[Federal Register Volume 62, Number 93 (Wednesday, May 14, 1997)]
[Notices]
[Pages 26602-26605]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-12638]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-38584; File No. SR-OCC-97-04]
Self-Regulatory Organizations; The Options Clearing Corporation;
Notice of Filing and Order Granting Accelerated Approval of a Proposed
Rule Change Relating to a Cross-Margining Agreement With the Chicago
Mercantile Exchange and the Commodity Clearing Corporation
May 8, 1997.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''),\1\ notice is hereby given that on March 18, 1997, The
Options Clearing Corporation (``OCC'') filed with the Securities and
Exchange Commission (``Commission'') and on April 17, 1997, and April
22, 1997, amended the proposed rule change as described in Items I and
II below, which Items have been prepared primarily by OCC. The
Commission is publishing this notice and order to solicit comments from
interested persons and to grant accelerated approval of the proposed
rule change.
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\1\ 15 U.S.C. 78s(b)(1).
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The proposed rule change facilitates the establishment of a cross-
margining arrangement among OCC, the Chicago Mercantile Exchange
(``CME''), and the Commodity Clearing Corporation (``CCC'').
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, OCC included statements
concerning the purpose of and basis for the proposed rule change and
discussed any
[[Page 26603]]
comments it received on the proposed rule change. The text of these
statements may be examined at the places specified in Item IV below.
OCC has prepared summaries, set forth in sections (A), (B), and (C)
below, of the most significant aspects of such statements.\2\
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\2\ The Commission has modified the text of the summaries
prepared by OCC.
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(A) Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
The purpose of the proposed rule change is to facilitate the
establishment of a cross-margining arrangement among OCC, CME, and CCC.
The proposed cross-margining agreement (``Agreement'') to be entered
into by the three organizations is patterned after the existing
trilateral cross-margining agreement among OCC, The Intermarket
Clearing Corporation (``ICC''), and CME. From the time the New York
Stock Exchange sold the New York Futures Exchange (``NYFE'') to the New
York Cotton Exchange (``Cotton Exchange''), OCC and the Cotton Exchange
have been working together to move the clearance and settlement of NYFE
products from ICC to the Cotton Exchange's clearinghouse, CCC. One
obstacle to transferring the clearance and settlement services from ICC
to CCC was the lack of a cross-margining program among OCC, CME, and
CCC. The proposed rule change will facilitate the establishment of a
cross-margining program that will allow NYFE participants to continue
to receive the benefits of cross-margining after CCC assumes the
clearance and settlement of NYFE products on April 29, 1997.\3\ The
proposed Agreement will be modified as necessary from the existing OCC/
ICC/CME cross-margin agreement to accommodate CCC as a participating
carrying clearing organization in place of ICC. As with the OCC/CME/ICC
cross-margining agreement, the proposed Agreement will accommodate
bilateral and trilateral cross-margining.
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\3\ Currently, NYFE participants receive the benefits of cross-
margining through the OCC/ICC/CME cross-margining program.
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Existing Cross Margining Agreement
The following describes the most important sections of the existing
agreement among OCC, CME, and ICC that are being modified in order to
effectuate the cross-margining program among OCC, CME, and CCC.\4\
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\4\ For a complete description of the cross-margining agreement
among OCC, CME, and ICC, see Securities Exchange Act Release No.
32534 (June 28, 1993), 58 FR 36234 (order approving proposed rule
changes relating to trilateral cross-margining.)
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Section 2 of the Agreement provides for the designation of either
OCC or CME as the ``designated clearing organization'' (``DCO'') for a
joint clearing member or pair of affiliated clearing members. This
section has been changed to allow the designation of the DCO to be made
by agreement among OCC, CME, and the clearing members and not by the
clearing members alone as it was in the OCC/ICC/CME cross-margining
program. In addition, language designating OCC as DCO in place of CME
where clearing members have selected CME as DCO has been deleted. This
issue is covered under a separate proposed letter agreement among the
clearing organizations which was filed with the Commission by amendment
to this filing.\5\
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\5\ Letter from Robert C. Rubenstein, OCC (April 21, 1997).
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Section 5 of the Agreement includes language that provides that CCC
has elected to use the margin calculations produced by the DCO's margin
system for purposes of calculating the base margin requirement and risk
margin requirement for any set of cross-margin accounts for which CCC
is a carrying clearing organization. A provision also has been added to
this section to provide that each clearing organization assumes the
responsibility of determining that the margin requirements are adequate
and that no clearing organization shall have liability to any other
clearing organization based upon an allegation that any margin
calculation was inadequate.
Section 6 of the Agreement describes the acceptable forms of margin
and the procedures by which margin deposits are released to the
depositing clearing members. This section provides that common stocks
deposited as initial margin are valued at the lower of the values
determined under the rules of OCC or CME. This replaces language
providing for valuation under OCC Rule 604(d) which prescribes
valuation at seventy percent of current market value or such lesser
rate as approved by the Commission or the Commodity Futures Trading
Commission (``CFTC''). This section also provides that valuation of
Treasury securities deposited as initial margin are valued at the lower
of the values determined under the rules of OCC or CME. This replaces
language providing for valuation under the rules of any clearing
organization.
In addition, Section 6 of the Agreement contains a new provision
whereby CCC will be deemed to have given the necessary approval for the
release of securities to the depositing clearing member unless CCC
gives timely written objection to the release. These changes are
intended for the protection of each clearing organization.
Section 7 of the Agreement provides that CCC will be deemed to have
given all necessary approvals and will not be required to execute or
specifically authorize any instruction or direction to transfer with
respect to CME acting as CCC's agent for the purposes of transfers of
funds in connection with settlement unless CCC gives timely, written
notice of CCC's objection to such instruction or direction to transfer.
Similarly, this section has been changed to require CCC to obtain
the approval of OCC and CME regarding the funds transfer instructions
it gives to the applicable cross-margin clearing banks. In addition, a
clearing member may not withdraw margin excess in excess of the amount
of margin of that form deposited by the clearing member in the set of
cross-margin accounts from which the withdrawal is requested.
Finally, Section 7 of the Agreement provides procedures for
intraday margin calls by CCC, including procedures for intraday margin
call notification to clearing members and for withdrawal of variation
margin in the event of margin excess. These changes also are intended
to protect each clearing organization and to incorporate CCC's intraday
margin call procedures into the cross-margining program.
Section 8 of the Agreement provides that CCC is entitled to retain
or receive a share of the surplus from a proprietary liquidating
account that is the greater of its pro rata share of the equivalent
unhedged risk \6\ or five percent of the surplus. OCC or CME is
entitled to receive the remaining surplus provided that if both are
carrying clearing organizations, each is entitled to fifty percent of
the remaining surplus for application against losses sustained from a
defaulting clearing member.
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\6\ For purposes of the Agreement, ``equivalent unhedged risk''
is defined as the sum of the initial margin that will be required by
each carrying clearing organization on contracts in each cross-
margin account by that carrying clearing organization without regard
to contracts carried in cross-margining accounts at other clearing
organizations.
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Section 8 also sets forth the loss sharing procedures to be used in
the event non-proprietary liquidating accounts are insufficient. If CCC
is a carrying clearing organization, CCC will bear a share of the
shortfall equal to the greater of its pro rata share of the daily
equivalent unhedged risk or five percent of the liquidating deficit.
OCC and CME, whichever is a carrying clearing organization, shall bear
the remaining shortfall; however, if both OCC and
[[Page 26604]]
CME are carrying clearing organizations, each will bear fifty percent
of the remaining shortfall. This is different from the OCC/ICC/CME
cross-margining agreement which provides that OCC and ICC together are
to bear fifty percent of losses together and CME was to bear the
remaining fifty percent. Because CCC is not acting as an equal
participant in the current cross-margining program, this agreement has
been drafted to reflect that CCC will not engage in the same level of
clearing activity as OCC and CME.\7\
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\7\ Conversation between Robert C. Rubenstein, OCC, and Jeffrey
S. Mooney, Attorney, Division of Market Supervision, Commission
(April 18, 1997).
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Section 11 of the Agreement is new and provides that no clearing
organization will have any liability to another clearing organization
as the result of any action taken or not taken in its capacity as a DCO
unless such action or inaction constitutes willful misconduct.
Section 13 of the Agreement sets forth who may terminate the
Agreement and who may withdraw from the agreement. Section 13 allows
OCC, CME, and CCC to terminate the Agreement without cause by
delivering notice of termination specifying a termination date not less
than ninety days following the date on which notice is sent. OCC and
CME also may jointly agree to remove CCC as a party to the Agreement by
delivering written notice of termination specifying a termination date
not less than ninety days following the date on which notice is sent.
Section 13 also provides that if CCC is the defaulting party or
gives notice of default under the Agreement, the Agreement is
terminated with respect to CCC only. This section further provides that
the Agreement will remain in effect between OCC and CME in the event
that the termination date is established with respect only to CCC. This
is intended to facilitate the continuity of the Agreement in the event
that CCC no longer participates in the cross-margining program.
With regard to information sharing, Section 15 of the Agreement
provides that CCC has the same mutual obligation to notify the other
clearing organizations if it is notified by the Cotton Exchange or NYFE
of the application of any special surveillance procedures to a clearing
member. These changes also are intended to protect each clearing
organization.
Finally, Section 17 of the Agreement provides that the Agreement is
to be deemed a ``netting contract'' for purposes of Title IV, Subtitle
A of the Federal Deposit Insurance Corporation Improvement Act of 1991
(``FDICIA''). The parties to the Agreement do not intend this amendment
to override any interpretation of FDICIA. Instead, the parties intend
this amendment to protect the viability of the Agreement under
circumstances that may give rise to application of FDICIA.
Clearing Member Agreements
Various forms of agreements are required to be executed by
participating clearing members and market professionals participating
in the cross-margining programs established by the cross-margining
agreement.\8\ Specifically, these agreements are the: (1) Proprietary
cross-margin account agreements and security agreement for a joint
clearing member; (2) proprietary cross-margin account agreement and
security agreement for affiliated clearing members; (3) non-proprietary
cross-margin account agreement and security agreement for a joint
clearing member; (4) non-proprietary cross-margin account agreement and
security agreement for affiliated clearing members; (5) subordination
agreement for cross-margining for a joint clearing member; and (6)
subordination agreement for cross-margining for affiliated clearing
members.
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\8\ A copy of each agreement has been submitted with the
proposed rule change and is available for inspection and copying in
the Commission's Public Reference Room or at the principal office of
OCC.
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Each agreement is based on the comparable existing agreement used
in the current OCC/CME/ICC cross-margining program, and each is
modified as necessary to accommodate cross-margining with CME and CCC
as participating carrying clearing organizations.
Each agreement also provides that the agreement will become
effective upon execution or upon receipt of all necessary regulatory
approvals from the Commission and the CFTC. The purpose of this
provision is to allow clearing members to have the agreements executed
and in place on the date of regulatory approval to avoid any delays
that may occur from obtaining signatures after regulatory approval.
OCC believes that the proposed rule change is consistent with the
purposes and requirements of Section 17A(b)(3)(F) of the Act because
cross-margining enhances the safety of the clearing system while
providing lower clearing margin costs to participants.
(B) Self-Regulatory Organization's Statement on Burden on Competition
OCC does not believe that the proposed rule change will impose any
burden on competition.
(C) Self-Regulatory Organization's Statement on Comments on the
Proposed Rule Change Received from Members, Participants or Others
Written comments were not and are not intended to be solicited with
respect to the proposed rule change, and none were received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Section 17A(b)(3)(F) \9\ of the Act requires that the rules of a
clearing agency be designed to assure the safeguarding of securities
and funds which are in the custody or control of the clearing agency or
for which it is responsible. Section 17A(a)(2)(A)(ii) \10\ of the Act
directs the Commission to use its authority under the Act to facilitate
the establishment of transactions in securities, securities options,
contracts of sale for future delivery and options thereon, and
commodity options. The Commission believes that the proposed rule
change is consistent with these requirements under the Act.
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\9\ 15 U.S.C. 78q-1(b)(3)(F).
\10\ 15 U.S.C. 78q-1(a)(2)(A)(ii). Congress added this section
to the Act as part of the Market Reform Act of 1990. Pub. L. No.
101-432, 104 Stat. 963 (1990).
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Similar to other cross-margining arrangements to which OCC is a
party, the current proposal links and coordinates the clearance and
settlement facilities of OCC, CME, and CCC with respect to shared
management of risks associated with the clearing members' intermarket
portfolios and with respect to information sharing regarding the
financial condition of participating joint and affiliated members. The
Commission views cross-margining arrangements as a significant risk
reduction method because they provide a means whereby individual
clearing organizations do not have to independently manage the risk
associated with some components (i.e., the futures or options
component) of a clearing member's total portfolio. Therefore, cross-
margining programs serve to help OCC assure the safeguarding of
securities and funds and to facilitate the establishment of linked or
coordinated facilities for the clearance and settlement of futures and
options, transactions in securities.\11\
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\11\ 15 U.S.C. 78q-1(a)(2)(A)(ii).
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In addition, since it granted approval of the first cross-margining
program in 1988,\12\ the Commission repeatedly has found that cross-
margining programs are
[[Page 26605]]
consistent with clearing agency responsibilities under Section 17A of
the Act. Cross-margining programs, among other things, enhance clearing
member liquidity and systemic liquidity both in times of normal trading
and in times of market stress. Under routine trading, clearing members
who participate in a cross-margining program have lower initial margin
deposits. Reduced margin requirements help clearing members manage
their cash flow by increasing available cash to be used for other
purposes. In times of market stress and high volatility, lower initial
margin requirements could prove crucial in maintaining the liquidity of
clearing members and therefore would enhance liquidity in the market as
a whole. By enhancing market liquidity, cross-margining arrangements
remove impediments to and help perfect the mechanism of a national
system for the prompt and accurate clearance and settlement of
securities transactions.\13\
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\12\ Securities Exchange Act Release No. 26153 (October 3,
1998), 53 FR 39567 (order approving non-proprietary cross-margining
program between OCC and ICC).
\13\ Shortly after the 1987 market break, then Treasury
Secretary Nicholas F. Brady referred to the clearance and settlement
system as the weakest link in the nation's financial system and
noted that improvements to the clearance and settlement system, such
as those provided by cross-margining arrangements, would ``help
ensure that a securities market failure does not become a credit
market failure.'' The Market Reform Act of 1989: Joint Hearings on
S. 648 before Subcom. on Securities and the Senate Comm. on Banking,
Housing and Urban Affairs, 101 st Cong., 1st Sess. 225 (Oct. 26,
1989) (statement of Nicholas F. Brady, Secretary of the Treasury).
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The cross-margining program in the present proposed rule change is
based on the OCC/ICC/CME model and retains virtually all of the
important safety provisions of the OCC/ICC/CME cross-margining program,
the Commission believes the cross-margining programs proposed here is
consistent with clearing agencies' statutory requirements to assure the
safeguarding of funds and securities which are in their custody or
control or for which they are responsible.
OCC has requested that the Commission find good cause for approving
the proposed rule change prior to the thirtieth day after publication
of the notice of filing. The Commission finds good cause for approving
the proposed rule change prior to the thirtieth day after publication
of the notice of the filing because accelerated approval will allow
OCC, CME, and CCC to establish the cross-margining program and will
allow the continuity of clearance and settlement services for NYFE
products after CCC assumes the clearance and settlement of NYSE
products. In addition, the Commission does not expect to receive any
adverse comments on the present rule change.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing. Persons making written submission
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549.
Copies of the submissions, 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. Sec. 552, will be available for inspection and copying in
the Commission's Pubic Reference Room, 450 Fifth Street, N.W.,
Washington, D.C. 20549. Copies of such filings will also be available
for inspection and copying at the principal office of OCC. All
submissions should refer to the file number SR-OCC-97-04 and should be
submitted by June 4, 1997.
It is therefore ordered, pursuant to Section 19(b)(2) of the Act,
that the proposed rule change (File No. SR-OCC-97-04) be and hereby is
approved on an accelerated basis.
For the Commission by the Division of Market Regulation,
pursuant to delegated authority.\14\
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\14\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-12638 Filed 5-13-97; 8:45 am]
BILLING CODE 8010-01-M