[Federal Register Volume 63, Number 54 (Friday, March 20, 1998)]
[Notices]
[Pages 13712-13713]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-7204]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-39747; File No. SR-MBSCC-97-10]


Self-Regulatory Organizations; MBS Clearing Corporation; Order 
Approving a Proposed Rule Change Relating to Modifications to MBSCC's 
Liquidation Rules

March 13, 1998.
    On November 13, 1997, the MFS Clearing Corporation (``MBSCC'') 
filed with the Securities and Exchange Commission (``Commission'') a 
proposed rule change (File No. SR-MBSCC-97-10) pursuant to Section 
19(b)(1) of the Securities Exchange Act of 1934 (``Act'').\1\ On 
January 30, 1998,

[[Page 13713]]

 MBSCC filed an amendment to its proposed rule change. Notice of the 
proposal was published in the Federal Register on February 17, 1998.\2\ 
No comment letters were received. For the reasons discussed below, the 
Commission is approving the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ Securities Exchange Act Release No. 39633 (February 9, 
1998), 63 FR 7844.
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I. Description

    The proposed rule change modifies MBSCC's rules governing the 
liquidation of open trades when MBSCC ceases to act for a participant. 
The modifications to Section 5 of Rule 3 of Article III of MBSCC's 
rules, which governs the disposition of a former participant's open 
commitments, are as follows.
    MBSCC's rules now provide that participants authorize MBSCC to 
obtain, if necessary, immediate disclosure of the settlement status of 
any trade from depository institutions or clearing banks. Any 
liquidation of a former participant's open trades will occur on a net 
basis as determined by MBSCC and as reflected on the open commitment 
report.\3\ However, transactions will be liquidated on a net basis only 
if the contraside participants and trade terms are eligible for 
netting. Any open trade of the former participant that contains a 
specified pool will be disposed of as if it did not contain such 
specified pool (i.e., the trade is disposed of based on its generic 
trade terms such as agency, product, coupon rate, and maturity) unless 
otherwise determined by MBSCC.
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    \3\ MBSCC's open commitment report is a daily report that shows 
a participant's open compared trades and is used to identify a 
former participant's open commitments in a liquidation situation.
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    MBSCC's rules now provide that in a liquidation situation MBSCC may 
temporarily delay settlement balance order market differential 
(``SBOMD'') credits due to original contrasides (i.e., the participants 
with whom the former participant contracted) until the completion of 
the liquidation of the former participant's open trades.\4\ In 
addition, MBSCC is able to apply SBOMD credits due to original 
contrasides of the former participant to offset any assessment against 
such original contrasides pursuant to MBSCC's liquidation rules.
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    \4\ SBOMD represents the cash difference between the contract 
price of a transaction and the settlement price as a result of SBO 
netting. MBSCC typically pays SBOMD credits to participants on 
settlement date.
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    The proposed rule change makes explicit that MBSCC does not allow 
claims for variance pursuant to The Bond Market Association's 
guidelines relating to a former participant's open trades that have not 
completed SBO netting or that have a trade-for-trade status.\5\ Claims 
will be allowed for cash adjustments relating to a former participant's 
open trades that have completed SBO netting if such claims are 
reasonable as determined solely by MBSCC. In addition, the proposed 
rule change clarifies that original contrasides are reasonable for 
prorated cash adjustments of the former participant if the amount 
available from the former participant is insufficient to cover its 
obligations.
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    \5\ Sellers in the mortgage-backed securities market are 
typically permitted to deliver securities that vary by a certain 
percentage from the originally traded face value pursuant to The 
Bond Market Association's guidelines for mortgage-backed securities 
(i.e., a variance). MBSCC calculates a cash adjustment for its 
participants that includes variance only for trades that have gone 
through the netting process.
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    MBSCC generally gives priority to claims by contrasides that were 
matched with the former participant through MBSCC's netting process 
provided that the contraside was not the original contraside to the 
trade (``SBO contrasides'') before claims by original contrasides in 
the event that the amount available from the former participant is 
insufficient to cover its obligations. The proposed rule change creates 
an additional priority that gives claims for losses by original 
contrasides relating to unmargined trades a lesser priority than claims 
for losses by original contrasides relating to previously margined 
trades if the amount available from the former participant is 
insufficient to cover its obligations. As a result of this 
modification, MBSCC's priority structure is (1) SBO contrasides, (2) 
original contrasides for previously margined trades,\6\ and (3) 
original contrasides for unmargined trades.
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    \6\ In this instance, original contrasides could include an 
original party to the trade which was again matched against the 
former participant through the netting process or an original 
contraside to a trade that has been margined but has not yet been 
through the netting process.
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II. Discussion

    Section 17A(b)(3)(F) 7 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 MBSCC or 
for which it is responsible. The Commission believes that MBSCC's 
proposed rule change is consistent with its obligation under the Act 
because the proposal should enhance MBSCC's ability to provide 
appropriate risk protection to its members in the case of a liquidation 
situation.
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    \7\ 15 U.S.C. 78q-1(b)(3)(F).
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    Many of the modifications are designed to reduce the amount of time 
needed for liquidation. For example, immediate disclosure of the 
settlement status of any trade from depository institutions or clearing 
banks reduces MBSCC's reliance on independent contraside verification 
and, therefore, the time required to identify and to liquidate a former 
participant's open trades. Liquidation of trades on a net basis should 
reduce the number of trades requiring liquidation. Similarly, 
disposition of trades without regard to whether they contain specified 
pools should simplify and expedite the liquidation process. By 
shortening the time required to liquidate a former member's positions, 
these changes reduce the risk that a participant's open positions will 
decrease in value and thus reduces the potential liability to which 
MBSCC is subject.
    Other amendments will enhance MBSCC's liquidity and reduce its risk 
of loss. For example, the delay in payment of SBOMD credits to original 
contrasides and the ability to apply such payments against amounts owed 
may strengthen MBSCC's cash flow position. The limitation on claims for 
variances and cash adjustments may reduce the amount of claims that 
could be made against MBSCC in a liquidation. Therefore, the Commission 
believes that the proposed rule change is consistent with MBSCC's 
obligation to safeguard funds and securities in its custody or control.

III. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposal is consistent with the requirements of Section 17A(b)(3)(F) of 
the Act and the rules and regulations thereunder.
    IT IS THEREFORE ORDERED, pursuant to Section 19(b)(2) of the Act, 
that the proposed rule change (File No. SR-MBSCC-97-10) be and hereby 
is approved.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\8\
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    \8\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-7204 Filed 3-19-98; 8:45 am]
BILLING CODE 8010-01-M