[Federal Register Volume 83, Number 96 (Thursday, May 17, 2018)]
[Notices]
[Pages 23020-23032]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-10513]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-83223; File No. SR-FICC-2018-801]


Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Notice of Filing of Amendment No. 1 and Notice of No Objection To 
Advance Notice Filing, as Modified by Amendment No. 1, To Implement 
Changes to the Method of Calculating Netting Members' Margin in the 
Government Securities Division Rulebook

May 11, 2018.
    The Fixed Income Clearing Corporation (``FICC'') filed with the 
U.S. Securities and Exchange Commission (``Commission'') on January 12, 
2018 advance notice SR-FICC-2018-801 (``Advance Notice'') pursuant to 
Section 806(e)(1) of Title VIII of the Dodd-Frank Wall Street Reform 
and Consumer Protection Act, entitled the Payment, Clearing, and 
Settlement Supervision Act of 2010 (``Clearing Supervision Act'') \1\ 
and Rule 19b-4(n)(1)(i) under

[[Page 23021]]

the Securities Exchange Act of 1934 (``Exchange Act'').\2\ The Advance 
Notice was published for comment in the Federal Register on March 2, 
2018.\3\ The Commission extended the review period of the Advanced 
Notice for an additional 60 days on March 7, 2018.\4\ The Commission 
received eight comments on the proposal.\5\ On April 25, 2018, FICC 
filed Amendment No. 1 to the Advance Notice (``Amendment No. 1'').\6\ 
The Commission is publishing this notice to solicit comment on 
Amendment No. 1 from interested persons and to serve as written notice 
that the Commission does not object to the changes set forth in the 
Advance Notice, as modified by Amendment No. 1.
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    \1\ 12 U.S.C. 5465(e)(1). The Financial Stability Oversight 
Council (``FSOC'') designated FICC 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, FICC 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\ Securities Exchange Act Release No. 82779 (February 26, 
2018), 83 FR 9055 (March 2, 2018) (SR-FICC-2018-801) (``Notice''). 
FICC also filed a related proposed rule change (SR-FICC-2018-001) 
with the Commission pursuant to Section 19(b)(1) of the Exchange Act 
and Rule 19b-4 thereunder, seeking approval of changes to its rules 
necessary to implement the Advance Notice (``Proposed Rule 
Change''). 15 U.S.C. 78s(b)(1) and 17 CFR 240.19b-4, respectively. 
The Proposed Rule Change was published in the Federal Register on 
February 1, 2018. Securities Exchange Act Release No. 82588 (January 
26, 2018), 83 FR 4687 (February 1, 2018) (SR-FICC-2018-001). On 
March 14, 2018, the Commission issued an order instituting 
proceedings to determine whether to approve or disapprove the 
Proposed Rule Change. See Securities Exchange Act Release No. 34-
82876 (March 14, 2018), 83 FR 12229 (March 20, 2018) (SR-FICC-2018-
001). The order instituting proceedings re-opened the comment period 
and extended the Commission's period of review of the Proposed Rule 
Change. See id.
    \4\ Securities Exchange Act Release No. 82820 (March 7, 2018), 
83 FR 10761 (March 12, 2018) (SR-FICC-2018-801).
    \5\ Letter from Robert E. Pooler, Chief Financial Officer, Ronin 
Capital LLC (``Ronin''), dated February 22, 2018, to Robert W. 
Errett, Deputy Secretary, Commission (``Ronin Letter I''); letter 
from Michael Santangelo, Chief Financial Officer, Amherst Pierpont 
Securities LLC (``Amherst''), dated February 22, 2018, to Brent J. 
Fields, Secretary, Commission (``Amherst Letter I''); letter from 
Timothy Cuddihy, Managing Director, FICC, dated March 19, 2018, to 
Robert W. Errett, Deputy Secretary, Commission (``FICC Letter I''); 
letter from James Tabacchi, Chairman, Independent Dealer and Trader 
Association (``IDTA''), dated March 29, 2018, to Eduardo A. Aleman, 
Assistant Secretary, Commission (``IDTA Letter''); letter from 
Michael Santangelo, Chief Financial Officer, Amherst Pierpont 
Securities LLC, dated April 4, 2018, to Brent J. Fields, Secretary, 
Commission (``Amherst Letter II''); letter from Levent Kahraman, 
Chief Executive Officer, KGS-Alpha Capital Markets (``KGS''), dated 
April 4, 2018, to Brent J. Fields, Secretary, Commission (``KGS 
Letter''); letter from Timothy Cuddihy, Managing Director, FICC, 
dated April 13, 2018, to Robert W. Errett, Deputy Secretary, 
Commission (``FICC Letter II''); and letter from Robert E. Pooler, 
Chief Financial Officer, Ronin, dated April 13, 2018, to Eduardo A. 
Aleman, Assistant Secretary, Commission (``Ronin Letter II''). Since 
the proposal contained in the Advance Notice was also filed as a 
Proposed Rule Change, supra note 3, the Commission is considering 
all public comments received on the proposal regardless of whether 
the comments were submitted to the Advance Notice or the Proposed 
Rule Change.
    Several commenters state that some of the changes proposed in 
the Advance Notice would impose an unfair burden on competition. 
That issue is relevant to the Commission's evaluation of the related 
Proposed Rule Change, which is conducted under the Exchange Act, but 
not to the Commission's evaluation of the Advance Notice, which, as 
discussed below in Section II, is conducted under the Clearing 
Supervision Act and generally considers whether the proposal will 
mitigate systemic risk and promote financial stability. Accordingly, 
concerns regarding burden on competition are not discussed herein 
but will be addressed in the Commission's review of the related 
Proposed Rule Change, as applicable, under the Exchange Act.
    \6\ Available athttps://www/sec/gov/comments/sr-ficc-2018-801/
ficc2018801.htm . FICC filed related amendments to the related 
Proposed Rule Change. Supra note 3.
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I. Description of the Advance Notice

    FICC proposes to change the FICC GSD Rulebook (``GSD Rules'') \7\ 
to adjust GSD's method of calculating GSD members' (``Members'') 
margin.\8\ Specifically, FICC proposes to (1) change GSD's method of 
calculating the Value-at-Risk (``VaR'') Charge component; (2) add a new 
component referred to as the ``Blackout Period Exposure Adjustment;'' 
(3) eliminate the existing Blackout Period Exposure Charge and the 
Coverage Charge components; (4) adjust the existing Backtesting Charge 
component to (i) include the backtesting deficiencies of certain GCF 
Counterparties during the Blackout Period, and (ii) give GSD the 
ability to assess the Backtesting Charge on an intraday basis for all 
Netting Members; and (5) adjust the calculation for determining the 
existing Excess Capital Premium for Broker Members, Inter-Dealer Broker 
Members, and Dealer Members.\9\ In addition, FICC proposes to provide 
transparency with respect to GSD's existing authority to calculate and 
assess Intraday Supplemental Fund Deposit amounts.\10\ The proposed QRM 
Methodology document would reflect the proposed VaR Charge calculation 
and the proposed Blackout Period Exposure Adjustment calculation.\11\
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    \7\ Available at http://www.dtcc.com/legal/rules-and-procedures.
    \8\ Notice, supra note 3, at 9055.
    \9\ Id.
    \10\ Id. Pursuant to the GSD Rules, FICC has the existing 
authority and discretion to calculate an additional amount on an 
intraday basis in the form of an Intraday Supplemental Clearing Fund 
Deposit. See GSD Rules 1 and 4, supra note 5.
    \11\ Id.
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A. Changes to GSD's VaR Charge Component

    FICC states that the changes proposed in the Advance Notice are 
designed to improve GSD's current VaR Charge so that it responds more 
effectively to market volatility.\12\ Specifically, FICC proposes to 
(1) replace GSD's current full revaluation approach with a sensitivity 
approach; \13\ (2) employ the existing Margin Proxy as an alternative 
(i.e., a back-up) VaR Charge calculation; \14\ (3) use an evenly-
weighted 10-year look-back period, instead of the current front-
weighted one-year look-back period; (4) eliminate GSD's current 
augmented volatility adjustment multiplier; (5) utilize a haircut 
method for securities cleared by GSD that lack sufficient historical 
data; and (6) establish a VaR Floor calculation that would serve as a 
minimum VaR Charge for Members, as discussed below.\15\
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    \12\ Notice, supra note 3, at 9056. FICC proposes to change its 
calculation of GSD's VaR Charge because during the fourth quarter of 
2016, FICC's current methodology for calculating the VaR Charge did 
not respond effectively to the market volatility that existed at 
that time. Id. As a result, the VaR Charge did not achieve 
backtesting coverage at a 99 percent confidence level and, 
therefore, yielded backtesting deficiencies beyond FICC's risk 
tolerance. Id.
    \13\ Id. GSD's proposed sensitivity approach is similar to the 
sensitivity approach that FICC's Mortgage-Backed Securities Division 
(``MBSD'') uses to calculate the VaR Charge for MBSD clearing 
members. See Securities Exchange Act Release No. 79868 (January 24, 
2017) 82 FR 8780 (January 30, 2017) (SR-FICC-2016-007) and 
Securities Exchange Act Release No. 79643 (December 21, 2016), 81 FR 
95669 (December 28, 2016) (SR-FICC-2016-801).
    \14\ The Margin Proxy was implemented by FICC in 2017 to 
supplement the full revaluation approach to the VaR Charge 
calculation with a minimum VaR Charge calculation. Securities 
Exchange Act Release No. 80349 (March 30, 2017), 82 FR 16638 (April 
5, 2016) (SR-FICC-2017-001); see also Securities Exchange Act 
Release No. 80341 (March 30, 2017), 82 FR 16644 (April 5, 2016) (SR-
FICC-2017-801).
    \15\ Id.
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    For the proposed sensitivity approach to the VaR Charge, FICC would 
source sensitivity data and relevant historical risk factor time series 
data generated by an external vendor based on its econometric, risk, 
and pricing models. \16\ FICC would conduct independent

[[Page 23022]]

data checks to verify the accuracy and consistency of the data feed 
received from the vendor.\17\ In the event that the external vendor is 
unable to provide the sourced data in a timely manner, FICC would 
employ its existing Margin Proxy as a back-up VaR Charge 
calculation.\18\
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    \16\ See Notice, supra note 3, at 9057. The following risk 
factors would be incorporated into GSD's proposed sensitivity 
approach: key rate, convexity, implied inflation rate, agency 
spread, mortgage-backed securities spread, volatility, mortgage 
basis, and time risk factor. These risk factors are defined as 
follows:
     key rate measures the sensitivity of a price change to 
changes in interest rates;
     convexity measures the degree of curvature in the 
price/yield relationship of key interest rates;
     implied inflation rate measures the difference between 
the yield on an ordinary bond and the yield on an inflation-indexed 
bond with the same maturity;
     agency spread is yield spread that is added to a 
benchmark yield curve to discount an Agency bond's cash flows to 
match its market price;
     mortgage-backed securities spread is the yield spread 
that is added to a benchmark yield curve to discount a to-be-
announced (``TBA'') security's cash flows to match its market price;
     volatility reflects the implied volatility observed 
from the swaption market to estimate fluctuations in interest rates;
     mortgage basis captures the basis risk between the 
prevailing mortgage rate and a blended Treasury rate; and
     time risk factor accounts for the time value change (or 
carry adjustment) over the assumed liquidation period. Id.
    The above-referenced risk factors are similar to the risk 
factors currently utilized in MBSD's sensitivity approach; however, 
GSD has included other risk factors that are specific to the U.S. 
Treasury securities, Agency securities and mortgage-backed 
securities cleared through GSD. Id. Concerning U.S. Treasury 
securities and Agency securities, FICC would select the following 
risk factors: key rates, convexity, agency spread, implied inflation 
rates, volatility, and time. Id. For mortgage-backed securities, 
each security would be mapped to a corresponding TBA forward 
contract and FICC would use the risk exposure analytics for the TBA 
as an estimate for the mortgage-backed security's risk exposure 
analytics. Id. FICC would use the following risk factors to model a 
TBA security: key rates, convexity, mortgage-backed securities 
spread, volatility, mortgage basis, and time. Id. To account for 
differences between mortgage-backed securities and their 
corresponding TBA, FICC would apply an additional basis risk 
adjustment. Id.
    \17\ See Notice, supra note 3, at 9058.
    \18\ See Notice, supra note 3, at 9059. In the event that the 
data used for the sensitivity approach is unavailable for a period 
of more than five days, FICC proposes to revert back to the Margin 
Proxy as an alternative VaR Charge calculation. Id.
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    Additionally, FICC proposes to change the look-back period from a 
front-weighted one-year look-back to an evenly-weighted 10-year look-
back period that would include, to the extent applicable, an additional 
stressed period. FICC states that the proposed extended look-back 
period would help to ensure that the historical simulation contains a 
sufficient number of historical market conditions.\19\ In the event 
FICC observes that the 10-year look-back period does not contain a 
sufficient number of stressed market conditions, FICC would have the 
ability to include an additional period of historically observed 
stressed market conditions to a 10-year look-back period or adjust the 
length of look-back period.\20\
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    \19\ Notice, supra note 3, at 9059.
    \20\ Id.
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    FICC also proposes to look at the historical changes of specific 
risk factors during the look-back period in order to generate risk 
scenarios to arrive at the market value changes for a given 
portfolio.\21\ A statistical probability distribution would be formed 
from the portfolio's market value changes, then the VaR calculation 
would be calibrated to cover the projected liquidation losses at a 99 
percent confidence level.\22\ The portfolio risk sensitivities and the 
historical risk factor time series data would then be used by FICC's 
risk model to calculate the VaR Charge for each Member.\23\
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    \21\ Notice, supra note 3, at 9058.
    \22\ Id.
    \23\ Id.
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    FICC also proposes to eliminate the augmented volatility adjustment 
multiplier. FICC states that the multiplier would not be necessary 
because the proposed sensitivity approach would have a longer look-back 
period and the ability to include an additional stressed market 
condition to account for periods of market volatility.\24\
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    \24\ Notice, supra note 3, at 9059.
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    According to FICC, in the event that a portfolio contains classes 
of securities that do not have sufficient volume and price information 
available, a historical simulation approach would not generate VaR 
Charge amounts that reflect the risk profile of such securities.\25\ 
Therefore, FICC proposes to calculate the VaR Charge for these 
securities by utilizing a haircut approach based on a market benchmark 
with a similar risk profile as the related security.\26\ The proposed 
haircut approach would be calculated separately for U.S. Treasury/
Agency securities and mortgage-backed securities.\27\
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    \25\ Notice, supra note 3, at 9060.
    \26\ Id.
    \27\ Id.
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    Finally, FICC proposes to adjust the existing calculation of the 
VaR Charge to include a VaR Floor, which would be the amount used as 
the VaR Charge when the sum of the amounts calculated by the proposed 
sensitivity approach and haircut method is less than the proposed VaR 
Floor.\28\ The VaR Floor would be calculated as the sum of (1) a U.S. 
Treasury/Agency bond margin floor \29\ and (2) a mortgage-backed 
securities margin floor.\30\
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    \28\ Id.
    \29\ Notice, supra note 3, at 9061. The U.S. Treasury/Agency 
bond margin floor would be calculated by mapping each U.S. Treasury/
Agency security to a tenor bucket, then multiplying the gross 
positions of each tenor bucket by its bond floor rate, and summing 
the results. Id. The bond floor rate of each tenor bucket would be a 
fraction (initially set at 10 percent) of an index-based haircut 
rate for such tenor bucket. Id.
    \30\ Id. The mortgage-backed securities margin floor would be 
calculated by multiplying the gross market value of the total value 
of mortgage-backed securities in a Member's portfolio by a 
designated amount, referred to as the pool floor rate, (initially 
set at 0.05 percent). Id.
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B. Addition of the Blackout Period Exposure Adjustment Component

    FICC proposes to add a new component to GSD's margin calculation--
the Blackout Period Exposure Adjustment.\31\ FICC states that the 
Blackout Period Exposure Adjustment would be calculated to address 
risks that could result from overstated values of mortgage-backed 
securities that are pledged as collateral for GCF Repo Transactions 
\32\ during a Blackout Period.\33\ A Blackout Period is the period 
between the last business day of the prior month and the date during 
the current month upon which a government-sponsored entity that issues 
mortgage-backed securities publishes its updated Pool Factors.\34\ The 
proposed Blackout Period Exposure Adjustment would result in a charge 
that either increases a Member's VaR Charge or a credit that decreases 
the VaR Charge.\35\
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    \31\ Id. The proposed Blackout Period Exposure Adjustment would 
be calculated by (1) projecting an average pay-down rate of mortgage 
loan pools (based on historical pay down rates) for the government 
sponsored enterprises (Fannie Mae and Freddie Mac) and the 
Government National Mortgage Association (Ginnie Mae), respectively, 
then (2) multiplying the projected pay-down rate by the net 
positions of mortgage-backed securities in the related program, and 
(3) summing the results from each program. Id.
    \32\ Id. GCF Repo Transactions refer to transactions made on 
FICC's GCF Repo Service that enables dealers to trade general 
collateral repos, based on rate, term, and underlying product, 
throughout the day, without requiring intra-day, trade-for-trade 
settlement on a Delivery-versus-Payment basis. Id.
    \33\ Notice, supra note 3, at 9061.
    \34\ Id. Pool Factors are the percentage of the initial 
principal that remains outstanding on the mortgage loan pool 
underlying a mortgage-backed security, as published by the 
government-sponsored entity that is the issuer of such security. Id.
    \35\ Id.
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C. Elimination of the Blackout Period Exposure Charge and Coverage 
Charge Components

    FICC proposes to eliminate the existing Blackout Period Exposure 
Charge component from GSD's margin calculation.\36\ The Blackout Period 
Exposure Charge only applies to Members with GCF Repo Transactions that 
have two or more backtesting deficiencies during the Blackout Period 
and whose overall 12-month trailing backtesting coverage falls below 
the 99 percent coverage target.\37\ FICC would eliminate this charge 
because the proposed Blackout Period Exposure Adjustment would apply to 
all Members with GCF Repo Transactions

[[Page 23023]]

collateralized with mortgage-backed securities during the Blackout 
Period.\38\
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    \36\ Notice, supra note 3, at 9062.
    \37\ Id.
    \38\ Id.
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    FICC also proposes to eliminate the existing Coverage Charge 
component from GSD's margin calculation.\39\ FICC would eliminate the 
Coverage Charge because, as FICC states, the proposed sensitivity 
approach would provide overall better margin coverage, rendering the 
Coverage Charge unnecessary.\40\
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    \39\ Id.
    \40\ Id.
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D. Adjustment to the Backtesting Charge Component

    FICC proposes to amend GSD's existing Backtesting Charge component 
of its margin calculation to (1) include the backtesting deficiencies 
of certain Members during the Blackout Period and (2) give GSD the 
ability to assess the Backtesting Charge on an intraday basis.\41\
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    \41\ Id.
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    Currently, the Backtesting Charge does not apply to Members with 
mortgage-backed securities during the Blackout Period because such 
Members would be subject to a Blackout Period Exposure Charge.\42\ In 
response to FICC's proposal to eliminate the Blackout Period Exposure 
Charge, FICC proposes to adjust the applicability of the Backtesting 
Charge.\43\ Specifically, FICC proposes to apply the Backtesting Charge 
to Members with backtesting deficiencies that also experience 
backtesting deficiencies that are attributed to the Member's GCF Repo 
Transactions collateralized with mortgage-backed securities during the 
Blackout Period within the prior 12-month rolling period.\44\
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    \42\ Id.
    \43\ Id.
    \44\ Id. Additionally, during the Blackout Period, the proposed 
Blackout Period Exposure Adjustment Charge, as described in Section 
I.C, above, would be applied to all applicable Members. Id.
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    FICC also proposes to adjust the Backtesting Charge to apply to 
Members that experience backtesting deficiencies during the trading day 
because of such Member's intraday trading activities.\45\ The Intraday 
Backtesting Charge would be assessed on Members with portfolios that 
experience at least three intraday backtesting deficiencies over the 
prior 12-month period and would generally equal a Member's third 
largest historical intraday backtesting deficiency.\46\
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    \45\ Id.
    \46\ Notice, supra note 3, at 9063.
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E. Adjustment to the Excess Capital Premium Charge

    FICC proposes to adjust GSD's calculation for determining the 
Excess Capital Premium. Currently, GSD assesses the Excess Capital 
Premium when a Member's VaR Charge exceeds the Member's Excess 
Capital.\47\ Only Members that are brokers or dealers are required to 
report Excess Net Capital figures to FICC while other Members report 
net capital or equity capital, based on the type of regulation to which 
the Member is subject.\48\ If a Member is not a broker or dealer, FICC 
uses the net capital or equity capital in order to calculate each 
Member's Excess Capital Premium.\49\ FICC proposes to move to a net 
capital measure for broker Members, inter-dealer broker Members, and 
dealer Members.\50\ FICC states that such a change would make the 
Excess Capital Premium for those Members more consistent with the 
equity capital measure that is used for other Members in the Excess 
Capital Premium calculation.\51\
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    \47\ Id. The term ``Excess Capital'' means Excess Net Capital, 
net assets, or equity capital as applicable, to a Member based on 
its type of regulation. GSD Rules, Rule 1, supra note 5.
    \48\ See Notice, supra note 3, at 9063.
    \49\ Id.
    \50\ Id.
    \51\ Id.
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F. Additional Transparency Surrounding the Intraday Supplemental Fund 
Deposit

    Separate from the above changes to GSD's margin calculation, FICC 
proposes to provide transparency in the GSD Rules with respect to GSD's 
existing calculation of the Intraday Supplemental Fund Deposit.\52\ 
FICC proposes to provide more detail in the GSD rules surrounding both 
GSD's calculation of the Intraday Supplemental Fund Deposit charge and 
its determination of whether to assess the charge.\53\
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    \52\ Id.
    \53\ See Notice, supra note 3, at 9064.
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    FICC calculates the Intraday Supplemental Fund Deposit by tracking 
three criteria for each Member.\54\ The first criterion, the ``Dollar 
Threshold,'' evaluates whether a Member's Intraday VaR Charge equals or 
exceeds a set dollar amount when compared to the VaR Charge that was 
included in the most recent margin collection.\55\ The second 
criterion, the ``Percentage Threshold,'' evaluates whether the Intraday 
VaR Charge equals or exceeds a percentage increase of the VaR Charge 
that was included in the most recent margin collection.\56\ The third 
criterion, the ``Coverage Target,'' evaluates whether a Member is 
experiencing backtesting results below a 99 percent confidence 
level.\57\ In the event that a Member's additional risk exposure 
breaches all three criteria, FICC assess an Intraday Supplemental Fund 
Deposit.\58\ FICC also assess an Intraday Supplemental Fund Deposit if, 
under certain market conditions, a Member's Intraday VaR Charge 
breaches both the Dollar Threshold and the Percentage Threshold.\59\
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    \54\ Id.
    \55\ Id.
    \56\ Id.
    \57\ Id.
    \58\ Id.
    \59\ Id.
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G. Description of the QRM Methodology

    The QRM Methodology document provides the methodology by which FICC 
would calculate the VaR Charge, with the proposed sensitivity approach, 
as well as other components of the Members' margin calculation.\60\ The 
QRM Methodology document specifies (i) the model inputs, parameters, 
assumptions and qualitative adjustments; (ii) the calculation used to 
generate margin amounts; (iii) additional calculations used for 
benchmarking and monitoring purposes; (iv) theoretical analysis; (v) 
the process by which the VaR methodology was developed as well as its 
application and limitations; (vi) internal business requirements 
associated with the implementation and ongoing monitoring of the VaR 
methodology; (vii) the model change management process and governance 
framework (which includes the escalation process for adding a stressed 
period to the VaR calculation); (viii) the haircut methodology; (ix) 
the Blackout Period Exposure Adjustment calculations; (x) intraday 
margin calculation; and (xi) the Margin Proxy calculation.
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    \60\ Id.
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H. Description of Amendment No. 1

    In Amendment No. 1, FICC proposed three things. First, FICC 
proposed to stagger the implementation of the proposed Blackout Period 
Exposure Adjustment and the proposed removal of the Blackout Period 
Exposure Charge.\61\ Specifically, on a date that is approximately 
three weeks after the later of the Commission's notice of no objection 
to the Advance Notice or its issuance of an order approving the related 
Proposed Rule Change (``Implementation Date''), FICC would charge 
Members only 50 percent of any amount calculated under the proposed 
Blackout Period Exposure Adjustment, while, at the same time, 
decreasing by 50 percent any amount charge under the

[[Page 23024]]

Blackout Period Exposure Charge.\62\ Then, no later than September 30, 
2018, FICC would increase any amount charged under the Blackout Period 
Exposure Adjustment to 75 percent, while, at the same time, decreasing 
by 75 percent any amount charge under the Blackout Period Exposure 
Charge.\63\ Finally, no later than December 31, 2018, FICC would 
increase any amount charged under the Blackout Period Exposure 
Adjustment to 100 percent, while, at the same time, eliminating the 
Blackout Period Exposure Charge. FICC states that it is proposing this 
amendment to address concerns raised by several Members that the 
implementation of the proposed Blackout Period Exposure Adjustment 
would have a material impact on their liquidity planning and margin 
charge.\64\ FICC states that the staggered implementation would give 
Members the opportunity to assess and further prepare for the impact of 
the proposed Blackout Period Exposure Adjustment. FICC states the 
proposed VaR Charge calculation and the existing Blackout Period 
Exposure Charge would appropriately mitigate the potential mortgage-
backed securities pay-down on a short-term basis, given FICC's 
assessment of mortgage-backed securities pay-down projections for this 
calendar year.\65\
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    \61\ Amendment No. 1, supra note 6.
    \62\ Id.
    \63\ Id.
    \64\ Id.
    \65\ Id.
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    Second, FICC proposes to amend the implementation date for the 
remainder of the proposed changes in the Advance Notice.\66\ 
Specifically, FICC proposes that such remaining changes would become 
operative on the Implementation Date, as opposed to the originally 
proposed 45 business days after the later of the Commission's notice of 
no objection to the Advance Notice or its issuance of an order 
approving the related Proposed Rule Change.\67\ FICC states that it is 
proposing this amendment because FICC is primarily concerned that the 
look-back period that is currently used in calculating the VaR Charge 
under the Margin Proxy may not calculate sufficient margin amounts to 
cover GSD's exposure to a defaulting Member.\68\
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    \66\ Id.
    \67\ Id.
    \68\ Id.
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    Third, FICC proposes to correct an incorrect description of the 
calculation of the Excess Capital Premium that appears once in the 
narrative to the Advance Notice, as well as in the corresponding 
location in the Exhibit 1A to the Advance Notice.\69\ Specifically, 
FICC proposes to change the term ``Required Fund Deposit'' to ``VaR 
Charge'' in the description at issue, as ``Required Fund Deposit'' was 
incorrectly used in that instance.\70\
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    \69\ Id.
    \70\ Id.
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II. Solicitation of Comments on Amendment No. 1

    Interested persons are invited to submit written data, views and 
arguments concerning whether Amendment No. 1 is consistent with the 
Clearing Supervision Act. Comments may be submitted by any of the 
following methods:

Electronic Comments

     Use the Commission's internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to [email protected]. Please include 
File Number SR-FICC-2018-801 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.

All submissions should refer to File Number SR-FICC-2018-801. This file 
number should be included on the subject line if email is used. To help 
the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's internet website (http://www.sec.gov/rules/sro.shtml). 
Copies of the submission, all subsequent amendments, all written 
statements with respect to the Advance Notice that are filed with the 
Commission, and all written communications relating to the Advance 
Notice between the Commission and any person, other than those that may 
be withheld from the public in accordance with the provisions of 5 
U.S.C. 552, will be available for website viewing and printing in the 
Commission's Public Reference Room, 100 F Street NE, Washington, DC 
20549, on official business days between the hours of 10:00 a.m. and 
3:00 p.m. Copies of the filing also will be available for inspection 
and copying at the principal office of FICC and on DTCC's website 
(http://dtcc.com/legal/sec-rule-filings.aspx). All comments received 
will be posted without change. Persons submitting comments are 
cautioned that we do not redact or edit personal identifying 
information from comment submissions. You should submit only 
information that you wish to make available publicly. All submissions 
should refer to File Number SR-FICC-2018-801 and should be submitted on 
or before June 1, 2018.

III. Discussion and Commission Findings

    Although the Clearing Supervision Act does not specify a standard 
of review for an advance notice, its stated purpose is instructive: 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.\71\
---------------------------------------------------------------------------

    \71\ See 12 U.S.C. 5461(b).
---------------------------------------------------------------------------

    Section 805(a)(2) of the Clearing Supervision Act \72\ authorizes 
the Commission to prescribe regulations containing risk-management 
standards for the payment, clearing, and settlement activities of 
designated clearing entities engaged in designated activities for which 
the Commission is the supervisory agency. Section 805(b) of the 
Clearing Supervision Act \73\ provides the following objectives and 
principles for the Commission's risk-management standards prescribed 
under Section 805(a):
---------------------------------------------------------------------------

    \72\ 12 U.S.C. 5464(a)(2).
    \73\ 12 U.S.C. 5464(b).
---------------------------------------------------------------------------

     Promote robust risk management;
     promote safety and soundness;
     reduce systemic risks; and
     support the stability of the broader financial system.
    Section 805(c) of the Clearing Supervision Act provides, in 
addition, that the Commission's risk-management standards may address 
such areas as risk-management and default policies and procedures, 
among others areas.\74\
---------------------------------------------------------------------------

    \74\ 12 U.S.C. 5464(c).
---------------------------------------------------------------------------

    The Commission has adopted risk-management standards under Section 
805(a)(2) of the Clearing Supervision Act \75\ and Section 17A of the 
Exchange Act (``Rule 17Ad-22'').\76\ Rule 17Ad-22 requires each covered 
clearing agency, among other things, 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.\77\ Therefore, it is 
appropriate for the Commission to review proposed

[[Page 23025]]

changes in advance notices for consistency with the objectives and 
principles of the risk-management standards described in Section 805(b) 
of the Clearing Supervision Act \78\ and against Rule 17Ad-22.\79\
---------------------------------------------------------------------------

    \75\ 12 U.S.C. 5464(a)(2).
    \76\ 15 U.S.C. 78q-1.
    \77\ 17 CFR 240.17Ad-22.
    \78\ 12 U.S.C. 5464(b).
    \79\ 17 CFR 240.17Ad-22.
---------------------------------------------------------------------------

A. Consistency With Section 805(b) of the Clearing Supervision Act

    The Commission believes that the changes proposed in the Advance 
Notice are consistent with each of the objectives and principles 
described in Section 805(b) of the Clearing Supervision Act.\80\ 
Specifically, as discussed below, the Commission believes that the 
changes proposed in the Advance Notice to the VaR Charge component of 
the margin calculation and the proposed changes to other components of 
the margin calculation are consistent with promoting robust risk 
management in the area of credit risk and promoting safety and 
soundness, which in turn, would help reduce systemic risk and support 
the stability of the broader financial system.
---------------------------------------------------------------------------

    \80\ 12 U.S.C. 5464(b).
---------------------------------------------------------------------------

    First, as described above, FICC currently calculates the VaR Charge 
component of each Member's margin using a VaR calculation that relies 
on a full revaluation approach. FICC proposes to instead implement a 
sensitivity approach to its VaR Charge calculation, with, at minimum, 
an evenly-weighted 10-year look-back period. The proposed sensitivity 
approach would leverage an external vendor's expertise in supplying 
market risk attributes (i.e., sensitivity data) used to calculate the 
VaR Charge. Relying on such sensitivity data with a 10-year look-back 
period would help correct deficiencies in FICC's existing VaR Charge 
calculation, thus enabling FICC to better account for market risk in 
calculating the VaR Charge and better limit its credit exposure to 
Members.
    Second, as described above, FICC proposes to implement the existing 
Margin Proxy as a back-up methodology to the proposed sensitivity 
approach to the VaR Charge calculation. This proposed change would help 
FICC to better limit its credit exposure to Members' by continuing to 
calculate each Member's VaR Charge in the event that FICC experiences a 
data disruption with the vendor that supplies the sensitivity data.
    Third, as described above, FICC proposes to eliminate the augmented 
volatility adjustment multiplier from its current VaR Charge 
calculation. This proposed change would enable FICC to remove a 
component from the VaR Charge calculation that would no longer be 
needed under the proposed changes, specifically the addition of the 
proposed 10-year look-back period that has the option of an additional 
stress period.
    Fourth, as described above, FICC proposes to implement a haircut 
method for securities with inadequate historical pricing data and, 
thus, lack sufficient sensitivity data to apply the proposed 
sensitivity approach to FICC's VaR calculation. Employing a haircut on 
such securities would help FICC limit its credit exposure to Members' 
that transact in the securities by establishing a way to better capture 
their risk profile.
    Fifth, as described above, FICC proposes to implement a VaR Floor. 
The proposed VaR Floor would be triggered in the event that the 
proposed sensitivity VaR model calculates too low of a VaR Charge 
because of offsets applied by the model from certain offsetting long 
and short positions. In other words, the VaR Floor would serve as a 
backstop to the proposed sensitivity approach to FICC's VaR 
calculation, which would help ensure that FICC continues to limit its 
credit exposure to Members. Altogether, these proposed changes to the 
VaR Charge component of the margin calculation would enable FICC to 
view and respond more effectively to market volatility by attributing 
market price moves to various risk factors and more effectively 
limiting FICC's credit exposure to Members in market conditions that 
reflect a rapid decrease in market price volatility levels.
    In addition to these changes to the VaR Charge component of the 
margin calculation, FICC proposes to make a number of changes to other 
components of the margin calculation that would promote robust risk 
management at FICC. Specifically, as described above, FICC proposes to 
(1) add the Blackout Period Exposure Adjustment component to FICC's 
margin calculation to help address risks that could result from 
overstated values of mortgage-backed securities that are pledged as 
collateral for GCF Repo Transactions during a Blackout Period; (2) make 
changes to the existing Backtesting Charge component to help ensure 
that the charge will apply to (i) all Members that experience 
backtesting deficiencies attributable to the Member's GCF Repo 
Transactions that are collateralized with mortgage-backed securities 
during the Blackout Period, and (ii) all Members that experience 
backtesting deficiencies during the trading day because of such 
Member's intraday trading activities; (3) provide more detail in the 
GSD Rules regarding FICC's calculation of the existing Intraday 
Supplemental Fund Deposit charge and its determination of whether to 
assess the charge; and (4) remove the Coverage Charge and Blackout 
Period Exposure Charge components because the risk these components 
addressed would be addressed by the other proposed changes to the 
margin calculation, specifically the proposed sensitivity approach to 
FICC's VaR calculation and the proposed Blackout Period Exposure 
Adjustment component, respectively.
    Taken together, the above mentioned proposed changes to the 
components of the margin calculation would enhance FICC's current 
method for calculating each Member's margin. The enhancement would 
enable FICC to produce margin levels more commensurate with the risks 
associated with its Members' portfolios in a broader range of scenarios 
and market conditions, and, thus, more effectively cover its credit 
exposure to its Members. Therefore, the Commission believes that the 
changes proposed in the Advance Notice would help promote robust risk 
management, consistent with Section 805(b) of the Clearing Supervision 
Act.\81\
---------------------------------------------------------------------------

    \81\ Id.
---------------------------------------------------------------------------

    The Commission also believes that the proposed changes would help 
promote safety and soundness at FICC, which, in turn, would help reduce 
systemic risk and support the stability of the broader financial 
system. As described above, the proposed changes are designed to better 
limit FICC's credit exposure to Members in the event of a Member 
default through an enhanced VaR Charge calculation. By better limiting 
credit exposure to its Members, FICC's proposed changes are designed to 
help ensure that, in the event of a Member default, FICC's operations 
would not be disrupted and non-defaulting Members would not be exposed 
to losses that they cannot anticipate or control.
    Therefore, for the above reasons, the Commission believes that the 
changes proposed in the Advance Notice would help promote safety and 
soundness, which in turn, would help reduce systemic risks and support 
the stability of the broader financial system, consistent with Section 
805(b) of the Clearing Supervision Act.\82\
---------------------------------------------------------------------------

    \82\ Id.
---------------------------------------------------------------------------

B. Consistency With Rule 17Ad-22(e)(4)(i) of the Exchange Act

    The Commission believes that the changes proposed in the Advance 
Notice are consistent with Rule 17Ad-22(e)(4)(i) under the Exchange 
Act. Rule 17Ad-22(e)(4)(i) requires each covered

[[Page 23026]]

clearing agency \83\ to establish, implement, maintain and enforce 
written policies and procedures reasonably designed to effectively 
identify, measure, monitor, and manage its credit exposures to 
participants and those arising from its payment, clearing, and 
settlement processes, including by maintaining sufficient financial 
resources to cover its credit exposure to each participant fully with a 
high degree of confidence.\84\
---------------------------------------------------------------------------

    \83\ A ``covered clearing agency'' means, among other things, a 
clearing agency registered with the Commission under Section 17A of 
the Exchange Act (15 U.S.C. 78q-1 et seq.) that is designated 
systemically important by FSOC pursuant to the Clearing Supervision 
Act (12 U.S.C. 5461 et seq.). See 17 CFR 240.17Ad-22(a)(5)-(6). 
Because FICC is a registered clearing agency with the Commission 
that has been designated systemically important by FSOC, supra note 
1, FICC is a covered clearing agency.
    \84\ 17 CFR 240.17Ad-22(e)(4)(i).
---------------------------------------------------------------------------

    As described above, FICC proposes a number of changes to the way it 
addresses credit exposure to its Members through its margin 
calculation. Specifically, FICC proposes to (1) replace its existing 
full revaluation VaR Charge calculation with a sensitivity approach to 
the VaR Charge calculation that uses an evenly-weighted 10-year look-
back period; (2) utilize the existing Margin Proxy as a back-up VaR 
Charge calculation to the proposed sensitivity in the event that FICC 
experiences a data disruption with the third-party vendor; (3) 
implement a haircut method for securities that are ineligible for the 
sensitivity approach to FICC's VaR calculation due to inadequate 
historical pricing data; (4) establish the VaR Floor; (5) establish the 
Blackout Period Exposure Adjustment component; (6) adjust the existing 
Backtesting Charge component; and (7) use Net Capital instead of Excess 
Capital when calculating the Excess Capital Premium, as applicable, for 
broker Members, inter-dealer broker Members, and dealer Members.
    Two commenters expressed concerns regarding the proposed change to 
the Excess Capital Premium.\85\ IDTA states that FICC needs to provide 
further clarification and justification for the Excess Capital Premium 
because the Excess Capital Premium under the proposed sensitivity 
approach to the VaR Charge calculation could result in additional 
margin for some Members ``without sufficient explanation in the 
proposed rule change.'' \86\ Additionally, IDTA states that the use of 
Net Capital in the denominator of the Excess Capital Premium will 
result in some additional Members being assessed the charge, 
specifically Dealer Members.\87\ IDTA states that Dealer Members should 
be able to use net worth, as compared to Net Capital, because a bank 
Member's capital figure is based on assets without any haircut for 
certain positions.\88\ On the other hand, IDTA states that dealers must 
include haircuts on certain positions before calculating Net 
Capital.\89\ IDTA also states that FICC should allow dealer Members to 
calculate Net Capital for purposes of the Excess Capital Premium to not 
include a haircut on U.S. Government securities cleared at FICC.\90\ 
Finally, IDTA states that the Excess Capital Premium should instead be 
used to trigger a credit review for Members because, in conjunction 
with the other proposed changes, the Excess Capital Premium would not 
be a ``sound measure'' of a Member's credit risk.\91\ Similarly, 
Amherst notes that FICC should review further how it can allow dealer 
Members to be compared similarly to bank Members for Excess Capital 
Premium purposes to account for the haircut on assets that dealers must 
account for in their Net Capital calculation.\92\
---------------------------------------------------------------------------

    \85\ IDTA Letter and Amherst Letter II.
    \86\ IDTA Letter at 9.
    \87\ Id.
    \88\ Id. at 10.
    \89\ Id. at 10.
    \90\ Id. at 10.
    \91\ Id.
    \92\ Amherst Letter II at 4.
---------------------------------------------------------------------------

    In response, FICC states that the Excess Capital Premium is used to 
more effectively manage the risk posed by a Member whose activity 
causes it to have a margin requirement that is greater than its excess 
regulatory capital.\93\ FICC notes that for a majority of Members, the 
proposed sensitivity VaR Charge calculation would be higher than the 
current VaR Charge calculation, excluding the Margin Proxy, and that 
the higher VaR Charge could result in a higher Excess Capital 
Premium.\94\ Where there is an increase, FICC states that this increase 
is appropriate for the exposure that the Excess Capital Premium is 
designed to mitigate.\95\ However, FICC notes that even with the 
potential increase in the proposed VaR Charge, the majority of Members 
would not incur the Excess Capital Premium.\96\ Additionally, FICC 
states that the proposed change to Net Capital for the Excess Capital 
Premium would reduce the impact to Members.\97\ For example, for period 
of December 18, 2017 through April 2, 2018, FICC states that by using 
Net Capital instead of Excess Net Capital, the Member with the largest 
number of instances of the Excess Capital Premium would have had a 27 
percent reduction in the number of instances and, on average, an 82 
percent decrease in the dollar value of the charge on the days such 
Excess Capital Premium occurred.\98\
---------------------------------------------------------------------------

    \93\ FICC Letter II at 10,11; see Exchange Act Release No. 54457 
(September 15, 2006), 71 FR 55239 (September 21, 2006) (SR-FICC-
2006-03).
    \94\ FICC Letter II at 11.
    \95\ Id.
    \96\ Id.
    \97\ Id.
    \98\ Id.
---------------------------------------------------------------------------

    Additionally, two commenters noted that the proposed sensitivity 
approach to the VaR Charge calculation is not needed at this time 
because the Margin Proxy \99\ is sufficient to cover any gaps in margin 
requirements. Specifically, Amherst states that FICC has not presented 
the Commission with the full impact analysis of the supplemental Margin 
Proxy calculation and that the full analysis would reveal that the 
current margining process, inclusive of the Margin Proxy, has already 
significantly and materially increased Netting Members' Required Fund 
Deposit amounts. Therefore, Amherst states that a full analysis of the 
current supplemental Margin Proxy calculation would reveal that the 
Margin Proxy enables FICC to collect adequate levels of margin to 
protect itself during stressed periods.\100\ Similarly, IDTA states 
that the Margin Proxy allows GSD to maintain its backtesting goal at 
the 99 percent confidence level.\101\
---------------------------------------------------------------------------

    \99\ Supra note 12.
    \100\ Amherst II Letter at 2.
    \101\ IDTA Letter at 3-4.
---------------------------------------------------------------------------

    In response, FICC states that the Margin Proxy has historically 
provided a more accurate VaR Charge calculation than the full valuation 
approach, but the current VaR Charge as supplemented by the Margin 
Proxy calculation reflects relatively low market price volatility that 
has been present in the mortgage-backed securities market since the 
beginning of 2017. As such, FICC states that this current approach 
contains an insufficient amount of look-back data to ensure that the 
backtesting will remain above 99 percent if volatility returns to 
levels seen beyond the one-year look-back period that is currently used 
to calibrate the Margin Proxy for MBS.\102\ Additionally, in order to 
help ensure that it is calculating adequate margin, FICC filed 
Amendment No. 1 to accelerate the implementation of all the proposed 
changes, except for the proposed Blackout Period Exposure Adjustment 
and the removal of the existing Blackout Period Exposure Charge, which 
FICC proposes to implement in phases, through the remainder of 2018, in 
response to commenters. In Amendment No. 1, FICC

[[Page 23027]]

states that it has been discussing the proposed changes with Members 
since August 2017 in order to help Members prepare for and understand 
why FICC proposed the rule changes.\103\ FICC states that it is 
primarily concerned that the look-back period that is currently used in 
calculating the VaR Charge under the Margin Proxy may not calculate 
sufficient margin amounts to cover GSD's exposure to a defaulting 
Member.\104\ Therefore, FICC proposes to accelerate the implementation 
of all the proposed changes, except for the proposed Blackout Period 
Exposure Adjustment and the removal of the existing Blackout Period 
Exposure Charge.\105\
---------------------------------------------------------------------------

    \102\ FICC Letter II at 3.
    \103\ Id.
    \104\ Id.
    \105\ Id.
---------------------------------------------------------------------------

    The Commission believes that these proposed changes are designed to 
help FICC better identify, measure, monitor, and manage its credit 
exposure to its Members by calculating more precisely the risk 
presented by Members, which would enable FICC to assess a more reliable 
VaR Charge. Specifically, FICC's proposed change to (1) switch to a 
sensitivity approach to the VaR Charge calculation, with a 10-year 
look-back period, would help the calculation respond more effectively 
to market volatility by attributing market price moves to various risk 
factors; (2) use the Margin Proxy as a back-up to the proposed 
sensitivity calculation would help ensure that FICC is able to assess a 
VaR Charge, even if its unable to receive sensitivity data from the 
third-party vendor; (3) apply a haircut on securities that are 
ineligible for the sensitivity VaR Charge calculation would enable FICC 
to better account for the risk presented by such securities; (4) 
establish the VaR Floor would enable FICC to better calculate a VaR 
Charge for portfolios where the proposed sensitivity approach would 
yield too low a VaR Charge; (5) establish the Blackout Period Exposure 
Adjustment component would enable FICC to better address risks that 
could result from overstated values of mortgage-backed securities that 
are pledged as collateral for GCF Repo Transactions during a Blackout 
Period; (6) adjust the existing Backtesting Charge component would 
ensure that the charge applied to all Members, as appropriate, and to 
Member's intraday trading activities; and (7) use Net Capital instead 
of Excess Capital when calculating the Excess Capital Premium would 
make the Excess Capital Premium calculation for broker Members, inter-
dealer broker Members, and dealer Members more consistent with the 
equity capital measure that is used for other Members.
    In response to commenters concerns regarding the proposed change to 
the Excess Capital Premium calculation, the Commission notes that this 
proposed change would only modify the denominator used in the 
calculation. Specifically, the denominator would become larger, as the 
proposal to use Net Capital (proposed denominator) is a larger amount 
than the current use of Excess Net Capital (current denominator).\106\ 
The effect, holding all else constant, would be to lower those Members' 
Excess Capital Premium.
---------------------------------------------------------------------------

    \106\ See Form X-17A-5, line 3770, available at https://www.sec.gov/files/formx-17a-5_2.pdf.
---------------------------------------------------------------------------

    Of course, if the numerator in the calculation (i.e., a Member's 
VaR Charge amount) would increase, then the Excess Capital Premium 
could increase. However, FICC does not propose to change the numerator 
used for calculating the Excess Capital Premium. The Commission notes 
that under the Advance Notice the numerator used for calculating the 
Excess Capital Premium would be calculated using the proposed 
sensitivity approach to the VaR Charge calculation. As described 
further below, the proposed sensitivity approach would calculate margin 
commensurate with the risks associated with a Member's portfolio.
    In response to the comments that the proposed sensitivity approach 
to the VaR Charge calculation is not necessary at this time in light of 
the Margin Proxy, the Commission disagrees. In considering these 
comments, the Commission thoroughly reviewed (i) the Advance Notice, 
including the supporting exhibits that provided confidential 
information on the performance of the proposed sensitivity calculation, 
impact analysis, and backtesting results; (ii) the comments received; 
and (iii) the Commission's own understanding of the performance of the 
current VaR Charge calculation, with which the Commission has 
experience from its general supervision of FICC, compared to the 
proposed sensitivity calculation. More specifically, the confidential 
Exhibit 3 submitted by FICC includes (i) 12-month rolling coverage 
backtesting results; (ii) intraday backtesting impact analysis; (iii) a 
breakdown of coverage percentages and dollar amounts, for each Member, 
under the current margin model with and without Margin Proxy and under 
the proposed sensitivity model; and (iv) an impact study of the 
proposed changes detailing the margin amounts required per Member 
during Blackout Periods and non-Blackout Periods.
    On a Member basis, the Commission notes that there is not a 
sizeable change in the amount of margin collected under the current 
margin model, supplemented by the Margin Proxy, compared to the 
proposed sensitivity model. The Commission also notes that the Margin 
Proxy was implemented as a temporary solution to issues identified with 
the current model, as it only has a one year look-back period.\107\ 
Additionally, the Commission believes that the sensitivity approach is 
simpler and more accurate as it uses a broad spectrum of sensitivity 
data that is tailored to the specific risks associated with Members' 
portfolios. Ultimately, the Commission finds that the proposed 
sensitivity approach, and the related implementation schedule proposed 
in Amendment No. 1, would provide FICC with a more robust margin 
calculation in FICC's efforts to meet the applicable regulatory 
requirements for margin coverage.
---------------------------------------------------------------------------

    \107\ See supra note 15.
---------------------------------------------------------------------------

    Therefore, for the reasons discussed above, the Commission believes 
that the changes proposed in the Advance Notice are consistent with 
Rule 17Ad-22(e)(4)(i) under the Exchange Act.\108\
---------------------------------------------------------------------------

    \108\ 17 CFR 240.17Ad-22(e)(4)(i).
---------------------------------------------------------------------------

C. Consistency With Rule 17Ad-22(e)(6)(i) of the Exchange Act

    The Commission believes that the changes proposed in the Advance 
Notice are consistent with Rule 17Ad-22(e)(6)(i) under the Exchange 
Act. Rule 17Ad-22(e)(6)(i) requires each covered clearing agency to 
establish, implement, maintain and enforce written policies and 
procedures reasonably designed to cover its credit exposures to its 
participants by establishing a risk-based margin system that, at a 
minimum considers, and produces margin levels commensurate with, the 
risks and particular attributes of each relevant product, portfolio, 
and market.\109\
---------------------------------------------------------------------------

    \109\ 17 CFR 240.17Ad-22(e)(6)(i).
---------------------------------------------------------------------------

    As described above, FICC proposes a number of changes to how it 
calculates Members' margin charge through a risk-based margin system 
that considers the risks and attributes of securities that GSD clears. 
Specifically, FICC proposes to (1) move to a sensitivity approach to 
the VaR Charge calculation; (2) move from a front-weighted one-year 
look-back period to an evenly-weighted 10-year look-back period with 
the option for an additional stress period; (3) use the existing Margin 
Proxy as a back-up methodology to the proposed sensitivity approach to 
the VaR Charge calculation;

[[Page 23028]]

(4) implement a haircut method for securities with insufficient 
sensitivity data due to inadequate historical pricing; (5) establish 
the VaR Floor; (6) establish the Blackout Period Exposure Adjustment 
component; (7) adjust the existing Backtesting Charge component; and 
(8) eliminate the Blackout Period Exposure Charge, Coverage Charge, and 
augmented volatility adjustment multiplier components.
    Several commenters raised concerns that the proposed changes to the 
margin calculation would not produce a margin charge commensurate with 
the risks and particular attributes of Members' complete portfolios. 
Specifically, Ronin states that the use of the proposed sensitivity 
approach to the VaR Charge calculation only uses a subset of a Member's 
entire portfolio (i.e., it does not incorporate data from other 
clearing agencies) to calculate the Member's risk to FICC.\110\ Ronin 
suggests that the implementation of data sharing and cross margining 
between FICC's Mortgaged-Backed Securities Division (``MBSD''), GSD, 
and the Chicago Mercantile Exchange (``CME'') would provide FICC with a 
more accurate representation of the risk associated with a Member's 
portfolio.\111\ Ronin also states that the existing cross-margin 
agreement between FICC and CME needs an update to provide true cross-
margin relief for all GSD Members.\112\ Similarly, IDTA states that 
FICC cannot accurately identify the risk associated with a Member's 
portfolio due to the lack of incentive to share data with other 
clearing agencies.\113\ IDTA suggests that FICC should develop cross-
margining ability between GSD and MBSD and improve cross-margining with 
CME.\114\ KGS and Amherst make similar arguments. KGS states that in 
order to more effectively analyze and address Members' portfolio risks, 
there should be cross margining for Members that hold offsetting 
positions in GSD and MBSD, stating that not having such an intra-DTCC 
cross-margining process will have a distortive effect on GSD's 
margining system, forcing members to reduce their use of GSD and reduce 
their positions cleared through GSD, in effect reducing market 
liquidity.\115\ Amherst states that not implementing cross-margin 
capabilities will inflate the margin requirements and distort the 
liquidity profile of the Member.\116\
---------------------------------------------------------------------------

    \110\ Ronin Letter I at 1.
    \111\ Id. at 2.
    \112\ Ronin Letter II at 2.
    \113\ IDTA Letter at 11.
    \114\ Id.
    \115\ KGS Letter at 1.
    \116\ Amherst Letter II at 2.
---------------------------------------------------------------------------

    In response, FICC disagrees with Amherst's statement that FICC's 
failure to implement a cross-margining arrangement would be 
inconsistent with the requirements of Rule 17Ad-22(e)(6) under the 
Exchange Act.\117\ FICC notes that it operates under two divisions, GSD 
and MBSD, each of which has its own rules and members.\118\ As a 
registered clearing agency, FICC notes that it is subject to the 
requirements that are contained in the Exchange Act and in the 
Commission's regulations and rules thereunder.\119\
---------------------------------------------------------------------------

    \117\ FICC Letter II at 12.
    \118\ Id.
    \119\ Id.
---------------------------------------------------------------------------

    Nevertheless, FICC states that it agrees with commenters that data 
sharing and cross-margining would be beneficial to its Members and is 
exploring data sharing and cross-margining opportunities outside of the 
Advance Notice.\120\ FICC states it is in the process of completing a 
proposal that would enable a margin reduction for Members with 
mortgaged-backed securities (``MBS'') positions that offset between GSD 
and MBSD.\121\ FICC also states it will continue to develop a framework 
with CME that will enhance FICC's existing cross-margining arrangement 
with the CME.\122\ Finally, FICC notes that the proposed changes to the 
GSD margin methodology are necessary because they provide appropriate 
risk mitigation that must be in place before FICC can fully evaluate 
potential cross-margining opportunities.\123\
---------------------------------------------------------------------------

    \120\ FICC Letter I at 5.
    \121\ FICC Letter II at 12.
    \122\ Id.
    \123\ Id.
---------------------------------------------------------------------------

    Separate from those comments, two commenters also raised concerns 
with the proposed extended look-back period. Ronin states that FICC's 
assumption of adding a continued stress period to the 10-year look-back 
calculation is employing ``statistical bias'' because it treats every 
day as if the market is in ``the midst of a financial crisis'' and 
creates over margining.\124\ Similarly, IDTA states the addition of an 
arbitrary year to the look-back period is statistically biased and 
makes the ``most volatile day'' permanent and therefore, the 
calculations are not addressing the actual risk of a portfolio.\125\ 
IDTA believes that a shorter look-back period of five years without an 
additional stress period would sufficiently margin Members for the risk 
of their portfolios.\126\
---------------------------------------------------------------------------

    \124\ Ronin Letter I at 4 and Ronin Letter 2 at 5.
    \125\ IDTA Letter I at 7.
    \126\ Id.
---------------------------------------------------------------------------

    In response, FICC states that a longer look-back period will 
produce a more stable VaR estimate that adequately reflects extreme 
market moves ensuring the VaR Charge does not decrease as quickly 
during periods of low volatility nor increase as sharply during periods 
of a market crisis.\127\ Additionally, FICC states that an extended 
look-back period including stressed market conditions are necessary to 
calculate margin requirements that achieve a 99 percent confidence 
level.\128\ As part of FICC's model validation report, FICC performed a 
benchmark analysis of its calculation of the VaR Charge. FICC analyzed 
a 10-year look-back period, a five-year look-back period, and a one-
year look-back period using all Netting Member portfolios from January 
1, 2013 through April 28, 2017.\129\ The results of FICC's analysis 
showed that a 10-year look-back period, which included a stress period, 
provides backtesting coverage above 99 percent while a five-year look-
back period and a one-year look-back period did not.\130\
---------------------------------------------------------------------------

    \127\ FICC Letter I at 4.
    \128\ Id.
    \129\ FICC Letter II at 9.
    \130\ Id.
---------------------------------------------------------------------------

    The Commission believes that these proposed changes are designed to 
help FICC better cover its credit exposures to its Members, as the 
changes would help establish a risk-based margin system that considers 
and produces margin levels commensurate with the risks and particular 
attributes of the products cleared in GSD. Specifically, the proposal 
to (1) move to a sensitivity approach to the VaR Charge calculation 
would enable the VaR calculation to respond more effectively to market 
volatility by allowing FICC to attribute market price moves to various 
risk factors; (2) establish an evenly-weighted 10-year look-back 
period, with the option to add an additional stress period, would help 
FICC to ensure that the proposed sensitivity VaR Charge calculation 
contains a sufficient number of historical market conditions, to 
include stressed market conditions; (3) use the existing Margin Proxy 
as a back-up methodology system would help ensure FICC is able to 
calculate a VaR Charge for Members despite a not being able to receive 
sensitivity date; (4) to implement a haircut method for securities with 
insufficient sensitivity data would help ensure that FICC is able to 
capture the risk profile of the securities; (5) establish the VaR Floor 
would help ensure that FICC assess a VaR Charge where the proposed 
sensitivity calculation has produce too low of a VaR Charge; (6) 
establish the Blackout Period Exposure Adjustment component would 
enable FICC to

[[Page 23029]]

address risks that could result from overstated values of mortgage-
backed securities that are pledged as collateral for GCF Repo 
Transactions during a Blackout Period; (7) adjust the existing 
Backtesting Charge component would enable FICC to ensure that the 
charge applies to all Members, as appropriate, and to Members intraday 
trading activities that could pose a risk to FICC in the event that 
such Members default during the trading day; and (8) eliminate the 
Blackout Period Exposure Charge, Coverage Charge, and augmented 
volatility adjustment multiplier components would ensure that FICC did 
not maintain elements of the prior margin calculation that would 
unnecessarily increase Members' margin under the proposed margin 
calculation.
    In responses to comments regarding cross-margining and its 
potential impact upon membership levels and market liquidity, the 
Commission notes that the Advance Notice does not propose to establish 
or change any cross-margining agreements, whether between GSD and MBSD 
or between GSD, MBSD, and another clearing agency. As such, cross-
margining is not one of the proposed changes under the Commission's 
review. The Commission further notes that GSD and MBSD have different 
members (although a member of one could, and some have, apply and 
become a member of the other), offer different services, and clear 
different products. To the extent there is consistency in products, the 
products are still cleared by different services. Accordingly, FICC 
maintains not only separate rulebooks for each division but also 
separate liquidity resources.
    Therefore, the Commission believes that the absence of a proposed 
change in the Advance Notice to establish cross-margining between GSD 
and MBSD, or to expanding cross-margining between GSD and another 
clearing agency, does not render the specific changes proposed in the 
Advance Notice for GSD inconsistent with the Clearing Supervision Act 
or the applicable rules discussed herein. Rather, the Commission 
believes that the proposed changes to GSD's margin calculation are 
designed to be tailored to the specific risks associated with the 
products and services offered by GSD and that the proposed GSD margin 
calculation is commensurate with the risks associated with portfolios 
held by Members in GSD.
    In response to comments about the proposed look-back period, the 
Commission believes that an evenly-weighted 10-year look-back period, 
plus an additional stress period, as needed, is an appropriate approach 
to help ensure that the proposed sensitivity VaR Charge calculation 
accounts for historical market observations of the securities cleared 
by GSD, so that FICC is in a better position to maintain backtesting 
coverage above 99 percent for GSD.
    Therefore, for the above discussed reasons, the Commission believes 
that the changes proposed in the Advance Notice are consistent with 
Rule 17Ad-22(e)(6)(i) under the Exchange Act.\131\
---------------------------------------------------------------------------

    \131\ 17 CFR 240.17Ad-22(e)(6)(i).
---------------------------------------------------------------------------

D. Consistency With Rule 17Ad-22(e)(6)(ii) of the Exchange Act

    The Commission believes that the changes proposed in the Advance 
Notice are consistent with Rule 17Ad-22(e)(6)(ii) under the Exchange 
Act. Rule 17Ad-22(e)(6)(ii) requires each covered clearing agency to 
establish, implement, maintain and enforce written policies and 
procedures reasonably designed to cover its credit exposures to its 
participants by establishing a risk-based margin system that, at a 
minimum, marks participant positions to market and collects margin, 
including variation margin or equivalent charges if relevant, at least 
daily and includes the authority and operational capacity to make 
intraday margin calls in defined circumstances.\132\
---------------------------------------------------------------------------

    \132\ 17 CFR 240.17Ad-22(e)(6)(ii).
---------------------------------------------------------------------------

    As described above, FICC proposes to adjust the existing 
Backtesting Charge component. Specifically, FICC proposes to collect 
the charge from all Members on a daily basis, as applicable, as well as 
from Members that have backtesting deficiencies during the trading day 
due to large fluctuations of intraday trading activity that could pose 
risk to FICC in the event that such Members defaults during the trading 
day.
    The change is designed to help improve FICC's risk-based margin 
system by authorizing FICC to assess this specific margin charge on all 
Members at least daily, as needed, and on an intra-day basis, as 
needed. Therefore, the Commission believes that the changes proposed in 
the Advance Notice are consistent with Rule 17Ad-22(e)(6)(ii) under the 
Exchange Act.\133\
---------------------------------------------------------------------------

    \133\ Id.
---------------------------------------------------------------------------

E. Consistency With Rule 17Ad-22(e)(6)(iv) of the Exchange Act

    The Commission believes that the changes proposed in the Advance 
Notice are consistent with Rule 17Ad-22(e)(6)(iv) under the Exchange 
Act. Rule 17Ad-22(e)(6)(iv) requires each covered clearing agency to 
establish, implement, maintain and enforce written policies and 
procedures reasonably designed to cover its credit exposures to its 
participants by establishing a risk-based margin system that, at a 
minimum, uses reliable sources of timely price data and procedures and 
sound valuation models for addressing circumstances in which pricing 
data are not readily available or reliable.\134\
---------------------------------------------------------------------------

    \134\ 17 CFR 240.17Ad-22(e)(6)(iv).
---------------------------------------------------------------------------

    As described above, FICC proposes a number of changes to its margin 
calculation that are designed to use reliable price data and address 
circumstances in which pricing data may not be available or reliable. 
Specifically, FICC proposes to (1) replace its existing full 
revaluation VaR Charge calculation with the proposed sensitivity 
approach that relies upon the expertise of a third-party vendor to 
produce the needed sensitivity data; (2) utilize the existing Margin 
Proxy as a back-up to the proposed sensitivity VaR Charge calculation 
in the event that FICC experiences a data disruption with the third-
party vendor; (3) implement a haircut method for securities that are 
ineligible for the proposed sensitivity approach to the VaR Charge 
calculation due to inadequate historical pricing data; and (4) 
establish the VaR Floor.
    The Commission believes that these proposed changes are designed to 
help FICC better cover its credit exposures to its Members, as the 
changes would help establish a risk-based margin system that considers 
and produces margin levels commensurate with the risks and particular 
attributes of the products cleared in GSD. Specifically, the proposal 
to (1) move to a sensitivity approach to the VaR Charge calculation 
would not only enable the VaR calculation to respond more effectively 
to market volatility by allowing FICC to attribute market price moves 
to various risk factors but also would enable FICC to employ the 
expertise of a third-party vendor to supply applicable sensitivity 
data; (2) use the existing Margin Proxy as a back-up methodology system 
would help ensure FICC is able to calculate a VaR Charge for Members 
despite any difficulty in receiving sensitivity data from the third-
party vendor; (3) implement a haircut method for securities with 
insufficient sensitivity data would help ensure that FICC is able to 
capture the risk profile of the securities; and (4) establish the VaR 
Floor would help ensure that FICC assess a VaR Charge where the 
proposed sensitivity VaR Charge calculation produces too low of a VaR 
Charge.
    Therefore, for these reasons, the Commission believes that the 
changes proposed in the Advance Notice are

[[Page 23030]]

consistent with Rule 17Ad-22(e)(6)(iv) under the Exchange Act.\135\
---------------------------------------------------------------------------

    \135\ Id.
---------------------------------------------------------------------------

F. Consistency With Rule 17Ad-22(e)(6)(v) of the Exchange Act

    The Commission believes that the changes proposed in the Advance 
Notice are consistent with Rule 17Ad-22(e)(6)(v) under the Exchange 
Act. Rule 17Ad-22(e)(6)(v) requires each covered clearing agency to 
establish, implement, maintain and enforce written policies and 
procedures reasonably designed to use an appropriate method for 
measuring credit exposure that accounts for relevant product risk 
factors and portfolio effects across products.\136\
---------------------------------------------------------------------------

    \136\ 17 CFR 240.17Ad-22(e)(6)(v).
---------------------------------------------------------------------------

    As described above, FICC proposes a number of changes to its margin 
calculation that are designed to help ensure that FICC accounts for the 
relevant product risk factors and portfolio effects across GSD's 
products when measuring its credit exposure to Members. Specifically, 
FICC proposes to (1) replace its existing full revaluation VaR Charge 
calculation with the proposed sensitivity approach to the VaR Charge 
calculation; (2) implement a haircut method for securities that are 
ineligible for the proposed sensitivity approach due to inadequate 
historical pricing data; and (3) establish the Blackout Period Exposure 
Adjustment component.
    Two commenters raised concerns regarding the Blackout Period 
Exposure Adjustment.\137\ Specifically, IDTA states that that the 
Blackout Period Exposure Adjustment results in an inaccurate 
measurement of risk and excessive margin charges.\138\ First, IDTA 
states that the Blackout Period should run from the first business day 
of the current month to the morning of the fifth business day to more 
accurately capture FICC's exposure.\139\ Second, IDTA states that the 
Blackout Period Exposure Adjustment should be calculated using 
historical pay-down rates for the MBS pools held in each Members' 
portfolio, rather than historical pay-down rates for all active MBS 
pools. Finally, IDTA states that FICC should apply a credit-risk 
weighting to the Blackout Period Exposure Adjustment instead of 
assuming a 100 percent probability of GCF counterparty default across 
all Members.\140\
---------------------------------------------------------------------------

    \137\ IDTA Letter and Amherst Letter II.
    \138\ IDTA Letter at 12.
    \139\ Id.
    \140\ Id.
---------------------------------------------------------------------------

    Amherst similarly states that using historical pay-down rates for 
all active MBS pools, rather than using historical pay-down rates for 
the MBS pools held in each Members' portfolio, in calculating the 
Blackout Period Exposure Adjustment would eliminate ``prudent risk and 
position management'' that Members can undertake to reduce FICC's 
exposure.\141\ Amherst states that FICC should retain its current 
approach that provides incentives for Members to ``manage the prepay 
characteristics of the mortgaged-backed securities held within FICC.'' 
\142\
---------------------------------------------------------------------------

    \141\ Amherst Letter II at 5.
    \142\ Id.
---------------------------------------------------------------------------

    In response, FICC states that Blackout Period Exposure Adjustment 
collections that occur after the MBS collateral pledge would not 
mitigate the risk that a Member defaults after the collateral is 
pledged but before such Member satisfies the next day's margin.\143\ 
Therefore, FICC states that IDTA's proposed change to the timing of the 
Blackout Period Exposure Adjustment would be inconsistent with FICC's 
requirements under the Exchange Act.\144\ Additionally, FICC states it 
considered different approaches for determining the calculation of the 
Blackout Period Exposure Adjustment that would ensure FICC has 
sufficient backtesting coverage, and give Members transparency and the 
ability to plan for the Blackout Period Exposure Adjustment 
requirements.\145\ FICC notes that MBS pay-down rates are influenced by 
several factors that can be projected at the loan level, however, such 
projections would be dependent on several assumptions that may not be 
predictable and transparent to Members.\146\ Thus, FICC states that the 
proposed Blackout Period Exposure Adjustment applies weighted averages 
of pay-down rates for all active mortgage pools of the related program 
during the three most recent preceding months, and FICC believes that 
this approach would allow Members to effectively plan for the Blackout 
Period Exposure Adjustment.\147\ Finally, FICC disagrees with IDTA's 
suggestion that a probability of default approach would be more 
appropriate because a probability of default approach would provide 
lower margin coverage than the current approach.\148\ FICC notes this 
lower margin would not be sufficient to maintain the margin coverage at 
a 99 percent confidence level.\149\
---------------------------------------------------------------------------

    \143\ FICC Letter II at 13.
    \144\ Id.
    \145\ Id.
    \146\ Id.
    \147\ Id.
    \148\ Id.
    \149\ Id.
---------------------------------------------------------------------------

    The Commission believes that these proposed changes are designed to 
help FICC use an appropriate method for measuring credit exposure that 
accounts for relevant product risk factors and portfolio effects across 
products cleared by GSD. Specifically, the proposal to (1) move to a 
sensitivity approach to the VaR Charge calculation would enable the VaR 
calculation to respond more effectively to market volatility by 
allowing FICC to attribute market price moves to various risk factors; 
(2) to implement a haircut method for securities with insufficient 
sensitivity data would help ensure that FICC is able to capture the 
risk profile of the securities; and (3) establish the Blackout Period 
Exposure Adjustment component would enable FICC to address risks that 
could result from overstated values of mortgage-backed securities that 
are pledged as collateral for GCF Repo Transactions during a Blackout 
Period.
    In response to commenters' concerns regarding the Blackout Period 
Exposure Adjustment collection cycle, the Commission notes the proposed 
cycle follows the same cycle currently used for the Blackout Period 
Exposure Charge, which FICC proposes to eliminate on account of the 
proposed Blackout Period Exposure Adjustment. For both the current and 
proposed cycle, the Commission understands, based on its experience and 
expertise, that FICC's application of the charge on the last business 
day of the month, as opposed to the first business day of the following 
month, is an appropriate way to ensure that FICC collects the funds 
before realizing the risk that the charge is intended to mitigate 
(i.e., a Member defaults during the Blackout Period). Similarly, FICC's 
extension of the charge through the end of the day on the Factor Date, 
as opposed to releasing the charge during FICC's standard intraday 
margin calculation on the Factor Date, also is an appropriate way to 
mitigate the risk exposure to FICC because, operationally, the MBS are 
not released and revalued with the update factors by the applicable 
clearing bank until after FICC has already completed the intraday 
margin calculation. In response to commenters' concerns regarding the 
calculation of the Blackout Period Exposure Adjustment, the Commission 
agrees with FICC. Specifically, the Commission agrees that (i) given 
the number assumptions that one would need to make with respect to the 
various factors that influence MBS pay-down rates, the weighted-average 
approach would provide Members more transparency and certainty around 
the charge, and (ii) a credit-risk weighting would not likely produce a 
sufficient charge amount in the event of an actual

[[Page 23031]]

Member default, as the approach would assume something less than a 100 
percent probability of default in calculating the charge.
    Therefore, for these reasons, the Commission believes that the 
changes proposed in the Advance Notice are consistent with Rule 17Ad-
22(e)(6)(v) under the Exchange Act.\150\
---------------------------------------------------------------------------

    \150\ 17 CFR 240.17Ad-22(e)(6)(v).
---------------------------------------------------------------------------

G. Consistency With Rule 17Ad-22(e)(6)(vi)(B) of the Exchange Act

    Rule 17Ad-22(e)(6)(vi)(B) under the Exchange Act requires each 
covered clearing agency to establish, implement, maintain and enforce 
written policies and procedures reasonably designed to cover its credit 
exposures to its participants by establishing a risk-based margin 
system that, at a minimum, is monitored by management on an ongoing 
basis and is regularly reviewed, tested, and verified by conducting a 
sensitivity analysis \151\ of its margin model and a review of its 
parameters and assumptions for backtesting on at least a monthly basis, 
and considering modifications to ensure the backtesting practices are 
appropriate for determining the adequacy of the covered clearing 
agency's margin resources.\152\
---------------------------------------------------------------------------

    \151\ Rule 17Ad-22(a)(16)(i) under the Exchange Act defines 
sensitivity analysis to include an analysis that involves analyzing 
the sensitivity model to its assumptions, parameters, and inputs 
that consider the impact on the model of both moderate and extreme 
changes in a wide range of inputs, parameters, and assumptions, 
including correlations of price movements or returns if relevant, 
which reflect a variety of historical and hypothetical market 
conditions. 17 CFR 240.17Ad-22(a)(16)(i). Sensitivity analysis must 
use actual portfolios and, where applicable, hypothetical portfolios 
that reflect the characteristics of proprietary positions and 
customer positions. Id.
    \152\ 17 CFR 240.17Ad-22(e)(6)(vi)(B).
---------------------------------------------------------------------------

    Some of the commenters raise concerns that two of the presumptions 
assumed by FICC for backtesting, in order to determine the adequacy of 
the FICC's margin resources, are inaccurate.\153\ First, Ronin and IDTA 
claim that FICC incorrectly assumes that it would take three days to 
liquidate or hedge the portfolio of a defaulting Member in normal 
market conditions. Specifically, Ronin states that FICC's assumption 
that it would take three days to liquidate or hedge the portfolio of a 
defaulted Member is incorrect because FICC incorrectly assumes that 
liquidity needs following a default will be identical for all 
Members.\154\ Ronin states that the three-day liquidation period 
creates an ``arbitrary and extremely high hurdle'' for historical 
backtesting by overestimating the closeout-period risk posed to FICC by 
many of its Members by ``triple-counting'' a single event.\155\ 
Similarly, IDTA notes that it is arbitrary to apply the same 
liquidation period across all Members because smaller Member portfolios 
can be more easily liquidated or hedged in a short period of time.\156\ 
IDTA believes FICC should link the liquidation period to the portfolio 
size of the Member.\157\
---------------------------------------------------------------------------

    \153\ Ronin Letter I at 2-4 and IDTA Letter at 6, 7.
    \154\ Ronin Letter I at 2-3 and Ronin Letter II at 1.
    \155\ Ronin Letter I at 3.
    \156\ IDTA Letter at 6 and Ronin Letter II at 2.
    \157\ Id.
---------------------------------------------------------------------------

    In its response, FICC states that the three-day liquidation period 
is an accurate assumption of the length of time it would take to 
liquidate a portfolio given the volume and types of securities that can 
be found in a Member's portfolio at any given time.\158\ Further, FICC 
notes that it validates the three-day liquidation period, at least 
annually, through FICC's simulated close-out, which is augmented with 
statistical and economic analysis to reflect potential liquidation 
costs of sample portfolios of various sizes.\159\ FICC also notes that 
idiosyncratic exposures cannot be mitigated quickly and that the risk 
associated with idiosyncratic exposures is present in large and small 
portfolios.\160\ Finally, FICC states that although a single market 
price shock will influence a three-day portfolio price return, the 
mark-to-market calculation will vary daily based on the day's positions 
and margin collection for each Member.\161\
---------------------------------------------------------------------------

    \158\ FICC Letter I at 3.
    \159\ Id. at 3-4.
    \160\ Id. at 4.
    \161\ Id.
---------------------------------------------------------------------------

    The Commission believes that FICC's assumption that it could take 
three days to liquidate the portfolio of a defaulted Member, regardless 
of the size of the portfolio or the type of Member, is appropriate. To 
the extent there is a difference in the time required for FICC to 
liquidate various GSD products over a three-day period, the Commission 
believes that such time is appropriate in order for FICC to focus on 
the overall risk management of the defaulted Member without creating a 
liquidation methodology that is overly complex and susceptible to 
flaws.
    Therefore, the Commission believes that the Advance Notice is 
consistent with Rule 17Ad-22(e)(6)(vi)(B) under the Exchange Act.\162\
---------------------------------------------------------------------------

    \162\ 17 CFR 240.17Ad-22(e)(6)(vi)(B).
---------------------------------------------------------------------------

H. Consistency With Rule 17Ad-22(e)(23)(ii) of the Exchange Act

    Rule 17Ad-22(e)(23)(ii) under the Exchange Act requires each 
covered clearing agency to establish, implement, maintain and enforce 
written policies and procedures reasonably designed to provide 
sufficient information to enable participants to identify and evaluate 
the risks, fees, and other material costs they incur by participating 
in the covered clearing agency.\163\
---------------------------------------------------------------------------

    \163\ 17 CFR 240.17Ad-22(e)(23)(ii).
---------------------------------------------------------------------------

    Three commenters expressed concerns regarding the limited time in 
which Members have had to evaluate the data provided by FICC and the 
effects of the proposed changes.\164\ IDTA states that the proposed 
changes are complex and warrant adequate testing and transparency 
between FICC and its Members.\165\ IDTA states that FICC has not 
provided Members with adequate time to review and evaluate the 
potential impacts of the proposed changes on a Member's portfolio.\166\ 
IDTA suggests that FICC (i) provide more time for Members to adapt to 
the change, (ii) launch a calculator that enables Members to input 
sample portfolios to determine the margin required, and (iii) provide 
full disclosure of the methodology used.\167\
---------------------------------------------------------------------------

    \164\ See Amherst Letter II, IDTA Letter, and Ronin II Letter.
    \165\ IDTA Letter at 5.
    \166\ Id.
    \167\ Id.
---------------------------------------------------------------------------

    Similarly, Amherst states that the proposed changes should not be 
implemented until Members have had the appropriate time and sufficient 
information to complete a comparison between the current margin 
methodology and the proposed changes.\168\ Amherst requests that FICC 
provide the appropriate tools and information to replicate the new 
sensitivity model in order to manage the risks to Members that may be 
introduced as a result of the proposed changes.\169\ Amherst also 
requests that FICC provide transparency surrounding the effects of the 
Blackout Period Exposure Adjustment and the Excess Capital Premium 
calculations in order to assess the impacts of the proposed 
changes.\170\
---------------------------------------------------------------------------

    \168\ Amherst Letter II at 2.
    \169\ Id.
    \170\ Id, at 5, 6.
---------------------------------------------------------------------------

    Similarly, Ronin states that FICC has heavily relied on parallel 
and historical studies when providing its Members with data, but 
Members lack the necessary tools to conduct their own scenario 
analysis.\171\ Ronin notes that when trading activity or market 
conditions deviate from assumptions made under the various studies 
conducted by the FICC, Members are forced to react rather than 
proactively

[[Page 23032]]

manage capital needs.\172\ Ronin, therefore, states it is significantly 
more difficult to manage the capital needs of a business when a 
clearing agency does not provide appropriate tools for calculating 
projected margin requirements in advance.\173\
---------------------------------------------------------------------------

    \171\ Ronin Letter II at 3.
    \172\ Id.
    \173\ Id.
---------------------------------------------------------------------------

    In response, FICC states that its Members have been provided with 
sufficient time and information to assess the impact of the proposed 
changes.\174\ FICC states that it has provided Members with numerous 
opportunities to gather information including (i) holding customer 
forums in August 2017, (ii) making individual impact studies available 
in September 2017 and December 2017, (iii) providing parallel reporting 
on a daily basis since December 18, 2017, and (iv) meeting and speaking 
with Members on an individual basis and responding to request for 
additional information since August 2017.\175\ Separately, FICC agrees 
with commenters that launching a calculator that enables Members to 
input sample portfolios to determine the margin required would be 
beneficial to its Members and is exploring creating such a calculator 
outside of the changes proposed in the Advance Notice.\176\ 
Additionally, in order to provide Members with more time, FICC filed 
Amendment No. 1 to delay implementation of the Blackout Period Exposure 
Adjustment and the removal of the Blackout Period Exposure Charge.\177\ 
Such changes now would be implemented in phases throughout the 
remainder of 2018.\178\
---------------------------------------------------------------------------

    \174\ FICC Letter I at 5; FICC Letter II at 8-9.
    \175\ FICC Letter I at 5; FICC Letter II at 8-9.
    \176\ FICC Letter I at 5.
    \177\ Amendment No. 1, supra note 6.
    \178\ Id.
---------------------------------------------------------------------------

    In response to commenters, the Commission notes that the disclosure 
requirements of Rule 17Ad-22(e)(23)(ii) under the Exchange Act \179\ 
should not be conflated with the filing requirements for advance 
notices under Section 806(e)(1) of the Clearing Supervision Act \180\ 
and Rule 19b-4(n) under the Exchange Act.\181\ Section 806(e)(1)(A) of 
the Clearing Supervision Act requires a designated clearing agency to 
provide its Supervisory Agency (here, the Commission) 60 days advance 
notice of any proposed change to its rules, procedures, or operations 
that could material affect the nature or level of risks presented by 
the clearing agency,\182\ which FICC did in this case.\183\ Meanwhile, 
Rule 19b-4(n) under the Exchange Act not only states how a designated 
clearing agency should make an advance notice filing with the 
Commission,\184\ but it also requires the Commission to publish notice 
of the advance notice,\185\ which the Commission did,\186\ and requires 
the designated clearing agency to post the advance notice, and any 
amendments thereto, on its website within two business days after 
filing with the Commission,\187\ which FICC did in this case.\188\
---------------------------------------------------------------------------

    \179\ 17 CFR 240.17Ad-22(e)(23)(ii).
    \180\ 12 U.S.C. 5465(e)(1).
    \181\ 17 CFR 240.19b-4(n).
    \182\ 12 U.S.C. 5465(e)(1)(A).
    \183\ See Notice, supra note 3.
    \184\ See 17 CFR 240.19b-4(n)(1)(i).
    \185\ See id.
    \186\ See Notice, supra note 3.
    \187\ See 17 CFR 240.19b-4(n)(3).
    \188\ Available at http://www.dtcc.com/legal/sec-rule-filings.
---------------------------------------------------------------------------

    Until the Commission has not objected to the changes proposed in an 
advance notice, either through written notice before the end of the 
review period \189\ or through the expiration of the review 
period,\190\ disclosure of the proposed changes under Rule 17Ad-
22(e)(23)(ii) is not yet applicable, as there would not yet be (and 
there may not be if the Commission objects to the proposed changes) any 
risks, fees, or other material costs incurred with respect to the 
proposed changes. Nevertheless, the Commission notes that FICC has 
conducted outreach to Members, as described above, and has proposed a 
staggered implementation of the proposed Blackout Period Exposure 
Adjustment and removal of the Blackout Period Exposure Charge in 
response to commenters. The Commission believes that the absence of a 
longer period of time to review the Advance Notice does not render the 
proposed changes inconsistent with the Clearing Supervision Act or the 
applicable rules discussed herein.
---------------------------------------------------------------------------

    \189\ 12 U.S.C. 5465(e)(1)(I).
    \190\ 12 U.S.C. 5465(e)(1)(G).
---------------------------------------------------------------------------

    Therefore, the Commission believes that the changes proposed in the 
Advance Notice are consistent with Rule 17Ad-22(e)(23)(ii) under the 
Exchange Act.\191\
---------------------------------------------------------------------------

    \191\ 17 CFR 240.17Ad-22(e)(23)(ii).
---------------------------------------------------------------------------

IV. Conclusion

    It is therefore noticed, pursuant to Section 806(e)(1)(I) of the 
Clearing Supervision Act,\192\ that the Commission does not object to 
advance notice SR-FICC-2018-801, as modified by Amendment No. 1, and 
that FICC is authorized to implement the proposed change as of the date 
of this notice or the date of an order by the Commission approving 
proposed rule change SR-FICC-2018-001, as modified by Amendment No. 1, 
that reflects rule changes that are consistent with this Advance 
Notice, as modified by Amendment No. 1, whichever is later.
---------------------------------------------------------------------------

    \192\ 12 U.S.C. 5465(e)(1)(I).

    By the Commission.
Brent J. Fields,
Secretary.
[FR Doc. 2018-10513 Filed 5-16-18; 8:45 am]
BILLING CODE 8011-01-P