[Federal Register Volume 68, Number 11 (Thursday, January 16, 2003)]
[Notices]
[Pages 2385-2387]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-915]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-47146; File No. SR-OCC-2002-04]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Notice of Filing of a Proposed Rule Change Relating to Money Market 
Funds as Margin Collateral

January 9, 2003.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ notice is hereby given that on January 29, 2002, The 
Options Clearing Corporation (``OCC'') filed with the Securities and 
Exchange Commission (``Commission'') the proposed rule change as 
described in Items I, II, and

[[Page 2386]]

III below, which items have been prepared primarily by OCC. 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).
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The proposed rule change would expand the acceptable forms of 
margin collateral to include shares of money market funds meeting 
specified criteria.

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

    The principal purpose of the proposed rule change is to expand the 
permissible forms of margin collateral to include shares in money 
market funds. The proposed amendment to OCC's Rule 604 would also 
reorganize the rule and make certain nonsubstantive format changes.
    Rule 604 specifies the forms of collateral that may be deposited as 
margin. Permitted forms include cash, government securities, letters of 
credit, and certain equity and debt securities.\3\ OCC regularly 
reviews these forms of collateral for suitability with the intent of 
addressing clearing members' desire to use a diverse combination of 
readily available and cost-effective forms of collateral while ensuring 
that collateral is limited to instruments that are relatively stable in 
value and are easily converted to cash. OCC believes that shares in 
certain money market funds meet these criteria and that it is 
appropriate for OCC to expand its categories of acceptable collateral 
to include such instruments.
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    \3\ Pursuant to a rule filing recently approved by the 
Commission, OCC clearing members are allowed to deposit as margin 
debt securities issued by Congressionally chartered corporations 
that the OCC's membership/margin committee has approved. Securities 
Exchange Act Release No. 45745 (April 12, 2002), 67 FR 19467 [File 
No. SR-OCC-2001-04].
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    OCC believes that the professional asset management, liquidity, and 
stable principal value typically associated with money market funds 
make shares in such funds an attractive collateral alternative for all 
OCC clearing accounts. As a result of recent amendments to the 
regulations of the Commodity Futures Trading Commission (``CFTC''), 
clearing members that are registered as futures commission merchants 
are now permitted to invest customer funds of their futures customers 
in money market fund shares.\4\ Accordingly, clearing members want to 
be able to hypothecate shares in such funds as margin for their ``non-
proprietary'' cross-margining accounts. OCC believes that such deposits 
are appropriate collateral not only for cross-margining accounts but 
for all accounts.
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    \4\ In December 2000, the CFTC amended its Regulation 1.25 to 
expand the range of instruments in which FCMs and clearing 
organizations may invest customer segregated funds to include highly 
liquid instruments such as money market mutual funds. Rules Relating 
to Intermediaries of Commodity Interest Transactions, 65 FR 77993 
(December 13, 2000).
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Requirements for Eligibility of Funds
    OCC proposes to define acceptable money market funds as those 
meeting the criteria of SEC Rule 2a-7,\5\ ``Money Market Funds,'' under 
the Investment Company Act of 1940 (``ICA''),\6\ subject to certain 
additional criteria. The ICA sets the standards by which mutual funds 
and other investment vehicles operate, and Rule 2a-7 thereunder 
requires a qualifying money market fund to meet certain portfolio 
maturity, quality, and diversification criteria. Instruments which may 
qualify as permitted investments for money market funds typically 
include U.S. Treasury securities, repurchase agreements, Federal agency 
securities, commercial paper, certificates of deposit, time deposits, 
corporate notes, asset-backed securities, and municipal securities. To 
minimize credit risk, OCC will accept only money market funds that 
limit their investments to ``first tier securities'' as defined in Rule 
2a-7 under the ICA.\7\ Although certain types of instruments that 
qualify as first tier securities would not qualify to be pledged 
directly as margin collateral under Rule 604,\8\ OCC believes that the 
rating requirements and maturity prerequisites combined with inherent 
diversification of the funds provides sufficient protection to warrant 
acceptance of shares of money market funds containing such instruments.
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    \5\ 17 CFR 270.17a-7.
    \6\ 15 U.S.C. 80a et. seq.
    \7\ In general, a first tier security is a security with a 
remaining maturity of 397 calendar days or less that: (i) Has 
received a short-term rating from at least two nationally recognized 
statistical rating organizations in the highest short-term rating 
category for debt obligations; (ii) is unrated but is deemed to be 
of comparable quality to securities identified in (i) as determined 
by the fund's board of directors; (iii) is issued by a registered 
investment company that is itself a money market fund; or (iv) is a 
government security. 17 CFR 270.2a-7(a)(12).
    \8\ For example, OCC does not currently accept commercial paper, 
certificates of deposit, time deposits, corporate notes, asset-
backed securities, or municipal securities.
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    To ensure a diverse group of fund investors so that the actions of 
any one shareholder (e.g., redeeming a large interest in a fund) do not 
materially disrupt the ability of the fund to redeem shares in an 
orderly manner, Rule 604(b)(3) would prohibit a clearing member from 
depositing as margin collateral any money market fund where a 
registered holder of the money market fund has an interest of 10% or 
more in the money market fund.
    In order for a fund's shares to be acceptable as margin deposits, 
the fund (and/or its sponsor, transfer agent, or other agents as 
appropriate) will be required to represent to OCC that it meets the 
foregoing requirements and to agree that it will continue to do so. In 
addition, OCC will require the fund to make certain other agreements 
intended to further ensure OCC's ability to convert fund shares 
promptly to cash if necessary.
Redemption
    While the ICA generally prohibits mutual funds from suspending the 
right of redemption, the ICA does allow funds to postpone the payment 
of redemption proceeds for up to seven days after tender of fund shares 
to the fund or its agent. The ICA also allows for the suspension or 
postponement of redemption in certain emergency situations. In 
addition, while the intent of a money market fund is to redeem shares 
in cash, most issuers retain the right to redeem their shares in kind 
where the redeeming shareholder would receive portfolio securities 
rather than cash. Any such action would introduce a liquidation risk as 
well as additional costs associated with the sale of such securities.
    Rule 604(b)(3)(i)(H) would require each fund to waive its rights 
under the ICA to delay redemption or to redeem in kind. The fund will 
instead have to agree to redeem fund shares in cash no later than the 
business day following a redemption request by OCC with limited 
exceptions for unscheduled

[[Page 2387]]

closings of Federal Reserve Banks or the New York Stock Exchange. These 
waivers of redemption restrictions along with the next day payment 
requirement have been established to maintain adequate liquidity of 
margin collateral and are also intended to be consistent with the 
redemption conditions contained in CFTC Rule 1.25.\9\
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    \9\ CFTC Regulation 1.25(c)(5), 65 FR 77993, 78010, 78011 
(Dec.13, 2000); see also, 65 FR 82270 (Dec. 28, 2000). CFTC 
Interpretive Letter No. 01-31 (April 2, 2001) (Funds will be deemed 
in compliance with Regulation 1.25(c)(5) even though they provide 
for delayed redemption in specified emergency situations).
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Valuation
    OCC will require funds to perform a net asset value computation at 
least once per day with the dissemination of such computation to be 
made available to OCC no later than 9:00AM central time the following 
day. Given the diversified nature of eligible fund investments as well 
as the investment duration limitations, a daily computation of net 
asset value appears reasonable. OCC nevertheless proposes, under 
proposed Rule 604(b)(4), a 2% haircut on the current market value of 
fund shares. The 2% haircut was selected for consistency with the 
treatment of similar assets under the net capital rule.\10\
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    \10\ 17 CFR 240.15c3-1(c)(2)(vi)(D)(1).
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OCC's Security Interest
    As in the case of other securities held as collateral, OCC will 
require that clearing members give OCC a first priority perfected 
security interest in deposited fund shares. Because shares in money 
market funds are typically not issued in certificated form, ownership 
is established by registration of the securities on the books of the 
fund or its transfer agent. OCC can ordinarily obtain a perfected 
security interest in fund shares registered in the name of a clearing 
member by execution of the fund's standard three-party agreement among 
OCC, the clearing member, and the fund or its transfer agent.
    In addition, to preclude a situation whereby a clearing member 
secures its obligations to OCC with collateral managed and within the 
control of that clearing member or a related party, an association 
restriction is proposed in Rule 604(b)(3)(iii). This restriction is 
consistent with current OCC rules regarding the deposit of government 
securities, debt or equity issues, or letters of credit as margin 
collateral.\11\ This standard may be waived if the issuing institution 
can demonstrate that an acceptable arrangement has been made for the 
control of underlying portfolio investments and for the processing of 
OCC redemption requests by a third party.
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    \11\ OCC Rule 604, Interpretation and Policies .07 and .10.
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    One additional point is worth noting even though it is not related 
specifically to money market fund shares. The provisions formerly in 
Rule 604(d)(2), which require compliance with the Commission's Rule 
15c3-3 when applicable, have been moved so that they apply not only to 
equity and debt securities but to all securities deposited as margin 
under Rule 604(b). A sentence has been added to require compliance with 
the CFTC's customer protection regime when securities are deposited 
with respect to futures accounts.
    OCC believes that the proposed rule change is consistent with the 
requirements of Section 17A of the Securities Exchange Act of 1934, as 
amended, because it enhances the efficiency of the clearing system 
while safeguarding funds and securities by permitting clearing members 
to collateralize their obligations to OCC with an additional form of 
highly liquid assets of stable value.

(B) Self-Regulatory Organization's Statement on Burden on Competition

    OCC does not believe that the proposed rule change would 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 have been received.

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 the 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 NW., Washington, DC 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 will also be available for 
inspection and copying at the principal office of OCC. All submissions 
should refer to the File No. SR-OCC-2002-04 and should be submitted by 
February 6, 2003.

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\12\
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    \12\ 17 CFR 200.30-3(a)(12).
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J. Lynn Taylor,
Assistant Secretary.
[FR Doc. 03-915 Filed 1-15-03; 8:45 am]
BILLING CODE 8010-01-P