[Federal Register Volume 75, Number 198 (Thursday, October 14, 2010)]
[Proposed Rules]
[Pages 63113-63120]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-25322]


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COMMODITY FUTURES TRADING COMMISSION

17 CFR Parts 39 and 140

RIN 3038-AC98, 3038-AD02


Financial Resources Requirements for Derivatives Clearing 
Organizations

AGENCY: Commodity Futures Trading Commission.

ACTION: Notice of proposed rulemaking.

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SUMMARY: The Commodity Futures Trading Commission (Commission or CFTC) 
is proposing rules to implement new statutory provisions enacted by 
Title VII and Title VIII of the Dodd-Frank Wall Street Reform and 
Consumer Protection Act (Dodd-Frank Act). The proposed regulations 
establish financial resources requirements for derivatives clearing 
organizations (DCOs) for the purpose of ensuring that they maintain 
sufficient financial resources to enable them to perform their 
functions in compliance with the Commodity Exchange Act and the Dodd-
Frank Act.

DATES: Submit comments on or before December 13, 2010.

ADDRESSES: You may submit comments, identified by RIN number, by any of 
the following methods:
     Federal eRulemaking Portal: http://www.regulations.gov. 
Follow the instructions for submitting comments.
     Agency Web Site: http://www.cftc.gov. Follow the 
instructions for submitting comments on the Web site.
     E-mail: [email protected]. Include the RIN number in 
the subject line of the message.
     Fax: 202-418-5521.
     Mail: David A. Stawick, Secretary of the Commission, 
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st 
Street, NW., Washington, DC 20581.
     Hand Delivery/Courier: Same as mail above.
    All comments must be submitted in English, or if not, accompanied 
by an English translation. Comments will be posted as received to 
http://www.cftc.gov. You should submit only information that you wish 
to make available publicly. If you wish the Commission to consider 
information that may be exempt from disclosure under the Freedom of 
Information Act, a petition for confidential treatment of the exempt 
information may be submitted according to the established procedures in 
CFTC Regulation 145.9.\1\
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    \1\ Commission regulations referred to herein are found at 17 
CFR Ch. 1.

FOR FURTHER INFORMATION CONTACT: John C. Lawton, Deputy Director and 
Chief Counsel, 202-418-5480, [email protected], Phyllis P. Dietz, 
Associate Director, 202-418-5449, [email protected], or Eileen A. 
Donovan, Special Counsel, 202-418-5096, [email protected], Division of 
Clearing and Intermediary Oversight, Commodity Futures Trading 
Commission, Three Lafayette Centre, 1155 21 Street, NW., Washington, DC 
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20581.

SUPPLEMENTARY INFORMATION:

I. Background

A. Title VII

    On July 21, 2010, President Obama signed the Dodd-Frank Act.\2\ 
Title VII of the Dodd-Frank Act \3\ amended the Commodity Exchange Act 
(CEA) \4\ to establish a comprehensive regulatory framework to reduce 
risk, increase transparency, and promote market integrity within the 
financial system by, among other things: (1) Providing for the 
registration and comprehensive regulation of swap dealers and major 
swap participants; (2) imposing clearing and trade execution 
requirements on standardized derivative products; (3) creating rigorous 
recordkeeping and real-time reporting regimes; and (4) enhancing the 
Commission's rulemaking and enforcement authorities with respect to all 
registered entities and intermediaries subject to the Commission's 
oversight.
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    \2\ See Dodd-Frank Wall Street Reform and Consumer Protection 
Act, Public Law 111-203, 124 Stat. 1376 (2010). The text of the 
Dodd-Frank Act may be accessed at http://www.cftc.gov./
LawRegulation/OTCDERIVATIVES/index.htm.
    \3\ Pursuant to Section 701 of the Dodd-Frank Act, Title VII may 
be cited as the ``Wall Street Transparency and Accountability Act of 
2010.''
    \4\ 7 U.S.C. 1 et seq.
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    Section 725(c) of the Dodd-Frank Act amends Section 5b(c)(2) of the 
CEA, which sets forth core principles with which a DCO must comply to 
be registered and to maintain registration as a DCO.
    The core principles were added to the CEA by the Commodity Futures 
Modernization Act of 2000 (CFMA).\5\ Consistent with the CFMA's 
principles-based approach to regulation, the Commission did not adopt 
implementing rules and regulations, but instead promulgated guidance 
for DCOs on compliance with the core principles.\6\ However under 
Section 5b(c)(2), as amended by the Dodd-Frank Act, Congress expressly 
confirmed that the Commission may adopt implementing rules and 
regulations pursuant to its rulemaking authority under Section 8a(5) of 
the CEA.\7\
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    \5\ See Commodity Futures Modernization Act of 2000, Public Law 
106-554, 114 Stat. 2763 (2000).
    \6\ See Appendix A to Part 39, 17 CFR Part 39. The Commission 
notes that it intends to propose removal of Appendix A, in its 
entirety, as part of a future proposed rulemaking.
    \7\ Section 8a(5) of the CEA authorizes the Commission to 
promulgate such regulations as, in the judgment of the Commission, 
are reasonably necessary to effectuate any of the provisions or to 
accomplish any of the purposes of the CEA.
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    The Commission continues to believe that, where possible, each DCO 
should be afforded an appropriate level of discretion in determining 
how to operate its business within the statutory framework. At the same 
time, the Commission recognizes that specific bright-line regulations 
may be necessary in order to facilitate DCO compliance with a given 
core principle, and ultimately, to protect the integrity of the U.S. 
clearing system. Accordingly, in developing the proposed regulation, 
the Commission has endeavored to strike an appropriate balance between 
establishing general prudential standards and prescriptive 
requirements.
    Core Principle B, as amended by the Dodd-Frank Act, requires a DCO 
to possess financial resources that, at a minimum, exceed the total 
amount that would enable the DCO to meet its financial obligations to 
its clearing members \8\ notwithstanding a default by

[[Page 63114]]

the clearing member creating the largest financial exposure for the DCO 
in extreme but plausible market conditions; and enable the DCO to cover 
its operating costs for a period of 1 year, as calculated on a rolling 
basis. The Commission is proposing to adopt Regulation 39.11 to 
establish requirements that a DCO will have to meet in order to comply 
with Core Principle B.
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    \8\ The term ``clearing members'' refers to entities that have a 
direct financial relationship to a DCO, regardless of the DCO's 
organizational structure, i.e., whether or not the DCO is a 
membership organization. Clearing members include futures commission 
merchants (FCMs) that clear on behalf of customers or themselves, 
and non-FCMs that clear solely on behalf of themselves. See also the 
definition of the term ``clearing member'' in CFTC Regulation 
1.3(c).
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B. Title VIII

    Section 802(b) of the Dodd-Frank Act states that the purpose of 
Title VIII is to mitigate systemic risk in the financial system and to 
promote financial stability. Section 804 authorizes the Financial 
Stability Oversight Council (Council) to designate entities involved in 
clearing and settlement as systemically important.\9\
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    \9\ Commission staff has been engaged in discussions with staff 
of other members of the Council concerning which entities might 
qualify.
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    Section 805(a) of the Dodd-Frank Act allows the Commission to 
prescribe regulations for those DCOs that the Council has determined 
are systemically important. The Commission is also proposing to adopt 
some additional or enhanced requirements for systemically important 
DCOs (SIDCOs).
    The Commission requests comment on all aspects of the proposed 
rules, as well as comment on the specific provisions and issues 
highlighted in the discussion below. The Commission further requests 
comment on an appropriate effective date for final rules, once adopted.

II. Proposed Regulations

A. DCOs

1. Amount of Financial Resources Required
    As a central counterparty, a DCO must have sufficient financial 
resources to be able to withstand a potential default by one of its 
clearing members.\10\ In the event of a default, a DCO would continue 
to have obligations to the clearing members that are owed variation 
settlement payments and, therefore, the DCO must have sufficient liquid 
resources to meet those obligations in a timely fashion. Proposed 
Regulation 39.11(a)(1) would require a DCO to maintain sufficient 
financial resources to meet its financial obligations to its clearing 
members notwithstanding a default by the clearing member creating the 
largest financial exposure for the DCO in extreme but plausible market 
conditions. This standard is consistent with the standard set forth in 
Core Principle B, and is also consistent with current international 
standards.\11\
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    \10\ Each DCO determines for itself what constitutes a 
``default,'' but generally a clearing member is considered to be in 
default when it fails to fulfill any obligation to the DCO.
    \11\ In November 2004, the Task Force on Securities Settlement 
Systems, jointly established by the Committee on Payment and 
Settlement Systems (CPSS) of the central banks of the Group of Ten 
countries and the Technical Committee of the International 
Organization of Securities Commissions (IOSCO), issued its 
Recommendations for Central Counterparties. Under Recommendation 5, 
a central counterparty must maintain sufficient financial resources 
to withstand, at a minimum, a default by the participant to which it 
has the largest exposure in extreme but plausible market conditions. 
However, the Commission notes that CPSS and IOSCO are currently 
reviewing this standard and it may be revised.
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    There may be some instances in which one clearing member controls 
another clearing member or in which a clearing member is under common 
control with another clearing member. The Commission proposes to treat 
such affiliated clearing members as a single entity for purposes of 
determining the largest financial exposure because the default of one 
affiliate could have an impact on the ability of the other to meet its 
financial obligations to the DCO.\12\ However, to the extent that each 
affiliated clearing member is treated as a separate entity by the DCO, 
with separate capital requirements, separate guaranty fund obligations, 
and separate potential assessment liability, the Commission requests 
comment on whether a different approach might be warranted.
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    \12\ For example, the positions of each clearing member would be 
margined separately and would be stress tested separately. However, 
losses of each would be aggregated and gains would not offset 
losses.
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    Separately, proposed Regulation 39.11(a)(2) would require a DCO to 
maintain sufficient financial resources to cover its operating costs 
for at least one year, calculated on a rolling basis. This standard is 
consistent with the standard set forth in amended Core Principle B. It 
is also consistent with established accounting standards, under which 
an entity's ability to continue as a going concern comes into question 
if there is evidence that the entity may be unable to continue to meet 
its obligations in the next 12 months without substantial disposition 
of assets outside the ordinary course of business, restructuring of 
debt, externally forced revisions of its operations, or similar 
actions.\13\
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    \13\ See American Institute of Certified Public Accountants 
Auditing Standards Board Statement of Auditing Standards No. 59, The 
Auditor's Consideration of an Entity's Ability to Continue as a 
Going Concern, as amended.
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2. Types of Financial Resources
a. Default Resources
    Proposed Regulation 39.11(b)(1) lists the types of financial 
resources that would be available to a DCO to satisfy the requirements 
of proposed Regulation 39.11(a)(1): (1) The margin of the defaulting 
clearing member; (2) the DCO's own capital; (3) the guaranty fund 
deposits of the defaulting clearing member and non-defaulting clearing 
members; (4) default insurance; (5) if permitted by the DCO's rules, 
potential assessments for additional guaranty fund contributions on 
non-defaulting clearing members; and (6) any other financial resource 
deemed acceptable by the Commission. A DCO would be able to request an 
informal interpretation from CFTC staff on whether or not a particular 
financial resource may be acceptable to the Commission.
    In the event of a default by one of its clearing members, a DCO 
would first seize the margin of the defaulting clearing member. If the 
margin were insufficient to cure the default, the DCO might use its own 
capital to cover the shortfall. Currently, Commission regulations do 
not prescribe capital requirements for DCOs. The Commission invites 
comment on whether it should consider adopting such requirements and if 
so, what those requirements should be.
    Clearing members also are typically required to maintain a deposit, 
in the form of cash and/or securities, in a guaranty fund, which may be 
used by the DCO to cover any loss sustained as a result of the failure 
of a clearing member to discharge its obligations to the DCO. In the 
event of a default, the DCO may draw on the defaulting clearing 
member's deposit to satisfy its counterparty obligations. If the 
deposit is insufficient, the DCO may draw on the guaranty fund deposits 
of non-defaulting clearing members.
    In addition, a DCO may have an assessment power that allows it to 
demand additional funds from non-defaulting clearing members, up to a 
specified amount, if the guaranty fund has been exhausted. The size of 
a clearing member's potential assessment obligation is usually 
established by a formula set forth in the DCO's rules.
    Unlike margin or a guaranty fund, assessment powers are not 
resources on

[[Page 63115]]

hand but a promise to pay. A clearing member, however, may have a 
strong financial incentive to pay an assessment. If a clearing member 
failed to pay its assessment obligation, that failure would be treated 
as a default and the clearing member would be subject to liquidation of 
its positions and forfeiture of the margin in its proprietary account. 
Thus, in addition to a potential general interest in maintaining the 
viability of the DCO going forward, a non-defaulting clearing member 
may have a specific incentive to pay an assessment depending on the 
size and profitability of its positions and the margin on deposit 
relative to the size of the assessment.
    No U.S. futures clearinghouse has ever had to exercise its 
assessment power. In light of the apparent low probability of a default 
of such magnitude as to require assessments, the use of assessment 
power as a backstop rather than increasing the size of guaranty funds 
seems to have been an efficient allocation of capital. The growth in 
clearing of swaps, however, creates new risks that the Commission must 
evaluate.
    The Commission is proposing that DCOs put rules and procedures in 
place to ensure timely payment of assessments by clearing members. 
First, each DCO must require its clearing members to have the ability 
to meet an assessment within the time frame of a normal variation 
settlement cycle. Second, each DCO must monitor, on a continual basis, 
each clearing member's financial and operational capacity to pay 
potential assessments.
    As discussed below, the Commission is proposing to limit the degree 
to which assessment powers may be considered to be an available 
financial resource. The Commission invites comment on whether these 
limits and requirements are appropriate. More generally, the Commission 
is also seeking comment on whether assessment powers should be 
considered to be a financial resource available to satisfy the 
requirements of proposed Regulation 39.11(a)(1).
b. Operating Resources
    Proposed Regulation 39.11(b)(2) lists the types of financial 
resources that would be available to a DCO to satisfy the requirements 
of proposed Regulation 39.11(a)(2): (1) The DCO's own capital; and (2) 
any other financial resource deemed acceptable by the Commission. A DCO 
would be able to request an informal interpretation from CFTC staff on 
whether or not a particular financial resource may be acceptable to the 
Commission. The Commission invites commenters to recommend particular 
financial resources, and explain the basis, for inclusion in the final 
regulation. In this regard, the Commission notes that the proposed rule 
does not specify that a DCO must hold equity capital. The Commission 
requests comment on whether such a provision would be appropriate.
c. Allocation of Resources
    Proposed Regulation 39.11(b)(3) would allow a DCO to allocate a 
financial resource, in whole or in part, to satisfy the requirements of 
either proposed Regulation 39.11(a)(1) (default risk) or proposed 
Regulation 39.11(a)(2) (operating costs), but not both, and only to the 
extent the use of that financial resource is not otherwise limited by 
the CEA, Commission regulations, the DCO's rules, or any contractual 
arrangements to which the DCO is a party. In the event that a default 
would force a DCO to cease operations, the DCO would need sufficient 
financial resources to cover the default and conduct an orderly wind 
down of its business.
3. Computation of the Financial Resources Requirement
    Proposed Regulation 39.11(c)(1) would require a DCO to perform 
stress testing on a monthly basis in order to make a reasonable 
calculation of the financial resources it needs to meet the 
requirements of proposed Regulation 39.11(a)(1). In the first instance, 
the DCO would have reasonable discretion in determining the methodology 
it uses to make the calculation.\14\ Because effective stress testing 
involves a great deal of judgment, the Commission is not proposing that 
DCOs test a particular scenario. Rather, the proposed regulation 
requires DCOs to take into account both historical data and 
hypothetical situations. (By definition, a stress test using only 
historical data would never cover a market move setting a new record.) 
Within those guidelines, DCOs would have discretion in selecting 
scenarios, subject to Commission review.
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    \14\ This is consistent with DCO Core Principle A, which gives a 
DCO ``reasonable discretion in establishing the manner in which it 
complies with the core principles.'' See Section 5b(c)(2)(A) of the 
CEA, 7 U.S.C. 7a-1(c)(2)(A).
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    The Commission would review the methodology and require changes as 
appropriate. The methodology must address any unique risks associated 
with particular products, such as the jump to default risk and 
compounding effects of credit default swaps.
    Because of the comprehensive nature of the stress tests required 
for determining the size of the financial resources package, the 
Commission is proposing that these tests be conducted monthly. As will 
be discussed in a later rulemaking,\15\ the Commission is likely to 
require more frequent stress testing in connection with DCO risk 
management programs. Such tests would be conducted for different 
purposes and might use different inputs. The Commission requests 
comment on whether monthly tests are appropriate for purposes of 
calculating required financial resources.
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    \15\ The Commission will propose, at a later time, additional 
regulations to implement Core Principle D (risk management).
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    Proposed Regulation 39.11(c)(2) would require a DCO to make a 
reasonable calculation each month of the financial resources it needs 
to meet the requirements of proposed Regulation 39.11(a)(2). In the 
first instance, the DCO would have reasonable discretion in determining 
the methodology it uses to make the calculation. However, the 
Commission may review the methodology and require changes as 
appropriate.
4. Valuation of Financial Resources
    Proposed Regulation 39.11(d)(1) would require a DCO, no less 
frequently than monthly, to calculate the current market value of each 
financial resource used to meet its obligations under proposed 
Regulation 39.11(a). A DCO would be required to perform the valuation 
at other times as appropriate, because market values may fluctuate and 
proposed Regulation 39.11(a) requires the DCO to be able to meet its 
obligations on a rolling basis. When valuing a financial resource, a 
DCO would be required to reduce the value, as appropriate, to reflect 
any market or credit risk specific to that particular resource, i.e., 
apply a haircut. The Commission would permit each DCO to exercise its 
discretion in determining the applicable haircuts. However, such 
haircuts would have to be evaluated on a quarterly basis, would be 
subject to Commission review, and would have to be acceptable to the 
Commission.
    Notwithstanding a DCO's general discretion in applying haircuts, 
proposed Regulation 39.11(d)(2)(i) would require a 30 percent haircut 
on the value of a DCO's assessment power. This is because in the event 
of a default, the defaulting clearing member would not be able to pay 
its assessment and other clearing members might also be unable or 
unwilling to pay. Based on the significant percentage of total margin 
that may be attributable to a few of the largest clearing members, 
failure to pay

[[Page 63116]]

assessments could approach the 30 percent level. The Commission invites 
comment on whether this proposed valuation of assessments is 
appropriate.
    To further increase the likelihood that the DCO will have resources 
immediately available to meet a default, the Commission is proposing 
that, in calculating the financial resources available to meet its 
obligations, a DCO may only count the value of assessments, after the 
haircut, to meet up to 20 percent of the resources requirement 
generated by the stress testing. The Commission requests comment on 
this restriction.
5. Liquidity of Financial Resources
    In assessing the adequacy of a DCO's financial resources, the 
liquidity of resources must be considered. For example, the time span 
of an intra-day settlement cycle (from the time positions are marked to 
market until the time clearing members are required to pay) may be only 
a few hours. In the event of a clearing member defaulting on a payment 
to the DCO during the intra-day settlement cycle, the DCO would need 
access to liquid assets easily convertible to cash. DCOs often use 
committed lines of credit to provide this liquidity.
    Proposed Regulation 39.11(e)(1) would require a DCO to have 
financial resources sufficiently liquid to enable the DCO to fulfill 
its obligations as a central counterparty during a one-day settlement 
cycle.
    In particular, the proposed regulations would require a DCO to have 
sufficient capital in the form of cash to cover the average daily 
settlement variation pay per clearing member over the last fiscal 
quarter. For purposes of this calculation, if a clearing member had 
pays in both its house and customer accounts, the amount would be the 
sum of the two pays. If the clearing member had a pay in its house 
account and a collect in its customer account, the amount would be that 
of the house pay. If the clearing member had collects in both of its 
accounts, that day's variation settlement would not be included in the 
calculation. The DCO would be permitted to take into account a 
committed line of credit or similar facility for the purpose of meeting 
the remainder of the liquidity requirement.
    The Commission requests comment on the proposed liquidity 
standards. In particular, the Commission requests comment on whether 
the liquidity requirement should cover more than a one-day cycle. The 
Commission also requests comment on what standards might be applicable 
to lines of credit. For example, should the Commission require that 
there be a diversified set of providers or that a line of credit have 
same-day drawing rights?
    Proposed Regulation 39.11(e)(2) would require DCOs to maintain 
unencumbered liquid financial assets in the form of cash or highly 
liquid securities, equal to six months' operating costs. The Commission 
believes that having six months' worth of unencumbered liquid financial 
assets would give a DCO time to liquidate the remaining financial 
assets it would need to continue operating for the last six months of 
the required one-year period. If a DCO does not have six months' worth 
of unencumbered liquid financial assets, it may use a committed line of 
credit or similar facility to satisfy this requirement.
    The Commission notes that a committed line of credit or similar 
facility is not listed in proposed Regulations 39.11(b)(1) or 
39.8(b)(2) as a financial resource available to a DCO to satisfy the 
requirements of proposed Regulations 39.11(a)(1) and 39.11(a)(2), 
respectively. A DCO may only use a committed line of credit or similar 
facility to meet the liquidity requirements set forth in proposed 
Regulations 39.11(e)(1) and 39.11(e)(2).
    To the extent that a DCO relies on a guaranty fund, adequate 
liquidity is crucial. To address liquidity concerns, proposed 
Regulation 39.11(e)(3) provides that: (i) Assets in a guaranty fund 
must have minimal credit, market, and liquidity risks and must be 
readily accessible on a same-day basis, (ii) cash balances must be 
invested or placed in safekeeping in a manner that bears little or no 
principal risk, and (iii) letters of credit are not a permissible asset 
for a guaranty fund.
6. Reporting Requirements
    Under proposed Regulation 39.11(f)(1), at the end of each fiscal 
quarter, or at any time upon Commission request, a DCO would be 
required to report to the Commission: (i) The amount of financial 
resources necessary to meet the requirements set forth in the 
regulation; and (ii) the value of each financial resource available to 
meet those requirements. The DCO would have to include with its report 
a financial statement, including the balance sheet, income statement, 
and statement of cash flows, of the DCO or its parent company (if the 
DCO does not have an independent financial statement and the parent 
company's financial statement is prepared on a consolidated basis). If 
one of the financial resources a DCO is using to meet the regulation's 
requirements is a guaranty fund, the DCO would also have to report the 
value of each individual clearing member's guaranty fund deposit.
    Proposed Regulation 39.11(f)(2) requires a DCO to provide the 
Commission with sufficient documentation that explains both the 
methodology it used to calculate its financial requirements and the 
basis for its determinations regarding valuation and liquidity. The DCO 
also must provide copies of any agreements establishing or amending a 
credit facility, insurance coverage, or other arrangement that 
evidences or otherwise supports its conclusions. The sufficiency of the 
documentation would be determined by the Commission in its sole 
discretion.
    A DCO would have 17 business days\16\ from the end of the fiscal 
quarter to file its report, but would also be able to request an 
extension of time from the Commission.
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    \16\ This filing deadline is consistent with the deadline 
imposed on FCMs for the filing of monthly financial reports. See 17 
CFR 1.10(b).
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B. SIDCOs

    As DCOs, SIDCOs would remain subject to the requirements of Title 
VII and the regulations thereunder, except to the extent the Commission 
promulgated higher standards pursuant to Title VIII. With regard to 
Core Principle B, the Commission is proposing higher standards in two 
respects, as described below.
1. Amount of Financial Resources Required
    Because the failure of a SIDCO to meet its obligations would have a 
greater impact on the financial system than the failure of other DCOs, 
the Commission is proposing that SIDCOs be required to meet a higher 
standard. Specifically, proposed Regulation 39.29(a) would require a 
SIDCO to maintain sufficient financial resources to meet its financial 
obligations to its clearing members notwithstanding a default by the 
two clearing members creating the largest combined financial exposure 
for the SIDCO in extreme but plausible market conditions.
    A fundamental premise of the Dodd-Frank Act is that more over-the-
counter (OTC) products must be brought into the cleared environment. 
Although no U.S. futures clearinghouse has ever had more than one 
clearing member default at a time, the size and complexity of the OTC 
derivatives markets may increase the chance that more than one clearing 
member could default simultaneously. Consequently, the Commission has 
determined that SIDCOs should be

[[Page 63117]]

subject to regulations that increase their ability to contain the 
effects of such defaults.
2. Valuation of Financial Resources
    In order to add another layer of protection for SIDCOs, proposed 
Regulation 39.29(b) would require that a SIDCO may not count the value 
of assessments to meet the obligations arising from a default by the 
clearing member creating the single largest financial exposure. This 
means that a SIDCO would be required to hold a greater percentage of 
its financial resources in margin and the guaranty fund than a DCO that 
is not a SIDCO.
    However, because the Commission believes that assessment powers can 
be a capital efficient means of providing a back-up source of funding, 
the Commission is proposing to permit SIDCOs to count the value of 
assessments, after the 30 percent haircut, to meet up to 20 percent of 
the obligations arising from a default by the clearing member creating 
the second largest financial exposure. This is the standard proposed 
for non-systemically important DCOs in connection with the largest 
potential exposure.
    The Commission requests comment on the proposed higher standards 
for SIDCOs. In particular, the Commission requests comment on the 
potential competitive effects of imposing higher standards on a subset 
of DCOs.

III. Technical Amendments

    Proposed Regulation 140.94 would allow the Commission to delegate 
the authority to perform certain functions that are reserved to the 
Commission under proposed Regulation 39.11. Specifically, the Director 
of the Division of Clearing and Intermediary Oversight would be given 
the authority to deem a financial resource acceptable under proposed 
Regulations 39.11(b)(1)(vi) and (b)(2)(ii); to review methodology and 
require changes under proposed Regulations 39.11(c)(1) and (c)(2); to 
request information under proposed Regulation 39.11(f)(1); and to grant 
an extension of the filing deadline for financial reports in accordance 
with proposed Regulation 39.11(f)(4).

IV. Related Matters

A. Regulatory Flexibility Act

    The Regulatory Flexibility Act (RFA) requires that agencies 
consider whether the rules they propose will have a significant 
economic impact on a substantial number of small entities and, if so, 
provide a regulatory flexibility analysis respecting the impact.\17\ 
The rules proposed by the Commission will affect only DCOs (some of 
which will be designated as SIDCOs). The Commission has previously 
established certain definitions of ``small entities'' to be used by the 
Commission in evaluating the impact of its regulations on small 
entities in accordance with the RFA.\18\ The Commission has previously 
determined that DCOs are not small entities for the purpose of the 
RFA.\19\ Accordingly, the Chairman, on behalf of the Commission, hereby 
certifies pursuant to 5 U.S.C. 605(b) that the proposed rules will not 
have a significant economic impact on a substantial number of small 
entities.
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    \17\ 5 U.S.C. 601 et seq.
    \18\ 47 FR 18618 (Apr. 30, 1982).
    \19\ See 66 FR 45605, 45609 (August 29, 2001).
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B. Paperwork Reduction Act

    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless it displays a 
currently valid control number. OMB has not yet assigned a control 
number to the new collection. The Paperwork Reduction Act of 1995 (PRA) 
\20\ imposes certain requirements on Federal agencies (including the 
Commission) in connection with their conducting or sponsoring any 
collection of information as defined by the PRA. This proposed 
rulemaking would result in new collection of information requirements 
within the meaning of the PRA. The Commission therefore is submitting 
this proposal to the Office of Management and Budget (OMB) for review. 
If adopted, responses to this collection of information would be 
mandatory. The Commission will protect proprietary information 
according to the Freedom of Information Act and 17 CFR Part 145, 
``Commission Records and Information.'' In addition, section 8(a)(1) of 
the CEA strictly prohibits the Commission, unless specifically 
authorized by the CEA, from making public ``data and information that 
would separately disclose the business transactions or market positions 
of any person and trade secrets or names of customers.'' The Commission 
is also required to protect certain information contained in a 
government system of records according to the Privacy Act of 1974, 5 
U.S.C. 552a.
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    \20\ 44 U.S.C. 3501 et seq.
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1. Information Provided by Reporting Entities/Persons
    The proposed regulations require each respondent to file 
information with the Commission on a quarterly basis, which would 
result in four annual responses per respondent. Commission staff 
estimates that each respondent would expend 10 hours to prepare each 
filing required under the proposed regulations. Commission staff 
estimates that it would receive filings from 12 respondents annually. 
Accordingly the burden in terms of hours would in the aggregate be 40 
hours annually per respondent and 480 hours annually for all 
respondents.
    Commission staff estimates that respondents could expend up to 
$1,840 annually, based on an hourly wage rate of $46, to comply with 
the proposed regulations. This would result in an aggregated cost of 
$22,080 per annum (12 respondents x $1,840).
2. Information Collection Comments
    The Commission invites the public and other federal agencies to 
comment on any aspect of the reporting and recordkeeping burdens 
discussed above. Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission 
solicits comment in order to: (i) Evaluate whether the proposed 
collection of information is necessary for the proper performance of 
the functions of the Commission, including whether the information will 
have practical utility; (ii) evaluate the accuracy of the Commission's 
estimate of the burden of the proposed collection of information; (iii) 
determine whether there are ways to enhance the quality, utility, and 
clarity of the information to be collected; and (iv) minimize the 
burden of the collection of information on those who are to respond, 
including through the use of automated collection techniques or other 
forms of information technology.
    Comments may be submitted directly to the Office of Information and 
Regulatory Affairs, by fax at (202) 395-6566 or by e-mail at 
[email protected]. Please provide the Commission with a copy 
of submitted comments so that all comments can be summarized and 
addressed in the final rule preamble. Refer to the Addresses section of 
this notice of proposed rulemaking for comment submission instructions 
to the Commission. A copy of the supporting statements for the 
collections of information discussed above may be obtained by visiting 
RegInfo.gov. OMB is required to make a decision concerning the 
collection of information between 30 and 60 days after publication of 
this document in the Federal Register. Therefore, a comment is best 
assured of having its full effect if OMB receives it within 30 days of 
publication.

[[Page 63118]]

C. Cost-Benefit Analysis

    Section 15(a) of the CEA requires that the Commission, before 
promulgating a regulation under the CEA or issuing an order, consider 
the costs and benefits of its action. By its terms, Section 15(a) does 
not require the Commission to quantify the costs and benefits of a new 
regulation or determine whether the benefits of the rule outweigh its 
costs. Rather, Section 15(a) simply requires the Commission to 
``consider the costs and benefits'' of its action.
    Section 15(a) further specifies that costs and benefits shall be 
evaluated in light of the following considerations: (1) Protection of 
market participants and the public; (2) efficiency, competitiveness, 
and financial integrity of futures markets; (3) price discovery; (4) 
sound risk management practices; and (5) other public interest 
considerations. Accordingly, the Commission could, in its discretion, 
give greater weight to any one of the five considerations and could, in 
its discretion, determine that, notwithstanding its costs, a particular 
regulation was necessary or appropriate to protect the public interest 
or to effectuate any of the provisions or to accomplish any of the 
purposes of the CEA.
    The Commission has evaluated the costs and benefits of the proposed 
regulations in light of the specific considerations identified in 
Section 15(a) of the CEA, as follows:
    1. Protection of market participants and the public. The proposed 
regulations would require DCOs to continually assess and monitor the 
adequacy of their financial resources under standards established by 
the Commission. This would further the goal of avoiding market 
disruptions and financial losses to market participants and the general 
public.
    2. Efficiency and competition. The proposed regulations would 
promote financial strength and stability, thereby fostering efficiency 
and a greater ability to compete in the broader financial markets. The 
proposed regulations would reward efficiency insofar as DCOs that 
operate efficiently would have lower operating costs and therefore 
would require fewer resources to comply with the regulations.
    3. Financial integrity of futures markets and price discovery. The 
proposed regulations are designed to ensure that DCOs can sustain their 
market operations and meet their financial obligations to market 
participants, thus contributing to the financial integrity of the 
futures and options markets as a whole. This, in turn, further supports 
the price discovery and risk transfer functions of such markets.
    4. Sound risk management practices. The proposed regulations, by 
setting specific standards with respect to how DCOs should assess, 
monitor, and report the adequacy of their financial resources, would 
contribute to their maintenance of sound risk management practices and 
further the goal of minimizing systemic risk.
    5. Other public considerations. As highlighted by recent events in 
the global credit markets, maintaining sufficient financial resources 
is a critical aspect of any financial entity's risk management system, 
and ultimately contributes to the goal of stability in the broader 
financial markets. Therefore, the Commission believes it is prudent to 
include financial resources requirements for entities applying to 
become or operating as DCOs.
    Accordingly, after considering the five factors enumerated in the 
CEA, the Commission has determined to propose the regulations set forth 
below.

List of Subjects in 17 CFR Parts 39 and 140

    Commodity futures, Reporting and recordkeeping requirements.

    For the reasons stated in the preamble, the Commission proposes to 
amend 17 CFR parts 39 and 140 as follows:

PART 39--DERIVATIVES CLEARING ORGANIZATIONS

    1. The authority citation for part 39 is revised to read as 
follows:

    Authority: 7 U.S.C. 7a-1 as amended by Pub. L. 111-203, 124 
Stat. 1376.

    2. Add Sec.  39.11 to read as follows:


Sec.  39.11  Financial resources requirements.

    (a) General rule. A derivatives clearing organization shall 
maintain financial resources sufficient to cover its exposures with a 
high degree of confidence and to enable it to perform its functions in 
compliance with the core principles set out in section 5b of the Act. A 
derivatives clearing organization shall identify and adequately manage 
its general business risks and hold sufficient liquid resources to 
cover potential business losses that are not related to clearing 
members' defaults, so that the derivatives clearing organization can 
continue to provide services as an ongoing concern. Financial resources 
shall be considered sufficient if their value, at a minimum, exceeds 
the total amount that would:
    (1) Enable the derivatives clearing organization to meet its 
financial obligations to its clearing members notwithstanding a default 
by the clearing member creating the largest financial exposure for the 
derivatives clearing organization in extreme but plausible market 
conditions; Provided that if a clearing member controls another 
clearing member or is under common control with another clearing 
member, the affiliated clearing members shall be deemed to be a single 
clearing member for purposes of this provision; and
    (2) Enable the derivatives clearing organization to cover its 
operating costs for a period of at least one year, calculated on a 
rolling basis.
    (b) Types of financial resources. (1) Financial resources available 
to satisfy the requirements of paragraph (a)(1) may include:
    (i) Margin of a defaulting clearing member;
    (ii) The derivatives clearing organization's own capital;
    (iii) Guaranty fund deposits;
    (iv) Default insurance;
    (v) Potential assessments for additional guaranty fund 
contributions, if permitted by the derivatives clearing organization's 
rules; and
    (vi) Any other financial resource deemed acceptable by the 
Commission.
    (2) Financial resources available to satisfy the requirements of 
paragraph (a)(2) may include:
    (i) The derivatives clearing organization's own capital; and
    (ii) Any other financial resource deemed acceptable by the 
Commission.
    (3) A financial resource may be allocated, in whole or in part, to 
satisfy the requirements of either paragraph (a)(1) or paragraph 
(a)(2), but not both paragraphs, and only to the extent the use of such 
financial resource is not otherwise limited by the Act, Commission 
regulations, the derivatives clearing organization's rules, or any 
contractual arrangements to which the derivatives clearing organization 
is a party.
    (c) Computation of financial resources requirement. (1) A 
derivatives clearing organization shall, on a monthly basis, perform 
stress testing that will allow it to make a reasonable calculation of 
the financial resources needed to meet the requirements of paragraph 
(a)(1). The derivatives clearing organization shall have reasonable 
discretion in determining the methodology used to compute such 
requirements, provided that the methodology must take into account both 
historical data and hypothetical scenarios. The Commission

[[Page 63119]]

may review the methodology and require changes as appropriate.
    (2) A derivatives clearing organization shall, on a monthly basis, 
make a reasonable calculation of its projected operating costs over a 
12-month period in order to determine the amount needed to meet the 
requirements of paragraph (a)(2) of this section. The derivatives 
clearing organization shall have reasonable discretion in determining 
the methodology used to compute such projected operating costs. The 
Commission may review the methodology and require changes as 
appropriate.
    (d) Valuation of financial resources. (1) At appropriate intervals, 
but not less than monthly, a derivatives clearing organization shall 
compute the current market value of each financial resource used to 
meet its obligations under paragraph (a) of this section. Reductions in 
value to reflect market and credit risk (haircuts) shall be applied as 
appropriate and evaluated on a monthly basis.
    (2) If assessments for additional guaranty fund contributions are 
permitted by the derivatives clearing organization's rules, in 
calculating the financial resources available to meet its obligations 
under paragraph (a)(1) of this section:
    (i) The derivatives clearing organization shall have rules 
requiring that its clearing members have the ability to meet an 
assessment within the time frame of a normal variation settlement 
cycle;
    (ii) The derivatives clearing organization shall monitor, on a 
continual basis, the financial and operational capacity of its clearing 
members to meet potential assessments;
    (iii) The derivatives clearing organization shall apply a 30 
percent haircut to the value of potential assessments, and
    (iv) The derivatives clearing organization shall only count the 
value of assessments, after the haircut, to meet up to 20 percent of 
those obligations.
    (e) Liquidity of financial resources. (1) The derivatives clearing 
organization shall effectively measure, monitor, and manage its 
liquidity risks, maintaining sufficient liquid resources such that it 
can, at a minimum, fulfill its cash obligations when due. The 
derivatives clearing organization shall hold assets in a manner where 
the risk of loss or of delay in its access to them is minimized. The 
financial resources allocated by the derivatives clearing organization 
to meet the requirements of paragraph (a)(1) of this section shall be 
sufficiently liquid to enable the derivatives clearing organization to 
fulfill its obligations as a central counterparty during a one-day 
settlement cycle. The derivatives clearing organization shall have 
sufficient capital in the form of cash to meet the average daily 
settlement variation pay per clearing member over the last fiscal 
quarter. If any portion of the remainder of the financial resources is 
not sufficiently liquid, the derivatives clearing organization may take 
into account a committed line of credit or similar facility for the 
purpose of meeting this requirement.
    (2) The financial resources allocated by the derivatives clearing 
organization to meet the requirements of paragraph (a)(2) of this 
section must include unencumbered, liquid financial assets (i.e., cash 
and/or highly liquid securities) equal to at least six months' 
operating costs. If any portion of such financial resources is not 
sufficiently liquid, the derivatives clearing organization may take 
into account a committed line of credit or similar facility for the 
purpose of meeting this requirement.
    (3)(i) Assets in a guaranty fund shall have minimal credit, market, 
and liquidity risks and shall be readily accessible on a same-day 
basis;
    (ii) Cash balances shall be invested or placed in safekeeping in a 
manner that bears little or no principal risk; and
    (iii) Letters of credit shall not be a permissible asset for a 
guaranty fund.
    (f) Reporting requirements. (1) Each fiscal quarter, or at any time 
upon Commission request, a derivatives clearing organization shall:
    (i) Report to the Commission;
    (A) The amount of financial resources necessary to meet the 
requirements of paragraph (a);
    (B) The value of each financial resource available, computed in 
accordance with the requirements of paragraph (d); and
    (C) How the derivatives clearing organization meets the liquidity 
requirements of paragraph (e);
    (ii) Provide the Commission with a financial statement, including 
the balance sheet, income statement, and statement of cash flows, of 
the derivatives clearing organization or of its parent company; and
    (iii) Report to the Commission the value of each individual 
clearing member's guaranty fund deposit, if the derivatives clearing 
organization reports having guaranty funds deposits as a financial 
resource available to satisfy the requirements of paragraph (a)(1) of 
this section.
    (2) The calculations required by this paragraph shall be made as of 
the last business day of the derivatives clearing organization's fiscal 
quarter.
    (3) The derivatives clearing organization shall provide the 
Commission with:
    (i) Sufficient documentation explaining the methodology used to 
compute its financial resources requirements under paragraph (a) of 
this section,
    (ii) Sufficient documentation explaining the basis for its 
determinations regarding the valuation and liquidity requirements set 
forth in paragraphs (d) and (e) of this section, and
    (iii) Copies of any agreements establishing or amending a credit 
facility, insurance coverage, or other arrangement evidencing or 
otherwise supporting the derivatives clearing organization's 
conclusions.
    (4) The report shall be filed not later than 17 business days after 
the end of the derivatives clearing organization's fiscal quarter, or 
at such later time as the Commission may permit, in its discretion, 
upon request by the derivatives clearing organization.
    3. Add Sec.  39.29 to read as follows:


Sec.  39.29  Financial resources requirements.

    (a) General rule. Notwithstanding the requirements of Sec.  
39.11(a)(1) of this part, a systemically important derivatives clearing 
organization shall maintain financial resources sufficient to enable it 
to meet its financial obligations to its clearing members 
notwithstanding a default by the two clearing members creating the 
largest combined financial exposure for the systemically important 
derivatives clearing organization in extreme but plausible market 
conditions.
    (b) Valuation of financial resources. Notwithstanding the 
requirements of Sec.  39.11(d)(2) of this part, if assessments for 
additional guaranty fund contributions are permitted by the 
systemically important derivatives clearing organization's rules, in 
calculating the financial resources available to meet its obligations 
under paragraph (a) of this section:
    (1) The systemically important derivatives clearing organization 
may not count the value of assessments to meet the obligations arising 
from a default by the clearing member creating the largest financial 
exposure for the systemically important derivatives clearing 
organization in extreme but plausible market conditions; and
    (2) The systemically important derivatives clearing organization 
may only count the value of assessments, after the haircut set forth in 
Sec.  39.11(d)(2)(iii) of this part, to meet up to 20 percent of the 
obligations arising from a default by the clearing member

[[Page 63120]]

creating the second largest financial exposure for the systemically 
important derivatives clearing organization in extreme but plausible 
market conditions.

PART 140--ORGANIZATION, FUNCTIONS, AND PROCEDURES OF THE COMMISSION

    4. The authority citation for part 140 continues to read as 
follows:

    Authority:  7 U.S.C. 2 and 12a.

    5. In Sec.  140.94, revise paragraphs (a)(4) and (a)(5) and add a 
new paragraph (a)(6) to read as follows:


Sec.  140.94  Delegation of authority to the Director of the Division 
of Clearing and Intermediary Oversight.

    (a) * * *
    (4) All functions reserved to the Commission in Sec.  5.12 of this 
chapter, except for those relating to nonpublic treatment of reports 
set forth in Sec.  5.12(i) of this chapter;
    (5) All functions reserved to the Commission in Sec.  5.14 of this 
chapter; and
    (6) All functions reserved to the Commission in Sec. Sec.  
39.11(b)(1)(vi), (b)(2)(ii), (c)(1), (c)(2), (f)(1), and (f)(4) of this 
chapter.
* * * * *

    Issued in Washington, DC, on October 1, 2010, by the Commission.
David A. Stawick,
Secretary of the Commission.
[FR Doc. 2010-25322 Filed 10-13-10; 8:45 am]
BILLING CODE P