
[Federal Register: April 17, 2008 (Volume 73, Number 75)]
[Notices]               
[Page 20999-21001]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr17ap08-108]                         

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SECURITIES AND EXCHANGE COMMISSION

Release No. 34-57652; File No. SR-FICC-2007-08]

 
Self-Regulatory Organizations; The Fixed Income Clearing 
Corporation; Order Approving Proposed Rule Change as Amended To Resume 
Interbank Clearing for the GCF Repo Service

April 11, 2008.

I. Introduction

    On July 11, 2007, the Fixed Income Clearing Corporation (``FICC'') 
filed with the Securities and Exchange Commission (``Commission'') 
proposed rule change SR-FICC-2007-08 pursuant to Section 19(b)(1) of 
the Securities Exchange Act of 1934 (``Act'').\1\ On August 28, 2007, 
the Commission published notice of the proposed rule change to solicit 
comments from interested parties.\2\ On January 22, 2008, FICC amended 
the proposed rule change. On February 12, 2008, the Commission 
published notice of the amended proposed rule change to solicit 
comments from interested parties.\3\ The Commission received no comment 
letters in response to the proposed rule change as originally filed or 
as amended. 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\ Securities Exchange Act Release No. 56303 (August 22, 2007), 
72 FR 49339.
    \3\ Securities Exchange Act Release No. 57281 (February 6, 
2008), 73 FR 8081.
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II. Description

1. Background

    The GCF Repo service allows FICC Government Securities Division 
(``GSD'') dealer members to trade GCF Repos throughout the day with 
inter-dealer broker netting members (``brokers'') on a blind basis 
without requiring intraday, trade-for-trade settlement on a delivery-
versus-payment (``DVP'') basis. Standardized, generic CUSIP numbers 
have been established exclusively for GCF Repo processing and are used 
to specify the acceptable type of underlying Fedwire book-entry 
eligible collateral, which includes Treasuries, Agencies, and certain 
mortgage-backed securities.
    The GCF Repo service was developed as part of a collaborative 
effort among FICC's predecessor, the Government Securities Clearing 
Corporation (``GSCC''), its two clearing banks, The Bank of New York 
(``BNY'') and The Chase Manhattan Bank, now JP Morgan Chase Bank, 
National Association (``Chase''), and industry representatives.\4\ GSCC 
introduced the GCF Repo service on an intraclearing bank basis in 
1998.\5\ Under the intrabank service, dealer members could only engage 
in GCF Repo transactions with other dealers that cleared at the same 
clearing bank.
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    \4\ BNY and Chase remain the two clearing banks approved by FICC 
to provide GCF Repo settlement services. In the future, other banks 
that FICC in its sole discretion determines meet its requirements 
may be approved to provide GCF Repo settlement services.
    \5\ Securities Exchange Act Release No. 40623 (October 30, 
1998), 63 FR 59831 (November 5, 1998) (SR-GSCC-98-02).
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    In 1999, GSCC expanded the GCF Repo service to permit dealer 
members to engage in GCF Repo trading on an interclearing bank basis, 
which allowed dealers using different clearing banks to enter into GCF 
Repo transactions on a blind brokered basis.\6\ Because dealer members 
that participated in the GCF Repo service did not, and still do not, 
all clear at the same clearing bank, expanding the service to an 
interclearing bank basis necessitated the establishment of a mechanism 
to permit after-hours movements of securities between the two clearing 
banks to address the situation where GSCC had an unbalanced net GCF 
securities positions and unbalanced net cash positions at each clearing 
bank at the end of each day. (In other words, where

[[Page 21000]]

at the end of GCF Repo processing each business day, the dealers at one 
clearing bank would be net funds borrowers while the dealers at the 
other clearing bank would be net funds lenders). To address this issue, 
GSCC and its clearing banks established a legal mechanism by which 
securities would ``move'' across the clearing banks without the use of 
the securities Fedwire.\7\ At the end of the day after the GCF Repo net 
results were produced, securities were pledged using a tri-party-like 
mechanism, and the interbank cash component was moved through the cash 
Fedwire. In the morning, the pledges were unwound with the funds being 
returned to the net funds lenders and the securities being returned to 
the net funds borrowers.
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    \6\ Securities Exchange Act Release No. 41303 (April 16, 1999), 
64 FR 20346 (April 26, 1999) (SR-GSCC-99-01).
    \7\ Movements of cash did not present the same need because the 
cash Fedwire is open later than the securities Fedwire.
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    However, as use of the service increased, certain payment systems 
risk issues arose in connection to the interbank funds settlements. In 
2003, FICC shifted the service back to an intrabank status to enable it 
to study the risk issues presented and to devise a satisfactory 
solution to those issues in order that it could bring the service back 
to interbank status.\8\
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    \8\ Securities Exchange Act Release No. 48006 (June 10, 2003), 
68 FR 35745 (June 16, 2003) (SR-FICC-2003-04).
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2. Proposal

    FICC is now seeking to return the GCF Repo service to an interbank 
status. FICC will address the risk issues raised by the interbank funds 
movement by placing a security interest on a dealer's ``net free 
equity'' (``NFE'') at its clearing bank to collateralize its GCF Repo 
cash obligation to FICC on an intraday basis and by making changes with 
respect to the morning ``unwind'' period.\9\ No changes are being made 
with respect to the procedures used for after-hours movement of 
securities, which procedures were used when the interbank service was 
first introduced.
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    \9\ NFE is a methodology that clearing banks use to determine 
whether an account holder, such as a dealer, has sufficient 
collateral to enter a specific transaction. NFE allows the clearing 
bank to place a limit on its customer's activity by calculating the 
value of the account holder's balances at the bank. Account holders 
have the ability to monitor their NFE balance throughout the day.
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    Specifically, the interbank funds payment will not move during the 
GCF Repo morning unwind process. In lieu of making funds payments, each 
interbank dealer (``Interbank Pledging Member'') at the GCF net funds 
borrower bank will grant to FICC a security interest in its NFE-Related 
Collateral in an amount equal to its pro rata share of the total 
interbank funds debit (``Prorated Interbank Cash Amount'').\10\ FICC's 
lien on this collateral will be pari passu to any lien created by the 
dealer in favor of the relevant GCF clearing bank.
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    \10\ ``NFE-Related Collateral'' is the total amount of 
collateral that a dealer has at its clearing bank.
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    FICC will in turn grant to the GCF net funds lender bank, which was 
due to receive funds, a security interest in the NFE-Related Collateral 
to support the debit in FICC's account at the net funds lender bank. 
The debit in FICC's account (``Interbank Cash Amount Debit'') is the 
amount of the funds the lending dealers are due to receive in the 
morning as a prerequisite to their release of GCF collateral. The 
clearing banks will agree to manage the collateral value of the NFE-
Related Collateral as they do today.
    The debit in the FICC account at the GCF net funds lender bank will 
be satisfied during the end of day GCF settlement process. 
Specifically, that day's new activity will yield a new interbank funds 
amount to move at end of day; however, this new interbank funds amount 
will be netted with the amount that was due in the morning to reduce 
the interbank funds movement. The NFE security interest will be 
released when the interbank funds movement is made at end of day.
    As described above, FICC will have a security interest in the 
dealers' NFE-Related Collateral on an intraday basis. In the unlikely 
event of an intraday GCF Repo participant default, FICC will need to 
have the NFE-Related Collateral liquidated in order to have use of the 
proceeds. FICC will enter into an agreement with each of the clearing 
banks whereby each bank will agree to liquidate the NFE-Related 
Collateral both for itself as well as on behalf of FICC. FICC and each 
bank will agree to share pro rata in the liquidation proceeds.
    Due to the nature of the various assets that may be part of a 
particular dealer's NFE-Related Collateral and market conditions, 
liquidation of the NFE-Related Collateral might take longer than one 
day, which is GSD's typical collateral liquidation time frame, to be 
completed. Therefore, FICC will establish standby liquidity facilities 
or other financing arrangements with each of the clearing banks to be 
invoked as needed in the event of the default of an interbank pledging 
member and the subsequent liquidation of its NFE-Related Collateral.
    FICC will impose a collateral premium (``GCF Premium Charge'') on 
the GCF Repo portion of the Clearing Fund deposits of all GCF Repo 
participants to further protect FICC in the event of an intraday 
default of a GCF Repo participant. FICC will require GCF Repo 
participants to submit a quarterly ``snapshot'' of their holdings by 
asset type to enable FICC Risk Management staff to determine the 
appropriate Clearing Fund premium. Any GCF Repo participant that does 
not submit this required information by the deadlines established by 
FICC will be subject to a fine and an increased GCF Premium Charge.
    Because the NFE-Related Collateral is held at the clearing banks 
and because the clearing banks monitor the activity of their dealer 
customers, FICC will have the right, using its sole discretion, to 
cease to act for a member that is a GCF Repo participant in the event 
that a clearing bank ceases to extend credit to such member.
    The proposal results in the need for the following specific GSD 
rule changes.
    1. The new terms referred to above (GCF Premium Charge, Interbank 
Cash Amount Debit, Interbank Pledging Member, NFE-Related Collateral, 
and Prorated Interbank Cash Amount) will be added to Rule 1 
(Definitions). A new term, ``NFE-Related Account,'' which is referred 
to in the definition of ``NFE-Related Collateral,'' will also be added.
    2. Section 3 (Collateral Allocation) of Rule 20 (Special Provisions 
for GCF Repo Transactions), which governs the GCF Repo collateral 
allocation process, will be amended to reflect the new process that 
will occur on the morning of the unwind (to be referred to as the 
morning of ``Day 2'' in the Rules).
    3. Section 3 of Rule 20 will be further amended to provide for the 
following:
    (a) The granting of the security interest in the NFE-Related 
Collateral to FICC by the dealers;
    (b) The granting of authority for FICC to provide instructions to 
the clearing banks regarding the NFE-Related Collateral of the dealers;
    (c) The granting of the security interest in the NFE-Related 
Collateral to the clearing banks by FICC; and
    (d) FICC's right to enter into agreements with the clearing banks 
regarding the collateral management of the NFE-Related Collateral, the 
liquidation of the NFE-Related Collateral, and the standby liquidity 
facilities or other financing arrangements.
    4. Rule 4 (Clearing Fund, Watch List, and Loss Allocation) will be 
amended to provide for the GCF Premium Charge that will be imposed on 
GCF Repo participants. Rule 3 (Ongoing Membership Requirements) will be 
amended to include the quarterly NFE reporting requirement which, if 
not

[[Page 21001]]

followed timely by the members, will result in fines and GCF Premium 
Charge.
    5. Rules 21 (Restrictions on Access to Services) and 22 (Insolvency 
of a Member) will be amended to provide that FICC may in its sole 
discretion cease to act for a member in the event that the member's 
clearing bank has ceased to extend credit to the member.
    6. The schedule of GCF time frames will be amended to reflect 
technical changes.

III. The Amendment

    The amendment to the proposed rule change addresses the situation 
where FICC becomes concerned about the volume of interbank GCF Repo 
activity. For example, such a concern might arise if market events were 
to cause dealers to turn to the GCF Repo service for funding above 
normal levels. In order to protect itself and its members, FICC 
believes it is important to have the discretion to institute risk 
mitigation and appropriate disincentive measures in order to bring GCF 
Repo levels down to a level which it believes to be prudent from a risk 
management perspective.
    Specifically, the amendment introduces the term ``GCF Repo Event,'' 
which will be declared by FICC if either of the following occurs: (1) 
The GCF interbank funds amount exceeds five times the average interbank 
funds amount over the previous ninety days for three consecutive days 
\11\ or (2) the GCF interbank funds amount exceeds fifty percent of the 
amount of GCF Repo collateral pledged for three consecutive days.\12\ 
FICC will review the Repo Event triggering levels on a semi-annual 
basis to determine whether they remain adequate.\13\ FICC will also 
have the right to declare a GCF Repo Event in any other circumstances 
where in its sole discretion it is concerned about GCF Repo volumes and 
believes it is necessary to declare a Repo Event in order to protect 
itself and its members.\14\
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    \11\ For example, assume that the average interbank funds amount 
over the previous ninety days is $11 billion. FICC would declare a 
GCF Repo Event if the interbank funds amount exceeds $55 billion 
over three consecutive days.
    \12\ For example, assume that on Monday the total amount of GCF 
Repo collateral pledged was $86.8 billion and that the interbank 
funds amount was $11 billion. The interbank funds amount is 12.7 
percent of the daily pledged amount. FICC would declare a GCF Repo 
Event if the overall pledged amount stayed at $86.6 billion and if 
the interbank amount exceeded $43.3 billion for three consecutive 
days.
    \13\ To change the Repo Event triggering levels, FICC is 
required to submit a proposed rule change to the Commission.
    \14\ For example, FICC may determine it is prudent to declare a 
GCF Repo Event if one of the specified events noted above occurs for 
less than three consecutive days.
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    The declaration of a GCF Repo Event will trigger the imposition of 
risk mitigation and disincentive measures. These measures will be 
imposed each day during the GCF Repo Event, and they will be imposed on 
each day's GCF net funds borrowers whose aggregate GCF net short 
position exceeds a certain threshold.\15\
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    \15\ FICC will inform its members about the declaration of a GCF 
Repo Event by issuing an Important Notice. The Important Notice 
will, among other things, inform members of the implementation date 
of the measures. FICC will also inform the Commission about the 
declaration of the Event. The GCF Repo Event will last until FICC 
notifies its members that the Event has ended.
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    Specifically, FICC will establish a ``GCF Repo Event Parameter,'' 
which will be a certain percentage of each dealer's average GCF Repo 
net short settlement amount during a one-month look-back period. FICC 
is establishing 140 percent as the maximum percentage for the GCF Repo 
Event Parameter, and FICC will have the discretion to reduce this 
percentage during a GCF Repo Event if it believes in its sole 
discretion that the maximum percentage is not adequately addressing the 
particular event. Any GCF Repo net short settlement amount that exceeds 
the GCF Repo Event Parameter will be subject to a ``GCF Repo Event 
Clearing Fund Premium'' and a ``GCF Repo Event Carry Charge.''
    FICC will set 12% as the minimum percentage on which the GCF Repo 
Event Clearing Fund Premium will be based and 50 basis points as the 
minimum on which the GCF Repo Event Carry Charge will be based.\16\ 
FICC will have the discretion to increase these amounts during a GCF 
Repo Event if FICC believes in its sole discretion that the minimums 
are not adequately addressing the particular GCF Repo Event.
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    \16\ For example, assume that FICC has declared a GCF Repo 
Event, and on the day of implementation of the protective measures, 
Dealer A's average net short settlement amount is $1 billion. This 
means that Dealer A's GCF Repo Event Parameter is $1.4 billion. On 
the day of implementation of the protective measures, Dealer A's net 
settlement amount is $1.9 billion, so the measures will be applied 
to $500 million (i.e., $1.9 billion minus $1.4 billion). If the 
percentage for the GCF Repo Event Collateral Premium is 12 percent 
and the GCF Repo Event Carry Charge is 50 basis points, Dealer A 
will pay a GCF Repo Event Clearing Fund Premium of $60 million and a 
GCF Repo Event Carry Charge of $6,944.44 on the day of 
implementation. On each succeeding day that the GCF Repo Event 
remains in effect, FICC will reevaluate Dealer A's net settlement 
position.
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    FICC will retain the right to waive imposition of the GCF Repo 
Event Clearing Fund Premium and the GCF Repo Event Carry Charge if FICC 
determines, in its sole discretion based on monitoring against the GCF 
Repo Event Parameters, that these measures are not necessary to protect 
FICC and its members.

IV. Discussion

    Section 19(b) 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. Section 17A(b)(3)(F) of the Act requires that the rules 
of a clearing agency be designed to promote the prompt and accurate 
clearance and settlement of securities transactions.\17\ The Commission 
believes that FICC's proposed rule change is consistent with this 
Section because it should facilitate the prompt and accurate clearance 
and settlement of securities by allowing GCF Repo participants to 
expand their use of the GCF Repo service to include GCF Repos done with 
dealers that clear at a different clearing bank. The Commission also 
believes that FICC's proposed rule change is consistent with the 
requirements of Section 17A(b)(3)(F) because FICC has designed the 
interclearing bank procedures, including the risk monitoring and risk 
mitigation measures, in such a way that they should help assure the 
safeguarding of securities and funds which are in the custody or 
control of FICC or for which FICC is responsible.
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    \17\ 15 U.S.C. 78q-1(b)(3)(F).
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V. 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 Section 17A of the Act and the rules and regulations 
thereunder. In approving the proposed rule change, the Commission 
considered the proposal's impact on efficiency, competition and capital 
formation.\18\
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    \18\ 15 U.S.C. 78c(f).
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    It is therefore ordered, pursuant to Section 19(b)(2) of the Act, 
that the proposed rule change (File No. SR-FICC-2007-08), as amended, 
be and hereby is approved.

    For the Commission by the Division of Trading and Markets, 
pursuant to delegated authority.\19\
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    \19\ 17 CFR 200.30-3(a)(12).
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Florence E. Harmon,
Deputy Secretary.
[FR Doc. E8-8233 Filed 4-16-08; 8:45 am]

BILLING CODE 8010-01-P
