[Federal Register Volume 80, Number 98 (Thursday, May 21, 2015)]
[Notices]
[Pages 29367-29370]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-12293]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-74981; File No. SR-OCC-2014-811]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Notice of No Objection to an Advance Notice, as Modified by Amendment 
No. 1 and Amendment No. 2, To Establish Procedures Regarding the 
Monthly Resizing of Its Clearing Fund and the Addition of Financial 
Resources

May 15, 2015.
    On December 1, 2014, The Options Clearing Corporation (``OCC'') 
filed with the Securities and Exchange Commission (``Commission'') 
advance notice SR-OCC-2014-811 (``Advance Notice'') pursuant to Section 
806(e)(1) of the Payment, Clearing, and Settlement Supervision Act of 
2010 (``Payment, Clearing and Settlement Supervision Act'') \1\ and 
Rule 19b-4(n)(1)(i) under the Securities Exchange Act of 1934 
(``Exchange Act'').\2\ On December 16, 2014, OCC filed amendment number 
1 to the Advance Notice (``Amendment No. 1''), which amended and 
replaced, in its entirety, the Advance Notice as originally filed on 
December 1, 2014.\3\ The Advance Notice, as modified by Amendment No. 
1, was published for comment in the Federal Register on January 26, 
2015.\4\ On January 27, 2015, pursuant to section 806(e)(1)(D) of the 
Payment, Clearing and Settlement Supervision Act,\5\ the Commission 
required OCC to provide additional information concerning the Advance 
Notice.\6\ On March 4, 2015, OCC filed amendment number 2 to the 
Advance Notice (``Amendment No. 2''), which amended and replaced, in 
its entirety, Amendment No. 1.\7\ Notice of Amendment No. 2 was 
published for comment in the Federal Register on April 16, 2015.\8\ The 
Commission did not receive any comments on the Advance Notice or any of 
the amendments thereto. This publication serves as a notice of no 
objection to the Advance Notice.
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    \1\ 12 U.S.C. 5465(e)(1). The Financial Stability Oversight 
Council designated OCC a systemically important financial market 
utility on July 18, 2012. See Financial Stability Oversight Council 
2012 Annual Report, Appendix A, http://www.treasury.gov/initiatives/fsoc/Documents/2012%20Annual%20Report.pdf. Therefore, OCC is 
required to comply with the Clearing Supervision Act and file 
advance notices with the Commission. See 12 U.S.C. 5465(e).
    \2\ 17 CFR 240.19b-4(n)(1)(i).
    \3\ In Amendment No. 1, OCC amended the Advance Notice to 
include the Monthly Clearing Fund Sizing Procedure and the Financial 
Resource Monitoring and Call Procedure as exhibits to the filing, 
both defined hereinafter, as Exhibit 5A and Exhibit 5B, 
respectively. OCC requested confidential treatment for Exhibit 5A 
and Exhibit 5B pursuant to the Rule 24b-2 under the Exchange Act.
    \4\ Securities Exchange Act Release No. 74091 (January 20, 
2015), 80 FR 4001 (January 26, 2015) (SR-OCC-2014-811).
    \5\ 12 U.S.C. 5465(e)(1)(D).
    \6\ The Commission received a response from OCC with the further 
information for consideration on March 17, 2015, which, pursuant to 
Sections 806(e)(1)(E) and (G) of the Payment, Clearing and 
Settlement Supervision Act, initiated a new 60 day period of review. 
See 12 U.S.C. 5465(e)(1)(E) and 12 U.S.C. 5465(e)(1)(G).
    \7\ Amendment No. 2 amended and replaced, in its entirety, 
Amendment No. 1. OCC filed Amendment No. 2 to clarify the operation 
of a Margin Call Event, as that term is defined and used 
hereinafter. To accommodate these clarifications, OCC made 
conforming changes to Exhibit 5B, the Financial Resources Monitoring 
and Call Procedure, and added the Clearing Fund Intra-Month Re-
sizing Procedure as Exhibit 5C to provide additional clarity 
regarding the resizing of the clearing fund. OCC requested 
confidential treatment for Exhibit 5A, Exhibit 5B, and Exhibit 5C 
pursuant to the Rule 24b-2 under the Exchange Act. In Amendment No. 
2, OCC also clarified that the definition of Financial Resources, 
hereinafter defined, takes into account the margin deposits of a 
Clearing Member or a Clearing Member Group, as applicable.
    \8\ Securities Exchange Act Release No. 74713 (April 10, 2015), 
80 FR 20534 (April 16, 2015) (SR-OCC-2014-811). OCC also filed the 
proposal contained in the Advance Notice as a proposed rule change 
under Section 19(b)(1) of the Exchange Act and Rule 19b-4 
thereunder. See Securities Exchange Act Release No. 73853 (December 
16, 2014), 79 FR 76417 (December 22, 2014) (SR-OCC-2014-22). On 
March 13, 2015, OCC withdrew SR-OCC-2014-22 and filed the proposal 
previously contained therein as SR-OCC-2015-009. See Securities 
Exchange Act Release No. 74603 (March 27, 2015), 80 FR 17808 (April 
2, 2015) (SR-OCC-2015-009). The Commission did not receive any 
comments on the proposed rule change.
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I. Description of the Advance Notice

    The proposal establishes new procedures to govern: (i) OCC's 
resizing of the clearing fund on a monthly basis pursuant to OCC Rule 
1001(a) (``Monthly Clearing Fund Sizing Procedure''); and (ii) the 
addition of Financial Resources \9\ through an intra-day margin call on 
one or more Clearing Members \10\ pursuant to OCC Rule 609 and, if 
necessary, an intra-month increase of the clearing fund pursuant to OCC 
Rule 1001(a) to ensure that OCC maintains adequate Financial Resources

[[Page 29368]]

in the event of a default of a Clearing Member or Clearing Member Group 
\11\ presenting the largest exposure to OCC (``Financial Resource 
Monitoring and Call Procedure'').\12\
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    \9\ For purposes of this Advance Notice, ``Financial Resources'' 
means, with respect to a projected loss that is attributable to a 
particular Clearing Member or Clearing Member Group, as defined 
hereinafter, the sum of (i) the margin deposits (less any excess 
margin a Clearing Member or Clearing Member Group may have on 
deposit at OCC) and deposits in lieu of margin with respect to the 
accounts of such Clearing Members or Clearing Member Groups, and 
(ii) the value of OCC's clearing fund, including both the Base 
Amount, as defined hereinafter, and the prudential margin of safety, 
as described below.
    \10\ ``Clearing Member'' is defined, in relevant part, as a 
person or organization that has been admitted to membership in the 
Corporation pursuant to the provisions of the By-Laws and Rules. See 
OCC By-Laws, Article I.
    \11\ ``Clearing Member Group'' is defined as a Clearing Member 
and any Member Affiliates of such Clearing Member. ``Member 
Affiliate'' is defined as an affiliated entity of a Clearing Member 
that controls, is controlled by, or under common control with, the 
Clearing Member. See OCC By-Laws, Article I.
    \12\ According to OCC, the procedures described herein will be 
in effect until the development of a new standard clearing fund 
sizing methodology and a revised methodology for the intra-month 
increase of Financial Resources. Following such development, OCC has 
stated that it will file a separate rule change and advance notice 
with the Commission that will include a description of the new and 
revised methodologies as well as a revised Monthly Clearing Fund 
Sizing Procedure and Financial Resource Monitoring and Call 
Procedure.
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a. Monthly Clearing Fund Sizing Procedure

    According to OCC, under the Monthly Clearing Fund Sizing Procedure, 
OCC will continue to use its daily stress test exposures under 
simulated default scenarios (as described in the first sentence of OCC 
Rule 1001(a)) to calculate the size of the clearing fund and resize the 
clearing fund on the first business day of each month. However, instead 
of resizing the clearing fund based on the average of the daily 
calculations during the preceding calendar month, OCC intends to resize 
the clearing fund using a new formula, which is the sum of: (i) An 
amount equal to the peak five-day rolling average of clearing fund 
draws observed over the preceding three calendar months using the daily 
idiosyncratic default and minor systemic default scenario calculations 
based on OCC's daily Monte Carlo simulations (``Base Amount''); and 
(ii) a prudential margin of safety determined by OCC that is currently 
set at $1.8 billion.\13\ OCC believes that the Monthly Clearing Fund 
Sizing Procedure provides a sound and prudent approach to ensure that 
it maintains adequate Financial Resources to protect against a default 
of a Clearing Member or Clearing Member Group presenting the largest 
exposure to OCC. By sizing the Base Amount of the clearing fund using 
the peak five-day rolling average over the preceding three month look-
back period, rather than an average over the preceding month, OCC 
believes that the new resizing formula should be more responsive to 
sudden increases in exposure and less sensitive to short-run reductions 
in exposures that could inappropriately reduce the overall size of the 
clearing fund. OCC further asserts that the prudential margin of safety 
provides an additional buffer to absorb potential future exposures not 
previously observed during the look-back period. The Monthly Clearing 
Fund Sizing Procedure will be supplemented by the Financial Resource 
Monitoring and Call Procedure, which is described below, to provide 
further assurance that the Financial Resources are adequate to protect 
against such risk of loss.
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    \13\ According to OCC, it computes its exposure under the 
idiosyncratic default scenario and minor systemic default scenario 
on a daily basis. The greater of these two exposures will be that 
day's peak exposure. To calculate the rolling five-day average, OCC 
will compute the average of the peak exposure for each consecutive 
five-day period observed over the prior three-month period. To 
determine the Base Amount, OCC will use the largest five-day rolling 
average observed over the past three months.
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b. Financial Resource Monitoring and Call Procedure

    According to OCC, under the Financial Resource Monitoring and Call 
Procedure, OCC will use the same daily idiosyncratic default 
calculation that is currently used under the Monthly Clearing Fund 
Sizing Procedure to monitor daily the adequacy of the Financial 
Resources to withstand a default by the Clearing Member or Clearing 
Member Group presenting the largest exposure under extreme but 
plausible market conditions.\14\ If such a daily idiosyncratic default 
calculation projected a draw on the clearing fund (``Projected Draw'') 
that is at least 75% of the clearing fund maintained by OCC, OCC will 
be required to issue an intra-day margin call pursuant to OCC Rule 609 
against the Clearing Member or Clearing Member Group that caused such a 
draw (``Margin Call Event'').\15\ The amount of the intra-day margin 
call made pursuant to a Margin Call Event will be the difference 
between the Projected Draw and the Base Amount of the clearing fund 
(``Exceedance Above Base Amount'').
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    \14\ According to OCC, since the minor systemic default scenario 
contemplates the simultaneous default of two Clearing Members and 
OCC maintains Financial Resources sufficient to cover a default by a 
Clearing Member or Clearing Member Group presenting the greatest 
exposure to OCC, OCC does not use the minor systemic default 
scenario to determine the adequacy of the Financial Resources under 
the Financial Resource Monitoring and Call Procedure.
    \15\ OCC Rule 609 authorizes OCC to require the deposit of 
additional margin in any account at any time during any business day 
by any Clearing Member for, among other reasons, the protection of 
OCC, other Clearing Members or the general public. Under OCC Rule 
609, a Clearing Member must meet a required deposit of intra-day 
margin in immediately available funds at a time prescribed by OCC or 
within one hour of OCC's issuance of debit settlement instructions 
against the bank account of the applicable Clearing Member.
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    In the case of a Clearing Member Group that causes the Exceedance 
Above Base Amount, the Exceedance Above Base Amount will be pro-rated 
among the individual Clearing Members that compose the Clearing Member 
Group based on each individual Clearing Member's proportionate share of 
the total risk for such Clearing Member Group as defined in OCC Rule 
1001(b) (i.e., the margin requirement with respect to all accounts of 
the Clearing Member Group exclusive of the net asset value of the 
positions in such accounts aggregated across all such accounts). In the 
case of an individual Clearing Member or a Clearing Member Group, the 
intra-day margin call will be subject to a limitation under which it 
cannot exceed the lower of: (a) $500 million; or (b) 100% of the net 
capital of a Clearing Member (the ``500/100 Limitation'').\16\ This 
limitation will apply in aggregate to all Margin Call Events within the 
same monthly period. Therefore, if the same Clearing Member or Clearing 
Member Group is subject to more than one Margin Call Event in the same 
month, the total amount of funds that are collected cannot exceed the 
500/100 Limitation. The 500/100 Limitation will remain in place until 
OCC has collected all funds to satisfy the next monthly clearing fund 
resizing.\17\
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    \16\ According to OCC, implementing the 500/100 Limitation on 
the intra-day margin call avoids placing a ``liquidity squeeze'' on 
the subject Clearing Member or Clearing Member Group based on 
exposures presented by a hypothetical stress test, which otherwise 
could cause a default on the intra-day margin call. OCC back-testing 
results determined that intra-day margin calls resulting from a 
Margin Call Event would have been made against Clearing Members or 
Clearing Member Groups that are large, well-capitalized firms, with 
more than sufficient resources to satisfy the call for additional 
margin subject to the 500/100 Limitation.
    \17\ The Risk Committee of the Board of Directors (``Risk 
Committee'') will be notified, and can take action to address 
potential Financial Resource deficiencies, in the event that a 
Projected Draw resulted in a Margin Call Event and, as a result of 
the 500/100 Limitation, the intra-day margin call is less than the 
Exceedance Above Base Amount, but the Projected Draw is not large 
enough to result in an increase in the clearing fund as discussed 
below.
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    Additionally, OCC will rely on OCC Rule 608 to preclude the 
withdrawal of such additional margin amount until all of the funds from 
the next monthly clearing fund resizing have been collected. Based on 
three years of back-testing data, OCC determined that a Margin Call 
Event would have occurred in 10 of the months during this period. 
During each of these 10 months, the maximum call amount would have been 
equal to $500 million.\18\ After giving effect to the intra-day margin 
calls (i.e., increasing the Financial Resources by

[[Page 29369]]

$500 million), there was only one Margin Call Event where there was 
still an observed stress test exceedance of Financial Resources.
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    \18\ The back-testing analysis performed by OCC assumed that a 
single Clearing Member caused the Exceedance Above Base Amount.
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    To address this one observed instance, the Financial Resource 
Monitoring and Call Procedure will require OCC to increase the size of 
the clearing fund, if a Projected Draw exceeds 90% of the clearing fund 
(``Clearing Fund Intra-month Increase Event''), after applying any 
funds then on deposit with OCC from the applicable Clearing Member or 
Clearing Member Group pursuant to a Margin Call Event. The amount of 
such increase (``Clearing Fund Increase'') will be the greater of: (a) 
$1 billion; or (b) 125% of the difference between (i) the Projected 
Draw, as reduced by the deposits resulting from the Margin Call Event, 
and (ii) the clearing fund. Each Clearing Member's proportionate share 
of the Clearing Fund Increase will equal its proportionate share of the 
variable portion of the clearing fund for the month in question as 
calculated pursuant to OCC Rule 1001(b).
    According to OCC, it will notify the Risk Committee, Clearing 
Members and appropriate regulatory authorities of the Clearing Fund 
Increase on the business day that the Clearing Fund Intra-month 
Increase Event occurs. OCC believes that this will ensure that OCC 
management maintains authority to address any potential Financial 
Resource deficiencies when compared to its Projected Draw estimates. 
The Risk Committee will then determine whether the Clearing Fund 
Increase is sufficient, and will retain authority under the Risk 
Committee charter to increase the Clearing Fund Increase or the intra-
day margin call made pursuant to a Margin Call Event in its discretion. 
Clearing Members will be required to meet the call for additional 
clearing fund assets by 9:00 a.m. CT on the second business day 
following the Clearing Fund Intra-Month Increase Event. OCC believes 
that this collection process ensures that additional clearing fund 
assets are promptly deposited by Clearing Members following notice of a 
Clearing Fund Increase, while also providing Clearing Members with a 
reasonable period of time to source such assets. According to OCC, 
based on its back-testing results, after giving effect to the intra-day 
margin call in response to a Margin Call Event plus the prudential 
margin of safety, the Financial Resources would have been sufficient 
upon implementing the one instance of a Clearing Fund Intra-month 
Increase Event.
    OCC believes the Financial Resource Monitoring and Call Procedure 
strikes a prudent balance between mutualizing the burden of requiring 
additional Financial Resources and requiring the Clearing Member or 
Clearing Member Group causing the increased exposure to bear such 
burden. In the event a Projected Draw exceeds 75% of the clearing fund, 
the Clearing Member or Clearing Member Group that triggers the 
exceedance will be assessed an intra-day margin call to address the 
increase in exposure. However, where a Projected Draw exceeds 90% of 
OCC's clearing fund, OCC determined that it should mutualize the burden 
of the additional Financial Resources at this threshold through a 
Clearing Fund Increase. OCC believes that this balance will provide OCC 
with sufficient Financial Resources without increasing the likelihood 
that its procedures, based solely on stress testing results, will cause 
a liquidity strain that could result in the default of a Clearing 
Member or Clearing Member Group.

II. Discussion and Commission Findings

    Although Title VIII does not specify a standard of review for an 
advance notice, the Commission believes that the stated purpose of 
Title VIII is instructive.\19\ The stated purpose of Title VIII is to 
mitigate systemic risk in the financial system and promote financial 
stability by, among other things, promoting uniform risk management 
standards for systemically-important financial market utilities and 
strengthening the liquidity of systemically important financial market 
utilities.\20\
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    \19\ See 12 U.S.C. 5461(b).
    \20\ Id.
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    Section 805(a)(2) of the Payment, Clearing and Settlement 
Supervision Act \21\ authorizes the Commission to prescribe risk 
management standards for the payment, clearing, and settlement 
activities of designated clearing entities and financial institutions 
engaged in designated activities for which it is the supervisory agency 
or the appropriate financial regulator. Section 805(b) of the Payment, 
Clearing and Settlement Supervision Act \22\ states that the objectives 
and principles for the risk management standards prescribed under 
Section 805(a) shall be to:
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    \21\ 12 U.S.C. 5464(a)(2).
    \22\ 12 U.S.C. 5464(b).
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     Promote robust risk management;
     promote safety and soundness;
     reduce systemic risks; and
     support the stability of the broader financial system.
    The Commission has adopted risk management standards under Section 
805(a)(2) of the Payment, Clearing and Settlement Supervision Act 
(``Clearing Agency Standards'').\23\ The Clearing Agency Standards 
became effective on January 2, 2013, and require registered clearing 
agencies that perform central counterparty (``CCP'') services to 
establish, implement, maintain, and enforce written policies and 
procedures that are reasonably designed to meet certain minimum 
requirements for their operations and risk management practices on an 
ongoing basis.\24\ As such, it is appropriate for the Commission to 
review advance notices against these Clearing Agency Standards, and the 
objectives and principles of these risk management standards as 
described in Section 805(b) of the Payment, Clearing and Settlement 
Supervision Act.\25\
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    \23\ 17 CFR 240.17Ad-22.
    \24\ The Clearing Agency Standards are substantially similar to 
the risk management standards established by the Board of Governors 
of the Federal Reserve System governing the operations of designated 
financial market utilities that are not clearing entities and 
financial institutions engaged in designated activities for which 
the Commission or the Commodity Futures Trading Commission is the 
Supervisory Agency. See Financial Market Utilities, 77 FR 45907 
(August 2, 2012).
    \25\ 12 U.S.C. 5464(b).
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    The Commission believes that the proposal in this Advance Notice is 
designed to further the objectives and principles of Section 805(b) of 
the Payment, Clearing and Settlement Supervision Act.\26\ The 
Commission believes that the Monthly Clearing Fund Sizing Procedure and 
Financial Resource Monitoring and Call Procedure promote robust risk 
management by setting forth a process that ensures OCC is able to 
collect funds, in a timely manner, to effectively manage a potential 
default of a Clearing Member or Clearing Member Group to which it has 
the greatest exposure. Given that OCC is designated as a systemically-
important financial market utility, OCC's ability to effectively manage 
a default contributes to promoting safety and soundness, reducing 
systemic risks, and supporting the stability of the broader financial 
system.
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    \26\ 12 U.S.C. 5464(b).
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    The Commission believes that the proposal in this Advance Notice is 
consistent with Clearing Agency Standards, in particular, Rule 17Ad-
22(b)(3) under the Exchange Act,\27\ which, in relevant part, requires 
registered clearing agencies that perform central counterparty services 
to establish, implement, maintain and enforce written policies and 
procedures reasonably designed to maintain

[[Page 29370]]

sufficient financial resources to withstand, at a minimum, a default by 
the participant family to which it has the largest exposure in extreme 
but plausible market conditions. The Commission believes that this 
proposal is consistent with Exchange Act Rule 17Ad-22(b)(3) \28\ 
because the Monthly Clearing Fund Sizing Procedure and Financial 
Resource Monitoring and Call Procedure should ensure that OCC can 
obtain sufficient financial resources in a timely manner to withstand a 
default of the Clearing Member or Clearing Member Group presenting it 
the largest exposure.
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    \27\ 17 CFR 240.17Ad-22(b)(3).
    \28\ Id.
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    By using a peak five-day rolling average and extending the look-
back period from one to three calendar months, the Monthly Clearing 
Fund Sizing Procedure should be more responsive than OCC's existing 
resizing formula to sudden increases in exposure and less sensitive to 
short-run reductions in exposure that could inappropriately reduce the 
overall size of the clearing fund. Furthermore, the prudential margin 
of safety, which is currently $1.8 billion, will provide an additional 
buffer to absorb potential future exposures that may not be observed 
during the look-back period. In addition, the Financial Resource 
Monitoring and Call Procedure will establish a process by which OCC 
will be able to respond to increases in exposure on an intra-month 
basis. In doing so, the Commission believes the Financial Resource 
Monitoring and Call Procedure should ensure that a balance is struck 
between mutualizing the burden of the additional financial resources 
across all Clearing Members, while also requiring the Clearing Member 
or Clearing Member Group causing the increased exposure to bear the 
burden.

III. Conclusion

    It is therefore noticed, pursuant to Section 806(e)(1)(I) of the 
Payment, Clearing and Settlement Supervision Act,\29\ that the 
Commission does not object to advance notice proposal (SR-OCC-2014-811) 
and that OCC is authorized to implement the proposal as of the date of 
this notice or the date of an order by the Commission approving a 
proposed rule change that reflects rule changes that are consistent 
with this advance notice proposal (SR-OCC-2015-009), whichever is 
later.
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    \29\ 12 U.S.C. 5465(e)(1)(I).

    By the Commission.
Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2015-12293 Filed 5-20-15; 8:45 am]
BILLING CODE 8011-01-P