[Federal Register Volume 66, Number 176 (Tuesday, September 11, 2001)]
[Notices]
[Pages 47251-47253]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-22713]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-44766; File No. SR-GSCC-2001-03]


Self-Regulatory Organizations; Government Securities Clearing 
Corporation; Notice of Filing of Proposed Rule Change to Establish a 
Cross-Margining Agreement with the Board of Trade Clearing Corporation

September 5, 2001.
    Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ notice is hereby given that on April 4, 2001, the 
Government Securities Clearing Corporation (``GSCC'') filed with the 
Securities and Exchange Commission (``Commission'') the proposed rule 
change as described in Items I, II, and III below, which items have 
been prepared primarily by GSCC. The Commission is publishing this 
notice to solicit comments on the proposed rule change from interested 
parties.
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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

    GSCC is seeking to establish a cross-margining arrangement with the 
Board of Trade Clearing Corporation (``BOTCC'').

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

    In its filing with the Commission, GSCC 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. GSCC has prepared summaries, set forth in sections (A), 
(B), and (C) below, of the most significant aspects of these 
statements.\2\
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    \2\ The Commission has modified the text of the summaries 
prepared by GSCC.
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(A) Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    On August 19, 1999, the Commission approved GSCC's proposed rule 
filing to establish a cross-margining program with other clearing 
organizations and to begin its program with the New York Clearing 
Corporation (``NYCC'').\3\ More recently, the Commission approved 
GSCC's proposed rule filing to establish a similar cross-margining 
program with the Chicago Mercantile Exchange (``CME'').\4\ GSCC is now 
seeking to establish a similar cross-margining arrangement with the 
Board of Trade Clearing Corporation.\5\
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    \3\ Securities Exchange Act Release No. 41766 (August 19, 1999), 
64 FR 46737 (August 26, 1999) [File No. SR-GSCC-98-04]. The 
requisite rule changes necessary for GSCC to engage in cross-
margining programs with other clearing organizations were made in 
the NYCC cross-margining rule filing.
    \4\ Securities Exchange Act Release No. 44301 (May 11, 2001), 66 
FR 28207 (May 22, 2001) [File No. SR-GSCC-00-13]. In addition to 
approving GSCC's cross-margining program with the CME, the order 
granted approval to change GSCC Rule 22, Section 4, to clarify that 
before GSCC credits an insolvent member for any profit realized on 
the liquidation of the member's final net settlement positions, GSCC 
will fulfill its obligations with respect to that member under 
cross-margining agreements.
    \5\ BOTCC is a Delaware corporation that acts as the clearing 
organization for certain futures contracts and options on futures 
contracts that are traded on the Chicago Board of Trade and that are 
regulated by the Commodity Futures Trading Commission.
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    This development is significant because the Chicago Board of Trade, 
for which BOTCC clears, is by far the largest Treasury futures exchange 
market, and certain of its products, such as the 10-Year Note futures 
contract, which will be cross-margined with GSCC products, continue to 
experience growth in volume. Thus, establishing the cross-margining 
program between GSCC and BOTCC has the potential to provide significant 
collateral savings to the industry in general and to GSCC's and BOTCC's 
common members in particular. From each clearing organization's 
perspective, the cross-margining program will provide important risk 
management benefits. These benefits include such things as providing 
the clearing organizations with more data concerning members' 
intermarket positions to enable them to make more accurate decisions 
regarding the true risk of the positions to the clearing organizations 
and encouraging coordinated liquidation processes for a joint 
participant, or a participant and its affiliate, in the event of an 
insolvency.\6\
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    \6\ The GSCC-BOTCC cross-margining agreement requires ownership 
of 50 percent or more of the common stock of an entity to indicate 
control of the entity for purposes of the definition of 
``affiliate''.
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(i) GSCC's Cross-Margining Program
    GSCC believes that the most efficient and appropriate approach for 
establishing cross-margining programs for fixed-income and other 
interest rate products is to do on a multilateral basis with GSCC as 
the ``hub.'' Each clearing organization that participates in a cross-
margining program with GSCC (hereinafter a ``Participating CO'') enters 
into a separate cross-margining agreement between itself and GSCC, as

[[Page 47252]]

in the case of NYCC, CME, and now BOTCC. Each of the agreements will 
have similar terms and no preference will be given by GSCC to one 
Participating CO over another.
    Cross-margining is available to any GSCC netting member (with the 
exception of interdealer broker netting members) that is, or that has 
an affiliate that is, a member of a Participating CO. Any such member 
(or pair of affiliated members) may elect to have its margin 
requirements at both clearing organizations calculated based upon the 
net risk of its cash and repo positions at GSCC and of its offsetting 
and correlated positions in related contracts carried at the 
Participating CO. Cross-margining is intended to lower the cross-
margining participant's (or pair of affiliated members') overall margin 
requirement. The GSCC member (and its affiliate, if applicable) will 
sign an agreement under which it (or they) agree to be bound by the 
cross-margining agreement between GSCC and the Participating CO and 
which allows GSCC or the Participating CO to apply the member's (or its 
affiliate's) margin collateral to satisfy any obligation of GSCC to the 
Participating CO (or vice versa) that results from a default of the 
member (or its affiliate).
    Margining based on the net combined risk of correlated positions is 
based on an arrangement under which GSCC and each Participating CO 
agree to accept the correlated positions in lieu of supporting 
collateral. Under this arrangement, each clearing organization holds 
and manages its own positions and collateral and independently 
determines the amount of margin that it will make available for cross-
margining, referred to as the ``residual margin amount.''
    GSCC computes the amount by which the cross-margining participant's 
margin requirement can be reduced at each clearing organization (i.e., 
the ``cross margin reduction'') by comparing the participant's 
positions and the related margin requirements at GSCC as against those 
at each Participating CO. GSCC offsets each cross-margining 
participant's residual margin amount at GSCC against the offsetting 
residual margin amounts of the participant (or its affiliate) at each 
Participating CO. If, within a given pair of offset classes, the margin 
that GSCC has available for a participant is greater than the combined 
margin submitted by the Participating COs, GSCC will allocate a portion 
of its margin equal to the combined margin at the Participating COs. 
If, within a given pair of offset classes, the combined margin 
submitted by the Participating COs is greater than the margin that GSCC 
has available for that participant, GSCC will first allocate its margin 
to the Participating CO with the most highly correlated position.\7\ 
If, within a given pair of offset classes, the positions are equally 
correlated, GSCC will allocate pro rata based upon the residual margin 
amount available at each Participating CO. GSCC and each Participating 
CO may then reduce the amount of collateral that they collect to 
reflect the offsets between the cross-margining participant's positions 
at GSCC and its (or its affiliate's) positions at the Participating 
CO.\8\ In the event of the default and liquidation of a cross-margining 
participant, the loss sharing between GSCC and each of the 
Participating COs will be based upon the foregoing allocations and the 
cross-margin reduction.
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    \7\ GSCC has computed and tested disallowance factors that will 
be applicable to each potential pair of positions being offset.
    \8\ GSCC and each Participating CO unilaterally have the right 
not to reduce a participant's margin requirement by the cross-margin 
reduction or to reduce it by less than the cross-margin reduction. 
However, the clearing organizations may not reduce a participant's 
margin requirement by more than the cross-margin reduction.
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    GSCC will guarantee the cross-margining participant's (or its 
affiliate's) performance to each Participating CO up to a specified 
maximum amount which relates back to the cross-margin reduction, and 
each Participating CO will provide the same guaranty up to the same 
specified maximum amount to GSCC. The guaranty represents a contractual 
commitment that each clearing organization has to the other. There will 
always be a cap on the amount that one clearing organization is 
required to pay to the other clearing organization.
(ii) Information Specific to the Current Agreement between GSCC and 
BOTCC
    (a) Participation in the cross-margining program: Any netting 
member of GSCC other than an inter-dealer broker will be eligible to 
participate. Any clearing member of BOTCC will be eligible to 
participate.
    (b) Products subject to cross-margining: The products that will be 
eligible for the GSCC-BOTCC cross-margining arrangement are the 
Treasury securities of certain remaining maturities that fall into 
GSCC's Offset Classes C, E, F, and G as defined in GSCC's Rules that 
are cleared by GSCC and the 2-Year Note, 5-Year Note, 10-Year Note and 
the U.S. Treasury Bond futures contracts and options on these futures 
contracts that are cleared by BOTCC.\9\ Initially, as a conservative 
measure, residual margin amounts will be applied only within the same 
offset class (e.g., the 2-Year Note against the 2-Year Note future). 
Appropriate disallowance factors based on correlation studies will be 
applied, as well as a minimum margin factor. All eligible positions 
maintained by a cross-margining participant in its account at GSCC and 
in its (or its affiliate's) proprietary account at BOTCC will be 
eligible for cross-margining.\10\
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    \9\ Non-mortgage backed agency securities will be added at a 
later date. GCF Repo products will not be included in the 
arrangement.
    \10\ At least initially, the GSCC-BOTCC cross-margining 
arrangement will be applicable, on the futures side, only to 
positions in a proprietary account of a cross-margining participant 
at BOTCC. The arrangement will not apply to positions in a customer 
account at BOTCC that would be subject to segregation requirements 
under the Commodity Exchange Act. This is also the case with respect 
to the arrangements with NYCC and the CME.
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    (c) Margin Rates: GSCC and BOTCC currently use different margin 
rates to establish margin requirements for their respective products. 
Margin reductions in the GSCC-BOTCC cross-margining arrangement will 
always be computed based on the lower of the applicable margin rates. 
This methodology results in a potentially lesser benefit to the 
participant but ensures a more conservative result (i.e., more 
collateral held at the clearing organization) for both GSCC and the 
Participating COs.
    (d) Daily Procedures: On each business day, it is expected that 
BOTCC will inform GSCC of the residual margin amounts it is making 
available for cross-margining by approximately 11:00 p.m. New York 
time. GSCC will inform BOTCC by approximately 1:00 a.m. New York time 
how much of these residual margin amounts it will use. Reductions as 
computed will be reflected in the daily clearing fund calculation.
(iii) Benefits of Cross-Margining
    GSCC believes that its cross-margining program enhances the safety 
and soundness of the settlement process for the Government securities 
marketplace by: (1) Providing clearing organizations with more data 
concerning members' intermarket positions (which is especially valuable 
during stressed market conditions) to enable them to make more accurate 
decisions regarding the true risk of such positions to the clearing 
organizations; (2) allowing for enhanced sharing of collateral 
resources; and (3) encouraging coordinated liquidation processes for a 
joint participant, or a participant and its affiliate, in the event of 
an insolvency. GSCC further believes that cross-margining benefits 
participating clearing

[[Page 47253]]

members by providing members with the opportunity to more efficiently 
use their collateral. More important from a regulatory perspective, 
however, is that cross-margining programs have long been recognized as 
enhancing the safety and soundness of the clearing system itself. 
Studies of the October, 1987 market crash gave support to the concept 
of cross-margining. For example, The Report of the President's Task 
Force on Market Mechanisms (January 1988) noted that the absence of a 
cross-margining system for futures and securities options markets 
contributed to payment strains in October, 1987. The Interim Report of 
the President's Working Group on Financial Markets (May 1988) also 
recommended that the SEC and CFTC facilitate cross-margining programs 
among clearing organizations. This resulted in the first cross-
margining arrangement between clearing organizations which was approved 
in 1988.\11\
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    \11\ Securities Exchange Act Release No. 26153 (October 3, 
1988), 53 FR 39567 (October 7, 1988) [File No. SR-OCC-86-17] (order 
approving cross-margining program between The Options Clearing 
Corporation and The Intermarket Clearing Corporation).
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    GSCC believes that the proposed rule change is consistent with the 
requirements of section 17A of the Act \12\ and the rules and 
regulations thereunder applicable to GSCC because it will provide 
members with significant benefits such as greater liquidity and more 
efficient use of collateral in a prudent manner and will enhance GSCC's 
overall risk management process.
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    \12\ 15 U.S.C. 78q-1.
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(B) Self-Regulatory Organization's Statement on Burden on Competition

    GSCC does not believe that the proposed rule change will have any 
impact or 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 relating to the proposed rule change have not yet 
been solicited or received. GSCC will notify the Commission of any 
written comments received by GSCC.

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

    Within thirty-five 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 ninety 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 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. Persons making written submissions 
should file six copies thereof with the Secretary, Securities and 
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-
0609. 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 inspection and copying in the 
Commission's Public Reference Section, 450 Fifth Street, NW., 
Washington, DC 20549. Copies of such filing also will be available for 
inspection and copying at the principal office of GSCC.
    All submissions should refer to File No. SR-GSCC-2001-03 and should 
be submitted by September 26, 2001.
    For the Commission by the Division of Market Regulation, pursuant 
to delegated authority.\13\
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    \13\ 17 CFR 200.30-3(a)(12).

Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 01-22713 Filed 9-10-01; 8:45 am]
BILLING CODE 8010-01-M