Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend the Requirements for Covered Agency Transactions Under FINRA Rule 4210 (Margin Requirements) as Approved Pursuant to SR-FINRA-2015-036, 28161-28169 [2021-10959]

Download as PDF jbell on DSKJLSW7X2PROD with NOTICES Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices proposed transactions do not raise the concerns underlying sections 17(a)(l), 17(a)(3), 17(d) and 21(b) of the Act as the Funds would not engage in lending transactions that unfairly benefit insiders or are detrimental to the Funds. Applicants state that the facility will offer both reduced borrowing costs and enhanced returns on loaned funds to all participating Funds and each Fund would have an equal opportunity to borrow and lend on equal terms based on an interest rate formula that is objective and verifiable. With respect to the relief from section 17(a)(2) of the Act, applicants note that any collateral pledged to secure an interfund loan would be subject to the same conditions imposed by any other lender to a Fund that imposes conditions on the quality of or access to collateral for a borrowing (if the lender is another Fund) or the same or better conditions (in any other circumstance).6 5. Applicants also believe that the limited relief from section 18(f)(1) of the Act that is necessary to implement the facility (because the lending Funds are not banks) is appropriate in light of the conditions and safeguards described in the application and because the openend Funds would remain subject to the requirement of section 18(f)(1) that all borrowings of the open-end Fund, including combined interfund loans and bank borrowings, have at least 300% asset coverage. 6. Section 6(c) of the Act permits the Commission to exempt any persons or transactions from any provision of the Act if such exemption is necessary or appropriate in the public interest and consistent with the protection of investors and the purposes fairly intended by the policy and provisions of the Act. Section 12(d)(l)(J) of the Act provides that the Commission may exempt any person, security, or transaction, or any class or classes of persons, securities, or transactions, from any provision of section 12(d)(l) if the exemption is consistent with the public interest and the protection of investors. Section 17(b) of the Act authorizes the Commission to grant an order permitting a transaction otherwise prohibited by section 17(a) if it finds that (a) the terms of the proposed transaction are fair and reasonable and do not involve overreaching on the part of any person concerned; (b) the proposed transaction is consistent with the policies of each registered investment company involved; and (c) 6 Applicants state that any pledge of securities to secure an interfund loan could constitute a purchase of securities for purposes of section 17(a)(2) of the Act. VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 the proposed transaction is consistent with the general purposes of the Act. Rule 17d–l(b) under the Act provides that in passing upon an application filed under the rule, the Commission will consider whether the participation of the registered investment company in a joint enterprise, joint arrangement or profit sharing plan on the basis proposed is consistent with the provisions, policies and purposes of the Act and the extent to which such participation is on a basis different from or less advantageous than that of the other participants. For the Commission, by the Division of Investment Management, under delegated authority. J. Matthew DeLesDernier, Assistant Secretary. [FR Doc. 2021–10960 Filed 5–24–21; 8:45 am] BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–91937; File No. SR–FINRA– 2021–010] Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend the Requirements for Covered Agency Transactions Under FINRA Rule 4210 (Margin Requirements) as Approved Pursuant to SR–FINRA–2015–036 May 19, 2021. Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Act’’) 1 and Rule 19b–4 thereunder,2 notice is hereby given that on May 7, 2021, the Financial Industry Regulatory Authority, Inc. (‘‘FINRA’’) filed with the Securities and Exchange Commission (‘‘SEC’’ or ‘‘Commission’’) the proposed rule change as described in Items I, II, and III below, which Items have been prepared by FINRA. The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons. I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change FINRA is proposing to amend the requirements for Covered Agency Transactions under FINRA Rule 4210 (Margin Requirements) as approved by the SEC pursuant to SR–FINRA–2015– 036. The proposed rule change would amend, under FINRA Rule 4210, paragraphs (e)(2)(H), (e)(2)(I), (f)(6), and Supplementary Material .02 through .05, 1 15 2 17 PO 00000 U.S.C. 78s(b)(1). CFR 240.19b–4. Frm 00109 Fmt 4703 28161 each as amended or established pursuant to SR–FINRA–2015–036. The text of the proposed rule change is available on FINRA’s website at https://www.finra.org, at the principal office of FINRA and at the Commission’s Public Reference Room. II. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change In its filing with the Commission, FINRA included statements concerning the purpose of and basis for the proposed rule change and discussed any comments it received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. FINRA has prepared summaries, set forth in sections A, B, and C below, of the most significant aspects of such statements. A. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change 1. Purpose On October 6, 2015, FINRA filed with the Commission proposed rule change SR–FINRA–2015–036, which proposed to amend FINRA Rule 4210 to establish margin requirements for: (1) To Be Announced (‘‘TBA’’) transactions,3 inclusive of adjustable rate mortgage (‘‘ARM’’) transactions; (2) Specified Pool Transactions; 4 and (3) transactions in Collateralized Mortgage Obligations (‘‘CMOs’’),5 issued in conformity with a 3 FINRA Rule 6710(u) defines ‘‘TBA’’ to mean a transaction in an Agency Pass-Through MortgageBacked Security (‘‘MBS’’) or a Small Business Administration (‘‘SBA’’)-Backed Asset-Backed Security (‘‘ABS’’) where the parties agree that the seller will deliver to the buyer a pool or pools of a specified face amount and meeting certain other criteria but the specific pool or pools to be delivered at settlement is not specified at the Time of Execution, and includes TBA transactions for good delivery and TBA transactions not for good delivery. Agency Pass-Through MBS and SBABacked ABS are defined under FINRA Rule 6710(v) and FINRA Rule 6710(bb), respectively. The term ‘‘Time of Execution’’ is defined under FINRA Rule 6710(d). 4 FINRA Rule 6710(x) defines Specified Pool Transaction to mean a transaction in an Agency Pass-Through MBS or an SBA-Backed ABS requiring the delivery at settlement of a pool or pools that is identified by a unique pool identification number at the time of execution. 5 FINRA Rule 6710(dd) defines CMO to mean a type of Securitized Product backed by Agency PassThrough MBS, mortgage loans, certificates backed by project loans or construction loans, other types of MBS or assets derivative of MBS, structured in multiple classes or tranches with each class or tranche entitled to receive distributions of principal or interest according to the requirements adopted for the specific class or tranche, and includes a real estate mortgage investment conduit (‘‘REMIC’’). The Continued Sfmt 4703 E:\FR\FM\25MYN1.SGM 25MYN1 28162 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices jbell on DSKJLSW7X2PROD with NOTICES program of an agency 6 or GovernmentSponsored Enterprise (‘‘GSE’’),7 with forward settlement dates, as further defined under FINRA Rule 4210(e)(2)(H)(i)c. pursuant to the rule change (collectively, defined under the rule change as ‘‘Covered Agency Transactions’’).8 In proposing the margin requirements, FINRA pointed out that the rulemaking was necessary to address the potential risk arising from unsecured credit exposures that exist in the Covered Agency Transaction market.9 FINRA noted that unsecured credit exposures in the Covered Agency Transaction market could lead to financial losses by dealers. Further, FINRA noted that permitting counterparties to participate in the Covered Agency Transaction market without posting margin can facilitate increased leverage by customers, thereby potentially posing a risk to the dealer extending credit and to the marketplace as a whole.10 term ‘‘Securitized Product’’ is defined under FINRA Rule 6710(m). 6 FINRA Rule 6710(k) defines ‘‘agency’’ to mean a United States executive agency as defined in 5 U.S.C. 105 that is authorized to issue debt directly or through a related entity, such as a government corporation, or to guarantee the repayment of principal or interest of a debt security issued by another entity. The term excludes the U.S. Department of the Treasury in the exercise of its authority to issue U.S. Treasury Securities as defined under FINRA Rule 6710(p). Under 5 U.S.C. 105, the term ‘‘executive agency’’ is defined to mean an ‘‘Executive department, a Government corporation, and an independent establishment.’’ 7 FINRA Rule 6710(n) defines GSE to have the meaning set forth in 2 U.S.C. 622(8). Under 2 U.S.C. 622(8), a GSE is defined, in part, to mean a corporate entity created by a law of the United States that has a Federal charter authorized by law, is privately owned, is under the direction of a board of directors, a majority of which is elected by private owners, and, among other things, is a financial institution with power to make loans or loan guarantees for limited purposes such as to provide credit for specific borrowers or one sector and raise funds by borrowing (which does not carry the full faith and credit of the Federal Government) or to guarantee the debt of others in unlimited amounts. 8 The proposed rule change would redesignate the current definition of Covered Agency Transactions, as set forth in paragraph (e)(2)(H)(i)c., as paragraph (e)(2)(H)(i)b., without any change. See Exhibit 5. For purposes of this filing, all references to provisions under Rule 4210 are to provisions as amended or established pursuant to SR–FINRA–2015–036 (for convenience, also referred to in this filing as the ‘‘current rule’’), except where otherwise indicated. 9 See Securities Exchange Act Release No. 76148 (October 14, 2015), 80 FR 63603 (October 20, 2015) (Notice of Filing of Proposed Rule Change; File No. SR–FINRA–2015–036) (FINRA’s filing proposing SR–FINRA–2015–036, referred to as the ‘‘Original Proposal’’). 10 See Original Proposal, 80 FR at 63604. FINRA further pointed out that the rulemaking was necessary given that FINRA’s existing requirements, prior to the rulemaking, did not address the Covered Agency Transaction market generally, and given that existing industry best practices guidelines, such as set forth by the Treasury Market VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 The Commission approved SR– FINRA–2015–036 on June 15, 2016 (the ‘‘Approval Date’’).11 Pursuant to Partial Amendment No. 3 to SR–FINRA–2015– 036, FINRA announced in Regulatory Notice 16–31 that the rule change would become effective on December 15, 2017, 18 months from the Approval Date, except that the risk limit determination requirements as set forth in paragraphs (e)(2)(F), (e)(2)(G) and (e)(2)(H) of Rule 4210 and in new Supplementary Material .05, each as respectively amended or established by SR–FINRA– 2015–036 (collectively, the ‘‘risk limit determination requirements’’), would become effective on December 15, 2016, six months from the Approval Date.12 Industry participants requested that FINRA reconsider the potential impact of certain requirements pursuant to SR– FINRA–2015–036 on smaller and medium-sized firms, and that FINRA extend the implementation date of the requirements pending such reconsideration to reduce potential uncertainty in the Covered Agency Transaction market. In Partial Amendment No. 3 to SR–FINRA–2015– 036, FINRA stated that it would monitor the impact of the requirements pursuant to that rulemaking and, if the requirements prove overly onerous or otherwise are shown to negatively impact the market, FINRA would consider revisiting such requirements as may be necessary to mitigate the rule’s impact.13 In response to the concerns of industry participants, FINRA has engaged in extensive dialogue, both with industry participants and other regulators, including staff of the SEC and the Federal Reserve System, for the purpose of reconsidering the requirements. Further, pending this period of dialogue and reconsideration, FINRA has extended the implementation date of the requirements pursuant to SR–FINRA– 2015–036 (other than the risk limit determination requirements that became effective on December 15, 2016) on several occasions, most recently to October 26, 2021 (the ‘‘October 26, Practices Group (‘‘TMPG’’), are recommendations and not rule requirements. Id. 11 See Securities Exchange Act Release No. 78081 (June 15, 2016), 81 FR 40364 (June 21, 2016) (Notice of Filing of Amendment No. 3 and Order Granting Accelerated Approval to a Proposed Rule Change to Amend FINRA Rule 4210 (Margin Requirements) to Establish Margin Requirements for the TBA Market, as Modified by Amendment Nos. 1, 2, and 3; File No. SR–FINRA–2015–036) (approving SR–FINRA– 2015–036, referred to as the ‘‘Approval Order’’). 12 See Partial Amendment No. 3 to SR–FINRA– 2015–036 and Regulatory Notice 16–31 (August 2016), both available at: <www.finra.org>. 13 See note 12 supra. PO 00000 Frm 00110 Fmt 4703 Sfmt 4703 2021, implementation date’’),14 and has published various guidance to assist members.15 FINRA notes that, in the period since the Approval Date, there has been opportunity to discern with greater clarity the potential impact, on both firms and their customers, of the requirements pursuant to SR–FINRA– 2015–036. Members have told FINRA that the requirements, as currently approved, favor larger firms over smaller firms because larger firms would have more market power to negotiate margin agreements 16 with their customers. Members have pointed out that non-FINRA member bank dealers and other entities are able to participate in the Covered Agency Transaction market without being subject to FINRA Rule 4210, which thereby places FINRA member brokerdealers at a competitive disadvantage. Some smaller members told FINRA that, among other things, having the option to take a capital charge in lieu of collecting margin for their customers’ mark to market losses would help alleviate this competitive disadvantage, though it would not fully resolve the disparity that results from being subject to Rule 4210 when non-FINRA member bank dealers are not. A. Summary of Proposed Amendments Taking into account FINRA’s dialogue with members,17 and the overall 14 See Securities Exchange Act Release No. 90852 (January 5, 2021), 86 FR 2021 (January 11, 2021) (Notice of Filing and Immediate Effectiveness of a Proposed Rule Change To Extend the Implementation Date of Certain Amendments to FINRA Rule 4210 Approved Pursuant to SR– FINRA–2015–036; File No. SR–FINRA–2020–046). As discussed further below, FINRA plans to file a separate proposed rule change that would further adjust the October 26, 2021, implementation date to align with the effective date of the amendments to SR–FINRA–2015–036 as set forth in this proposed rule change. 15 For example, FINRA made available a set of Frequently Asked Questions & Guidance to clarify certain of the requirements, available at: <www.finra.org>. Further, staff of the SEC’s Division of Trading and Markets made available a set of Frequently Asked Questions regarding SEA Rule 15c3–1 and Rule 15c3–3 in connection with Covered Agency Transactions under FINRA Rule 4210, also available at: <www.finra.org>. 16 For example, larger firms would have more market power to negotiate Master Securities Forward Transaction Agreements (‘‘MSFTAs’’) or customer account agreements. 17 As discussed further below, this included outreach to several members active in the Covered Agency Transaction market regarding the volatility experienced in that market following the outbreak of the COVID–19 pandemic in early 2020. The SEC staff has issued a report addressing the market stress during and following the COVID–19 shock. See SEC Division of Economic and Risk Analysis, U.S. Credit Markets: Interconnectedness and the Effects of the COVID–19 Economic Shock (October 2020), available at: <https://www.sec.gov/files/USCredit-Markets_COVID-19_Report.pdf> (the ‘‘DERA Report’’). E:\FR\FM\25MYN1.SGM 25MYN1 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices jbell on DSKJLSW7X2PROD with NOTICES purpose of the margin amendments, FINRA is proposing revisions to the Covered Agency Transaction requirements as approved pursuant to SR–FINRA–2015–036. Broadly, FINRA proposes: • To eliminate the two percent maintenance margin requirement that applies to non-exempt 18 accounts pursuant to paragraph (e)(2)(H)(ii)e. under Rule 4210. This would eliminate the need for members to distinguish exempt account customers from other customers (‘‘non-exempt accounts’’) for purposes of Covered Agency Transaction margin. As such, without regard to a counterparty’s exempt or non-exempt account status, members would collect margin for each counterparty’s excess mark to market loss, as discussed in further detail below, unless otherwise provided by the rule; • subject to specified conditions and limitations, to permit members to take a capital charge in lieu of collecting margin for excess net mark to market losses on Covered Agency Transactions. These conditions and limitations are designed to help protect the financial stability of members that opt to take capital charges while restricting the ability of the larger members to use their capital in lieu of collecting margin to compete unfairly with smaller members; and • to make revisions designed to streamline, consolidate and clarify the Covered Agency Transaction rule language. These revisions will preserve and clarify key exceptions to the requirements, including for example the $250,000 de minimis transfer exception 19 and the $10 million gross 18 The term ‘‘exempt account’’ is defined under FINRA Rule 4210(a)(13). Broadly, an exempt account means a FINRA member, non-FINRA member registered broker-dealer, account that is a ‘‘designated account’’ under FINRA Rule 4210(a)(4) (specifically, a bank as defined under Exchange Act Section 3(a)(6), a savings association as defined under Section 3(b) of the Federal Deposit Insurance Act, the deposits of which are insured by the Federal Deposit Insurance Corporation, an insurance company as defined under Section 2(a)(17) of the Investment Company Act, an investment company registered with the Commission under the Investment Company Act, a state or political subdivision thereof, or a pension plan or profit sharing plan subject to the Employee Retirement Income Security Act or of an agency of the United States or of a state or political subdivision thereof), and any person that has a net worth of at least $45 million and financial assets of at least $40 million for purposes of paragraphs (e)(2)(F), (e)(2)(G) and (e)(2)(H) of the rule, as set forth under paragraph (a)(13)(B)(i) of Rule 4210, and meets specified conditions as set forth under paragraph (a)(13)(B)(ii). 19 Subject to specified conditions, the current rule provides for an aggregate $250,000 de minimis transfer amount with a single counterparty, so that if the aggregate required but uncollected VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 open position exception 20 established pursuant to SR–FINRA–2015–036. The proposed amendments are discussed in detail below. B. Detailed Discussion of Proposed Amendments 1. Elimination of Maintenance Margin Requirement; Application of Mark to Market Loss to Both Exempt and NonExempt Accounts Paragraph (e)(2)(H)(ii)e. of the rule addresses Covered Agency Transactions with counterparties that are non-exempt accounts and broadly provides that maintenance margin, defined under the current rule to mean margin equal to two percent of the contract value of the net long or net short position, by CUSIP, with the counterparty, plus any net mark to market loss on such transactions, shall be required margin, subject to specified exceptions under the rule.21 By contrast, paragraph (e)(2)(H)(ii)d. of the rule broadly provides that on transactions with counterparties that are exempt accounts no maintenance margin shall be required. Such transactions must be marked to the market daily and the member must collect any net mark to market loss, subject to specified exceptions under the rule.22 maintenance margin or mark to market loss does not exceed that amount, the margin need not be collected or charged to net capital. See Approval Order, 81 FR at 40367; see also paragraph (e)(2)(H)(ii)f. of the current rule in Exhibit 5. 20 The current rule provides that the margin requirements for Covered Agency Transactions do not apply to a counterparty that has gross open positions in Covered Agency Transactions with the member amounting to $10 million or less if the counterparty regularly settles its Covered Agency Transactions on a Delivery Versus Payment (‘‘DVP’’) basis or for cash and meets other specified conditions. See paragraph (e)(2)(H)(ii)c. of the current rule in Exhibit 5. 21 See Approval Order, 81 FR at 40367; see also paragraph (e)(2)(H)(ii)e. of the current rule in Exhibit 5. The rule further sets forth specified requirements for net capital deductions and the liquidation of positions in the event the uncollected maintenance margin and mark to market loss (defined together under paragraph (e)(2)(H)(i)d. of the current rule as the ‘‘deficiency’’) is not satisfied. In short, the rule provides that if the deficiency is not satisfied by the close of business on the next business day after the business day on which the deficiency arises, the member shall be required to deduct the amount of the deficiency from net capital as provided in SEA Rule 15c3–1 until such time the deficiency is satisfied; under the rule, if such deficiency is not satisfied within five business days from the date the deficiency was created, the member must promptly liquidate positions to satisfy the deficiency, unless FINRA has specifically granted the member additional time. As discussed in further detail below, the proposed rule change would eliminate current paragraph (e)(2)(H)(ii)e. in its entirety. 22 See Approval Order, 81 FR at 40367; see also paragraph (e)(2)(H)(ii)d. of the current rule in Exhibit 5. Similar to paragraph (e)(2)(H)(ii)e., the current rule provides that if the mark to market loss PO 00000 Frm 00111 Fmt 4703 Sfmt 4703 28163 Members expressed concern that the two-track treatment of exempt versus non-exempt accounts is burdensome because members are obliged under the current rule to obtain and assess the financial information needed to determine which counterparties must be treated as non-exempt accounts.23 Further, based on feedback from members since the Approval Date and additional observation of market conditions, FINRA believes that the potential risk that the maintenance margin requirement was intended to address when originally proposed 24 is not significant enough to warrant the burdens and competitive disadvantage that the requirement imposes. Members pointed out that, in practice, the maintenance margin requirement would apply to relatively few accounts that participate in the Covered Agency Transaction market. Yet, monitoring and collecting maintenance margin for such accounts is operationally burdensome and out of proportion with the number and size of the affected accounts. Further, bank dealers are not subject to the requirement to collect maintenance margin from their customers, which significantly would disadvantage FINRA members in competition with bank dealers. To address these concerns, FINRA is proposing to eliminate paragraph (e)(2)(H)(ii)d. and paragraph (e)(2)(H)(ii)e. of Rule 4210 as established pursuant to the Approval Order, and to adopt in lieu new paragraph (e)(2)(H)(ii)c., which provides that members shall collect margin for each counterparty’s 25 excess net mark to is not satisfied by the close of business on the next business day after the business day on which the mark to market loss arises, the member is required to deduct the amount of the mark to market loss from net capital as provided in SEA Rule 15c3–1 until such time the mark to market loss is satisfied; if such mark to market loss is not satisfied within five business days from the date the loss was created, the member must promptly liquidate positions to satisfy the mark to market loss, unless FINRA has specifically granted the member additional time. Again, as discussed in further detail below, the proposed rule change would eliminate current paragraph (e)(2)(H)(ii)d. in its entirety. 23 Further, members expressed concern that some asset manager counterparties face constraints with regard to custody of assets at broker-dealers and that, because of these constraints, some members need to enter into separate custodial agreements with third party banks to hold the maintenance margin that they collect from these asset managers. Members expressed concern that this imposes operational burdens both on themselves and their client counterparties, who may, as a consequence, choose to limit their dealings with smaller brokerdealers. 24 See Original Proposal, 80 FR at 63608. 25 Current paragraph (e)(2)(H)(i)b. defines the term ‘‘counterparty’’ to mean any person that enters into a Covered Agency Transaction with a member and includes a ‘‘customer’’ as defined in paragraph E:\FR\FM\25MYN1.SGM Continued 25MYN1 28164 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices jbell on DSKJLSW7X2PROD with NOTICES market loss,26 unless otherwise provided under proposed new paragraph (e)(2)(H)(ii)d. of the rule, as discussed further below. As such, both exempt and non-exempt accounts would receive the same margin treatment for purposes of Covered Agency Transactions under paragraph (e)(2)(H).27 (a)(3) under Rule 4210. The proposed rule change would redesignate the definition of counterparty as paragraph (e)(2)(H)(i)a. under the rule and revise the definition to provide that the term ‘‘counterparty’’ means any person, including any ‘‘customer’’ as defined in paragraph (a)(3) of the rule, that is a party to a Covered Agency Transaction with, or guaranteed by, a member. FINRA believes that including transactions guaranteed by a member is a useful clarifying change in the context of Covered Agency Transactions. In connection with this change, FINRA proposes to add new Supplemental Material .02, which would provide that, for purposes of paragraph (e)(2)(H), a member is deemed to have ‘‘guaranteed’’ a transaction if the member has become liable for the performance of either party’s obligations under the transaction. See proposed new Supplemental Material .02 in Exhibit 5. Accordingly, if a clearing broker were to guarantee to an introduced customer an introducing broker’s obligations under a Covered Agency Transaction between that introducing firm and customer, the introducing broker would be considered a ‘‘counterparty’’ of the clearing broker for purposes of paragraph (e)(2)(H). 26 FINRA proposes to delete the current definition of ‘‘mark to market loss’’ under paragraph (e)(2)(H)(i)g. as adopted pursuant to the Approval Order and to replace it with a definition of ‘‘net mark to market loss’’ under proposed new paragraph (e)(2)(H)(i)d. Under the new definition, a counterparty’s ‘‘net mark to market loss’’ means (1) the sum of such counterparty’s losses, if any, resulting from marking to market the counterparty’s Covered Agency Transactions with the member, or guaranteed to a third party by the member, reduced to the extent of the member’s legally enforceable right of offset or security by (2) the sum of such counterparty’s gains, if any, resulting from: (a) Marking to market the counterparty’s Covered Agency Transactions with the member, guaranteed to the counterparty by the member, cleared by the member through a registered clearing agency, or in which the member has a first-priority perfected security interest; and (b) any ‘‘in the money,’’ as defined in paragraph (f)(2)(E)(iii) of Rule 4210, amounts of the counterparty’s long standby transactions written by the member, guaranteed to the counterparty by the member, cleared by the member through a registered clearing agency, or in which the member has a first-priority perfected security interest. Under proposed new paragraph (e)(2)(H)(i)c., a counterparty’s ‘‘excess’’ net mark to market loss is defined to mean such counterparty’s net mark to market loss to the extent it exceeds $250,000. As such, by specifying excess net mark to market loss, FINRA notes that the proposed rule preserves the $250,000 de minimis transfer exception set forth under paragraph (e)(2)(H)(ii)f. as adopted pursuant to the Approval Order. Further, FINRA notes that, in the interest of clarity, proposed new paragraph (e)(2)(H)(ii)c. expressly provides that members would not be required to collect margin, or take capital charges, for counterparties’ mark to market losses on Covered Agency Transactions other than excess net mark to market losses. Last, as discussed further below, the proposed rule change would delete paragraph (e)(2)(H)(ii)f. in the interest of consolidating the rule language. 27 Current paragraph (e)(2)(H)(ii)d. of the rule contains provisions designed to permit members to VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 2. Option for Capital Charge in Lieu of Mark to Market Margin Proposed new paragraph (e)(2)(H)(ii)d. of the rule is designed, subject to specified conditions and limitations, to permit members the option to take a capital charge in lieu of collecting margin for a counterparty’s excess net mark to market loss (that is, as discussed above, the net mark to market loss to the extent it exceeds $250,000). Informed by FINRA’s engagement with members, FINRA believes this approach is appropriate because it would help alleviate the competitive disadvantage of smaller firms vis-a`-vis larger firms. Smaller firms expressed concern that larger firms can leverage their greater size and scale in obtaining margining agreements with their counterparties, and that counterparties would prefer to transact with larger firms with which margining agreements can more readily be obtained, or with banks that are not subject to margin requirements under Rule 4210. Smaller firms told FINRA that having the option to take a capital charge, in lieu of collecting margin, would help alleviate the competitive disadvantage of needing to obtain margining agreements with such counterparties because there would be an alternative to collecting margin. To this end, as noted above, the proposed rule includes conditions and limitations that are designed to help protect the financial stability of members that opt to take capital charges while restricting the ability of the larger members to use their capital to compete unfairly with smaller members. Specifically, the proposed new paragraph provides that a member need not collect margin for a counterparty’s excess net mark to market loss under paragraph (e)(2)(H)(ii)c. of the rule, provided that: • The member must deduct the amount of the counterparty’s unmargined excess net mark to market loss from the member’s net capital computed as provided in SEA Rule 15c3–1, if the counterparty is a nonmargin counterparty 28 or if the excess net mark to market loss has not been margined or eliminated by the close of business on the next business day after the business day on which such excess net mark to market loss arises; 29 • if the member has any non-margin counterparties, the member must establish and enforce risk management procedures reasonably designed to ensure that the member would not exceed either of the limits specified in paragraph (e)(2)(I)(i) of the rule, as proposed to be revised pursuant to this rule change,30 and that the member’s net capital deductions under proposed paragraph (e)(2)(H)(ii)d.1. of the rule for all accounts combined will not exceed $25 million; 31 • if the member’s net capital deductions under paragraph (e)(2)(H)(ii)d.1. of the rule for all accounts combined exceed $25 million for five consecutive business days, the member must give prompt written notice to FINRA. If the member’s net capital deductions under paragraph (e)(2)(H)(ii)d.1. of the rule for all accounts combined exceed the lesser of $30 million or 25% of the member’s tentative net capital, as such term is defined in SEA Rule 15c3–1, for five consecutive business days, the member may not enter into any new Covered Agency Transactions with any nonmargin counterparty other than riskreducing transactions, and must also, to the extent of its rights, promptly collect margin for each counterparty’s excess net mark to market loss and promptly liquidate the Covered Agency transactions of any counterparty whose excess net mark to market loss is not margined or eliminated within five business days from the date it arises, unless FINRA has specifically granted the member additional time; 32 and • the member must submit to FINRA such information regarding its unmargined net mark to market losses, non-margin counterparties and related capital charges, in such form and manner, as FINRA shall prescribe by Regulatory Notice or similar communication.33 treat mortgage bankers, as defined pursuant to current paragraph (e)(2)(H)(i)h. of the rule, as exempt accounts under specified conditions. Because the proposed rule change eliminates the distinction between exempt and non-exempt accounts for purposes of Covered Agency Transactions, this language is no longer needed and will be deleted. 28 Proposed new paragraph (e)(2)(H)(i)e. defines a counterparty as a ‘‘non-margin counterparty’’ if the member: (1) Does not have a right under a written agreement or otherwise to collect margin for such counterparty’s excess net mark to market loss and to liquidate such counterparty’s Covered Agency Transactions if any such excess net mark to market loss is not margined or eliminated within five business days from the date it arises; or (2) does not regularly collect margin for such counterparty’s excess net mark to market loss. 29 See proposed paragraph (e)(2)(H)(ii)d.1. in Exhibit 5. 30 Current paragraph (e)(2)(I) sets forth specified concentration thresholds. As discussed further below, the rule change would make conforming revisions to the rule. 31 See proposed paragraph (e)(2)(H)(ii)d.2. in Exhibit 5. 32 See proposed paragraph (e)(2)(H)(ii)d.3. in Exhibit 5. 33 See proposed paragraph (e)(2)(H)(ii)d.4. in Exhibit 5. PO 00000 Frm 00112 Fmt 4703 Sfmt 4703 E:\FR\FM\25MYN1.SGM 25MYN1 jbell on DSKJLSW7X2PROD with NOTICES Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices 3. Streamlining and Consolidation of Rule Language; Conforming Revisions In support of the amendments discussed above, FINRA is proposing several amendments to the current rule designed to streamline and consolidate the rule language and otherwise make conforming revisions: • The rule change consolidates language related to the $250,000 de minimis transfer exception and the $10 million gross open position exception while, as discussed above, preserving these exceptions in substance. The $250,000 de minimis transfer exception is preserved because paragraph (e)(2)(H)(ii)c. under the revised rule specifies that the members shall collect margin for each counterparty’s excess net mark to margin loss, unless otherwise provided under paragraph (e)(2)(H)(ii)d. of the rule (that is, as discussed above, the provisions under the proposed rule that permit a member to take a capital charge in lieu of collecting margin, subject to specified conditions). The rule change deletes paragraph (e)(2)(H)(ii)f., which currently addresses the de minimis exception and would be rendered redundant. With respect to the current $10 million gross open position exception, FINRA proposes to revise paragraph (e)(2)(H)(ii)a. of the rule, which specifies counterparties that are excepted from the rule’s margin requirements, to include a ‘‘small cash counterparty’’ among the enumerated entities included in the exception. Proposed new paragraph (e)(2)(H)(i)h. would provide that a counterparty is a ‘‘small cash counterparty’’ if: Æ The absolute dollar value of all of such counterparty’s open Covered Agency Transactions with, or guaranteed by, the member is $10 million or less in the aggregate, when computed net of any settled position of the counterparty held at the member that is deliverable under such open Covered Agency Transactions and which the counterparty intends to deliver; 34 Æ the original contractual settlement date for all such open Covered Agency Transactions is in the month of the trade date for such transactions or in the month succeeding the trade date for such transactions; 35 Æ the counterparty regularly settles its Covered Agency Transactions on a DVP basis or for cash; 36 and Æ the counterparty does not, in connection with its Covered Agency Transactions with, or guaranteed by, the member, engage in dollar rolls, as defined in Rule 6710(z), or round robin trades,37 or use other financing techniques.38 The above elements are substantially similar to the elements that are currently associated with the exception as set forth under current paragraph (e)(2)(H)(ii)c.2., which would be deleted, along with the definition of ‘‘gross open position’’ under paragraph (e)(2)(H)(i)e., which would be rendered redundant. The new proposed language reflects that the scope of transactions addressed by the rule include Covered Agency Transactions with a counterparty that are guaranteed by the member. • FINRA proposes to delete the definition of ‘‘bilateral transaction’’ set forth in current paragraph (e)(2)(H)(i)a. The definition is in connection with the provisions under the current rule relating to margin treatment for exempt accounts under paragraph (e)(2)(H)(ii)d. and for non-exempt accounts under paragraph (e)(2)(H)(ii)e., both of which paragraphs, as discussed above, FINRA proposes to delete pursuant to the rule change. Further, FINRA notes that the term ‘‘bilateral transaction’’ is unduly narrow given that the proposed revised definition of ‘‘counterparty,’’ as discussed above, would have the effect of clarifying that the rule’s scope includes transactions guaranteed by the member. • FINRA proposes to delete the definition of the term ‘‘deficiency’’ set forth in current paragraph (e)(2)(H)(i)d. Under the current rule, the term is designed in part to reference required but uncollected maintenance margin for Covered Agency Transactions. Because the rule change proposes to eliminate such maintenance margin, the term is not needed. • Current paragraph (e)(2)(H)(ii)a. addresses the scope of paragraph (e)(2)(H) and certain types of counterparties that are excepted from the rule, provided the member makes and enforces written risk limits pursuant to paragraph (e)(2)(H)(ii)b. Current paragraph (e)(2)(H)(ii)b. contains the core language under the rule relating to risk limits. FINRA is proposing to revise both paragraphs so as to conform with the rule change and to consolidate the language relating to 34 See proposed paragraph (e)(2)(H)(i)h.1. in Exhibit 5. 35 See proposed paragraph (e)(2)(H)(i)h.2. in Exhibit 5. 36 See proposed paragraph (e)(2)(H)(i)h.3. in Exhibit 5. 37 The term ‘‘round robin’’ is defined under current paragraph (e)(2)(H)(i)i. of the rule and, pursuant to the rule change, would be redesignated as paragraph (e)(2)(H)(i)g., without any change. 38 See proposed paragraph (e)(2)(H)(i)h.4. in Exhibit 5. VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 PO 00000 Frm 00113 Fmt 4703 Sfmt 4703 28165 written risk limits in these paragraphs within paragraph (e)(2)(H)(ii)b. Paragraph (e)(2)(H)(ii)a.1. would be revised to read: ‘‘1. a member is not required to collect margin, or to take capital charges in lieu of collecting such margin, for a counterparty’s excess net mark to market loss if such counterparty is a small cash counterparty, registered clearing agency, Federal banking agency, as defined in 12 U.S.C. 1813(z), central bank, multinational central bank, foreign sovereign, multilateral development bank, or the Bank for International Settlements; and . . .’’ 39 Paragraph (e)(2)(H)(ii)a.2. would be revised to read: ‘‘2. a member is not required to include a counterparty’s Covered Agency Transactions in multifamily housing securities or project loan program securities in the computation of such counterparty’s net mark to market loss, provided . . .’’ 40 Paragraph (e)(2)(H)(ii)a.2.A. would not be changed, other than to be redesignated as part of part of (e)(2)(H)(ii)a.2. Paragraph (e)(2)(H)(ii)a.2.B. would be eliminated as redundant 41 because, correspondingly, paragraph (e)(2)(H)(ii)b. would be revised to read: ‘‘A member that engages in Covered Agency Transactions with any counterparty shall make a determination in writing of a risk limit for each such counterparty, including any counterparty specified in paragraph (e)(2)(H)(ii)a.1. of this Rule, that the member shall enforce. The risk limit for 39 The proposed new term ‘‘small cash counterparty’’ is discussed above. The proposed language in the paragraph reflects FINRA’s proposed establishment of the option to take a net capital charge in lieu of collecting margin. Further, FINRA notes that, for clarity, the proposed rule change adds registered clearing agencies to the types of counterparties that are within the exception pursuant to paragraph (e)(2)(H)(ii)a. as revised. This preserves the treatment of registered clearing agencies under the rule in light of the proposed deletion of current paragraph (e)(2)(H)(ii)c. In this regard, also in the interest of clarity, FINRA proposes to add new paragraph (e)(2)(H)(i)f. by way of defining the term ‘‘registered clearing agency.’’ 40 Under current paragraph (e)(2)(H)(ii)a.2., a member is not required to apply the margin requirements of paragraph (e)(2)(H) to Covered Agency Transactions with a counterparty in multifamily housing securities or project loan program securities, provided the securities meet the specified conditions under the rule and the member makes and enforces the written risk limit determinations as specified under the rule. FINRA notes that the proposed rule change does not change the treatment of multifamily housing securities or project loan program securities under the current rule other than to clarify, in express terms, that a member is not required to include a counterparty’s Covered Agency Transactions in multifamily housing securities or project loan program securities in the computation of such counterparty’s net mark to market loss. 41 See proposed paragraph (e)(2)(H)(ii)a. in Exhibit 5. E:\FR\FM\25MYN1.SGM 25MYN1 jbell on DSKJLSW7X2PROD with NOTICES 28166 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices a counterparty shall cover all of the counterparty’s Covered Agency Transactions with the member or guaranteed to a third party by the member, including Covered Agency Transactions specified in paragraph (e)(2)(H)(ii)a.2. of this Rule. The risk limit determination shall be made by a designated credit risk officer or credit risk committee in accordance with the member’s written risk policies and procedures.’’ 42 • Paragraph (e)(2)(I) under Rule 4210 addresses concentration thresholds. FINRA is proposing to make revisions to align the paragraph with the proposed new language as to paragraph (e)(2)(H), in particular the elimination of the maintenance margin requirement and the introduction of the proposed new term ‘‘small cash counterparty.’’ Specifically, FINRA proposes to revise the opening sentence of the paragraph to read: ‘‘In the event that (i) the net capital deductions taken by a member as a result of marked to the market losses incurred under paragraphs (e)(2)(F), (e)(2)(G) (exclusive of the percentage requirements established thereunder), or (e)(2)(H)(ii)d.1. of this Rule, plus any unmargined net mark to market losses below $250,000 or of small cash counterparties exceed . . .’’ 43 Current paragraph (e)(2)(I)(i)c. would be redesignated as (e)(2)(I)(ii) and would read: ‘‘(ii) such excess as calculated in paragraph (e)(2)(I)(i) of this Rule continues to exist on the fifth business day after it was incurred . . .’’ The final clause of the paragraph would be revised to read: ‘‘. . . the member shall give prompt written notice to FINRA and shall not enter into any new transaction(s) subject to the provisions of paragraphs (e)(2)(F), (e)(2)(G) or (e)(2)(H) of this Rule that would result in an increase in the amount of such excess.’’ • Paragraph (f)(6) under Rule 4210 addresses the time within which margin or ‘‘mark to market’’ must be obtained. FINRA proposes to delete the phrase ‘‘other than that required under paragraph (e)(2)(H) of this Rule,’’ so the rule, as revised, would read: ‘‘The amount of margin or ‘mark to market’ required by any provision of this Rule shall be obtained as promptly as possible and in any event within 15 business days from the date such deficiency occurred, unless FINRA has specifically granted the member additional time.’’ FINRA believes this is appropriate given the proposed elimination of current paragraph 42 See proposed paragraph (e)(2)(H)(ii)b. in Exhibit 5. 43 See proposed paragraph (e)(2)(I) in Exhibit 5. VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 (e)(2)(H)(ii)d. and paragraph (e)(2)(H)(ii)e. of the rule, both of which set forth, among other things, specified time frames for collection of mark to market losses or deficiencies, as appropriate, and liquidation of positions that are specific to Covered Agency Transactions. • Current Supplemental Material .02 addresses the requirement for monitoring procedures with respect to mortgage bankers, for purposes of treating them as exempt accounts pursuant to current paragraph (e)(2)(H)(ii)d. Current Supplemental Material .03 addresses how the cure of mark to market loss or deficiency, as defined under the current rule, may cure the need to liquidate positions. Current Supplemental Material .04 addresses determining whether an account qualifies as an exempt account. The proposed rule change would render each of these provisions unnecessary, given that the rule change eliminates the need to distinguish exempt versus nonexempt accounts, including, as discussed above, the language targeted toward mortgage bankers, and eliminates the liquidation provisions under current paragraph (e)(2)(H)(ii)d. and paragraph (e)(2)(H)(ii)e. of the rule. FINRA proposes to redesignate current Supplemental Material .05 as Supplemental Material .03.44 If the Commission approves the proposed rule change, FINRA will announce the effective date of the proposed rule change in a Regulatory Notice to be published no later than 60 days following Commission approval. The effective date will be no later than 120 days following publication of the Regulatory Notice announcing Commission approval.45 Further, FINRA plans to file a separate proposed rule change that would adjust the October 26, 2021, implementation date for the requirements pursuant to SR–FINRA– 2015–036 (other than the risk limit determination requirements that became effective on December 15, 2016) to align with the effective date of the amendments to SR–FINRA–2015–036 as set forth in this proposed rule change. FINRA believes this alignment is appropriate in the interest of regulatory clarity. of Section 15A(b)(6) of the Act,46 which requires, among other things, that FINRA rules must be designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, and, in general, to protect investors and the public interest. Based on extensive engagement with industry participants, FINRA believes that the proposed rule change is consistent with the Act because, by eliminating the maintenance margin requirement for Covered Agency Transactions and by permitting members, under specified conditions, to take a capital charge in lieu of collecting margin, the proposed amendments will alleviate the negative competitive impact that the requirements pursuant to SR–FINRA– 2015–036 could have for smaller firms. Smaller firms told FINRA that the requirements pursuant to SR–FINRA– 2015–036, absent the proposed revisions by FINRA, would have the effect of favoring larger firms that could leverage their greater size and scale and nonmember banks that are not subject to the requirements of FINRA rules. The proposed rule change, by alleviating this disadvantage, would help promote competition by leveling the playing field among participants in the Covered Agency Transaction market, thereby reducing disruption in the Covered Agency Transaction market without the loss of investor protection. 2. Statutory Basis FINRA believes that the proposed rule change is consistent with the provisions A. Regulatory Need In Partial Amendment No. 3 to SR– FINRA–2015–036, FINRA stated that it would monitor the impact of the requirements specified in the rule change, inclusive of any potential intended or unintended regulatory, economic or competitive consequences. 44 See the Supplemental Material provisions in Exhibit 5. 45 FINRA notes that the proposed rule change would not impact members that are funding portals or that have elected to be treated as capital acquisition brokers (‘‘CABs’’), given that such members are not subject to Rule 4210. PO 00000 Frm 00114 Fmt 4703 Sfmt 4703 B. Self-Regulatory Organization’s Statement on Burden on Competition FINRA does not believe that the proposed rule change will result in any burden on competition that is not necessary or appropriate in furtherance of the purposes of the Act. Economic Impact Assessment FINRA has undertaken an economic impact assessment, as set forth below, to further analyze the regulatory need for the proposed rule change, its potential economic impacts, including anticipated costs, benefits, and distributional and competitive effects, relative to the current baseline, and the alternatives FINRA considered in assessing how best to meet its regulatory objective. 46 15 E:\FR\FM\25MYN1.SGM U.S.C. 78o–3(b)(6). 25MYN1 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices In response to concerns raised by industry participants regarding the impacts of the requirements, FINRA has engaged in extensive dialogue with industry participants, staff of the SEC and the Federal Reserve System, to reconsider the specified requirements, and to propose any necessary amendments to the requirements adopted pursuant to SR–FINRA–2015– 036. jbell on DSKJLSW7X2PROD with NOTICES B. Economic Baseline The economic baseline for the proposed rule change is based on (1) the existing state of the market and firm practices, (2) Rule 4210 prior to the amendments pursuant to SR–FINRA– 2015–036 (for convenience, ‘‘prerevision Rule 4210’’), and (3) the amendments pursuant to SR–FINRA– 2015–036 that, other than the risk limit determination requirements that became effective on December 15, 2016, would be implemented on the October 26, 2021, implementation date. Through several discussions and consultations with member firms and other relevant stakeholders since the SEC approved SR–FINRA–2015–036, FINRA has learned about some of the unintended consequences identified as part of the rulemaking. A particular aspect that has been identified is with respect to competition among FINRA members firms, and between member and non-member firms. The outbreak of the COVID–19 pandemic in early 2020 affected the financial system, increasing volatility in different markets, including the Covered Agency Transaction market.47 This exogenous shock to the market took place while FINRA was well into the process of evaluating feedback and concerns raised regarding the margin requirements for trading in this market. FINRA sought feedback, and discussed with several firms, the impact on the Covered Agency Transaction market of the increased volatility, including the impact of the margin requirements pursuant to SR– FINRA–2015–036 and the requirements as they would be amended pursuant to this rule filing. Overall, firms that participated in the outreach were supportive of the proposed rule amendments as set forth in this filing. Market participants indicated that the order and timing of official sector activities, including the Federal Reserve Board’s federal funds rate cut and its 47 See the DERA Report, note 17 supra. See also Federal Reserve Bank of New York Staff Reports, It’s What You Say and What You Buy: A Holistic Evaluation of the Corporate Credit Facilities (July 2020), available at: <https://www.newyorkfed.org/ medialibrary/media/research/staff_reports/ sr935.pdf>. VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 quantitative easing measures, including purchases of U.S. Treasury securities (‘‘UST’’) and mortgage-based securities (‘‘MBS’’), and the mortgage loan forbearance relief provided under the Coronavirus Aid, Relief, and Economic Security Act (the ‘‘CARES Act’’),48 as amended, were coincident with shortterm significant increases in volatility in UST and MBS pricing, resulting in increased margin calls, lower counterparty liquidity, and an adverse effect on related hedges. Most of the firms that participated in FINRA’s outreach efforts had signed with their counterparties margining agreements (MSFTAs or customer account agreements), giving the firms the ability to collect margin when necessary. These firms reported that in most cases, clients met their margin calls, with uncollected margin amounts being charged against the firm’s capital, in accordance with pre-revision Rule 4210 and, in some cases, the requirements pursuant to SR– FINRA–2015–036 and the SEC staff’s related guidance regarding SEA Rule 15c3–1 and Rule 15c3–3.49 Thus, FINRA learned that firms have in principle already adjusted to the requirements of SR–FINRA–2015–036, which as such is an appropriate baseline for the proposed rule change. The economic baseline considers the impact of the proposed rule change against the obligations, costs, and benefits associated with the requirements of SR–FINRA–2015–036. FINRA recognizes that some firms might continue to operate under the requirements of pre-revision Rule 4210, versus the requirements of SR–FINRA– 2015–036. In establishing the rule change pursuant to SR–FINRA–2015– 036, FINRA provided an analysis of the economic baseline that existed pre-2015 (the year that FINRA filed SR–FINRA– 2015–036 with the SEC), and the potential economic impacts of the proposed changes pursuant to SR– FINRA–2015–036.50 FINRA understands that the individual impacts experienced as a result of the proposed rule change as set forth is this filing will depend upon the extent to which member firms wholly adopted, partially adopted or are waiting to implement the requirements of SR–FINRA–2015–036. C. Economic Impacts FINRA has analyzed the potential costs and benefits of the proposed rule change, and the different parties that are 48 Public Law 116–136, 134 Stat. 281 (2020). the SEC staff Frequently Asked Question set as referenced in note 15 supra. 50 See the Original Proposal as referenced in note 9 supra. 49 See PO 00000 Frm 00115 Fmt 4703 Sfmt 4703 28167 expected to be affected. FINRA has identified member firms that engage in Covered Agency Transactions and their customers as the parties to be mainly affected by the proposed rule change. The proposed rule change is expected to provide relief to member firms, while promoting competition without diminishing investor protections. Anticipated Benefits FINRA believes that the proposed rule change would provide several direct benefits to member firms. First, the removal of the two percent maintenance margin requirement on non-exempt accounts would benefit member firms by reducing costs arising from two main channels. First, firms would no longer incur costs associated with distinguishing between exempt and non-exempt accounts. Second, the proposed rule change would provide operational relief with respect to obtaining custody and related agreements in connection with the need to collect maintenance margin. FINRA understands that the requirement to collect maintenance margin has led firms to enter into separate custodial agreements with third party banks to hold the maintenance margin where counterparties are constrained from custodying assets direct with brokerdealers. This resulted in an operational burden to both the member firms and their counterparties. Anecdotally, midsize and smaller member firms have claimed an additional indirect cost to the current rule, specifically, that this operational burden has resulted in counterparties reducing the number of member firms with which they transact. Second, the proposed rule change would permit member firms the option to take a capital charge in lieu of collecting margin for a counterparty’s excess net mark to market loss. The proposal would allow member firms to do so subject to specified conditions and limitations as discussed above, and would preserve the substance of the exceptions permitted under the current rule.51 These conditions and limitations are designed to help protect the financial stability of members that opt to take capital charges. The proposed limit on the capital charges taken by the firm in lieu of collecting margin provides guardrails to ensure that large member firms do not use this provision to corner the market in these securities. FINRA has learned that allowing firms to take a capital charge in lieu of collecting margin would further benefit them by decreasing operational burdens. These burdens arise from the costs 51 See, E:\FR\FM\25MYN1.SGM for example, note 19 and note 20 supra. 25MYN1 28168 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices jbell on DSKJLSW7X2PROD with NOTICES associated with obtaining the required margin agreements from counterparties, and from the competitive advantage large dealers have, stemming from their ability to enter into MSFTAs with trading counterparties. Finally, FINRA believes that this provision would result in a transfer of the risk from the customer to the member firm. This would benefit the firm’s customers and trading counterparties by reducing their costs and decreasing their risk exposure. As such, this could serve as an additional incentive to establishing trading relationships. FINRA believes that, in addition to the main benefits discussed above, member firms would benefit from the streamlining of the rule text and clarifications provided throughout, including the provisions and exceptions as discussed above and set forth by the rule. One such example is the proposed change to the definition of counterparty in the rule. The proposed definition is expected to reduce costs associated with determining liability and responsibilities when establishing the contractual relationship between the member firm and its counterparty. A second example is the proposed amendment that defines the required margin by reference to the proposed new defined term ‘‘excess net mark to market loss.’’ The proposed language streamlines and clarifies the language pursuant to SR–FINRA–2015–036 with regard to the $250,000 de minimis transfer amount, thereby making it easier to determine the applicable margin.52 This is expected to reduce the costs associated with determining the margin requirements when establishing trading relationships. Anticipated Costs FINRA notes that while the choice by member firms to commit capital in lieu of margin has anticipated benefits, as discussed above, such choice can also potentially result in some costs. The magnitude of these costs depends on the firm’s trading activity, its access to capital, and the capital reserves necessary to fulfill the firm’s margin obligations. As firms are not required to commit capital in lieu of margin, FINRA expects that firms will only do so when they believe it appropriately balances benefits and risks. Moreover, the member firm’s decision to take a capital charge in lieu of capital has additional associated costs. Taking a capital charge reduces the amount of excess net capital a firm has available for other uses and exposes the firm to financial and business risk if its 52 See 18:09 May 24, 2021 Anticipated Competitive Effects Collectively, the proposed rule change is expected to potentially level the playing field both between regional and primary broker-dealer members and between member firms and non-FINRA member regional banks. While FINRA has no direct measure of trading activity by non-member firms, it is expected that the main provisions of the proposed rule change would reduce incentives to limit trading relationships with FINRA member firms on account of the regulatory-imposed costs. Decreasing the costs associated with the collection of maintenance margin, and the ability to take a capital charge in lieu of collecting margin, would lower the overall costs associated with engaging in Covered Agency Transactions. FINRA believes that this would ultimately lower the barriers to entry into the Covered Agency Transaction market and increase competition. The magnitude of the competitive impact depends on the extent to which the requirements pursuant to SR–FINRA–2015–036 have already impacted market participant behavior. Finally, the collective impacts described above are expected to benefit the investor community, by providing investors more options for trading in this market. D. Alternatives Considered FINRA considered various alternatives to the proposed rule amendments. For example, with regard to the provisions under proposed paragraph (e)(2)(H)(ii)d.3. that specify the $30 million or 25% of tentative net capital thresholds,53 FINRA considered imposing the specified consequences as set forth under the proposal as soon as a member exceeds a limit of $25 million in capital charges in lieu of collecting margin. Industry participants expressed concern that the abrupt imposition of such consequences in cases of market stress, without allowing time for the member to collect margin, would be burdensome to firms. FINRA believes this concern is valid and as such is proposing that incurring capital charges in excess of $25 million for five consecutive business days will require 53 See proposed Rule 4210(e)(2)(H)(ii)d.3. in Exhibit 5. note 26 supra. VerDate Sep<11>2014 counterparties fails to deliver. Additional related costs could stem from the necessary compliance systems needed to make sure the permitted limits on taking such capital charges are met, and the costs related to when the firm needs to keep to these limits for an extended period, as set forth in the proposed rule text. Jkt 253001 PO 00000 Frm 00116 Fmt 4703 Sfmt 4703 notice to FINRA, while incurring capital charges in excess of $30 million or 25% of a firm’s tentative net capital for five consecutive business days will also require firms to take the specified steps to manage their risk. FINRA believes that the proposal strikes an appropriate balance between regulatory burdens and the ability of member firms to compete in these markets, as well as member firms’ financial responsibility and operational risk considerations and compliance. C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others Written comments were neither solicited nor received. III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action Within 45 days of the date of publication of this notice in the Federal Register or within such longer period (i) as the Commission may designate up to 90 days of such date if it finds such longer period to be appropriate and publishes its reasons for so finding or (ii) as to which the self-regulatory organization consents, the Commission will: (A) By order approve or disapprove such proposed rule change, or (B) institute proceedings to determine whether the proposed rule change should be disapproved. IV. Solicitation of Comments Interested persons are invited to submit written data, views and arguments concerning the foregoing, including whether the proposed rule change is consistent with the Act. Comments may be submitted by any of the following methods: Electronic Comments • Use the Commission’s internet comment form (https://www.sec.gov/ rules/sro.shtml); or • Send an email to rule-comments@ sec.gov. Please include File Number SR– FINRA–2021–010 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–FINRA–2021–010. 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 E:\FR\FM\25MYN1.SGM 25MYN1 Federal Register / Vol. 86, No. 99 / Tuesday, May 25, 2021 / Notices 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 a.m. and 3 p.m. Copies of such filing also will be available for inspection and copying at the principal office of FINRA. 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–FINRA– 2021–010 and should be submitted on or before June 15, 2021. For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.54 J. Matthew DeLesDernier, Assistant Secretary. [FR Doc. 2021–10959 Filed 5–24–21; 8:45 am] BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–91947; File No. SR– NASDAQ–2020–057] Self-Regulatory Organizations; The Nasdaq Stock Market LLC; Order Approving a Proposed Rule Change, as Modified by Amendment No. 2, To Allow Companies To List in Connection With a Direct Listing With a Primary Offering in Which the Company Will Sell Shares Itself in the Opening Auction on the First Day of Trading on Nasdaq and To Explain How the Opening Transaction for Such a Listing Will Be Effected jbell on DSKJLSW7X2PROD with NOTICES May 19, 2021. I. Introduction On September 4, 2020, The Nasdaq Stock Market LLC (‘‘Nasdaq’’ or the ‘‘Exchange’’) filed with the Securities and Exchange Commission 54 17 CFR 200.30–3(a)(12). VerDate Sep<11>2014 18:09 May 24, 2021 Jkt 253001 (‘‘Commission’’), pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Exchange Act’’) 1 and Rule 19b–4 thereunder,2 a proposed rule change to allow companies to list in connection with a primary offering in which the company will sell shares itself in the opening auction on the first day of trading on the Exchange and to explain how the opening transaction for such a listing will be effected. The proposed rule change was published for comment in the Federal Register on September 21, 2020.3 On November 4, 2020, pursuant to Section 19(b)(2) of the Exchange Act,4 the Commission designated a longer period within which to either approve the proposed rule change, disapprove the proposed rule change, or institute proceedings to determine whether to disapprove the proposed rule change.5 On December 17, 2020, the Commission instituted proceedings under Section 19(b)(2)(B) of the Exchange Act 6 to determine whether to approve or disapprove the proposed rule change.7 On February 22, 2021, the Exchange filed Amendment No. 1 to the proposed rule change, which superseded the proposed rule change as originally filed.8 The 1 15 U.S.C. 78s(b)(1). CFR 240.19b–4. 3 See Securities Exchange Act Release No. 89878 (September 15, 2020), 85 FR 59349 (September 21, 2020). Comments received on the proposal are available on the Commission’s website at: https:// www.sec.gov/comments/sr-nasdaq-2020-057/ srnasdaq2020057.htm. 4 15 U.S.C. 78s(b)(2). 5 See Securities Exchange Act Release No. 90331 (November 4, 2020), 85 FR 71708 (November 10, 2020). 6 15 U.S.C. 78s(b)(2)(B). 7 See Securities Exchange Act Release No. 90717 (December 17, 2020), 85 FR 84025 (December 23, 2020) (‘‘Order Instituting Proceedings’’ or ‘‘OIP’’). 8 Amendment No. 1 to the proposed rule change revised the proposal to (1) add to the requirements that must be satisfied before a security can be released for trading in the cross that the actual price calculated by the cross must be at or above the lowest price and at or below the highest price of the price range established by the issuer in its effective registration statement; (2) revise the fourth tie-breaker used in calculating the Current Reference Price (as defined below) to provide that this tie-breaker will be the price that is closest to the lowest price of the price range disclosed by the issuer in its effective registration statement; (3) revise the price to be used by Nasdaq for purposes of qualifying a security for listing to provide that Nasdaq will use a price per share equal to the lowest price in the price range disclosed by the issuer in its effective registration statement to determine whether the company has met the applicable Market Value of Unrestricted Publicly Held Shares (as defined below), bid price, and market capitalization requirements; (4) add that, notwithstanding the provisions of Rule 4120(c)(8)(A), Nasdaq, in consultation with the financial advisor to the issuer, will make the determination of whether the security is ready to trade as described in Rule 4120(c)(8)(A), and Nasdaq will make the determination of whether to postpone or reschedule the offering, but will do so 2 17 PO 00000 Frm 00117 Fmt 4703 Sfmt 4703 28169 proposed rule change, as modified by Amendment No. 1, was published for comment in the Federal Register on March 2, 2021.9 On March 17, 2021, the Commission extended the time period for approving or disapproving the proposal to May 19, 2021.10 On April 30, 2021, the Exchange filed Amendment No. 2 to the proposed rule change, which superseded the proposed rule change, as modified by Amendment No. 1.11 The Commission is approving the proposed rule change, as modified by Amendment No. 2. II. Description of the Proposal, as Modified by Amendment No. 2 Listing Rule IM–5315–1 provides additional listing requirements for listing a company that has not previously had its common equity securities registered under the Exchange Act on the Nasdaq Global Select Market at the time of effectiveness of a registration statement 12 filed solely for the purpose of allowing existing shareholders to sell their shares (a ‘‘Selling Shareholder Direct Listing’’). To allow a company to also sell shares on its own behalf in connection with its initial listing upon effectiveness of a registration statement, without a traditional underwritten public offering, the Exchange has proposed to adopt Listing Rule IM–5315–2. This proposed only if there is insufficient buy interest to satisfy the CDL Order and all other market orders, or if the actual price calculated by the cross is outside the price range established by the issuer in its effective registration statement; and (5) make minor technical changes to improve the clarity of the proposal. Amendment No. 1 to the proposed rule change is available on the Commission’s website at https:// www.sec.gov/comments/sr-nasdaq-2020-057/ srnasdaq2020057-8400450-229459.pdf. 9 See Securities Exchange Act Release No. 91205 (February 24, 2021), 86 FR 12245 (March 2, 2021) (‘‘Notice’’). 10 See Securities Exchange Act Release No. 91345 (March 17, 2021), 86 FR 15530 (March 23, 2021). 11 Amendment No. 2 to the proposed rule change revised the proposal to (1) clarify Nasdaq’s intent in Amendment No. 1 that in a Direct Listing with a Capital Raise, Nasdaq alone would make a determination of whether to postpone and reschedule the offering, and would not postpone and reschedule if (i) all market orders will be executed in the cross, and (ii) the actual price calculated by the cross is at or above the lowest price and at or below the highest price of the price range established by the issuer in its effective registration statement; and (2) make minor technical and conforming changes to improve the clarity of the proposal. Because the changes in Amendment No. 2 to the proposed rule change do not materially alter the substance of the proposed rule change or make conforming or technical amendments, Amendment No. 2. is not subject to notice and comment. Amendment No. 2 to the proposed rule change is available on the Commission’s website at https://www.sec.gov/comments/sr-nasdaq-2020057/srnasdaq2020057-8746216-237241.pdf. 12 The reference to a registration statement refers to a registration statement effective under the Securities Act of 1933 (‘‘Securities Act’’). E:\FR\FM\25MYN1.SGM 25MYN1

Agencies

SECURITIES AND EXCHANGE COMMISSION

[Federal Register Volume 86, Number 99 (Tuesday, May 25, 2021)]
[Notices]
[Pages 28161-28169]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2021-10959]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-91937; File No. SR-FINRA-2021-010]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend 
the Requirements for Covered Agency Transactions Under FINRA Rule 4210 
(Margin Requirements) as Approved Pursuant to SR-FINRA-2015-036

May 19, 2021.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on May 7, 2021, the Financial Industry Regulatory Authority, Inc. 
(``FINRA'') filed with the Securities and Exchange Commission (``SEC'' 
or ``Commission'') the proposed rule change as described in Items I, 
II, and III below, which Items have been prepared by FINRA. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    FINRA is proposing to amend the requirements for Covered Agency 
Transactions under FINRA Rule 4210 (Margin Requirements) as approved by 
the SEC pursuant to SR-FINRA-2015-036. The proposed rule change would 
amend, under FINRA Rule 4210, paragraphs (e)(2)(H), (e)(2)(I), (f)(6), 
and Supplementary Material .02 through .05, each as amended or 
established pursuant to SR-FINRA-2015-036.
    The text of the proposed rule change is available on FINRA's 
website at https://www.finra.org, at the principal office of FINRA and 
at the Commission's Public Reference Room.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. FINRA has prepared summaries, set forth in sections A, 
B, and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    On October 6, 2015, FINRA filed with the Commission proposed rule 
change SR-FINRA-2015-036, which proposed to amend FINRA Rule 4210 to 
establish margin requirements for: (1) To Be Announced (``TBA'') 
transactions,\3\ inclusive of adjustable rate mortgage (``ARM'') 
transactions; (2) Specified Pool Transactions; \4\ and (3) transactions 
in Collateralized Mortgage Obligations (``CMOs''),\5\ issued in 
conformity with a

[[Page 28162]]

program of an agency \6\ or Government-Sponsored Enterprise 
(``GSE''),\7\ with forward settlement dates, as further defined under 
FINRA Rule 4210(e)(2)(H)(i)c. pursuant to the rule change 
(collectively, defined under the rule change as ``Covered Agency 
Transactions'').\8\
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    \3\ FINRA Rule 6710(u) defines ``TBA'' to mean a transaction in 
an Agency Pass-Through Mortgage-Backed Security (``MBS'') or a Small 
Business Administration (``SBA'')-Backed Asset-Backed Security 
(``ABS'') where the parties agree that the seller will deliver to 
the buyer a pool or pools of a specified face amount and meeting 
certain other criteria but the specific pool or pools to be 
delivered at settlement is not specified at the Time of Execution, 
and includes TBA transactions for good delivery and TBA transactions 
not for good delivery. Agency Pass-Through MBS and SBA-Backed ABS 
are defined under FINRA Rule 6710(v) and FINRA Rule 6710(bb), 
respectively. The term ``Time of Execution'' is defined under FINRA 
Rule 6710(d).
    \4\ FINRA Rule 6710(x) defines Specified Pool Transaction to 
mean a transaction in an Agency Pass-Through MBS or an SBA-Backed 
ABS requiring the delivery at settlement of a pool or pools that is 
identified by a unique pool identification number at the time of 
execution.
    \5\ FINRA Rule 6710(dd) defines CMO to mean a type of 
Securitized Product backed by Agency Pass-Through MBS, mortgage 
loans, certificates backed by project loans or construction loans, 
other types of MBS or assets derivative of MBS, structured in 
multiple classes or tranches with each class or tranche entitled to 
receive distributions of principal or interest according to the 
requirements adopted for the specific class or tranche, and includes 
a real estate mortgage investment conduit (``REMIC''). The term 
``Securitized Product'' is defined under FINRA Rule 6710(m).
    \6\ FINRA Rule 6710(k) defines ``agency'' to mean a United 
States executive agency as defined in 5 U.S.C. 105 that is 
authorized to issue debt directly or through a related entity, such 
as a government corporation, or to guarantee the repayment of 
principal or interest of a debt security issued by another entity. 
The term excludes the U.S. Department of the Treasury in the 
exercise of its authority to issue U.S. Treasury Securities as 
defined under FINRA Rule 6710(p). Under 5 U.S.C. 105, the term 
``executive agency'' is defined to mean an ``Executive department, a 
Government corporation, and an independent establishment.''
    \7\ FINRA Rule 6710(n) defines GSE to have the meaning set forth 
in 2 U.S.C. 622(8). Under 2 U.S.C. 622(8), a GSE is defined, in 
part, to mean a corporate entity created by a law of the United 
States that has a Federal charter authorized by law, is privately 
owned, is under the direction of a board of directors, a majority of 
which is elected by private owners, and, among other things, is a 
financial institution with power to make loans or loan guarantees 
for limited purposes such as to provide credit for specific 
borrowers or one sector and raise funds by borrowing (which does not 
carry the full faith and credit of the Federal Government) or to 
guarantee the debt of others in unlimited amounts.
    \8\ The proposed rule change would redesignate the current 
definition of Covered Agency Transactions, as set forth in paragraph 
(e)(2)(H)(i)c., as paragraph (e)(2)(H)(i)b., without any change. See 
Exhibit 5. For purposes of this filing, all references to provisions 
under Rule 4210 are to provisions as amended or established pursuant 
to SR-FINRA-2015-036 (for convenience, also referred to in this 
filing as the ``current rule''), except where otherwise indicated.
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    In proposing the margin requirements, FINRA pointed out that the 
rulemaking was necessary to address the potential risk arising from 
unsecured credit exposures that exist in the Covered Agency Transaction 
market.\9\ FINRA noted that unsecured credit exposures in the Covered 
Agency Transaction market could lead to financial losses by dealers. 
Further, FINRA noted that permitting counterparties to participate in 
the Covered Agency Transaction market without posting margin can 
facilitate increased leverage by customers, thereby potentially posing 
a risk to the dealer extending credit and to the marketplace as a 
whole.\10\
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    \9\ See Securities Exchange Act Release No. 76148 (October 14, 
2015), 80 FR 63603 (October 20, 2015) (Notice of Filing of Proposed 
Rule Change; File No. SR-FINRA-2015-036) (FINRA's filing proposing 
SR-FINRA-2015-036, referred to as the ``Original Proposal'').
    \10\ See Original Proposal, 80 FR at 63604. FINRA further 
pointed out that the rulemaking was necessary given that FINRA's 
existing requirements, prior to the rulemaking, did not address the 
Covered Agency Transaction market generally, and given that existing 
industry best practices guidelines, such as set forth by the 
Treasury Market Practices Group (``TMPG''), are recommendations and 
not rule requirements. Id.
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    The Commission approved SR-FINRA-2015-036 on June 15, 2016 (the 
``Approval Date'').\11\ Pursuant to Partial Amendment No. 3 to SR-
FINRA-2015-036, FINRA announced in Regulatory Notice 16-31 that the 
rule change would become effective on December 15, 2017, 18 months from 
the Approval Date, except that the risk limit determination 
requirements as set forth in paragraphs (e)(2)(F), (e)(2)(G) and 
(e)(2)(H) of Rule 4210 and in new Supplementary Material .05, each as 
respectively amended or established by SR-FINRA-2015-036 (collectively, 
the ``risk limit determination requirements''), would become effective 
on December 15, 2016, six months from the Approval Date.\12\
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    \11\ See Securities Exchange Act Release No. 78081 (June 15, 
2016), 81 FR 40364 (June 21, 2016) (Notice of Filing of Amendment 
No. 3 and Order Granting Accelerated Approval to a Proposed Rule 
Change to Amend FINRA Rule 4210 (Margin Requirements) to Establish 
Margin Requirements for the TBA Market, as Modified by Amendment 
Nos. 1, 2, and 3; File No. SR-FINRA-2015-036) (approving SR-FINRA-
2015-036, referred to as the ``Approval Order'').
    \12\ See Partial Amendment No. 3 to SR-FINRA-2015-036 and 
Regulatory Notice 16-31 (August 2016), both available at: 
<www.finra.org>.
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    Industry participants requested that FINRA reconsider the potential 
impact of certain requirements pursuant to SR-FINRA-2015-036 on smaller 
and medium-sized firms, and that FINRA extend the implementation date 
of the requirements pending such reconsideration to reduce potential 
uncertainty in the Covered Agency Transaction market. In Partial 
Amendment No. 3 to SR-FINRA-2015-036, FINRA stated that it would 
monitor the impact of the requirements pursuant to that rulemaking and, 
if the requirements prove overly onerous or otherwise are shown to 
negatively impact the market, FINRA would consider revisiting such 
requirements as may be necessary to mitigate the rule's impact.\13\ In 
response to the concerns of industry participants, FINRA has engaged in 
extensive dialogue, both with industry participants and other 
regulators, including staff of the SEC and the Federal Reserve System, 
for the purpose of reconsidering the requirements. Further, pending 
this period of dialogue and reconsideration, FINRA has extended the 
implementation date of the requirements pursuant to SR-FINRA-2015-036 
(other than the risk limit determination requirements that became 
effective on December 15, 2016) on several occasions, most recently to 
October 26, 2021 (the ``October 26, 2021, implementation date''),\14\ 
and has published various guidance to assist members.\15\
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    \13\ See note 12 supra.
    \14\ See Securities Exchange Act Release No. 90852 (January 5, 
2021), 86 FR 2021 (January 11, 2021) (Notice of Filing and Immediate 
Effectiveness of a Proposed Rule Change To Extend the Implementation 
Date of Certain Amendments to FINRA Rule 4210 Approved Pursuant to 
SR-FINRA-2015-036; File No. SR-FINRA-2020-046). As discussed further 
below, FINRA plans to file a separate proposed rule change that 
would further adjust the October 26, 2021, implementation date to 
align with the effective date of the amendments to SR-FINRA-2015-036 
as set forth in this proposed rule change.
    \15\ For example, FINRA made available a set of Frequently Asked 
Questions & Guidance to clarify certain of the requirements, 
available at: <www.finra.org>. Further, staff of the SEC's Division 
of Trading and Markets made available a set of Frequently Asked 
Questions regarding SEA Rule 15c3-1 and Rule 15c3-3 in connection 
with Covered Agency Transactions under FINRA Rule 4210, also 
available at: <www.finra.org>.
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    FINRA notes that, in the period since the Approval Date, there has 
been opportunity to discern with greater clarity the potential impact, 
on both firms and their customers, of the requirements pursuant to SR-
FINRA-2015-036. Members have told FINRA that the requirements, as 
currently approved, favor larger firms over smaller firms because 
larger firms would have more market power to negotiate margin 
agreements \16\ with their customers. Members have pointed out that 
non-FINRA member bank dealers and other entities are able to 
participate in the Covered Agency Transaction market without being 
subject to FINRA Rule 4210, which thereby places FINRA member broker-
dealers at a competitive disadvantage. Some smaller members told FINRA 
that, among other things, having the option to take a capital charge in 
lieu of collecting margin for their customers' mark to market losses 
would help alleviate this competitive disadvantage, though it would not 
fully resolve the disparity that results from being subject to Rule 
4210 when non-FINRA member bank dealers are not.
---------------------------------------------------------------------------

    \16\ For example, larger firms would have more market power to 
negotiate Master Securities Forward Transaction Agreements 
(``MSFTAs'') or customer account agreements.
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A. Summary of Proposed Amendments
    Taking into account FINRA's dialogue with members,\17\ and the 
overall

[[Page 28163]]

purpose of the margin amendments, FINRA is proposing revisions to the 
Covered Agency Transaction requirements as approved pursuant to SR-
FINRA-2015-036. Broadly, FINRA proposes:
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    \17\ As discussed further below, this included outreach to 
several members active in the Covered Agency Transaction market 
regarding the volatility experienced in that market following the 
outbreak of the COVID-19 pandemic in early 2020. The SEC staff has 
issued a report addressing the market stress during and following 
the COVID-19 shock. See SEC Division of Economic and Risk Analysis, 
U.S. Credit Markets: Interconnectedness and the Effects of the 
COVID-19 Economic Shock (October 2020), available at: <https://www.sec.gov/files/US-Credit-Markets_COVID-19_Report.pdf> (the ``DERA 
Report'').
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     To eliminate the two percent maintenance margin 
requirement that applies to non-exempt \18\ accounts pursuant to 
paragraph (e)(2)(H)(ii)e. under Rule 4210. This would eliminate the 
need for members to distinguish exempt account customers from other 
customers (``non-exempt accounts'') for purposes of Covered Agency 
Transaction margin. As such, without regard to a counterparty's exempt 
or non-exempt account status, members would collect margin for each 
counterparty's excess mark to market loss, as discussed in further 
detail below, unless otherwise provided by the rule;
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    \18\ The term ``exempt account'' is defined under FINRA Rule 
4210(a)(13). Broadly, an exempt account means a FINRA member, non-
FINRA member registered broker-dealer, account that is a 
``designated account'' under FINRA Rule 4210(a)(4) (specifically, a 
bank as defined under Exchange Act Section 3(a)(6), a savings 
association as defined under Section 3(b) of the Federal Deposit 
Insurance Act, the deposits of which are insured by the Federal 
Deposit Insurance Corporation, an insurance company as defined under 
Section 2(a)(17) of the Investment Company Act, an investment 
company registered with the Commission under the Investment Company 
Act, a state or political subdivision thereof, or a pension plan or 
profit sharing plan subject to the Employee Retirement Income 
Security Act or of an agency of the United States or of a state or 
political subdivision thereof), and any person that has a net worth 
of at least $45 million and financial assets of at least $40 million 
for purposes of paragraphs (e)(2)(F), (e)(2)(G) and (e)(2)(H) of the 
rule, as set forth under paragraph (a)(13)(B)(i) of Rule 4210, and 
meets specified conditions as set forth under paragraph 
(a)(13)(B)(ii).
---------------------------------------------------------------------------

     subject to specified conditions and limitations, to permit 
members to take a capital charge in lieu of collecting margin for 
excess net mark to market losses on Covered Agency Transactions. These 
conditions and limitations are designed to help protect the financial 
stability of members that opt to take capital charges while restricting 
the ability of the larger members to use their capital in lieu of 
collecting margin to compete unfairly with smaller members; and
     to make revisions designed to streamline, consolidate and 
clarify the Covered Agency Transaction rule language. These revisions 
will preserve and clarify key exceptions to the requirements, including 
for example the $250,000 de minimis transfer exception \19\ and the $10 
million gross open position exception \20\ established pursuant to SR-
FINRA-2015-036.
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    \19\ Subject to specified conditions, the current rule provides 
for an aggregate $250,000 de minimis transfer amount with a single 
counterparty, so that if the aggregate required but uncollected 
maintenance margin or mark to market loss does not exceed that 
amount, the margin need not be collected or charged to net capital. 
See Approval Order, 81 FR at 40367; see also paragraph 
(e)(2)(H)(ii)f. of the current rule in Exhibit 5.
    \20\ The current rule provides that the margin requirements for 
Covered Agency Transactions do not apply to a counterparty that has 
gross open positions in Covered Agency Transactions with the member 
amounting to $10 million or less if the counterparty regularly 
settles its Covered Agency Transactions on a Delivery Versus Payment 
(``DVP'') basis or for cash and meets other specified conditions. 
See paragraph (e)(2)(H)(ii)c. of the current rule in Exhibit 5.

The proposed amendments are discussed in detail below.
B. Detailed Discussion of Proposed Amendments
1. Elimination of Maintenance Margin Requirement; Application of Mark 
to Market Loss to Both Exempt and Non-Exempt Accounts
    Paragraph (e)(2)(H)(ii)e. of the rule addresses Covered Agency 
Transactions with counterparties that are non-exempt accounts and 
broadly provides that maintenance margin, defined under the current 
rule to mean margin equal to two percent of the contract value of the 
net long or net short position, by CUSIP, with the counterparty, plus 
any net mark to market loss on such transactions, shall be required 
margin, subject to specified exceptions under the rule.\21\ By 
contrast, paragraph (e)(2)(H)(ii)d. of the rule broadly provides that 
on transactions with counterparties that are exempt accounts no 
maintenance margin shall be required. Such transactions must be marked 
to the market daily and the member must collect any net mark to market 
loss, subject to specified exceptions under the rule.\22\
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    \21\ See Approval Order, 81 FR at 40367; see also paragraph 
(e)(2)(H)(ii)e. of the current rule in Exhibit 5. The rule further 
sets forth specified requirements for net capital deductions and the 
liquidation of positions in the event the uncollected maintenance 
margin and mark to market loss (defined together under paragraph 
(e)(2)(H)(i)d. of the current rule as the ``deficiency'') is not 
satisfied. In short, the rule provides that if the deficiency is not 
satisfied by the close of business on the next business day after 
the business day on which the deficiency arises, the member shall be 
required to deduct the amount of the deficiency from net capital as 
provided in SEA Rule 15c3-1 until such time the deficiency is 
satisfied; under the rule, if such deficiency is not satisfied 
within five business days from the date the deficiency was created, 
the member must promptly liquidate positions to satisfy the 
deficiency, unless FINRA has specifically granted the member 
additional time. As discussed in further detail below, the proposed 
rule change would eliminate current paragraph (e)(2)(H)(ii)e. in its 
entirety.
    \22\ See Approval Order, 81 FR at 40367; see also paragraph 
(e)(2)(H)(ii)d. of the current rule in Exhibit 5. Similar to 
paragraph (e)(2)(H)(ii)e., the current rule provides that if the 
mark to market loss is not satisfied by the close of business on the 
next business day after the business day on which the mark to market 
loss arises, the member is required to deduct the amount of the mark 
to market loss from net capital as provided in SEA Rule 15c3-1 until 
such time the mark to market loss is satisfied; if such mark to 
market loss is not satisfied within five business days from the date 
the loss was created, the member must promptly liquidate positions 
to satisfy the mark to market loss, unless FINRA has specifically 
granted the member additional time. Again, as discussed in further 
detail below, the proposed rule change would eliminate current 
paragraph (e)(2)(H)(ii)d. in its entirety.
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    Members expressed concern that the two-track treatment of exempt 
versus non-exempt accounts is burdensome because members are obliged 
under the current rule to obtain and assess the financial information 
needed to determine which counterparties must be treated as non-exempt 
accounts.\23\ Further, based on feedback from members since the 
Approval Date and additional observation of market conditions, FINRA 
believes that the potential risk that the maintenance margin 
requirement was intended to address when originally proposed \24\ is 
not significant enough to warrant the burdens and competitive 
disadvantage that the requirement imposes. Members pointed out that, in 
practice, the maintenance margin requirement would apply to relatively 
few accounts that participate in the Covered Agency Transaction market. 
Yet, monitoring and collecting maintenance margin for such accounts is 
operationally burdensome and out of proportion with the number and size 
of the affected accounts. Further, bank dealers are not subject to the 
requirement to collect maintenance margin from their customers, which 
significantly would disadvantage FINRA members in competition with bank 
dealers. To address these concerns, FINRA is proposing to eliminate 
paragraph (e)(2)(H)(ii)d. and paragraph (e)(2)(H)(ii)e. of Rule 4210 as 
established pursuant to the Approval Order, and to adopt in lieu new 
paragraph (e)(2)(H)(ii)c., which provides that members shall collect 
margin for each counterparty's \25\ excess net mark to

[[Page 28164]]

market loss,\26\ unless otherwise provided under proposed new paragraph 
(e)(2)(H)(ii)d. of the rule, as discussed further below. As such, both 
exempt and non-exempt accounts would receive the same margin treatment 
for purposes of Covered Agency Transactions under paragraph 
(e)(2)(H).\27\
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    \23\ Further, members expressed concern that some asset manager 
counterparties face constraints with regard to custody of assets at 
broker-dealers and that, because of these constraints, some members 
need to enter into separate custodial agreements with third party 
banks to hold the maintenance margin that they collect from these 
asset managers. Members expressed concern that this imposes 
operational burdens both on themselves and their client 
counterparties, who may, as a consequence, choose to limit their 
dealings with smaller broker-dealers.
    \24\ See Original Proposal, 80 FR at 63608.
    \25\ Current paragraph (e)(2)(H)(i)b. defines the term 
``counterparty'' to mean any person that enters into a Covered 
Agency Transaction with a member and includes a ``customer'' as 
defined in paragraph (a)(3) under Rule 4210. The proposed rule 
change would redesignate the definition of counterparty as paragraph 
(e)(2)(H)(i)a. under the rule and revise the definition to provide 
that the term ``counterparty'' means any person, including any 
``customer'' as defined in paragraph (a)(3) of the rule, that is a 
party to a Covered Agency Transaction with, or guaranteed by, a 
member. FINRA believes that including transactions guaranteed by a 
member is a useful clarifying change in the context of Covered 
Agency Transactions. In connection with this change, FINRA proposes 
to add new Supplemental Material .02, which would provide that, for 
purposes of paragraph (e)(2)(H), a member is deemed to have 
``guaranteed'' a transaction if the member has become liable for the 
performance of either party's obligations under the transaction. See 
proposed new Supplemental Material .02 in Exhibit 5. Accordingly, if 
a clearing broker were to guarantee to an introduced customer an 
introducing broker's obligations under a Covered Agency Transaction 
between that introducing firm and customer, the introducing broker 
would be considered a ``counterparty'' of the clearing broker for 
purposes of paragraph (e)(2)(H).
    \26\ FINRA proposes to delete the current definition of ``mark 
to market loss'' under paragraph (e)(2)(H)(i)g. as adopted pursuant 
to the Approval Order and to replace it with a definition of ``net 
mark to market loss'' under proposed new paragraph (e)(2)(H)(i)d. 
Under the new definition, a counterparty's ``net mark to market 
loss'' means (1) the sum of such counterparty's losses, if any, 
resulting from marking to market the counterparty's Covered Agency 
Transactions with the member, or guaranteed to a third party by the 
member, reduced to the extent of the member's legally enforceable 
right of offset or security by (2) the sum of such counterparty's 
gains, if any, resulting from: (a) Marking to market the 
counterparty's Covered Agency Transactions with the member, 
guaranteed to the counterparty by the member, cleared by the member 
through a registered clearing agency, or in which the member has a 
first-priority perfected security interest; and (b) any ``in the 
money,'' as defined in paragraph (f)(2)(E)(iii) of Rule 4210, 
amounts of the counterparty's long standby transactions written by 
the member, guaranteed to the counterparty by the member, cleared by 
the member through a registered clearing agency, or in which the 
member has a first-priority perfected security interest. Under 
proposed new paragraph (e)(2)(H)(i)c., a counterparty's ``excess'' 
net mark to market loss is defined to mean such counterparty's net 
mark to market loss to the extent it exceeds $250,000. As such, by 
specifying excess net mark to market loss, FINRA notes that the 
proposed rule preserves the $250,000 de minimis transfer exception 
set forth under paragraph (e)(2)(H)(ii)f. as adopted pursuant to the 
Approval Order. Further, FINRA notes that, in the interest of 
clarity, proposed new paragraph (e)(2)(H)(ii)c. expressly provides 
that members would not be required to collect margin, or take 
capital charges, for counterparties' mark to market losses on 
Covered Agency Transactions other than excess net mark to market 
losses. Last, as discussed further below, the proposed rule change 
would delete paragraph (e)(2)(H)(ii)f. in the interest of 
consolidating the rule language.
    \27\ Current paragraph (e)(2)(H)(ii)d. of the rule contains 
provisions designed to permit members to treat mortgage bankers, as 
defined pursuant to current paragraph (e)(2)(H)(i)h. of the rule, as 
exempt accounts under specified conditions. Because the proposed 
rule change eliminates the distinction between exempt and non-exempt 
accounts for purposes of Covered Agency Transactions, this language 
is no longer needed and will be deleted.
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2. Option for Capital Charge in Lieu of Mark to Market Margin
    Proposed new paragraph (e)(2)(H)(ii)d. of the rule is designed, 
subject to specified conditions and limitations, to permit members the 
option to take a capital charge in lieu of collecting margin for a 
counterparty's excess net mark to market loss (that is, as discussed 
above, the net mark to market loss to the extent it exceeds $250,000). 
Informed by FINRA's engagement with members, FINRA believes this 
approach is appropriate because it would help alleviate the competitive 
disadvantage of smaller firms vis-[agrave]-vis larger firms. Smaller 
firms expressed concern that larger firms can leverage their greater 
size and scale in obtaining margining agreements with their 
counterparties, and that counterparties would prefer to transact with 
larger firms with which margining agreements can more readily be 
obtained, or with banks that are not subject to margin requirements 
under Rule 4210. Smaller firms told FINRA that having the option to 
take a capital charge, in lieu of collecting margin, would help 
alleviate the competitive disadvantage of needing to obtain margining 
agreements with such counterparties because there would be an 
alternative to collecting margin. To this end, as noted above, the 
proposed rule includes conditions and limitations that are designed to 
help protect the financial stability of members that opt to take 
capital charges while restricting the ability of the larger members to 
use their capital to compete unfairly with smaller members. 
Specifically, the proposed new paragraph provides that a member need 
not collect margin for a counterparty's excess net mark to market loss 
under paragraph (e)(2)(H)(ii)c. of the rule, provided that:
     The member must deduct the amount of the counterparty's 
unmargined excess net mark to market loss from the member's net capital 
computed as provided in SEA Rule 15c3-1, if the counterparty is a non-
margin counterparty \28\ or if the excess net mark to market loss has 
not been margined or eliminated by the close of business on the next 
business day after the business day on which such excess net mark to 
market loss arises; \29\
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    \28\ Proposed new paragraph (e)(2)(H)(i)e. defines a 
counterparty as a ``non-margin counterparty'' if the member: (1) 
Does not have a right under a written agreement or otherwise to 
collect margin for such counterparty's excess net mark to market 
loss and to liquidate such counterparty's Covered Agency 
Transactions if any such excess net mark to market loss is not 
margined or eliminated within five business days from the date it 
arises; or (2) does not regularly collect margin for such 
counterparty's excess net mark to market loss.
    \29\ See proposed paragraph (e)(2)(H)(ii)d.1. in Exhibit 5.
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     if the member has any non-margin counterparties, the 
member must establish and enforce risk management procedures reasonably 
designed to ensure that the member would not exceed either of the 
limits specified in paragraph (e)(2)(I)(i) of the rule, as proposed to 
be revised pursuant to this rule change,\30\ and that the member's net 
capital deductions under proposed paragraph (e)(2)(H)(ii)d.1. of the 
rule for all accounts combined will not exceed $25 million; \31\
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    \30\ Current paragraph (e)(2)(I) sets forth specified 
concentration thresholds. As discussed further below, the rule 
change would make conforming revisions to the rule.
    \31\ See proposed paragraph (e)(2)(H)(ii)d.2. in Exhibit 5.
---------------------------------------------------------------------------

     if the member's net capital deductions under paragraph 
(e)(2)(H)(ii)d.1. of the rule for all accounts combined exceed $25 
million for five consecutive business days, the member must give prompt 
written notice to FINRA. If the member's net capital deductions under 
paragraph (e)(2)(H)(ii)d.1. of the rule for all accounts combined 
exceed the lesser of $30 million or 25% of the member's tentative net 
capital, as such term is defined in SEA Rule 15c3-1, for five 
consecutive business days, the member may not enter into any new 
Covered Agency Transactions with any non-margin counterparty other than 
risk-reducing transactions, and must also, to the extent of its rights, 
promptly collect margin for each counterparty's excess net mark to 
market loss and promptly liquidate the Covered Agency transactions of 
any counterparty whose excess net mark to market loss is not margined 
or eliminated within five business days from the date it arises, unless 
FINRA has specifically granted the member additional time; \32\ and
---------------------------------------------------------------------------

    \32\ See proposed paragraph (e)(2)(H)(ii)d.3. in Exhibit 5.
---------------------------------------------------------------------------

     the member must submit to FINRA such information regarding 
its unmargined net mark to market losses, non-margin counterparties and 
related capital charges, in such form and manner, as FINRA shall 
prescribe by Regulatory Notice or similar communication.\33\
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    \33\ See proposed paragraph (e)(2)(H)(ii)d.4. in Exhibit 5.

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[[Page 28165]]

3. Streamlining and Consolidation of Rule Language; Conforming 
Revisions
    In support of the amendments discussed above, FINRA is proposing 
several amendments to the current rule designed to streamline and 
consolidate the rule language and otherwise make conforming revisions:
     The rule change consolidates language related to the 
$250,000 de minimis transfer exception and the $10 million gross open 
position exception while, as discussed above, preserving these 
exceptions in substance. The $250,000 de minimis transfer exception is 
preserved because paragraph (e)(2)(H)(ii)c. under the revised rule 
specifies that the members shall collect margin for each counterparty's 
excess net mark to margin loss, unless otherwise provided under 
paragraph (e)(2)(H)(ii)d. of the rule (that is, as discussed above, the 
provisions under the proposed rule that permit a member to take a 
capital charge in lieu of collecting margin, subject to specified 
conditions). The rule change deletes paragraph (e)(2)(H)(ii)f., which 
currently addresses the de minimis exception and would be rendered 
redundant. With respect to the current $10 million gross open position 
exception, FINRA proposes to revise paragraph (e)(2)(H)(ii)a. of the 
rule, which specifies counterparties that are excepted from the rule's 
margin requirements, to include a ``small cash counterparty'' among the 
enumerated entities included in the exception. Proposed new paragraph 
(e)(2)(H)(i)h. would provide that a counterparty is a ``small cash 
counterparty'' if:
    [cir] The absolute dollar value of all of such counterparty's open 
Covered Agency Transactions with, or guaranteed by, the member is $10 
million or less in the aggregate, when computed net of any settled 
position of the counterparty held at the member that is deliverable 
under such open Covered Agency Transactions and which the counterparty 
intends to deliver; \34\
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    \34\ See proposed paragraph (e)(2)(H)(i)h.1. in Exhibit 5.
---------------------------------------------------------------------------

    [cir] the original contractual settlement date for all such open 
Covered Agency Transactions is in the month of the trade date for such 
transactions or in the month succeeding the trade date for such 
transactions; \35\
---------------------------------------------------------------------------

    \35\ See proposed paragraph (e)(2)(H)(i)h.2. in Exhibit 5.
---------------------------------------------------------------------------

    [cir] the counterparty regularly settles its Covered Agency 
Transactions on a DVP basis or for cash; \36\ and
---------------------------------------------------------------------------

    \36\ See proposed paragraph (e)(2)(H)(i)h.3. in Exhibit 5.
---------------------------------------------------------------------------

    [cir] the counterparty does not, in connection with its Covered 
Agency Transactions with, or guaranteed by, the member, engage in 
dollar rolls, as defined in Rule 6710(z), or round robin trades,\37\ or 
use other financing techniques.\38\
---------------------------------------------------------------------------

    \37\ The term ``round robin'' is defined under current paragraph 
(e)(2)(H)(i)i. of the rule and, pursuant to the rule change, would 
be redesignated as paragraph (e)(2)(H)(i)g., without any change.
    \38\ See proposed paragraph (e)(2)(H)(i)h.4. in Exhibit 5.
---------------------------------------------------------------------------

    The above elements are substantially similar to the elements that 
are currently associated with the exception as set forth under current 
paragraph (e)(2)(H)(ii)c.2., which would be deleted, along with the 
definition of ``gross open position'' under paragraph (e)(2)(H)(i)e., 
which would be rendered redundant. The new proposed language reflects 
that the scope of transactions addressed by the rule include Covered 
Agency Transactions with a counterparty that are guaranteed by the 
member.
     FINRA proposes to delete the definition of ``bilateral 
transaction'' set forth in current paragraph (e)(2)(H)(i)a. The 
definition is in connection with the provisions under the current rule 
relating to margin treatment for exempt accounts under paragraph 
(e)(2)(H)(ii)d. and for non-exempt accounts under paragraph 
(e)(2)(H)(ii)e., both of which paragraphs, as discussed above, FINRA 
proposes to delete pursuant to the rule change. Further, FINRA notes 
that the term ``bilateral transaction'' is unduly narrow given that the 
proposed revised definition of ``counterparty,'' as discussed above, 
would have the effect of clarifying that the rule's scope includes 
transactions guaranteed by the member.
     FINRA proposes to delete the definition of the term 
``deficiency'' set forth in current paragraph (e)(2)(H)(i)d. Under the 
current rule, the term is designed in part to reference required but 
uncollected maintenance margin for Covered Agency Transactions. Because 
the rule change proposes to eliminate such maintenance margin, the term 
is not needed.
     Current paragraph (e)(2)(H)(ii)a. addresses the scope of 
paragraph (e)(2)(H) and certain types of counterparties that are 
excepted from the rule, provided the member makes and enforces written 
risk limits pursuant to paragraph (e)(2)(H)(ii)b. Current paragraph 
(e)(2)(H)(ii)b. contains the core language under the rule relating to 
risk limits. FINRA is proposing to revise both paragraphs so as to 
conform with the rule change and to consolidate the language relating 
to written risk limits in these paragraphs within paragraph 
(e)(2)(H)(ii)b. Paragraph (e)(2)(H)(ii)a.1. would be revised to read: 
``1. a member is not required to collect margin, or to take capital 
charges in lieu of collecting such margin, for a counterparty's excess 
net mark to market loss if such counterparty is a small cash 
counterparty, registered clearing agency, Federal banking agency, as 
defined in 12 U.S.C. 1813(z), central bank, multinational central bank, 
foreign sovereign, multilateral development bank, or the Bank for 
International Settlements; and . . .'' \39\ Paragraph (e)(2)(H)(ii)a.2. 
would be revised to read: ``2. a member is not required to include a 
counterparty's Covered Agency Transactions in multifamily housing 
securities or project loan program securities in the computation of 
such counterparty's net mark to market loss, provided . . .'' \40\ 
Paragraph (e)(2)(H)(ii)a.2.A. would not be changed, other than to be 
redesignated as part of part of (e)(2)(H)(ii)a.2. Paragraph 
(e)(2)(H)(ii)a.2.B. would be eliminated as redundant \41\ because, 
correspondingly, paragraph (e)(2)(H)(ii)b. would be revised to read: 
``A member that engages in Covered Agency Transactions with any 
counterparty shall make a determination in writing of a risk limit for 
each such counterparty, including any counterparty specified in 
paragraph (e)(2)(H)(ii)a.1. of this Rule, that the member shall 
enforce. The risk limit for

[[Page 28166]]

a counterparty shall cover all of the counterparty's Covered Agency 
Transactions with the member or guaranteed to a third party by the 
member, including Covered Agency Transactions specified in paragraph 
(e)(2)(H)(ii)a.2. of this Rule. The risk limit determination shall be 
made by a designated credit risk officer or credit risk committee in 
accordance with the member's written risk policies and procedures.'' 
\42\
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    \39\ The proposed new term ``small cash counterparty'' is 
discussed above. The proposed language in the paragraph reflects 
FINRA's proposed establishment of the option to take a net capital 
charge in lieu of collecting margin. Further, FINRA notes that, for 
clarity, the proposed rule change adds registered clearing agencies 
to the types of counterparties that are within the exception 
pursuant to paragraph (e)(2)(H)(ii)a. as revised. This preserves the 
treatment of registered clearing agencies under the rule in light of 
the proposed deletion of current paragraph (e)(2)(H)(ii)c. In this 
regard, also in the interest of clarity, FINRA proposes to add new 
paragraph (e)(2)(H)(i)f. by way of defining the term ``registered 
clearing agency.''
    \40\ Under current paragraph (e)(2)(H)(ii)a.2., a member is not 
required to apply the margin requirements of paragraph (e)(2)(H) to 
Covered Agency Transactions with a counterparty in multifamily 
housing securities or project loan program securities, provided the 
securities meet the specified conditions under the rule and the 
member makes and enforces the written risk limit determinations as 
specified under the rule. FINRA notes that the proposed rule change 
does not change the treatment of multifamily housing securities or 
project loan program securities under the current rule other than to 
clarify, in express terms, that a member is not required to include 
a counterparty's Covered Agency Transactions in multifamily housing 
securities or project loan program securities in the computation of 
such counterparty's net mark to market loss.
    \41\ See proposed paragraph (e)(2)(H)(ii)a. in Exhibit 5.
    \42\ See proposed paragraph (e)(2)(H)(ii)b. in Exhibit 5.
---------------------------------------------------------------------------

     Paragraph (e)(2)(I) under Rule 4210 addresses 
concentration thresholds. FINRA is proposing to make revisions to align 
the paragraph with the proposed new language as to paragraph (e)(2)(H), 
in particular the elimination of the maintenance margin requirement and 
the introduction of the proposed new term ``small cash counterparty.'' 
Specifically, FINRA proposes to revise the opening sentence of the 
paragraph to read: ``In the event that (i) the net capital deductions 
taken by a member as a result of marked to the market losses incurred 
under paragraphs (e)(2)(F), (e)(2)(G) (exclusive of the percentage 
requirements established thereunder), or (e)(2)(H)(ii)d.1. of this 
Rule, plus any unmargined net mark to market losses below $250,000 or 
of small cash counterparties exceed . . .'' \43\ Current paragraph 
(e)(2)(I)(i)c. would be redesignated as (e)(2)(I)(ii) and would read: 
``(ii) such excess as calculated in paragraph (e)(2)(I)(i) of this Rule 
continues to exist on the fifth business day after it was incurred . . 
.'' The final clause of the paragraph would be revised to read: ``. . . 
the member shall give prompt written notice to FINRA and shall not 
enter into any new transaction(s) subject to the provisions of 
paragraphs (e)(2)(F), (e)(2)(G) or (e)(2)(H) of this Rule that would 
result in an increase in the amount of such excess.''
---------------------------------------------------------------------------

    \43\ See proposed paragraph (e)(2)(I) in Exhibit 5.
---------------------------------------------------------------------------

     Paragraph (f)(6) under Rule 4210 addresses the time within 
which margin or ``mark to market'' must be obtained. FINRA proposes to 
delete the phrase ``other than that required under paragraph (e)(2)(H) 
of this Rule,'' so the rule, as revised, would read: ``The amount of 
margin or `mark to market' required by any provision of this Rule shall 
be obtained as promptly as possible and in any event within 15 business 
days from the date such deficiency occurred, unless FINRA has 
specifically granted the member additional time.'' FINRA believes this 
is appropriate given the proposed elimination of current paragraph 
(e)(2)(H)(ii)d. and paragraph (e)(2)(H)(ii)e. of the rule, both of 
which set forth, among other things, specified time frames for 
collection of mark to market losses or deficiencies, as appropriate, 
and liquidation of positions that are specific to Covered Agency 
Transactions.
     Current Supplemental Material .02 addresses the 
requirement for monitoring procedures with respect to mortgage bankers, 
for purposes of treating them as exempt accounts pursuant to current 
paragraph (e)(2)(H)(ii)d. Current Supplemental Material .03 addresses 
how the cure of mark to market loss or deficiency, as defined under the 
current rule, may cure the need to liquidate positions. Current 
Supplemental Material .04 addresses determining whether an account 
qualifies as an exempt account. The proposed rule change would render 
each of these provisions unnecessary, given that the rule change 
eliminates the need to distinguish exempt versus non-exempt accounts, 
including, as discussed above, the language targeted toward mortgage 
bankers, and eliminates the liquidation provisions under current 
paragraph (e)(2)(H)(ii)d. and paragraph (e)(2)(H)(ii)e. of the rule. 
FINRA proposes to redesignate current Supplemental Material .05 as 
Supplemental Material .03.\44\
---------------------------------------------------------------------------

    \44\ See the Supplemental Material provisions in Exhibit 5.
---------------------------------------------------------------------------

    If the Commission approves the proposed rule change, FINRA will 
announce the effective date of the proposed rule change in a Regulatory 
Notice to be published no later than 60 days following Commission 
approval. The effective date will be no later than 120 days following 
publication of the Regulatory Notice announcing Commission 
approval.\45\ Further, FINRA plans to file a separate proposed rule 
change that would adjust the October 26, 2021, implementation date for 
the requirements pursuant to SR-FINRA-2015-036 (other than the risk 
limit determination requirements that became effective on December 15, 
2016) to align with the effective date of the amendments to SR-FINRA-
2015-036 as set forth in this proposed rule change. FINRA believes this 
alignment is appropriate in the interest of regulatory clarity.
---------------------------------------------------------------------------

    \45\ FINRA notes that the proposed rule change would not impact 
members that are funding portals or that have elected to be treated 
as capital acquisition brokers (``CABs''), given that such members 
are not subject to Rule 4210.
---------------------------------------------------------------------------

2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\46\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. Based on extensive engagement with industry 
participants, FINRA believes that the proposed rule change is 
consistent with the Act because, by eliminating the maintenance margin 
requirement for Covered Agency Transactions and by permitting members, 
under specified conditions, to take a capital charge in lieu of 
collecting margin, the proposed amendments will alleviate the negative 
competitive impact that the requirements pursuant to SR-FINRA-2015-036 
could have for smaller firms. Smaller firms told FINRA that the 
requirements pursuant to SR-FINRA-2015-036, absent the proposed 
revisions by FINRA, would have the effect of favoring larger firms that 
could leverage their greater size and scale and non-member banks that 
are not subject to the requirements of FINRA rules. The proposed rule 
change, by alleviating this disadvantage, would help promote 
competition by leveling the playing field among participants in the 
Covered Agency Transaction market, thereby reducing disruption in the 
Covered Agency Transaction market without the loss of investor 
protection.
---------------------------------------------------------------------------

    \46\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

    FINRA does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act.
Economic Impact Assessment
    FINRA has undertaken an economic impact assessment, as set forth 
below, to further analyze the regulatory need for the proposed rule 
change, its potential economic impacts, including anticipated costs, 
benefits, and distributional and competitive effects, relative to the 
current baseline, and the alternatives FINRA considered in assessing 
how best to meet its regulatory objective.
A. Regulatory Need
    In Partial Amendment No. 3 to SR-FINRA-2015-036, FINRA stated that 
it would monitor the impact of the requirements specified in the rule 
change, inclusive of any potential intended or unintended regulatory, 
economic or competitive consequences.

[[Page 28167]]

In response to concerns raised by industry participants regarding the 
impacts of the requirements, FINRA has engaged in extensive dialogue 
with industry participants, staff of the SEC and the Federal Reserve 
System, to reconsider the specified requirements, and to propose any 
necessary amendments to the requirements adopted pursuant to SR-FINRA-
2015-036.
B. Economic Baseline
    The economic baseline for the proposed rule change is based on (1) 
the existing state of the market and firm practices, (2) Rule 4210 
prior to the amendments pursuant to SR-FINRA-2015-036 (for convenience, 
``pre-revision Rule 4210''), and (3) the amendments pursuant to SR-
FINRA-2015-036 that, other than the risk limit determination 
requirements that became effective on December 15, 2016, would be 
implemented on the October 26, 2021, implementation date.
    Through several discussions and consultations with member firms and 
other relevant stakeholders since the SEC approved SR-FINRA-2015-036, 
FINRA has learned about some of the unintended consequences identified 
as part of the rulemaking. A particular aspect that has been identified 
is with respect to competition among FINRA members firms, and between 
member and non-member firms. The outbreak of the COVID-19 pandemic in 
early 2020 affected the financial system, increasing volatility in 
different markets, including the Covered Agency Transaction market.\47\ 
This exogenous shock to the market took place while FINRA was well into 
the process of evaluating feedback and concerns raised regarding the 
margin requirements for trading in this market. FINRA sought feedback, 
and discussed with several firms, the impact on the Covered Agency 
Transaction market of the increased volatility, including the impact of 
the margin requirements pursuant to SR-FINRA-2015-036 and the 
requirements as they would be amended pursuant to this rule filing. 
Overall, firms that participated in the outreach were supportive of the 
proposed rule amendments as set forth in this filing.
---------------------------------------------------------------------------

    \47\ See the DERA Report, note 17 supra. See also Federal 
Reserve Bank of New York Staff Reports, It's What You Say and What 
You Buy: A Holistic Evaluation of the Corporate Credit Facilities 
(July 2020), available at: <https://www.newyorkfed.org/medialibrary/media/research/staff_reports/sr935.pdf>.
---------------------------------------------------------------------------

    Market participants indicated that the order and timing of official 
sector activities, including the Federal Reserve Board's federal funds 
rate cut and its quantitative easing measures, including purchases of 
U.S. Treasury securities (``UST'') and mortgage-based securities 
(``MBS''), and the mortgage loan forbearance relief provided under the 
Coronavirus Aid, Relief, and Economic Security Act (the ``CARES 
Act''),\48\ as amended, were coincident with short-term significant 
increases in volatility in UST and MBS pricing, resulting in increased 
margin calls, lower counterparty liquidity, and an adverse effect on 
related hedges. Most of the firms that participated in FINRA's outreach 
efforts had signed with their counterparties margining agreements 
(MSFTAs or customer account agreements), giving the firms the ability 
to collect margin when necessary. These firms reported that in most 
cases, clients met their margin calls, with uncollected margin amounts 
being charged against the firm's capital, in accordance with pre-
revision Rule 4210 and, in some cases, the requirements pursuant to SR-
FINRA-2015-036 and the SEC staff's related guidance regarding SEA Rule 
15c3-1 and Rule 15c3-3.\49\ Thus, FINRA learned that firms have in 
principle already adjusted to the requirements of SR-FINRA-2015-036, 
which as such is an appropriate baseline for the proposed rule change.
---------------------------------------------------------------------------

    \48\ Public Law 116-136, 134 Stat. 281 (2020).
    \49\ See the SEC staff Frequently Asked Question set as 
referenced in note 15 supra.
---------------------------------------------------------------------------

    The economic baseline considers the impact of the proposed rule 
change against the obligations, costs, and benefits associated with the 
requirements of SR-FINRA-2015-036. FINRA recognizes that some firms 
might continue to operate under the requirements of pre-revision Rule 
4210, versus the requirements of SR-FINRA-2015-036. In establishing the 
rule change pursuant to SR-FINRA-2015-036, FINRA provided an analysis 
of the economic baseline that existed pre-2015 (the year that FINRA 
filed SR-FINRA-2015-036 with the SEC), and the potential economic 
impacts of the proposed changes pursuant to SR-FINRA-2015-036.\50\ 
FINRA understands that the individual impacts experienced as a result 
of the proposed rule change as set forth is this filing will depend 
upon the extent to which member firms wholly adopted, partially adopted 
or are waiting to implement the requirements of SR-FINRA-2015-036.
---------------------------------------------------------------------------

    \50\ See the Original Proposal as referenced in note 9 supra.
---------------------------------------------------------------------------

C. Economic Impacts
    FINRA has analyzed the potential costs and benefits of the proposed 
rule change, and the different parties that are expected to be 
affected. FINRA has identified member firms that engage in Covered 
Agency Transactions and their customers as the parties to be mainly 
affected by the proposed rule change. The proposed rule change is 
expected to provide relief to member firms, while promoting competition 
without diminishing investor protections.
Anticipated Benefits
    FINRA believes that the proposed rule change would provide several 
direct benefits to member firms. First, the removal of the two percent 
maintenance margin requirement on non-exempt accounts would benefit 
member firms by reducing costs arising from two main channels. First, 
firms would no longer incur costs associated with distinguishing 
between exempt and non-exempt accounts. Second, the proposed rule 
change would provide operational relief with respect to obtaining 
custody and related agreements in connection with the need to collect 
maintenance margin. FINRA understands that the requirement to collect 
maintenance margin has led firms to enter into separate custodial 
agreements with third party banks to hold the maintenance margin where 
counterparties are constrained from custodying assets direct with 
broker-dealers. This resulted in an operational burden to both the 
member firms and their counterparties. Anecdotally, mid-size and 
smaller member firms have claimed an additional indirect cost to the 
current rule, specifically, that this operational burden has resulted 
in counterparties reducing the number of member firms with which they 
transact.
    Second, the proposed rule change would permit member firms the 
option to take a capital charge in lieu of collecting margin for a 
counterparty's excess net mark to market loss. The proposal would allow 
member firms to do so subject to specified conditions and limitations 
as discussed above, and would preserve the substance of the exceptions 
permitted under the current rule.\51\ These conditions and limitations 
are designed to help protect the financial stability of members that 
opt to take capital charges. The proposed limit on the capital charges 
taken by the firm in lieu of collecting margin provides guardrails to 
ensure that large member firms do not use this provision to corner the 
market in these securities.
---------------------------------------------------------------------------

    \51\ See, for example, note 19 and note 20 supra.
---------------------------------------------------------------------------

    FINRA has learned that allowing firms to take a capital charge in 
lieu of collecting margin would further benefit them by decreasing 
operational burdens. These burdens arise from the costs

[[Page 28168]]

associated with obtaining the required margin agreements from 
counterparties, and from the competitive advantage large dealers have, 
stemming from their ability to enter into MSFTAs with trading 
counterparties. Finally, FINRA believes that this provision would 
result in a transfer of the risk from the customer to the member firm. 
This would benefit the firm's customers and trading counterparties by 
reducing their costs and decreasing their risk exposure. As such, this 
could serve as an additional incentive to establishing trading 
relationships.
    FINRA believes that, in addition to the main benefits discussed 
above, member firms would benefit from the streamlining of the rule 
text and clarifications provided throughout, including the provisions 
and exceptions as discussed above and set forth by the rule. One such 
example is the proposed change to the definition of counterparty in the 
rule. The proposed definition is expected to reduce costs associated 
with determining liability and responsibilities when establishing the 
contractual relationship between the member firm and its counterparty. 
A second example is the proposed amendment that defines the required 
margin by reference to the proposed new defined term ``excess net mark 
to market loss.'' The proposed language streamlines and clarifies the 
language pursuant to SR-FINRA-2015-036 with regard to the $250,000 de 
minimis transfer amount, thereby making it easier to determine the 
applicable margin.\52\ This is expected to reduce the costs associated 
with determining the margin requirements when establishing trading 
relationships.
---------------------------------------------------------------------------

    \52\ See note 26 supra.
---------------------------------------------------------------------------

Anticipated Costs
    FINRA notes that while the choice by member firms to commit capital 
in lieu of margin has anticipated benefits, as discussed above, such 
choice can also potentially result in some costs. The magnitude of 
these costs depends on the firm's trading activity, its access to 
capital, and the capital reserves necessary to fulfill the firm's 
margin obligations. As firms are not required to commit capital in lieu 
of margin, FINRA expects that firms will only do so when they believe 
it appropriately balances benefits and risks.
    Moreover, the member firm's decision to take a capital charge in 
lieu of capital has additional associated costs. Taking a capital 
charge reduces the amount of excess net capital a firm has available 
for other uses and exposes the firm to financial and business risk if 
its counterparties fails to deliver. Additional related costs could 
stem from the necessary compliance systems needed to make sure the 
permitted limits on taking such capital charges are met, and the costs 
related to when the firm needs to keep to these limits for an extended 
period, as set forth in the proposed rule text.
Anticipated Competitive Effects
    Collectively, the proposed rule change is expected to potentially 
level the playing field both between regional and primary broker-dealer 
members and between member firms and non-FINRA member regional banks. 
While FINRA has no direct measure of trading activity by non-member 
firms, it is expected that the main provisions of the proposed rule 
change would reduce incentives to limit trading relationships with 
FINRA member firms on account of the regulatory-imposed costs. 
Decreasing the costs associated with the collection of maintenance 
margin, and the ability to take a capital charge in lieu of collecting 
margin, would lower the overall costs associated with engaging in 
Covered Agency Transactions. FINRA believes that this would ultimately 
lower the barriers to entry into the Covered Agency Transaction market 
and increase competition. The magnitude of the competitive impact 
depends on the extent to which the requirements pursuant to SR-FINRA-
2015-036 have already impacted market participant behavior. Finally, 
the collective impacts described above are expected to benefit the 
investor community, by providing investors more options for trading in 
this market.
D. Alternatives Considered
    FINRA considered various alternatives to the proposed rule 
amendments. For example, with regard to the provisions under proposed 
paragraph (e)(2)(H)(ii)d.3. that specify the $30 million or 25% of 
tentative net capital thresholds,\53\ FINRA considered imposing the 
specified consequences as set forth under the proposal as soon as a 
member exceeds a limit of $25 million in capital charges in lieu of 
collecting margin. Industry participants expressed concern that the 
abrupt imposition of such consequences in cases of market stress, 
without allowing time for the member to collect margin, would be 
burdensome to firms. FINRA believes this concern is valid and as such 
is proposing that incurring capital charges in excess of $25 million 
for five consecutive business days will require notice to FINRA, while 
incurring capital charges in excess of $30 million or 25% of a firm's 
tentative net capital for five consecutive business days will also 
require firms to take the specified steps to manage their risk.
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    \53\ See proposed Rule 4210(e)(2)(H)(ii)d.3. in Exhibit 5.
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    FINRA believes that the proposal strikes an appropriate balance 
between regulatory burdens and the ability of member firms to compete 
in these markets, as well as member firms' financial responsibility and 
operational risk considerations and compliance.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    Written comments were neither solicited nor received.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's internet comment form (https://www.sec.gov/rules/sro.shtml); or
     Send an email to [email protected]. Please include 
File Number SR-FINRA-2021-010 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-FINRA-2021-010. 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

[[Page 28169]]

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 a.m. and 3 p.m. Copies of such 
filing also will be available for inspection and copying at the 
principal office of FINRA. 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-FINRA-2021-010 
and should be submitted on or before June 15, 2021.
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    \54\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\54\
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2021-10959 Filed 5-24-21; 8:45 am]
BILLING CODE 8011-01-P

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