquidity Charge and to aggregate the costs of delta hedging and vega hedging, LCH SA would add a formula to clarify that the existing methodology would also apply and to incorporate the Foreign Exchange rate into the final Liquidity Charge formula to address CDX Swaptions. LCH SA determined that no changes are required to its liquidity and concentration risk margin methodology, as set forth in the CDSClear Margin Framework, in connection with clearing CDX Swaptions.10 Currently, in the event of a clearing member default and the calculation of a liquidity charge, LCH SA attempts to source hedges from the CDS part of the defaulting member’s portfolio using a delta-hedging algorithm to ensure minimal hedging costs before sourcing the hedges from the market.11 In this connection, LCH SA proposes to amend Section 4.1.9 to reflect use of a member survey to determine the volume of the delta neutral package of the selected option that can be reasonably unwound per day. LCH SA is also proposing additional language to confirm how currency conversion from USD to EUR will apply in circumstances where options priced in USD form part of the delta-hedged package. Paragraph 4.2 sets forth the accrued coupon liquidation risk margin (i.e., margin covering the risk that a 10 See Notice, 85 FR at 64552. (noting that in the event of a clearing member default, market feedback indicates that it is optimal from a friction cost standpoint for swaptions to be liquidated as a delta-hedged package intended to trade and hedge an option along with an index). 11 Id. E:\FR\FM\03DEN1.SGM 03DEN1 78154 Federal Register / Vol. 85, No. 233 / Thursday, December 3, 2020 / Notices khammond on DSKJM1Z7X2PROD with NOTICES protection buyer will not be paying any accrued coupon via the Variation Margin (‘‘VM’’) between the time it defaults and the end of the liquidation of its portfolio) for both CDS and CDS Options. The accrued coupon liquidation risk margin with respect to CDS Options remains the same, but would be amended to reflect that any such amount for CDX Swaptions contracts is converted from USD to EUR. As a result of the foregoing proposed changes, LCH SA would update the Content table and the summary of changes and make corresponding changes to provision numbering throughout the CDSClear Margin Framework. 2. Supplement To allow for the clearing of CDX Swaptions, LCH SA is proposing a number of changes in Part C of the Supplement to add or modify a number of relevant definitions. Specifically, in Section 1.2 (Terms defined in the CDS Clearing Supplement): (a) The proposed definition of the term ‘‘CDX Swaption Standard Terms Supplement’’ would refer to the applicable documentation for the CDX Swaptions, as published by Markit North America, Inc. and as amended by the Supplement. (b) The definition of the term ‘‘Index Swaption Cleared Transaction Confirmation’’ would refer to the applicable form of confirmation for CDX Swaptions in new indent (b), and would make some minor corrections in new indent (a) and in the last paragraph of the definition. (c) The proposed definition of the term ‘‘Submission Deadline’’ would provide for both the Markit iTraxx and CDX exercise windows in respect of different swaptions. (d) The definition of ‘‘Transaction Data’’ would include a new reference to the Option Type that is relevant for CDX Swaptions. In addition, LCH SA proposes to replace all references to the standard fixed time of 4:00 p.m. (London time) or 5:00 p.m. (Central European Time), which apply only to iTraxx Swaptions, with the new defined term ‘‘Submission Deadline’’ in Sections 6.3, 6.4, 6.5 (paragraph (c)), 6.10 (paragraph (b)) and Sections 5.3, 5.5 and 5.7 of Appendix VIII (CCM Client Transaction Requirements). For consistency purposes, LCH SA would amend Section 7.2 (Creation of Initial Single Name Cleared Transactions for Settlement purposes in respect of Credit Events other than M(M)R Restructuring) to include references to the relevant paragraph of VerDate Sep<11>2014 19:48 Dec 02, 2020 Jkt 253001 the CDX Swaption Standard Terms Supplement. LCH SA would also add references to a CDX as an Underlying Index and the Swaption Type to the Schedules of Appendix I (Form of Exercise Notice) and Appendix II (Form of Abandonment Notice) to Part C of the Supplement. In Appendix VIII (CCM Client Transaction Requirements) to Part C of the Supplement, LCH SA proposes to amend Section 1 to refer to the CDX Swaption Standard Terms Supplement and to remove the definition of ‘‘STS Supplement.’’ LCH SA would make a related change in Section 8.2 of this Appendix by replacing the current reference to the ‘‘STS Supplement’’ with a reference to the ‘‘iTraxx® Swaption Standard Terms Supplement’’ as this section concerns only iTraxx Swaptions. LCH SA would also add references to the iTraxx® Swaption Standard Terms Supplement and the CDX Swaption Standard Terms Supplement or the relevant section of such Supplement, as applicable, and remove any reference to the STS Supplement in Sections 8.3 and 8.4 of this Appendix. 3. Procedures LCH SA also proposes to modify Section 5 of the Procedures (CDS Clearing Operations) to include CDX Swaptions in the scope of the End of Day Price Contribution as set out in Paragraph 5.18. LCH SA would change references from ‘‘CDS’’ to ‘‘CDS and an Index Swaption’’ in paragraphs 5.18.3 and 5.18.5, for instruments with a CDS Contractual Currency in U.S. Dollar. In paragraph 5.18.4 (Use of composite spreads/prices), LCH SA would modify the first sentence to ensure similar clarity. In the same paragraph, LCH SA would expand the scope of the End of Day Contributed Prices in respect of CDS with a Contractual Currency in U.S. Dollar to include Index Swaptions. In paragraph 5.18.5(b), LCH SA would remove the restriction to Index Swaptions with a CDS Contractual Currency in Euro, and separate the Delta Hedged Swaption Package into two subsections in order to allow for the two different timings of iTraxx Swaptions and CDX Swaptions. B. Other Changes Unrelated to CDX Swaptions LCH SA is also proposing changes in the CDSClear Margin Framework and the Supplement that LCH SA represented are unrelated to the CDX Swaptions initiative. In section 3.9 of the CDSClear Margin Framework, LCH SA proposes changes to align the methodology for calculating PO 00000 Frm 00042 Fmt 4703 Sfmt 4703 Vega Margin with LCH SA’s approach across all products and business segments. Vega Margin captures the risk of volatility changes in the options premium relative to the strikes, i.e., the skew risk and the risk of changes in the volatility of volatility.12 To address a risk model validation finding, LCH SA is proposing to change its risk model from a parametric model to a historical model, using predefined scenarios to simulate the risk of volatility change. This change in risk model would introduce shocks on the volatility itself rather than solely on the calculation’s model parameters, as the current parametric model does. The proposed historical model would use a new methodology that relies on four regular and four stressed historical scenarios for each index family, calibrated based on the worst skew risk and the volatilityof-volatility risk at given confidence levels, as outlined below. Under both models, Vega Margin represents an addon amount to Spread Margin (i.e., a component of Total Initial Margin that covers the worst losses in the event of unfavorable credit spread and volatility moves) that accounts for potential moves in implied volatility. LCH SA does not expect that the proposed change from a parametric to a historical model will have a significant Profit and Loss (‘‘P&L’’) impact on the calculation of Vega Margin.13 (a) LCH SA will develop the volatility scenarios using historical data since April 3, 2007. For each index family, LCH SA would identify historical scenarios by estimating the largest 5-day shifts in volatility distance, at a given percentile, between At-The-Money strikes and implied volatilities for options with a delta of 10%, 25%, 75% and 90%, to capture the deformation of volatility surface across strikes. (b) LCH SA would calibrate the skew and smile scenarios related to the option pricing against the worst volatility surface distortion (i.e., the largest changes of the volatility distance as explained above) at a given confidence level. LCH SA would derive these scenarios from volatility shocks at each delta level described above, which LCH SA will use to shift the end of day volatilities, at the corresponding delta levels, to calibrate a set of shifted or Stochastic Volatility Inspired (‘‘SVI’’) scenarios as shown in the updated table in paragraph 3.9.2. (c) LCH SA proposes to adjust the number of scenarios calculated for each index family from eight to four, because 12 See Notice, 85 FR at 64552. 13 Id. E:\FR\FM\03DEN1.SGM 03DEN1 khammond on DSKJM1Z7X2PROD with NOTICES Federal Register / Vol. 85, No. 233 / Thursday, December 3, 2020 / Notices of the shocks that the new historical risk model will apply at volatility level. In addition, LCH SA is proposing the following miscellaneous changes in the CDSClear Margin Framework: (a) Section 3 provides the Total Initial Margin framework with respect to both CDS and CDS Options. One component of the Total Initial Margin framework is the Short Charge, an amount which accounts for the risk of default by the underlying constituent entities of the relevant index.14 While the methodology for calculating Short Charge margin in section 3.1 would remain the same, LCH SA would amend the summary language to specify that it includes the P&L impact of liquidating a defaulting member’s portfolio under one or two credit events. Currently, the number of credit events that LCH SA considers is set to two. The Risk Overview table in paragraph 3.2 also would reflect this change. As per the model used for linear U.S. products, the Short Charge amount would also cover the possibility of a default in respect of an exposure representing the average net short exposure of the ten (10) riskiest exposures with the defined recovery rate cap. Since the approach in respect of iTraxx Swaptions only accounts for the risk of default of the entity with the largest net short exposure, LCH SA is amending the language to include the additional default risk that it must take into account in respect of CDX Swaptions on CDX.NA.HY. As a result of these changes, LCH SA would also remove the specific rule to calculate the Financial Short Charge on Financial entities (which covered the default risk by the two largest Financials entities comprising the underlying constituent entities of the relevant index). (b) LCH SA would remove a reference to a 10-year sample for the Foreign Exchange rate from paragraph 3.4.8.3, because it was not an accurate description of how LCH SA computes the Foreign Exchange rate. (c) LCH SA also proposes to correct a typographical error in paragraph 3.8.2 (double parenthesis and period missing). LCH SA also proposes several miscellaneous changes in the Supplement for purposes of clarification or harmonization, as described below. Specifically, in Part C of the Supplement, Section 9.1 (Creation of Matched Pairs), LCH SA would add a principle governing the size of the Matched Pairs that it would create in the context of a Restructuring or an Exercise to align with equivalent provisions of Parts A and B of the Supplement. LCH SA also proposes to remove the amounts of the Matched Pair from Section 8.1 (Creation of Matched Pairs) of Parts A and Part B of the Supplement, because LCH SA proposes that such amounts would be set forth in a new Clearing Notice that outlines the maximum applicable Matched Pair notional amounts. LCH SA represents that this proposed change would allow for greater flexibility in adapting these amounts according to market conditions and evolving open interest.15 In addition, LCH SA proposes to remove the conditional references to ‘‘if’’ from Section 2.4 and Appendix XIII (Section 2.6) of Part B of the Supplement and from Section 2.3 and Appendix VIII (Section 2.4) of Part C of the Supplement, given that the Protocol Effectiveness Condition as defined in the ISDA 2019 Narrowly Tailored Credit Event (‘‘NTCE’’) Protocol published by the International Swaps and Derivatives Association, Inc. (‘‘ISDA’’) on August 27, 2019 is now satisfied. For consistency purposes, LCH SA would make an equivalent amendment to Appendix XIII of Part A of the Supplement (Section 2.6) in respect of the 2014 ISDA Credit Derivatives Definitions Protocol published by ISDA on August 21, 2014. LCH SA would also remove references to the Implementation Date as provided for in the 2019 ISDA NTCE Protocol from the definition of the ‘‘iTraxx® Swaption Standard Terms Supplement’’ in Section 1.2 of Part C of the Supplement to refer to the current version of this document which was published on March 20, 2017. LCH SA stated that at the time that ISDA had drafted the 2019 ISDA NTCE Protocolrelated amendments and submitted them to the regulatory process, there was an initial draft Swaption Standard Terms Supplement that took account of this Protocol.16 LCH SA also stated that this draft did not progress, and that the most recent, applicable version remains the version published in 2017.17 Consequently, in Section 2.2 (Index Swaption Cleared Transaction Confirmation) of Part C of the Supplement, LCH SA would amend any confirmation in respect of a Swaption by specifying in a new indent (d) that the Standard Terms Date applicable to the underlying transaction of a Swaption will be the most updated version of the Standard Terms Supplement. This change will ensure that the applicable version is the one 15 See 16 See 14 See Notice, 85 FR at 64553. VerDate Sep<11>2014 19:48 Dec 02, 2020 Notice, 85 FR at 64553. Notice, 85 FR at 64554. 17 Id. Jkt 253001 PO 00000 Frm 00043 Fmt 4703 Sfmt 4703 78155 that has taken into account the 2019 ISDA NTCE Protocol (i.e., the versions applicable to Markit iTraxx and CDX published on the Implementation Date of such Protocol). As a result of this change, LCH SA would renumber the indents in Section 2.2 from (e) to (i). LCH SA also proposes to make the following corrections to the Supplement: (a) In Sections 7.10 of Parts A and B, LCH SA would replace the reference to a ‘‘CDS Clearing Member’’ with ‘‘Clearing Member’’ to use the correct defined term. (b) In Sections 9.1 of Parts A and B, paragraph (c), LCH SA would specify that the Self Referencing Transaction is a Clearing Member Self Referencing Transaction to be consistent with the title of Section 9.1. (c) In Section 1.2 of Part B, in the definition of ‘‘Index Cleared Transaction Confirmation,’’ LCH SA would insert the correct name of the publisher of the documentation for Markit CDX. (d) In Section 1.2 of Part C, LCH SA would correct a typographical error in the definition of ‘‘Swaption Restructuring Cleared Transaction’’ and remove the word ‘‘Eligible’’ from the definition of ‘‘Underlying Index Transaction’’ as an Eligible Index Swaption is not a defined term. (e) In Appendix VIII of Part C, LCH SA would remove the definitions from Section 1 as these terms are already defined in Section 1.2 of Part C. 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.18 For the reasons given below, the Commission finds that the proposed rule change is consistent with Section 17A(b)(3)(F) of the Act 19 and Rule 17Ad–22(e)(6)(i) thereunder.20 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 and to assure the safeguarding of securities and funds which are in the 18 15 U.S.C. 78s(b)(2)(C). U.S.C. 78q–1(b)(3)(F). 20 17 CFR 240.17Ad–22(e)(6)(i). 19 15 E:\FR\FM\03DEN1.SGM 03DEN1 khammond on DSKJM1Z7X2PROD with NOTICES 78156 Federal Register / Vol. 85, No. 233 / Thursday, December 3, 2020 / Notices custody or control of LCH SA or for which it is responsible.21 As described above in Section II.A, LCH SA is proposing to revise its CDSClear Margin Framework, Supplement, and Procedures in order to extend their applicability to CDX Swaptions. For example, the proposed change to the Daily Contributions Assessment in the CDSClear Margin Framework would require Members to make price contributions on CDX Swaptions for all strikes that are multiples of 2.5 basis points for CDX.NA.IG and 0.5 cents for CDX.NA.HY of a given expiry when Members have at least one open position on one strike for that expiry. The revisions to the Supplement would allow the clearing of CDX Swaptions by amending various definitions to make them applicable to CDS Swaptions. The Procedures similarly would be revised to include CDX Swaptions in, for example, the scope of the End of Day Price Contribution. The language in the Short Charge component of the total initial margin has also been amended to include the additional default risk that must be taken into account with CDX Swaptions. The Commission understands that, taken together, these changes would amend LCH SA’s risk management system and clearing procedures to ensure that LCH SA can appropriately manage the risks of transactions in CDX Swaptions and, in turn, to help ensure that LCH SA has sufficient financial resources. The Commission therefore believes that these changes would promote the prompt and accurate clearance and settlement of CDX Swaptions. Similarly, given that mismanagement of the risks associated with clearing CDX Swaptions could cause LCH SA to realize losses on such transactions and threaten its ability to operate, thereby threatening access to securities and funds in LCH SA’s control, the Commission believes that the proposed rule change would help assure the safeguarding of securities and funds which are in the custody or control of LCH SA or for which it is responsible. LCH SA is also proposing miscellaneous changes that are unrelated to CDX Swaptions. For instance, LCH SA is proposing corrections to various terminology in the Supplement (replacing reference in Section 7.10 of Parts A and B to a ‘‘CDS Clearing Member’’ with the correct defined term ‘‘Clearing Member,’’ specifying in Section 9.1 of Parts A and B that the Self Referencing Transaction is a Clearing Member Self Referencing Transaction, removing the term ‘‘Eligible’’ from the definition of ‘‘Underlying Index Transaction’’ in Section 1.2 of Part C as a typographical error), as well as wording changes to reflect the fact that the Protocol Effectiveness Condition with regard to the 2019 ISDA NTCE Protocol published by ISDA on August 27, 2019 is now satisfied along with the various clean-up and typographical changes. The Commission believes that these clarifications strengthen LCH SA’s risk management documents with clear and up-to-date information, which in turn is consistent with protecting investors and the public interest. LCH SA is also proposing changes to the Vega Margin methodology. Specifically, LCH SA is proposing to transition from a parametric model to a historical model, using predefined scenarios to simulate the risk of volatility change. The Commission believes that this proposed change will enable LCH SA to more accurately capture changes in option value due to volatility and generate margins commensurate with the risks and attributes of CDS and CDS options, which in turn will enhance LCH SA’s ability to manage the risks of transactions in CDX Swaptions and ultimately to promptly and accurately settle securities transactions and safeguard funds and securities. For the reasons stated above, the Commission finds that the proposed rule change is consistent with Section 17A(b)(3)(F) of the Act.22 B. Consistency With Rule 17Ad– 22(e)(6)(i) Rule 17Ad–22(e)(6)(i) requires that LCH SA establish, implement, maintain, and enforce written policies and procedures reasonably designed, as applicable, to cover its credit exposures to its participants by establishing a riskbased margin system that, at a minimum considers, and produces margin levels commensurate with, the risks and particular attributes of each relevant product, portfolio, and market.23 As noted above, the proposal would amend the CDSClear Margin Framework with respect to the Short Charge component of the total initial margin to include the additional default risk that must be taken into account with options on CDX.NA.HY. Such a change is necessary because the current approach with iTraxx Swaptions only accounts for the risk of default of the entity with the largest net short exposure, and the CDX Swaptions approach covers the 22 15 21 15 U.S.C. 78q–1(b)(3)(F). VerDate Sep<11>2014 19:48 Dec 02, 2020 23 17 Jkt 253001 PO 00000 U.S.C. 78q–1(b)(3)(F). CFR 240.17Ad–22(e)(6)(i). Frm 00044 Fmt 4703 Sfmt 4703 possibility of a default in respect of an exposure representing the average net short exposure of the ten riskiest exposures with the defined recovery rate cap, which is an additional default risk posed by CDX Swaptions. The Commission therefore believes that this proposed change would enhance LCH SA’s risk-based margin system by considering and producing margin levels commensurate with the risks and particular attributes of CDX Swaptions. The Commission also believes that the proposed rule changes to add the new methodology for calculating Vega Margin, based on a historical model approach rather than a parametric model, to account for the skew risk and volatility-of-volatility risk specific to CDS Options would likewise strengthen LCH SA’s ability to produce margins commensurate with these products because this proposed approach would be based on known, rather than unobservable, parameters used in assessing the value of an option. For these reasons, the Commission finds that the proposed rule change is consistent with Rule 17Ad–22(e)(6)(i).24 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 rule-comments@ sec.gov. Please include File Number SR– LCH SA–2020–005 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–2020–005. 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 24 17 E:\FR\FM\03DEN1.SGM CFR 240.17Ad–22(e)(6)(i). 03DEN1 Federal Register / Vol. 85, No. 233 / Thursday, December 3, 2020 / Notices 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/rulesand-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–2020–005 and should be submitted on or before December 24, 2020. khammond on DSKJM1Z7X2PROD with NOTICES 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,25 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 Reference Guide: CDS Margin Framework to reflect all of the changes discussed in this Order. By updating the Reference Guide: CDS Margin Framework to reflect all of the changes being made, Partial Amendment No. 1 ensures that the exhibit 5C accurately reflects all intended rule changes and is designed, in general, to protect investors and the public interest, consistent with Section 17A(b)(3)(F) of the Act. 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.26 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 25 15 26 15 U.S.C. 78s(b)(2). U.S.C. 78s(b)(2). VerDate Sep<11>2014 19:48 Dec 02, 2020 Jkt 253001 Section 17A(b)(3)(F) of the Act 27 and Rule 17Ad–22(e)(6)(i) thereunder.28 It is therefore ordered pursuant to Section 19(b)(2) of the Act 29 that the proposed rule change, as modified by Partial Amendment No. 1 (SR–LCH SA– 2020–005), be, and hereby is, approved.30 For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.31 J. Matthew DeLesDernier, Assistant Secretary. 78157 77) was deemed to have been approved by the Commission. For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.5 J. Matthew DeLesDernier, Assistant Secretary. [FR Doc. 2020–26596 Filed 12–2–20; 8:45 am] BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION [FR Doc. 2020–26597 Filed 12–2–20; 8:45 am] BILLING CODE 8011–01–P [Release No. 34–90524; File No. SR–ICC– 2020–013] SECURITIES AND EXCHANGE COMMISSION Self-Regulatory Organizations; ICE Clear Credit LLC; Notice of Filing and Immediate Effectiveness of Proposed Rule Change, as Modified by Partial Amendment No. 1, Relating to ICC’s Fee Schedule [Release No. 34–90526; File No. SR–NYSE– 2020–77] Self-Regulatory Organizations; New York Stock Exchange LLC; Notice of Deemed Approval of a Proposed Rule Change To Adopt Rule 8.601 (Active Proxy Portfolio Shares) and Rule 8.900 (Managed Portfolio Shares), Amend the Preamble to Rule 8P, and Amend Section 302.00 of the Listed Company Manual November 27, 2020. On September 22, 2020, New York Stock Exchange LLC 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 adopt Rule 8.601 (Active Proxy Portfolio Shares) and Rule 8.900 (Managed Portfolio Shares), amend the preamble to Rule 8P, and amend Section 302.00 of the Listed Company Manual to accommodate the listing of Active Proxy Portfolio Shares and Managed Portfolio Shares. The proposed rule change was published for comment in the Federal Register on October 9, 2020.3 The Commission received no comment letters on the proposed rule change. As of November 23, 2020, pursuant to Section 19(b)(2)(D) of the Act,4 the proposed rule change (SR–NYSE–2020– U.S.C. 78q–1(b)(3)(F). CFR 240.17Ad–22(e)(6)(i). 29 15 U.S.C. 78s(b)(2). 30 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). 31 17 CFR 200.30–3(a)(12). 1 15 U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 3 See Securities Exchange Act Release No. 90091 (Oct. 5, 2020), 85 FR 64194. 4 15 U.S.C. 78s(b)(2)(D). November 27, 2020. Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 1 and Rule 19b–4,2 notice is hereby given that on November 16, 2020, ICE Clear Credit LLC (‘‘ICC’’) filed with the Securities and Exchange Commission the proposed rule change as described in Items I, II, and III below, which Items have been prepared primarily by ICC. On November 25, 2020, ICC filed Partial Amendment No. 1 to the proposed rule change.3 ICC filed the proposed rule change pursuant Section 19(b)(3)(A) of the Act 4 and Rule 19b–4(f)(2) thereunder,5 such that the proposed rule change was immediately effective upon filing with the Commission. The Commission is publishing this notice to solicit comments on the proposed rule change, as modified by Partial Amendment No. 1 (hereinafter the ‘‘proposed rule change’’), from interested persons. I. Clearing Agency’s Statement of the Terms of Substance of the Proposed Rule Change The principal purpose of the proposed rule change is to modify ICC’s fee schedule to introduce two credit default index swaption (‘‘Index Swaption’’) volume incentive programs. 27 15 28 17 PO 00000 Frm 00045 Fmt 4703 Sfmt 4703 5 17 CFR 200.30–3(a)(12). U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 3 In Partial Amendment No. 1 to the proposed rule change, ICC provided additional details and analyses surrounding the proposed rule change in the form of a confidential Exhibit 3. Partial Amendment No. 1 did not make any changes to the substance of the filing or the text of the proposed rule change. 4 15 U.S.C. 78s(b)(3)(A). 5 17 CFR 240.19b–4(f)(2). 1 15 E:\FR\FM\03DEN1.SGM 03DEN1

Agencies

SECURITIES AND EXCHANGE COMMISSION

[Federal Register Volume 85, Number 233 (Thursday, December 3, 2020)]
[Notices]
[Pages 78153-78157]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-26597]



[[Page 78153]]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-90525; File No. SR-LCH SA-2020-005]


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 the Clearing of Options on Index Credit Default Swaps in Respect of 
North American Indices (More Specifically, CDX.NA.IG and CDX.NA.HY)

November 27, 2020.

I. Introduction

    On September 24, 2020, 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,\2\ a proposed rule change to permit the clearing of 
options on index credit default swaps (``CDS'') in respect of North 
American indices (more specifically, CDX.NA.IG and CDX.NA.HY) (``CDX 
Swaptions''). The proposed rule change was published for comment in the 
Federal Register on October 13, 2020.\3\ The Commission did not receive 
comments on the proposed rule change. On November 27, 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.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Self-Regulatory Organizations; LCH SA; Notice of Filing of 
Proposed Rule Change Relating to the Clearing of Options on Index 
Credit Default Swaps in Respect of North American Indices (More 
Specifically, CDX.NA.IG and CDX.NA.HY), Exchange Act Release No. 
90099 (October 6, 2020); 85 FR 64551 (October 13, 2020) (SR-LCH SA-
2020-005) (``Notice'').
    \4\ Partial Amendment No. 1 amends the LCH SA Reference Guide: 
CDS Margin Framework to reflect all of the changes discussed herein. 
Partial Amendment No. 1 also includes Exhibit 4 (Text of the 
proposed change with the differences from the initial Exhibit 5C).
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II. Description of the Proposed Rule Change

    LCH SA is proposing to amend its rules to permit the clearing of 
CDX Swaptions.\5\ As LCH SA currently clears options in which certain 
European index CDS are the underlying asset, i.e., CDS on Markit 
iTraxx[supreg] Europe Index and iTraxx[supreg] Crossover Index 
(``iTraxx Swaptions''), the proposed introduction of CDX Swaptions 
requires minimal changes to extend LCH SA's existing risk framework to 
this new product.\6\ As described below, LCH SA is proposing such 
changes in its (i) Reference Guide: CDS Margin Framework (``CDSClear 
Margin Framework''); \7\ (ii) CDS Clearing Supplement (``Supplement''); 
and (iii) CDS Clearing Procedures (``Procedures'').\8\ In addition, LCH 
SA proposes to make other changes unrelated to the introduction of CDX 
Swaptions, including changes to the Vega Margin that will apply to both 
iTraxx Swaptions and CDX Swaptions, which are also described below.\9\
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    \5\ The description herein is substantially excerpted from the 
Notice.
    \6\ See Notice, 85 FR at 64552.
    \7\ Capitalized terms used but not defined herein have the same 
definitions as in the CDSClear Margin Framework or Default Fund 
Methodology, as applicable.
    \8\ See Notice, 85 FR at 64552.
    \9\ Id.
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A. Proposed Changes With Respect to CDX Swaptions

1. CDSClear Margin Framework
    LCH SA is proposing to amend Paragraph 2.3.4, which concerns the 
Daily Contributions Assessment, to include CDX Swaptions. The Daily 
Contributions Assessment is the primary method by which LCH SA obtains 
Members' daily price contributions to update implied volatilities on 
options. These price contributions, in turn, would be used by LCH SA 
for marking the options book, if certain conditions are met. The 
proposed change to the Daily Contributions Assessment will require 
Members to make price contributions on CDX Swaptions for all strikes 
that are multiples of 2.5 basis points for CDX.NA.IG and 0.5 cents for 
CDX.NA.HY of a given expiry when Members have at least one open 
position on one strike for that expiry. This change would ensure that 
daily updates are available for LCH SA's implied volatility 
measurements. Without this change, LCH SA would rely on Markit's 
composite prices or use pre-defined rules to fill in missing data in 
accordance with section 2.3.3.2 (Missing Data Points) of the CDSClear 
Margin Framework, consistent with what LCH does for other options that 
it currently clears.
    LCH SA is also proposing changes in paragraph 4.1.9 of the CDSClear 
Margin Framework, as outlined below:
    (a) LCH SA would add a comment to highlight that although the given 
example pertains to iTraxx Swaptions, the same logic applies to CDX 
Swaptions.
    (b) In the description of Step 2 regarding the calculation of the 
cost of vega hedging, LCH SA would specify that the volume of delta 
neutral Swaption notional that it can unwind in a day will be derived 
from a clearing member survey.
    (c) In the description of Step 3 regarding the contributions to the 
macro-hedge cost, LCH SA would specify that the volume of principal 
index 5YR Off-The-Run-1 series Swaption notional that one can 
reasonably unwind in a day is defined in the previous section on 
indices. LCH SA would also add CDX Swaptions to the description of the 
variable beta (``[beta]'') that defines an index sub-family, either 
Main or Xover for iTraxx and IG or HY for CDX.
    (d) In the description of Step 4 regarding the final Liquidity 
Charge and to aggregate the costs of delta hedging and vega hedging, 
LCH SA would add a formula to clarify that the existing methodology 
would also apply and to incorporate the Foreign Exchange rate into the 
final Liquidity Charge formula to address CDX Swaptions. LCH SA 
determined that no changes are required to its liquidity and 
concentration risk margin methodology, as set forth in the CDSClear 
Margin Framework, in connection with clearing CDX Swaptions.\10\
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    \10\ See Notice, 85 FR at 64552.
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    Currently, in the event of a clearing member default and the 
calculation of a liquidity charge, LCH SA attempts to source hedges 
from the CDS part of the defaulting member's portfolio using a delta-
hedging algorithm to ensure minimal hedging costs before sourcing the 
hedges from the market.\11\ In this connection, LCH SA proposes to 
amend Section 4.1.9 to reflect use of a member survey to determine the 
volume of the delta neutral package of the selected option that can be 
reasonably unwound per day. LCH SA is also proposing additional 
language to confirm how currency conversion from USD to EUR will apply 
in circumstances where options priced in USD form part of the delta-
hedged package.
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    \11\ Id. (noting that in the event of a clearing member default, 
market feedback indicates that it is optimal from a friction cost 
standpoint for swaptions to be liquidated as a delta-hedged package 
intended to trade and hedge an option along with an index).
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    Paragraph 4.2 sets forth the accrued coupon liquidation risk margin 
(i.e., margin covering the risk that a

[[Page 78154]]

protection buyer will not be paying any accrued coupon via the 
Variation Margin (``VM'') between the time it defaults and the end of 
the liquidation of its portfolio) for both CDS and CDS Options. The 
accrued coupon liquidation risk margin with respect to CDS Options 
remains the same, but would be amended to reflect that any such amount 
for CDX Swaptions contracts is converted from USD to EUR.
    As a result of the foregoing proposed changes, LCH SA would update 
the Content table and the summary of changes and make corresponding 
changes to provision numbering throughout the CDSClear Margin 
Framework.
2. Supplement
    To allow for the clearing of CDX Swaptions, LCH SA is proposing a 
number of changes in Part C of the Supplement to add or modify a number 
of relevant definitions. Specifically, in Section 1.2 (Terms defined in 
the CDS Clearing Supplement):
    (a) The proposed definition of the term ``CDX Swaption Standard 
Terms Supplement'' would refer to the applicable documentation for the 
CDX Swaptions, as published by Markit North America, Inc. and as 
amended by the Supplement.
    (b) The definition of the term ``Index Swaption Cleared Transaction 
Confirmation'' would refer to the applicable form of confirmation for 
CDX Swaptions in new indent (b), and would make some minor corrections 
in new indent (a) and in the last paragraph of the definition.
    (c) The proposed definition of the term ``Submission Deadline'' 
would provide for both the Markit iTraxx and CDX exercise windows in 
respect of different swaptions.
    (d) The definition of ``Transaction Data'' would include a new 
reference to the Option Type that is relevant for CDX Swaptions.
    In addition, LCH SA proposes to replace all references to the 
standard fixed time of 4:00 p.m. (London time) or 5:00 p.m. (Central 
European Time), which apply only to iTraxx Swaptions, with the new 
defined term ``Submission Deadline'' in Sections 6.3, 6.4, 6.5 
(paragraph (c)), 6.10 (paragraph (b)) and Sections 5.3, 5.5 and 5.7 of 
Appendix VIII (CCM Client Transaction Requirements).
    For consistency purposes, LCH SA would amend Section 7.2 (Creation 
of Initial Single Name Cleared Transactions for Settlement purposes in 
respect of Credit Events other than M(M)R Restructuring) to include 
references to the relevant paragraph of the CDX Swaption Standard Terms 
Supplement.
    LCH SA would also add references to a CDX as an Underlying Index 
and the Swaption Type to the Schedules of Appendix I (Form of Exercise 
Notice) and Appendix II (Form of Abandonment Notice) to Part C of the 
Supplement.
    In Appendix VIII (CCM Client Transaction Requirements) to Part C of 
the Supplement, LCH SA proposes to amend Section 1 to refer to the CDX 
Swaption Standard Terms Supplement and to remove the definition of 
``STS Supplement.'' LCH SA would make a related change in Section 8.2 
of this Appendix by replacing the current reference to the ``STS 
Supplement'' with a reference to the ``iTraxx[supreg] Swaption Standard 
Terms Supplement'' as this section concerns only iTraxx Swaptions. LCH 
SA would also add references to the iTraxx[supreg] Swaption Standard 
Terms Supplement and the CDX Swaption Standard Terms Supplement or the 
relevant section of such Supplement, as applicable, and remove any 
reference to the STS Supplement in Sections 8.3 and 8.4 of this 
Appendix.
3. Procedures
    LCH SA also proposes to modify Section 5 of the Procedures (CDS 
Clearing Operations) to include CDX Swaptions in the scope of the End 
of Day Price Contribution as set out in Paragraph 5.18.
    LCH SA would change references from ``CDS'' to ``CDS and an Index 
Swaption'' in paragraphs 5.18.3 and 5.18.5, for instruments with a CDS 
Contractual Currency in U.S. Dollar. In paragraph 5.18.4 (Use of 
composite spreads/prices), LCH SA would modify the first sentence to 
ensure similar clarity. In the same paragraph, LCH SA would expand the 
scope of the End of Day Contributed Prices in respect of CDS with a 
Contractual Currency in U.S. Dollar to include Index Swaptions.
    In paragraph 5.18.5(b), LCH SA would remove the restriction to 
Index Swaptions with a CDS Contractual Currency in Euro, and separate 
the Delta Hedged Swaption Package into two sub-sections in order to 
allow for the two different timings of iTraxx Swaptions and CDX 
Swaptions.

B. Other Changes Unrelated to CDX Swaptions

    LCH SA is also proposing changes in the CDSClear Margin Framework 
and the Supplement that LCH SA represented are unrelated to the CDX 
Swaptions initiative.
    In section 3.9 of the CDSClear Margin Framework, LCH SA proposes 
changes to align the methodology for calculating Vega Margin with LCH 
SA's approach across all products and business segments. Vega Margin 
captures the risk of volatility changes in the options premium relative 
to the strikes, i.e., the skew risk and the risk of changes in the 
volatility of volatility.\12\ To address a risk model validation 
finding, LCH SA is proposing to change its risk model from a parametric 
model to a historical model, using predefined scenarios to simulate the 
risk of volatility change. This change in risk model would introduce 
shocks on the volatility itself rather than solely on the calculation's 
model parameters, as the current parametric model does. The proposed 
historical model would use a new methodology that relies on four 
regular and four stressed historical scenarios for each index family, 
calibrated based on the worst skew risk and the volatility-of-
volatility risk at given confidence levels, as outlined below. Under 
both models, Vega Margin represents an add-on amount to Spread Margin 
(i.e., a component of Total Initial Margin that covers the worst losses 
in the event of unfavorable credit spread and volatility moves) that 
accounts for potential moves in implied volatility. LCH SA does not 
expect that the proposed change from a parametric to a historical model 
will have a significant Profit and Loss (``P&L'') impact on the 
calculation of Vega Margin.\13\
---------------------------------------------------------------------------

    \12\ See Notice, 85 FR at 64552.
    \13\ Id.
---------------------------------------------------------------------------

    (a) LCH SA will develop the volatility scenarios using historical 
data since April 3, 2007. For each index family, LCH SA would identify 
historical scenarios by estimating the largest 5-day shifts in 
volatility distance, at a given percentile, between At-The-Money 
strikes and implied volatilities for options with a delta of 10%, 25%, 
75% and 90%, to capture the deformation of volatility surface across 
strikes.
    (b) LCH SA would calibrate the skew and smile scenarios related to 
the option pricing against the worst volatility surface distortion 
(i.e., the largest changes of the volatility distance as explained 
above) at a given confidence level. LCH SA would derive these scenarios 
from volatility shocks at each delta level described above, which LCH 
SA will use to shift the end of day volatilities, at the corresponding 
delta levels, to calibrate a set of shifted or Stochastic Volatility 
Inspired (``SVI'') scenarios as shown in the updated table in paragraph 
3.9.2.
    (c) LCH SA proposes to adjust the number of scenarios calculated 
for each index family from eight to four, because

[[Page 78155]]

of the shocks that the new historical risk model will apply at 
volatility level.
    In addition, LCH SA is proposing the following miscellaneous 
changes in the CDSClear Margin Framework:
    (a) Section 3 provides the Total Initial Margin framework with 
respect to both CDS and CDS Options. One component of the Total Initial 
Margin framework is the Short Charge, an amount which accounts for the 
risk of default by the underlying constituent entities of the relevant 
index.\14\ While the methodology for calculating Short Charge margin in 
section 3.1 would remain the same, LCH SA would amend the summary 
language to specify that it includes the P&L impact of liquidating a 
defaulting member's portfolio under one or two credit events. 
Currently, the number of credit events that LCH SA considers is set to 
two. The Risk Overview table in paragraph 3.2 also would reflect this 
change. As per the model used for linear U.S. products, the Short 
Charge amount would also cover the possibility of a default in respect 
of an exposure representing the average net short exposure of the ten 
(10) riskiest exposures with the defined recovery rate cap. Since the 
approach in respect of iTraxx Swaptions only accounts for the risk of 
default of the entity with the largest net short exposure, LCH SA is 
amending the language to include the additional default risk that it 
must take into account in respect of CDX Swaptions on CDX.NA.HY. As a 
result of these changes, LCH SA would also remove the specific rule to 
calculate the Financial Short Charge on Financial entities (which 
covered the default risk by the two largest Financials entities 
comprising the underlying constituent entities of the relevant index).
---------------------------------------------------------------------------

    \14\ See Notice, 85 FR at 64553.
---------------------------------------------------------------------------

    (b) LCH SA would remove a reference to a 10-year sample for the 
Foreign Exchange rate from paragraph 3.4.8.3, because it was not an 
accurate description of how LCH SA computes the Foreign Exchange rate.
    (c) LCH SA also proposes to correct a typographical error in 
paragraph 3.8.2 (double parenthesis and period missing).
    LCH SA also proposes several miscellaneous changes in the 
Supplement for purposes of clarification or harmonization, as described 
below.
    Specifically, in Part C of the Supplement, Section 9.1 (Creation of 
Matched Pairs), LCH SA would add a principle governing the size of the 
Matched Pairs that it would create in the context of a Restructuring or 
an Exercise to align with equivalent provisions of Parts A and B of the 
Supplement. LCH SA also proposes to remove the amounts of the Matched 
Pair from Section 8.1 (Creation of Matched Pairs) of Parts A and Part B 
of the Supplement, because LCH SA proposes that such amounts would be 
set forth in a new Clearing Notice that outlines the maximum applicable 
Matched Pair notional amounts. LCH SA represents that this proposed 
change would allow for greater flexibility in adapting these amounts 
according to market conditions and evolving open interest.\15\
---------------------------------------------------------------------------

    \15\ See Notice, 85 FR at 64553.
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    In addition, LCH SA proposes to remove the conditional references 
to ``if'' from Section 2.4 and Appendix XIII (Section 2.6) of Part B of 
the Supplement and from Section 2.3 and Appendix VIII (Section 2.4) of 
Part C of the Supplement, given that the Protocol Effectiveness 
Condition as defined in the ISDA 2019 Narrowly Tailored Credit Event 
(``NTCE'') Protocol published by the International Swaps and 
Derivatives Association, Inc. (``ISDA'') on August 27, 2019 is now 
satisfied. For consistency purposes, LCH SA would make an equivalent 
amendment to Appendix XIII of Part A of the Supplement (Section 2.6) in 
respect of the 2014 ISDA Credit Derivatives Definitions Protocol 
published by ISDA on August 21, 2014.
    LCH SA would also remove references to the Implementation Date as 
provided for in the 2019 ISDA NTCE Protocol from the definition of the 
``iTraxx[supreg] Swaption Standard Terms Supplement'' in Section 1.2 of 
Part C of the Supplement to refer to the current version of this 
document which was published on March 20, 2017. LCH SA stated that at 
the time that ISDA had drafted the 2019 ISDA NTCE Protocol-related 
amendments and submitted them to the regulatory process, there was an 
initial draft Swaption Standard Terms Supplement that took account of 
this Protocol.\16\ LCH SA also stated that this draft did not progress, 
and that the most recent, applicable version remains the version 
published in 2017.\17\ Consequently, in Section 2.2 (Index Swaption 
Cleared Transaction Confirmation) of Part C of the Supplement, LCH SA 
would amend any confirmation in respect of a Swaption by specifying in 
a new indent (d) that the Standard Terms Date applicable to the 
underlying transaction of a Swaption will be the most updated version 
of the Standard Terms Supplement. This change will ensure that the 
applicable version is the one that has taken into account the 2019 ISDA 
NTCE Protocol (i.e., the versions applicable to Markit iTraxx and CDX 
published on the Implementation Date of such Protocol). As a result of 
this change, LCH SA would renumber the indents in Section 2.2 from (e) 
to (i).
---------------------------------------------------------------------------

    \16\ See Notice, 85 FR at 64554.
    \17\ Id.
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    LCH SA also proposes to make the following corrections to the 
Supplement:
    (a) In Sections 7.10 of Parts A and B, LCH SA would replace the 
reference to a ``CDS Clearing Member'' with ``Clearing Member'' to use 
the correct defined term.
    (b) In Sections 9.1 of Parts A and B, paragraph (c), LCH SA would 
specify that the Self Referencing Transaction is a Clearing Member Self 
Referencing Transaction to be consistent with the title of Section 9.1.
    (c) In Section 1.2 of Part B, in the definition of ``Index Cleared 
Transaction Confirmation,'' LCH SA would insert the correct name of the 
publisher of the documentation for Markit CDX.
    (d) In Section 1.2 of Part C, LCH SA would correct a typographical 
error in the definition of ``Swaption Restructuring Cleared 
Transaction'' and remove the word ``Eligible'' from the definition of 
``Underlying Index Transaction'' as an Eligible Index Swaption is not a 
defined term.
    (e) In Appendix VIII of Part C, LCH SA would remove the definitions 
from Section 1 as these terms are already defined in Section 1.2 of 
Part C.

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.\18\ For the reasons given below, the Commission finds 
that the proposed rule change is consistent with Section 17A(b)(3)(F) 
of the Act \19\ and Rule 17Ad-22(e)(6)(i) thereunder.\20\
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    \18\ 15 U.S.C. 78s(b)(2)(C).
    \19\ 15 U.S.C. 78q-1(b)(3)(F).
    \20\ 17 CFR 240.17Ad-22(e)(6)(i).
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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 and to 
assure the safeguarding of securities and funds which are in the

[[Page 78156]]

custody or control of LCH SA or for which it is responsible.\21\
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    \21\ 15 U.S.C. 78q-1(b)(3)(F).
---------------------------------------------------------------------------

    As described above in Section II.A, LCH SA is proposing to revise 
its CDSClear Margin Framework, Supplement, and Procedures in order to 
extend their applicability to CDX Swaptions. For example, the proposed 
change to the Daily Contributions Assessment in the CDSClear Margin 
Framework would require Members to make price contributions on CDX 
Swaptions for all strikes that are multiples of 2.5 basis points for 
CDX.NA.IG and 0.5 cents for CDX.NA.HY of a given expiry when Members 
have at least one open position on one strike for that expiry. The 
revisions to the Supplement would allow the clearing of CDX Swaptions 
by amending various definitions to make them applicable to CDS 
Swaptions. The Procedures similarly would be revised to include CDX 
Swaptions in, for example, the scope of the End of Day Price 
Contribution. The language in the Short Charge component of the total 
initial margin has also been amended to include the additional default 
risk that must be taken into account with CDX Swaptions. The Commission 
understands that, taken together, these changes would amend LCH SA's 
risk management system and clearing procedures to ensure that LCH SA 
can appropriately manage the risks of transactions in CDX Swaptions 
and, in turn, to help ensure that LCH SA has sufficient financial 
resources. The Commission therefore believes that these changes would 
promote the prompt and accurate clearance and settlement of CDX 
Swaptions. Similarly, given that mismanagement of the risks associated 
with clearing CDX Swaptions could cause LCH SA to realize losses on 
such transactions and threaten its ability to operate, thereby 
threatening access to securities and funds in LCH SA's control, the 
Commission believes that the proposed rule change would help assure the 
safeguarding of securities and funds which are in the custody or 
control of LCH SA or for which it is responsible.
    LCH SA is also proposing miscellaneous changes that are unrelated 
to CDX Swaptions. For instance, LCH SA is proposing corrections to 
various terminology in the Supplement (replacing reference in Section 
7.10 of Parts A and B to a ``CDS Clearing Member'' with the correct 
defined term ``Clearing Member,'' specifying in Section 9.1 of Parts A 
and B that the Self Referencing Transaction is a Clearing Member Self 
Referencing Transaction, removing the term ``Eligible'' from the 
definition of ``Underlying Index Transaction'' in Section 1.2 of Part C 
as a typographical error), as well as wording changes to reflect the 
fact that the Protocol Effectiveness Condition with regard to the 2019 
ISDA NTCE Protocol published by ISDA on August 27, 2019 is now 
satisfied along with the various clean-up and typographical changes. 
The Commission believes that these clarifications strengthen LCH SA's 
risk management documents with clear and up-to-date information, which 
in turn is consistent with protecting investors and the public 
interest.
    LCH SA is also proposing changes to the Vega Margin methodology. 
Specifically, LCH SA is proposing to transition from a parametric model 
to a historical model, using predefined scenarios to simulate the risk 
of volatility change. The Commission believes that this proposed change 
will enable LCH SA to more accurately capture changes in option value 
due to volatility and generate margins commensurate with the risks and 
attributes of CDS and CDS options, which in turn will enhance LCH SA's 
ability to manage the risks of transactions in CDX Swaptions and 
ultimately to promptly and accurately settle securities transactions 
and safeguard funds and securities.
    For the reasons stated above, the Commission finds that the 
proposed rule change is consistent with Section 17A(b)(3)(F) of the 
Act.\22\
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    \22\ 15 U.S.C. 78q-1(b)(3)(F).
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B. Consistency With Rule 17Ad-22(e)(6)(i)

    Rule 17Ad-22(e)(6)(i) requires that LCH SA establish, implement, 
maintain, and enforce written policies and procedures reasonably 
designed, as applicable, to cover its credit exposures to its 
participants by establishing a risk-based margin system that, at a 
minimum considers, and produces margin levels commensurate with, the 
risks and particular attributes of each relevant product, portfolio, 
and market.\23\
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    \23\ 17 CFR 240.17Ad-22(e)(6)(i).
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    As noted above, the proposal would amend the CDSClear Margin 
Framework with respect to the Short Charge component of the total 
initial margin to include the additional default risk that must be 
taken into account with options on CDX.NA.HY. Such a change is 
necessary because the current approach with iTraxx Swaptions only 
accounts for the risk of default of the entity with the largest net 
short exposure, and the CDX Swaptions approach covers the possibility 
of a default in respect of an exposure representing the average net 
short exposure of the ten riskiest exposures with the defined recovery 
rate cap, which is an additional default risk posed by CDX Swaptions. 
The Commission therefore believes that this proposed change would 
enhance LCH SA's risk-based margin system by considering and producing 
margin levels commensurate with the risks and particular attributes of 
CDX Swaptions.
    The Commission also believes that the proposed rule changes to add 
the new methodology for calculating Vega Margin, based on a historical 
model approach rather than a parametric model, to account for the skew 
risk and volatility-of-volatility risk specific to CDS Options would 
likewise strengthen LCH SA's ability to produce margins commensurate 
with these products because this proposed approach would be based on 
known, rather than unobservable, parameters used in assessing the value 
of an option.
    For these reasons, the Commission finds that the proposed rule 
change is consistent with Rule 17Ad-22(e)(6)(i).\24\
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    \24\ 17 CFR 240.17Ad-22(e)(6)(i).
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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-2020-005 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-2020-005. 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

[[Page 78157]]

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/rulesand-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-2020-005 and should 
be submitted on or before December 24, 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,\25\ 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 
Reference Guide: CDS Margin Framework to reflect all of the changes 
discussed in this Order. By updating the Reference Guide: CDS Margin 
Framework to reflect all of the changes being made, Partial Amendment 
No. 1 ensures that the exhibit 5C accurately reflects all intended rule 
changes and is designed, in general, to protect investors and the 
public interest, consistent with Section 17A(b)(3)(F) of the Act. 
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.\26\
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    \25\ 15 U.S.C. 78s(b)(2).
    \26\ 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 \27\ and Rule 17Ad-22(e)(6)(i) thereunder.\28\
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    \27\ 15 U.S.C. 78q-1(b)(3)(F).
    \28\ 17 CFR 240.17Ad-22(e)(6)(i).
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    It is therefore ordered pursuant to Section 19(b)(2) of the Act 
\29\ that the proposed rule change, as modified by Partial Amendment 
No. 1 (SR-LCH SA-2020-005), be, and hereby is, approved.\30\
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    \29\ 15 U.S.C. 78s(b)(2).
    \30\ 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.\31\
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    \31\ 17 CFR 200.30-3(a)(12).
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J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-26597 Filed 12-2-20; 8:45 am]
BILLING CODE 8011-01-P

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