[Federal Register Volume 81, Number 211 (Tuesday, November 1, 2016)]
[Notices]
[Pages 75883-75885]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-26303]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-79167; File Nos. SR-FICC-2016-006; SR-NSCC-2016-004]


Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
National Securities Clearing Corporation; Order Granting Approval of 
Proposed Rule Changes To Describe the Backtesting Charge and the 
Holiday Charge That May Be Imposed on Members

October 26, 2016.
    On September 2, 2016, Fixed Income Clearing Corporation (``FICC'') 
and National Securities Clearing Corporation (``NSCC,'' collectively 
``Clearing Agencies'') filed with the Securities and Exchange 
Commission (``Commission'') proposed rule changes SR-FICC-2016-006 and 
SR-NSCC-2016-004, respectively, pursuant to Section 19(b)(1) of the 
Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 
thereunder.\2\ The proposed rule changes were published for comment in 
the Federal Register on September 15, 2016.\3\ The Commission did not 
receive any comment letters on the proposed rule changes. For the 
reasons discussed

[[Page 75884]]

below, the Commission is granting approval of the proposed rule 
changes.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Securities Exchange Act Release Nos. 78807 (September 9, 
2016), 81 FR 63538 (September 15, 2016) (SR-FICC-2016-006); 78808 
(September 9, 2016), 81 FR 63511 (September 15, 2016) (SR-NSCC-2016-
004) (``Notices'').
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I.Description of the Proposed Rule Changes

    The proposed rule changes provide transparency in the FICC 
Government Securities Division (``GSD'') Rulebook (``GSD Rules''), the 
FICC Mortgage-Backed Securities Division (``MBSD'') Clearing Rules 
(``MBSD Rules''), and the NSCC Rules and Procedures (``NSCC Rules,'' 
collectively ``Clearing Agency Rules'') \4\ with respect to certain 
margin charges that the Clearing Agencies may temporarily impose on a 
Clearing Agency member (``Member'') as part of such Member's Required 
Deposit. The charges proposed are the FICC Backtesting Charge and the 
NSCC Backtesting Charge (collectively, ``Backtesting Charge''), and the 
FICC Holiday Charge and the NSCC Bank Holiday Charge (collectively, 
``Holiday Charge'').
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    \4\ The GSD Rules, MBSD Rules, and NSCC Rules are available at 
http://www.dtcc.com/legal/rules-and-procedures. Capitalized terms 
used herein and not otherwise defined shall have the meaning 
assigned to such terms in the Clearing Agency Rules, as applicable.
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    A Clearing Agency may impose the Backtesting Charge on a Member 
when the Clearing Agency has observed deficiencies in the backtesting 
of such Member's Required Deposit over the prior 12-month period, such 
that the Clearing Agency determines the value-at-risk (``VaR'') margin 
charge being calculated for that Member may not fully address the 
projected liquidation losses estimated from that Member's settlement 
activity.
    The Holiday Charge addresses the risk exposure that occurs on 
certain Holidays \5\ when the Clearing Agency is unable to collect 
Required Deposit from its Members because the Board of Governors of the 
Federal Reserve System and banks are closed. The Clearing Agencies may 
impose the Holiday Charge on all Members to cover the additional day of 
exposure that is not contemplated in the prior day's VaR charge.\6\
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    \5\ For NSCC, ``Holiday'' means any day on which equities 
markets are open for trading, but the Board of Governors of the 
Federal Reserve System observes a holiday and banks are closed. 
Exhibit 5 for SR-NSCC-2016-004, available at https://www.sec.gov/rules/sro/nscc/2016/34-78808-ex5.pdf. For FICC, ``Holiday'' means 
any day on which FICC is closed, but the day is not observed as a 
holiday by the Securities Industry and Financial Markets Association 
and the bond markets are open. Exhibit 5 for SR-FICC-2016-006, 
available at https://www.sec.gov/rules/sro/ficc/2016/34-78807-ex5.pdf.
    \6\ The description of the proposed rule changes herein is based 
on the statements prepared by the Clearing Agencies in the Notices. 
Notices, supra note 3, 81 FR at 63538-40 and 63512-13.
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A. Calculation of the Backtesting Charge

    The objective of the Backtesting Charge is to increase Required 
Deposits for Members that are likely to experience backtesting 
deficiencies by an amount sufficient to maintain such Member's 
backtesting coverage above the 99 percent confidence threshold. Because 
the settlement activity and size of the backtesting deficiencies varies 
among impacted Members, the Clearing Agencies must assess a Backtesting 
Charge that is specific to each impacted Member. To do so, the Clearing 
Agencies examine each impacted Member's historical backtesting 
deficiencies observed over the prior 12-month period to identify the 
three largest backtesting deficiencies that have occurred during that 
time. The presumptive Backtesting Charge amount equals that Member's 
third largest historical backtesting deficiency, subject to adjustment 
as further described below. The Clearing Agencies stated in the Notices 
that they believe that applying an additional margin charge equal to 
the third largest historical backtesting deficiency to a Member's 
Required Deposit would bring the Member's historically-observed 
backtesting coverage above the 99 percent target.\7\ If assessed, the 
resulting Backtesting Charge is added to the Required Deposit for such 
Member determined pursuant to each Clearing Agency's risk-based 
margining methodology, and is imposed on a daily basis for a one-month 
period.
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    \7\ Each occurrence of a backtesting deficiency reduces a 
Member's overall backtesting coverage by 0.4 percent (1 exception/
250 observation days). Accordingly, an increase equal to the third 
largest backtesting deficiency would bring backtesting coverage up 
to 99.2 percent. Notices, supra note 3, 81 FR at 63539 and 63512.
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    This charge is only applicable to those Members whose overall 12-
month trailing backtesting coverage falls below the 99 percent coverage 
target.
    Although the third largest historical backtesting deficiency for a 
Member is used as the Backtesting Charge in most cases, each Clearing 
Agency retains discretion to adjust the charge amount based on other 
circumstances that may be relevant for assessing whether an impacted 
Member is likely to experience future backtesting deficiencies and the 
estimated size of such deficiencies. Examples of relevant circumstances 
that would be considered in calculating the final, applicable 
Backtesting Charge amount include material differences in the three 
largest backtesting deficiencies observed over the prior 12-month 
period, variability in the net settlement activity after the collection 
of the Member's Required Deposit, seasonality in observed backtesting 
deficiencies and observed market price volatility in excess of the 
Member's historical VaR charge. Based on the Clearing Agencies' 
assessment of the impact of these circumstances on the likelihood of, 
and estimated size of, future backtesting deficiencies for a Member, 
the Clearing Agencies may, in their discretion, adjust the Backtesting 
Charge for such Member in an amount that the Clearing Agencies 
determine to be more appropriate for maintaining such Member's 
backtesting results above the 99 percent coverage threshold (including 
a reasonable buffer).

B. Communication With Members and Imposition of the Backtesting Charge

    If the Clearing Agencies determine that a Backtesting Charge should 
apply to a Member that was not assessed a Backtesting Charge during the 
immediately preceding month or that the Backtesting Charge applied to a 
Member during the previous month should be increased, the Clearing 
Agencies will notify the Member on or around the 25th calendar day of 
the month prior to the assessment of the Backtesting Charge, or prior 
to the increase to the Backtesting Charge.
    Each Clearing Agency imposes the Backtesting Charge as an 
additional charge applied to each impacted Member's Required Deposit on 
a daily basis for a one month period, and reviews each applied 
Backtesting Charge each month. If an impacted Member's trailing 12-
month backtesting coverage exceeds 99 percent (without taking into 
account historically-imposed Backtesting Charges), the Backtesting 
Charge is removed.

C. Holidays and the Required Deposit

    As described above, the Clearing Agencies determine their Members' 
Required Deposit amounts in each Clearing Agency using a risk-based 
margin methodology that is intended to capture market price risk, 
assuming that a portfolio would take three days to liquidate or hedge 
in normal market conditions.
    The Holiday Charge may be applied on the business day prior to any 
Holiday. This charge approximates the exposure that a Member's trading 
activity on the applicable Holiday could pose to the Clearing Agency. 
Because the Clearing Agencies cannot collect margin on the Holiday, the 
Holiday Charge is due on the business day prior to the applicable 
Holiday.

[[Page 75885]]

D. Calculation and Notification of the Holiday Charge

    Each Clearing Agency would determine the appropriate methodology 
for calculating the Holiday Charge in advance of each applicable 
Holiday. Potential methodologies for calculating the Holiday Charge 
include, for example, time scaling of the VaR charge \8\ or application 
of stress scenarios that cover potential market price risk exposure 
that may not be appropriately covered by scaling the VaR charge. The 
Clearing Agencies would establish a methodology for calculating each 
Holiday Charge that would take into consideration the market conditions 
prevailing at that time in order to permit the Clearing Agencies to 
calculate a Holiday Charge that appropriately estimates the risk that 
may be presented to the Clearing Agency on the applicable Holiday, when 
Members' Required Deposit cannot be collected. The Holiday Charge would 
represent a percentage increase of the volatility charge on the 
business day prior to the Holiday, and such percentage increase applies 
uniformly to all Members. This means that if the Holiday Charge is 
levied, the same methodology (i.e., formula) is applied to all Members 
(that is, the Holiday Charge is not a set dollar amount applied to all 
Members).
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    \8\ Market price risk and volatility increase with time as there 
is a greater potential for loss. This additional risk exposure is 
often approximated by time scaling of volatility by multiplying 
square root of the additional period of risk (e.g., if the VaR 
charge is calibrated to a 3-day risk horizon, an additional day of 
exposure could be approximated by [radic]\4/3\ VaR charge).
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    Members would be notified of the applicable methodology by an 
Important Notice issued no later than 10 business days prior to the 
application the Holiday Charge, and the charge is collected on the 
business day prior to the applicable Holiday. The Holiday Charge is 
removed from the Required Deposit on the business day following the 
Holiday.

II. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act \9\ directs the Commission to 
approve a proposed rule change of a self-regulatory organization if it 
finds that such proposed rule change is consistent with the 
requirements of the Act and rules and regulations thereunder applicable 
to such organization. The Commission believes the proposal is 
consistent with Section 17A(b)(3)(F) of the Act and Rules 17Ad-22(b)(1) 
and (b)(2),\10\ as described in detail below.
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    \9\ 15 U.S.C. 78s(b)(2)(C).
    \10\ 15 U.S.C. 78q-1(b)(3)(F); 17 CFR 240.17Ad-22(b)(1); 17 CFR 
240.17Ad-22(b)(2).
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A. Consistency With Section 17A

    Section 17A(b)(3)(F) of the Act requires, in part, that the rules 
of a clearing agency be designed to assure the safeguarding of 
securities and funds that are within the custody or control of the 
clearing agency.\11\ By incorporating the Backtesting Charge and 
Holiday Charge into the Rules, the proposed changes help protect the 
Clearing Agencies from potential losses in the event that a Member 
defaults. Specifically, the Backtesting Charge enables the Clearing 
Agencies to collect additional funds when their current margin 
collections may be insufficient, as indicated by backtesting 
deficiencies. Meanwhile, the Holiday Charge enables the Clearing 
Agencies to collect margin in advance of Holidays when the Clearing 
Agencies would be unable to collect margin. Therefore, by enabling the 
Clearing Agencies to better assess and collect funds, as the Clearing 
Agencies deem necessary, the charges would promote the safeguarding of 
securities and funds that are within the custody or control of the 
clearing agency, consistent with the requirements of the Exchange Act, 
in particular Section 17A(b)(3)(F).
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    \11\ 15 U.S.C. 78q-1(b)(3)(F).
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B. Consistency With Rule 17Ad-22(b)(1)

    Rule 17Ad-22(b)(1) under the Act requires a clearing agency to 
establish, implement, maintain and enforce written policies and 
procedures reasonably designed to measure its credit exposures to its 
participants at least once a day and limit its exposures to potential 
losses from defaults by its participants under normal market 
conditions, so that the operations of the clearing agency would not be 
disrupted and non-defaulting participants would not be exposed to 
losses that they cannot anticipate or control.\12\ The Backtesting 
Charge and Holiday Charge are enhancements to the way the Clearing 
Agencies measure their credit exposure to Members and, ultimately, 
account for potential increases in exposure by collecting additional 
margin, as deemed necessary by the Clearing Agencies, to help limit 
potential losses from a Member default in normal market conditions. 
Therefore, the proposed rule changes are consistent with Rule 17Ad-
22(b)(1) under the Act.\13\
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    \12\ 17 CFR 240.17Ad-22(b)(1).
    \13\ Id.
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C. Consistency With Rule 17Ad-22(b)(2)

    Rule 17Ad-22(b)(2) under the Act requires a clearing agency to 
maintain and enforce written policies and procedures reasonably 
designed to use margin requirements to limit its credit exposures to 
participants under normal market conditions.\14\ The Backtesting Charge 
and Holiday Charge are components of the margin requirement that the 
Clearing Agencies collect from Members, in the form of Required 
Deposits, to help limit the Clearing Agencies' credit exposure to 
Members in normal market conditions. Therefore, the proposed rule 
changes are consistent with Rule 17Ad-22(b)(2) under the Act.\15\
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    \14\ 17 CFR 240.17Ad-22(b)(2).
    \15\ Id.
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III. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposals are consistent with the requirements of the Act and in 
particular with the requirements of Section 17A of the Act \16\ and the 
rules and regulations thereunder.
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    \16\ 15 U.S.C. 78q-1.
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    It is therefore ordered, pursuant to Section 19(b)(2) of the Act, 
that proposed rule changes SR-FICC-2016-006 and SR-NSCC-2016-004 be, 
and hereby are, APPROVED.\17\
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    \17\ In approving the proposed rule change, the Commission 
considered the proposals' impact on efficiency, competition, and 
capital formation. 15 U.S.C. 78c(f).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\18\
Brent J. Fields,
Secretary.
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    \18\ 17 CFR 200.30-3(a)(12).
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[FR Doc. 2016-26303 Filed 10-31-16; 8:45 am]
 BILLING CODE 8011-01-P