[Federal Register Volume 84, Number 112 (Tuesday, June 11, 2019)]
[Notices]
[Pages 27167-27169]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-12193]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-86039; File No. SR-ICC-2019-004]


Self-Regulatory Organizations; ICE Clear Credit LLC; Order 
Approving Proposed Rule Change Relating to the ICC Model Validation 
Framework

June 5, 2019.

I. Introduction

    On April 5, 2019, ICE Clear Credit LLC (``ICC'') filed with the 
Securities and Exchange Commission (``Commission''), pursuant to 
Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act''),\1\ 
and Rule 19b-4 thereunder,\2\ a proposed rule change to revise the ICC 
Model Validation Framework. The proposed rule change was published in 
the Federal Register on April 23, 2019.\3\ The Commission has not 
received any comments on the proposed rule change. For the reasons 
discussed below, the Commission is approving the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 34-85673 (April 17, 
2019), 84 FR 16900 (April 23, 2019) (SR-ICC-2019-004) (``Notice'').
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II. Description of the Proposed Rule Change

    The proposed rule change would revise the ICC Model Validation 
Framework (``Framework''), which sets forth ICC's model validation 
procedures.\4\ Through the model validation procedures, ICC determines 
the appropriateness of changes to the risk modeling components (``Model 
Components'') of ICC's risk management system and the appropriateness 
of the configuration and calibration of ICC's risk management system.
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    \4\ Notice, 84 FR at 16900. Capitalized terms used herein but 
not otherwise defined have the meaning set forth in the Framework 
and ICE Clear Credit rulebook, which is available at https://www.theice.com/clear-credit/regulation.
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    The proposed rule change would update the Framework's 
classification of Model Components, categorization of model changes, 
documentation requirements relating to model inventory, the priority 
scale used by independent validators, and the annual validation of 
Model Components and related practices.
    The proposed rule change would revise the `Risk Management System 
Models' section to account for Model Components that are no longer 
utilized.\5\ Currently, the Framework classifies Model Components as 
new Model Components, which consider risk drivers that are not 
currently included in the risk management system, and enhancements to 
Model Components, which improve upon the methodologies used by the risk 
management system to consider a given risk driver or drivers (these 
are, collectively, ``Model Change''). The proposed rule change would 
amend the Framework to add a category for retired Model Components, 
which are Model Components that are no longer utilized in the risk 
management system.
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    \5\ Notice, 84 FR at 16901.
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    In the `Model Change Qualification and Materiality' section, the 
proposed rule change would add a quantitative measure to define certain 
Model Changes.\6\ Currently, the Framework classifies a Model Change as 
either Materiality A or Materiality B, depending on how substantially 
the Model Change affects the risk management system's assessment of 
risk for the related risk driver or drivers. Materiality B model 
changes do not substantially affect the risk management system's 
assessment of risk for the related risk driver or drivers. The proposed 
rule change would characterize any Model Change that leads to a 
decrease/increase of the total pre-funded financial resources over a 
certain percentage as a Materiality A Model Change.
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    \6\ Notice, 84 FR at 16901.
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    The proposed revisions to the `Documentation Requirements' section 
of the Framework would relate to the Model Inventory.\7\ The Model 
Inventory is maintained by the ICC Risk Department and contains key 
information about all Model Components and Model Changes. The Framework 
currently specifies documentation requirements for the information 
maintained in the Model Inventory. The proposed rule change would 
update the documentation requirements to require documentation related 
to retired Model Components and to remove information related to design 
and development resources and the location of filenames of certain 
documents, which ICC no longer

[[Page 27168]]

considers relevant for purposes of the Model Inventory.
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    \7\ Notice, 84 FR at 16901.
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    The proposed updates to the `Independent Initial Validation' 
section would relate to the priority scale used by independent 
validators in completing initial validations.\8\ The Framework 
currently directs independent validators conducting initial validations 
to classify their findings based on a priority scale, consisting of 
high, medium, and low priority ratings, and an observation only rating. 
The Framework currently describes low priority findings as those where 
the likely deficiencies or impact to any process is not material. The 
Framework currently requires that ICC document all low priority items 
and address them within a reasonable timescale. The proposed rule 
change would modify this requirement to provide that ICC, in 
consultation with the Risk Committee, may determine that a low priority 
item does not reflect a potential deficiency and take no action. The 
proposed rule change would make an identical change with respect to low 
priority items found by independent validators conducting periodic 
reviews.
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    \8\ Notice, 84 FR at 16901.
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    The proposed rule change would make clarifying changes to the 
`Independent Periodic Review' section.\9\ Specifically, the proposed 
rule change would add information regarding how ICC tracks the annual 
validation of Model Components and related practices. Currently, the 
Framework only provides that independent validators perform periodic 
reviews of Model Components and related practices once in every 
calendar year. The proposed rule change would further specify that 
independent validators perform periodic reviews of Model Components and 
related practices at least every twelve months and that ICC relies on 
the date of the engagement letter to track this twelve month 
requirement. The proposed rule change would also make a clarifying 
change to the `Independent Periodic Review' section to refer to a 
twelve month cycle of reviews, rather than reviews each year.
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    \9\ Notice, 84 FR at 16901.
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III. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act directs the Commission to approve a 
proposed rule change of a self-regulatory organization if it finds that 
such proposed rule change is consistent with the requirements of the 
Act and the rules and regulations thereunder applicable to such 
organization.\10\ For the reasons given below, the Commission finds 
that the proposed rule change is consistent with Section 17A(b)(3)(F) 
of the Act \11\ and Rules 17Ad-22(b)(2), 17Ad-22(b)(3), and 17Ad-
22(b)(4) thereunder.\12\
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    \10\ 15 U.S.C. 78s(b)(2)(C).
    \11\ 15 U.S.C. 78q-1(b)(3)(F).
    \12\ 17 CFR 240.17Ad-22(b)(2)-(4).
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A. Consistency With Section 17A(b)(3)(F) of the Act

    Section 17A(b)(3)(F) of the Act requires, among other things, that 
the rules of ICC be designed to promote the prompt and accurate 
clearance and settlement of securities transactions and, to the extent 
applicable, derivative agreements, contracts, and transactions, as well 
as to assure the safeguarding of securities and funds which are in the 
custody or control of ICC or for which it is responsible, and, in 
general, to protect investors and the public interest.\13\
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    \13\ 15 U.S.C. 78q-1(b)(3)(F).
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    The Commission believes that the proposed rule change would enhance 
the operation of the Framework. Specifically, the Commission believes 
that in adding a category for retired Model Components the proposed 
rule change would distinguish Model Components that are no longer used, 
avoiding potential confusion regarding which Model Components are 
currently effective.
    The Commission also believes that by adding a quantitative measure 
to define Materiality A Model Changes, the proposed rule change would 
provide greater certainty and objectivity regarding Materiality A Model 
Changes, which is important given that Materiality A Model Changes are 
subject to internal initial validation and an independent initial 
validation.
    The Commission further believes that in adding retired Model 
Components to the Model Inventory the proposed rule change would help 
ensure that ICC has information on retired Model Components in case it 
ever needs to employ those Model Components again or needs to use those 
retired Model Components in developing new Model Components. Moreover, 
the Commission believes that in removing information no longer 
considered relevant to the Model Inventory, the proposed rule change 
would help to ensure that the Model Inventory focuses only on the 
information needed to carry out the purposes of the Framework.
    In specifying that ICC, in consultation with the Risk Committee, 
may determine that a low priority item found by an independent 
validator during an initial validation or periodic review does not 
reflect a potential deficiency and take no action in response to the 
item, the Commission believes that the proposed rule change would allow 
ICC to efficiently close findings by independent validators that may 
have no material impact on ICC's risk management system. Doing so could 
also free up resources within ICC and the Risk Committee to respond to 
other, higher priority findings by independent validators.
    Finally, by specifying that independent validators perform periodic 
reviews of Model Components and related practices at least every twelve 
months and that ICC relies on the date of the engagement letter to 
track this twelve month requirement, the Commission believes that the 
proposed rule change would help to ensure that all Model Components and 
related practices are reviewed annually by providing a uniform and 
objective means of tracking the date of the validation through the date 
of the engagement letter.
    For these reasons, the Commission believes these proposed revisions 
to the Framework would help improve the functioning of the Framework. 
The Commission further believes that because the Framework allows ICC 
to determine the appropriateness of Model Change and Model Components, 
a well-functioning Framework is necessary for an effective risk 
management system. Moreover, the Commission believes that ICC's risk 
mismanagement system enables ICC to manage the risks associated with 
clearing security based swap-related portfolios, and that such risks, 
if not properly managed, could cause ICC to realize losses on such 
portfolios and disrupt ICC's ability to promptly and accurately clear 
security based swap transactions. The Commission therefore believes 
that the proposed rule change, in improving the Framework and thereby 
improving the functioning of ICC's risk management system, would 
promote the prompt and accurate clearance and settlement of securities 
transactions. Similarly, given that mismanagement of the risks 
associated with clearing security based swap-related portfolios could 
cause ICC to realize losses on such portfolios and threaten ICC's 
ability to operate, thereby threatening access to securities and funds 
in ICC's control, the Commission believes that the proposed rule 
change, in improving the Framework, would help assure the safeguarding 
of securities and funds which are in the custody or control of the ICC 
or for which it is responsible. Finally, for both

[[Page 27169]]

of these reasons, the Commission believes the Framework would, in 
general, protect investors and the public interest.
    Therefore, the Commission finds that the proposed rule change would 
promote the prompt and accurate clearance and settlement of securities 
transactions, assure the safeguarding of securities and funds in ICC's 
custody and control, and, in general, protect investors and the public 
interest, consistent with the Section 17A(b)(3)(F) of the Act.\14\
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    \14\ 15 U.S.C. 78q-1(b)(3)(F).
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B. Consistency With Rules 17Ad-22(b)(2) and 17Ad-22(b)(3)

    Rule 17Ad-22(b)(2) requires that ICC establish, implement, maintain 
and enforce written policies and procedures reasonably designed to use 
margin requirements to limit its credit exposures to participants under 
normal market conditions and use risk-based models and parameters to 
set margin requirements and review such margin requirements and the 
related risk-based models and parameters at least monthly.\15\ Rule 
17Ad-22(b)(3) requires that ICC establish, implement, maintain and 
enforce written policies and procedures reasonably designed to maintain 
sufficient financial resources to withstand, at a minimum, a default by 
the two participant families to which it has the largest exposures in 
extreme but plausible market conditions, in its capacity as a central 
counterparty for security-based swaps.\16\
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    \15\ 17 CFR 240.17Ad-22(b)(2).
    \16\ 17 CFR 240.17Ad-22(b)(3).
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    As described above, the proposed rule change would enhance the 
operation of the Framework. In doing so, the Commission believes that 
the proposed rule change would help ensure that ICC's risk management 
system is appropriate and effective for dealing with the risks 
associated with clearing security based swap-related portfolios. The 
Commission further believes that the proposed improvements to the 
Framework would also improve ICC's review and maintenance of the models 
that generate margin requirements. The Commission believes that the 
proposed rule change would therefore improve ICC's use of initial 
margin requirements to limit its credit exposures to participants under 
normal market conditions and ICC's use of risk-based models and 
parameters to set margin requirements. The Commission therefore finds 
that the proposed rule change is consistent with Rule 17Ad-
22(b)(2).\17\
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    \17\ 17 CFR 240.17Ad-22(b)(2).
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    Moreover, the amount a clearing member must contribute to ICC's 
Guaranty Fund is equal to the expected losses to ICC associated with 
the default of that clearing member, calculated using ICC's stress test 
methodology, and taking into account, among other things, the loss 
after application of initial margin.\18\ Thus, ICC's guaranty fund is 
based on the initial margin requirements. The Commission therefore 
believes that, in improving the operation of the Framework, which would 
in turn improve the operation of ICC's margin model and margin 
requirements, the proposed rule change would also help ICC to maintain 
sufficient financial resources to withstand, at a minimum, a default by 
the two participant families to which it has the largest exposures in 
extreme but plausible market conditions. The Commission therefore finds 
that the proposed rule change is consistent with Rule 17Ad-
22(b)(3).\19\
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    \18\ See ICC Rule 801(a).
    \19\ 17 CFR 240.17Ad-22(b)(3).
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    Therefore, for the above reasons the Commission finds that the 
proposed rule change is consistent with Rules 17Ad-22(b)(2) and 17Ad-
22(b)(3).\20\
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    \20\ 17 CFR 240.17Ad-22(b)(2), (b)(3).
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C. Consistency With Rule 17Ad-22(b)(4)

    Rule 17Ad-22(b)(4) requires that ICC establish, implement, maintain 
and enforce written policies and procedures reasonably designed to 
provide for an annual model validation consisting of evaluating the 
performance of its margin models and the related parameters and 
assumptions associated with such models by a qualified person who is 
free from influence from the persons responsible for the development or 
operation of the models being validated.\21\
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    \21\ 17 CFR 240.17Ad-22(b)(4).
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    As discussed above, the proposed rule change would revise the 
Framework to specify that independent validators perform periodic 
reviews of Model Components and related practices at least every twelve 
months and that ICC relies on the date of the engagement letter to 
track this twelve month requirement. The Commission believes that the 
proposed rule change would therefore help to ensure that all Model 
Components and related practices are reviewed annually by providing a 
uniform and objective means of tracking the date of the validation 
through the date of the engagement letter. Therefore, the Commission 
finds that the proposed rule change is consistent with Rule 17Ad-
22(b)(4).\22\
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    \22\ 17 CFR 240.17Ad-22(b)(4).
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IV. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposed rule change is consistent with the requirements of the Act, 
and in particular, with the requirements of Section 17A(b)(3)(F) of the 
Act \23\ and Rules 17Ad-22(b)(2), 17Ad-22(b)(3), and 17Ad-22(b)(4) 
thereunder.\24\
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    \23\ 15 U.S.C. 78q-1(b)(3)(F).
    \24\ 17 CFR 240.17Ad-22(b)(2)-(4).
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    It is therefore ordered pursuant to Section 19(b)(2) of the Act 
\25\ that the proposed rule change (SR-ICC-2019-004) be, and hereby is, 
approved.\26\
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    \25\ 15 U.S.C. 78s(b)(2).
    \26\ In approving the proposed rule change, the Commission 
considered the proposal's impact on efficiency, competition, and 
capital formation. 15 U.S.C. 78c(f).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\27\
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    \27\ 17 CFR 200.30-3(a)(12).
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Eduardo A. Aleman,
 Deputy Secretary.
[FR Doc. 2019-12193 Filed 6-10-19; 8:45 am]
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