[Federal Register Volume 70, Number 50 (Wednesday, March 16, 2005)]
[Notices]
[Pages 12920-12921]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E5-1156]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-51354; File No. SR-FICC-2004-18]


Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Order Granting Approval of a Proposed Rule Change To Clarify Certain 
Sections of the Loss Allocation Rule of Its Government Securities 
Division

March 10, 2005.

I. Introduction

    On October 1, 2004, the Fixed Income Clearing Corporation 
(``FICC'') filed with the Securities and Exchange Commission 
(``Commission'') and on October 27, 2004, amended proposed rule change 
File No. SR-FICC-2004-18 pursuant to Section 19(b)(1) of the Securities 
Exchange Act of 1934 (``Act'').\1\ Notice of the proposed rule change 
was published in the Federal Register on January 24, 2005. \2\ No 
comment letters were received. For the reasons discussed below, the 
Commission is now granting approval of the proposed rule change.
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    \1\ U.S.C. 78s(b)(1).
    \2\ Securities Exchange Act Release No. 51037 (January 13, 
2005), 70 FR 3410.
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II. Description

    The purpose of this proposed rule change is to clarify certain 
sections of the loss allocation rule of the Government Securities 
Division (``GSD'') of FICC. If the GSD, upon liquidating a defaulting 
member's positions, incurs a loss due to the failure of the defaulting 
member to fulfill its obligations to the GSD, the GSD looks to the 
margin collateral deposited by that defaulting member to satisfy the 
loss. If the defaulting member's margin collateral is insufficient to 
cover the loss and if there are no other funds available from any 
applicable cross-margining and/or cross-guaranty arrangements, the GSD 
would have a ``Remaining Loss'' \3\ and would institute its loss 
allocation process to cover such Remaining Loss. In doing so, the GSD 
would determine the types of transactions from which the Remaining Loss 
has arisen (such as direct transactions and member brokered 
transactions) and would allocate the Remaining Loss as set forth in 
Sections 8(d)(i) through (v) of Rule 4 of the GSD Rules.
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    \3\ GSD Rules, Rule 4, Section 8(d).
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    The allocations in Section 8(d)(ii) of Rule 4 to cover a Remaining 
Loss that is due to member brokered transactions distributes the loss 
between the affected broker, including repo brokers, and non-broker 
members that dealt with the defaulting member, are limited as an 
initial matter. Specifically, a broker netting member will not be 
subject to an allocation of loss, for any single loss-allocation event 
in an amount greater than $5 million, and a non-broker netting member 
will not be subject to an allocation of loss for any single loss-
allocation event in an amount greater than the lesser of $5 million or 
five percent of the overall loss amount allocated to non-broker netting 
members. If the Remaining Loss from member brokered transactions is not 
covered due to these limitations on allocations, the uncovered loss 
will be reallocated as set forth in Section 8(e) of Rule 4. This 
section calls for a pro rata allocation to the netting membership in 
general based on each netting member's average daily required clearing 
fund deposit over the twelve-month period immediately prior to the 
insolvency. The rule change makes clear that the amounts allocated 
pursuant to Section 8(e) will be assessed to a netting member in 
addition to any loss amount allocated pursuant to Section 8(d)(ii). 
Therefore, a netting member may be subject to an aggregate allocation 
of loss that may exceed the applicable limitation set forth in Section 
8(d)(ii).
    Even with the allocation pursuant to Section 8(e) of Rule 4, a 
broker netting member would not be subject to an aggregate loss 
allocation for any single loss allocation event in an amount greater 
than $5 million. In addition, what has been intended, but is not clear 
in the current rules, is that a non-broker netting member can terminate 
its GSD

[[Page 12921]]

membership and thus cap any additional loss allocation obligation due 
to the application of Section 8(e) at the amount of its required 
clearing fund deposit. Therefore, FICC is making its GSD rules clear 
that any allocations to members resulting from the application of 
Section 8(e) of Rule 4 or another firm's failure to pay its assessed 
share are limited to the extent of a member's required clearing fund 
deposit if such member chooses to terminate its GSD membership.\4\
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    \4\ If a member elects to terminate its membership in FICC, its 
liability for a loss allocation obligation is limited to the amount 
of its required clearing fund for the business day on which the 
notification of such loss allocation is provided to the member.
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    In addition, FICC is making it clear that the ability to terminate 
and cap a loss allocation obligation at the amount of the clearing fund 
deposit is also applicable to a netting member (aside from the 
defaulting party) where an auction purchase is the reason for any 
Remaining Loss. In these instances, as in the instances described 
above, the netting member assessed a loss allocation obligation will 
have had no participation in the transaction which led to the Remaining 
Loss and therefore will be allowed to cap its total losses at the 
amount of the clearing fund deposit.

III. Discussion

    Section 17A(b)(3)(F) of the Act requires among other things that 
the rules of a clearing agency be designed to assure the safeguarding 
of securities and funds in its custody or control or for which it is 
responsible.\5\ The Commission finds that FICC's proposed rule change 
is consistent with this requirement because clarifying the GSD's rules 
and procedures with regard to loss allocation assessments to netting 
members in the event of a default provides enhanced protections to FICC 
and its members.
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    \5\ 15 U.S.C. 78q-1(b)(3)(F).
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IV. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposed rule change is consistent with the requirements of the Act and 
in particular Section 17A of the Act and the rules and regulations 
thereunder.
    It is therefore ordered, pursuant to section 19(b)(2) of the 
Act,\6\ that the proposed rule change (File No. SR-FICC-2004-18) be and 
hereby is approved.
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    \6\ 15 U.S.C. 78s(b)(2).

    For the Commission by the Division of Market Regulation, 
pursuant to delegated authority.\7\
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    \7\ 17 CFR 200.30-3(a)(12).
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J. Lynn Taylor,
Assistant Secretary.
[FR Doc. E5-1156 Filed 3-15-05; 8:45 am]
BILLING CODE 8010-01-P