
[Federal Register Volume 77, Number 50 (Wednesday, March 14, 2012)]
[Notices]
[Pages 15155-15163]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2012-6187]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-66550; File No. SR-FICC-2008-01]


Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Order Approving Amended Proposed Rule Change to Allow the Mortgage-
Backed Securities Division To Provide Guaranteed Settlement and Central 
Counterparty Services

March 9, 2012.

I. Introduction

    On March 12, 2008, the Fixed Income Clearing Corporation (``FICC'') 
filed with the Securities and Exchange Commission (``Commission'') the 
proposed rule change (SR-FICC-2008-01) pursuant to Section 19(b)(1) of 
the Securities Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 
19b-4 \2\ thereunder. On November 21, 2011, FICC amended the proposed 
rule change. The amended proposed rule change was published for comment 
in the Federal Register on December 12, 2011.\3\ On January 10, 2012, 
the Commission extended the time within which to take action on the 
proposed rule change to March 9, 2012.\4\ The Commission received one 
comment on the proposed rule change.\5\ This order approves the 
proposal.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 65899 (Dec. 6, 2011), 76 
FR 77287 (Dec. 12, 2011). A non-substantive correction to the notice 
of the proposed rule change was published on December 14, 2011. See 
Securities Exchange Act Release No. 65899A (Dec. 12, 2011), 76 FR 
77865 (Dec. 14, 2011).
    \4\ Securities Exchange Act Release No. 66124 (Jan. 10, 2012), 
77 FR 2103 (Jan. 13, 2012).
    \5\ Letter from Christopher Killian, Managing Director, 
Securities Industry and Financial Markets Association (Dec. 19, 
2011).
---------------------------------------------------------------------------

II. Description

    The proposed rule changes consist of modifications to the rules of 
FICC's MBSD to allow MBSD to provide guaranteed settlement and central 
counterparty (``CCP'') services. These modifications necessitated the 
MBSD to draft a new rulebook, which is also part of this rule 
filing.\6\
---------------------------------------------------------------------------

    \6\ Certain provisions in the current MBSD rulebook that reflect 
processes that will continue unchanged after introduction of the CCP 
services are retained in the proposed MBSD rulebook. In order to 
promote uniformity between FICC's two divisions and to increase 
transparency for common members, the new MBSD rulebook follows the 
structure of the Government Securities Division rulebook and, where 
appropriate, the language of equivalent provisions mirror each 
other.
---------------------------------------------------------------------------

A. MBSD Rulebook Changes

    As noted above, the current MBSD rulebook will be replaced in its 
entirety by a new proposed rulebook that incorporates parts of the 
current MBSD rulebook where appropriate. Set forth below is an overview 
of the significant substantive and structural changes to the rules.
1. Definitions
    The MBSD rules will have a revised Rule 1, ``Definitions,'' which 
will include terminology applicable to new MBSD processing and 
procedures. For example, terms relevant to pool netting have been 
included (such as ``pool deliver obligation'' and ``pool receive 
obligation''). Where practical and/or applicable, the MBSD rulebook 
uses terms from the current GSD rules, in order to harmonize language 
between the Divisions.
2. Membership
    Rule 2, ``Members'', Rule 2A, ``Initial Membership Requirements,'' 
Rule 3, ``Ongoing Membership Requirements,'' and Rule 3A, ``Cash 
Settling Bank Members,'' govern membership types, member application 
requirements, and ongoing reporting requirements.
i. Membership Categories
    The new MBSD rules will provide for two membership types (as set 
forth in Rule 2): Clearing Members and Cash Settling Bank Members. 
Those entities qualifying for clearing membership will be guaranteed 
service members of the MBSD--trades submitted by these members will be 
guaranteed at the point of comparison, and eligible, as applicable, for 
pool comparison, netting, and settlement. Clearing membership 
categories include: (i) Registered brokers or dealers; (ii) other 
registered clearing agencies; (iii) registered investment companies; 
(iv) banks \7\; (v) government securities issuers/government sponsored 
enterprises; (vi) insurance companies; \8\ and (vii) unregistered 
investment pools (``UIPs'').\9\ In addition, the MBSD will have the 
discretion to make its services available to other entity types which 
it deems appropriate subject to the approval of the Commission. 
Membership requirements for Cash Settling Bank Members are set forth in 
Rule 3A, ``Cash Settling Bank Members.'' These requirements remain 
unchanged from the current MBSD rulebook and they mirror the 
requirements of the GSD-equivalent members.
---------------------------------------------------------------------------

    \7\ The term ``Banks'' includes Federal Savings Associations.
    \8\ The MBSD does not currently have any insurance company 
Clearing Members. Financial and other membership requirements for 
this category may be established in a future rule filing.
    \9\ The MBSD currently has two members that do not fit into any 
of the new listed membership types. These entities remain members of 
the MBSD under Article III, Rule 1, Section (1)(f) of the MBSD rules 
and remain subject to the MBSD rulebook and all ongoing membership 
requirements.
---------------------------------------------------------------------------

ii. Initial Membership Requirements
    The initial membership requirement for the MBSD members mirrors the 
current requirements for the GSD netting membership where there is an 
existing identical membership type in the GSD rules. The two membership 
categories where there are no GSD equivalents are registered investment 
companies and UIPs. In addition to standard requirements regarding 
financial and operational responsibility applicable to all Clearing 
Members, registered investment companies must be registered under the 
Investment Company Act of 1940 and have minimum net assets of $100 
million. In addition to standard requirements regarding financial and 
operational responsibility applicable to all Clearing Members, UIPs 
must:
     Have an investment advisor domiciled in the United States 
and registered with the Commission under the Investment Advisors Act of 
1940; and
     the UIP must have (i) $250 million in net assets, or (ii) 
$100 million in net assets and the UIP's investment advisor must advise 
an existing UIP Clearing Member that has assets under management of 
$1.5 billion.
iii. Ongoing Membership Requirements
    Required membership levels must be maintained by all members on an 
ongoing basis as a condition of

[[Page 15156]]

membership. Current provisions applicable to the GSD netting membership 
under the GSD rules have been incorporated to the MBSD rules to apply 
to certain member types. For example, the GSD currently assesses a 
premium against any member whose Clearing Fund requirement exceeds its 
specified regulatory capital figure.\10\ The MBSD will also apply this 
premium to members. Also, bank, broker-dealer, and UIP members of the 
MBSD will be rated. Among other things, financial measures relevant to 
these types of entities will be assessed. Any member that receives a 
poor rating may be monitored more closely and/or placed on FICC's 
internal watch list.
---------------------------------------------------------------------------

    \10\ By way of example, under the current GSD rules, if a member 
has a Clearing Fund requirement of $11.4 million and excess net 
capital of $10 million, its ``ratio'' is 1.14 (or 114 percent), and 
the applicable collateral premium would be 114 percent of $1.4 
million (which is equal to the amount by which the member's Clearing 
Fund requirement exceeds its excess net capital), or $1,596,000. The 
current GSD rules provide that FICC has the right to: (i) Apply a 
lesser collateral premium (including no premium) based on specific 
circumstances (such as a member being subject to an unexpected 
haircut or capital charge that does not fundamentally change its 
risk profile), and (ii) return all or a portion of the collateral 
premium amount if it believes that the member's risk profile does 
not require the maintenance of that amount. These rights will be 
carried over to the proposed MBSD rules.
---------------------------------------------------------------------------

    The MBSD will take additional risk management measures with respect 
to UIP members. Specifically, the ``value at risk'' (``VaR'') 
confidence level for UIP members will be set at 99.5%, half a 
percentage higher than the confidence level used for a VaR calculation 
for non-UIP Clearing Members.\11\ UIP members also are required to 
achieve a qualitative assessment rating of at least ``medium'' as part 
of the initial membership requirement. Qualitative assessments will be 
based on such factors as management, capital, strategy and risk 
profile, valuation procedures, and internal risk management controls. 
Current UIP members that become rated less than ``medium'' may be 
subject to increased Required Fund Deposits and may also become subject 
to revocation of membership. Finally, the Clearing Fund requirement of 
UIPs shall be no less than $1 million.\12\
---------------------------------------------------------------------------

    \11\ The MBSD rules will provide FICC with the discretion to 
increase the confidence level for UIP and non-UIP Clearing Members 
if it determines that it is appropriate to do so with respect to a 
particular Clearing Member or Clearing Members generally. The MBSD 
rules will require Clearing Fund requirements to each Clearing 
Member within each membership type to be applied on a consistent and 
non-discriminatory basis. See MBSD Proposed Rule 4 (Clearing Fund 
and Loss Allocation), Section 2(c).
    \12\ The MBSD rules will provide FICC with the discretion to 
increase the minimum charge if it determines that it is appropriate 
to do so with respect to a particular Clearing Member or Clearing 
Members generally. The MBSD rules will require Clearing Fund 
requirements to each Clearing Member within each membership type to 
be applied on a consistent and non-discriminatory basis. See MBSD 
Proposed Rule 4 (Clearing Fund and Loss Allocation), Section 2(c).
---------------------------------------------------------------------------

3. Clearing Fund and Loss Allocation
    The conversion of the MBSD to a CCP increases the amount of risk 
for the clearing agency. The CCP assumes the counterparty credit risk 
of the other Clearing Members which primarily includes: (1) The market 
risk associated with liquidating the defaulted Member's portfolio, and 
(2) the liquidity risk associated with maintaining sufficient liquid 
resources to finance the defaulted Clearing Member's scheduled 
settlement obligations. FICC believes that the MBSD has established a 
robust risk management framework to manage the credit risks from its 
Clearing Members and the credit and liquidity risks involved with its 
payment, clearing, and settlement process.
    The MBSD relies on many different controls to manage its 
counterparty risk. These controls include: (i) Membership standards, 
(ii) initial and variation margins, (iii) back and stress testing, (iv) 
position and risk monitoring, and (v) non-margin collateral. The first 
set of controls aims to prevent the CCP from conducting business with 
counterparties that have unacceptably high probabilities of default. As 
noted above, concurrent with the introduction of CCP services, the MBSD 
will increase its minimum financial standard for clearing membership 
eligibility to mirror GSD eligibility standards and enhance its risk 
monitoring for UIPs.
    The second line of defense is the margins collected from 
counterparties in the form of cash and highly liquid government 
securities in the Clearing Fund. The dual purpose of the Clearing Fund 
is to provide readily accessible liquidity to facilitate settlement and 
reduce loss-related costs which may be incurred in the event of a 
Clearing Member's insolvency or failure to fulfill its contractual 
obligations to the MBSD. Margins are intended to cover possible losses 
between the time of default of a counterparty, at which point the CCP 
would inherit its positions, and the close-out of these positions 
through selling or hedging. For this purpose, the MBSD marks Clearing 
Member portfolios to the market on a daily basis and charges variation 
margins accordingly, and establishes initial margins to cover a minimum 
99th percentile of expected possible losses that could arise over a 3-
day settlement period utilizing a VaR-based approach.\13\
---------------------------------------------------------------------------

    \13\ An index-based haircut methodology will be used for 
securities with insufficient pricing data.
---------------------------------------------------------------------------

    In order to further enhance the MBSD's risk framework, the MBSD 
will add two components--the margin requirement differential and the 
coverage charge--to the Clearing Fund, as well as additional MBSD mark-
to-market items related to the new pool netting services. The MBSD also 
has the ability to collect charges above the systemically generated 
Clearing Fund charges when it deems it appropriate in order to protect 
FICC and its Clearing Members. If any loss were incurred in the 
liquidation of a Clearing Member that was not covered by the Clearing 
Member's Clearing Fund deposit or amounts available under the cross-
guaranty arrangement to which FICC is a party, the MBSD would invoke 
its loss allocation process.
    The MBSD uses regular back and stress testing to monitor the 
sufficiency of collected margin levels vis-a-vis the risk represented 
by the 99th percentile of expected possible losses from Clearing Member 
portfolios and to monitor its tail risk exposure that is beyond the 
99th percentile. If a Clearing Member portfolio does not pass a back 
test, additional margin will be collected via the coverage charge. 
Stress tests are also used to evaluate margin adequacy. The MBSD's 
framework reflects stress events from the last 10 years as well as 
special stress events outside of the past 10 years and takes the form 
of swap rate shifts and credit spread shocks that reflect market 
conditions for the instruments that the MBSD clears or holds as 
collateral. As described more fully below, the MBSD analyzes and 
reviews on an intraday basis certain components of the Clearing Fund 
that are recalculated using updated positions and prices if there is 
increased exposure in a Clearing Member's portfolio intraday. In 
addition, the MBSD may at its discretion call for additional collateral 
on an intraday basis if exposures are in excess of predefined 
thresholds.
    Finally, aside from the risk of loss that could be encountered from 
a Clearing Member failure, a central counterparty could also face 
liquidity risk, defined as the risk that the central counterparty has 
insufficient financial resources to cover a default by a Clearing 
Member to which it has the largest exposure. To that end, the MBSD 
maintains sufficient resources to meet its observed liquidity risk. The 
Clearing Fund would be the primary source to fulfill the liquidity need 
incurred if MBSD had to complete

[[Page 15157]]

settlement on behalf of the defaulting Clearing Member. Other 
conventional funding tools such as loans secured via the MBSD clearing 
banks and/or tri-party repo transactions would also be used to fulfill 
the liquidity need, but if those were unavailable or insufficient, the 
MBSD would invoke the ``Capped Contingency Liquidity Facility,'' as 
described below, to provide additional financing in the event of a 
Clearing Member default.
    Tail risk is one of the risks the MBSD has to manage. The MBSD 
addresses this risk through a continuous process of: (1) Reviewing 
margin methodologies with stakeholders; (2) analyzing and monitoring 
margin and collateral requirements; (3) actively reviewing and timely 
acting on market conditions and credit events; (4) reviewing back and 
stress tests, and (5) identifying, assessing, and managing risks 
associated with the products and services provided by the MBSD and 
FICC.
i. Clearing Fund
    The underlying Clearing Fund methodology is designed primarily to 
account for market risks associated with a Clearing Member's unsettled 
portfolio. The Clearing Fund model is back tested on a monthly basis 
and periodically validated by outside experts. Additional charges and 
premiums may be considered to address additional risks (i.e., credit, 
reputation, and legal) or non-compliance with the MBSD rules. The 
Clearing Fund is calculated every business day for each MBSD Clearing 
Member.
    Clearing Fund requirements will be calculated in accordance with 
the VaR model. The Clearing Fund components will consist of the VaR 
charge,\14\ the coverage charge, the margin requirement differential 
charge, and the deterministic components charge (which will include the 
mark-to-market charges, cash obligation items, and accrued principal 
and interest). The VaR methodology will utilize the prior 252 days of 
historical information for cash positions, including prices, spreads, 
and market variables to simulate the market environments in the 
forthcoming three days. Projected portfolio losses are then calculated 
assuming these simulated environments actually will be realized. The 
coverage charge is an additional charge to bring the Clearing Member's 
coverage to a targeted confidence level. The margin requirement 
differential considers intra-day portfolio variations and estimates the 
potential increased risk intra-day and the risk that the next margin 
call will not be satisfied. The deterministic risk component combines 
the mark-to-market of the portfolio, gain or loss for the difference 
between the original contract value and the internally generated 
netting price derived from the to-be-announced netting process, 
principal and interest adjustments on failed positions, and other 
miscellaneous cash items. The deterministic risk component can result 
in an increase or decrease to a member's total clearing fund 
requirement.
---------------------------------------------------------------------------

    \14\ The definition of ``VaR Charge'' (which is referred to as 
``VaR Component'' in the current rules) is being amended to remove 
the reference to the application of ``minimum amounts'' to such VaR 
Charge. The MBSD is currently applying a minimum 5-basis point 
charge which will not be applicable when the MBSD CCP becomes a CCP 
because of the addition of the other components to the overall 
Clearing Fund calculation. Minimum Clearing Fund deposit amounts per 
Rule 4 remain applicable.
---------------------------------------------------------------------------

    In order to further mitigate risk, and as part of FICC's efforts to 
enhance its intraday monitoring capabilities, FICC has determined to 
expand its intraday monitoring to recalculate the mark-to-market 
elements of the deterministic risk component. This component of the 
risk calculations will be updated at least hourly using intraday 
pricing and position feeds for FICC members and compared against the 
amounts that were previously collected in the Clearing Fund. If the 
exposures increase above certain defined thresholds, Risk Management 
staff will be alerted to consider additional intraday margin calls 
outside of the formal Clearing Fund collection process. These intraday 
margin calls would need to be satisfied by the affected members within 
one hour of FICC's notice. The initial thresholds will be based on 
changes to a Clearing Member's position size, composition, and price 
changes on the constituent securities. Qualitative factors including, 
but not limited to, Watch List status and internal rating will also be 
considered in the application of intraday mark-to-market.
ii. Use of Payments and Deposits
    FICC is providing additional disclosure relating to its use of a 
Clearing Member's deposits and payments to the Clearing Fund for 
temporary financing needs. The rulebook also clarifies that whenever 
the Clearing Fund is charged for any reason, other than to satisfy a 
clearing loss attributable to a Clearing Member solely from that 
Clearing Member's Clearing Fund deposit, FICC will provide the reasons 
therefore to each Clearing Member.\15\
---------------------------------------------------------------------------

    \15\ The Clearing Fund is ``charged'' when FICC has applied the 
Clearing Fund for more than 30 days and is allocating the amount as 
a loss or for other loss allocation purposes.
---------------------------------------------------------------------------

iii. Loss Allocation
    FICC is introducing a new loss allocation methodology for the MBSD. 
If a defaulting Clearing Member's Clearing Fund and any amounts of the 
defaulting member available under a cross-guaranty agreement are not 
sufficient to cover losses incurred in the liquidation of the 
defaulting Clearing Member's positions (``Remaining Losses''), the 
MBSD's loss allocation methodology will be invoked. Under this proposed 
loss allocation methodology, Remaining Losses will first be allocated 
to the retained earnings of FICC attributable to the MBSD, in the 
amount of up to 25 percent of the retained earnings or such higher 
amount as may be approved by the Board of Directors of FICC. If a loss 
still remains, MBSD Clearing Members are placed into one of two tiers 
for loss allocation purposes: Tier One members are subject to loss 
mutualization, whereas Tier Two members are not subject to loss 
mutualization.\16\ FICC will divide the Remaining Losses between the 
Tier One members and Tier Two members. The division of Remaining Losses 
is based on the amount each solvent Clearing Member would have lost or 
gained if it had closed out its original outstanding trades with the 
defaulting Clearing Member on a bilateral basis.\17\ FICC then will 
determine the relevant share of each Tier One member's bilateral losses 
(members with a bilateral liquidation profit are ignored) in the total 
of all Clearing Members' bilateral losses and sum these shares to 
determine the Tier One Remaining Loss. Similarly, FICC will determine 
the relative share of each Tier Two member's bilateral loss in the 
total of all Clearing Members' bilateral losses and sum these shares to 
determine the Tier Two Remaining Loss.
---------------------------------------------------------------------------

    \16\ Tier Two members are those that are legally prohibited from 
participating in loss mutualization. Currently, only Registered 
Investment Companies qualify as Tier Two members.
    \17\ Brokered trades are done on a ``give-up basis,'' and 
brokers are thus not considered parties to fully-matched trades. 
However, for purposes of loss allocation, broker members will be 
subject to loss allocation for certain partially-matched trades. 
Brokers are considered Tier One members, and as such will be subject 
to loss mutualization.
---------------------------------------------------------------------------

    Tier One Remaining Losses will be allocated to Tier One members 
first by assessing the Required Fund Deposit of each such Member in the 
amount of up to $50,000 equally. If a loss remains, Tier One members 
will be assessed ratably, in accordance with the respective amounts of 
their Required Fund Deposits, based on the average daily amount of the 
Clearing Member's Required Fund Deposit over the prior

[[Page 15158]]

twelve months. Tier Two Remaining Loss will be allocated to Tier Two 
Clearing Members based on each Tier Two member's original trading 
activity with the Defaulting Member that resulted in a loss. Tier Two 
members will only be subject to loss to the extent they originally 
traded with the Defaulting Member consistent with regulatory 
requirements applicable to the Tier Two members. FICC shall assess such 
loss against the Tier Two members ratably based upon their loss as a 
percentage of the entire amount of the Tier Two Remaining Loss. Tier 
Two counterparties will be liable for losses related to both direct and 
brokered trades \18\ including partially-matched trades for which the 
Tier Two member did not submit a statement to FICC denying the 
existence of the trade.\19\
---------------------------------------------------------------------------

    \18\ Brokered trades involve a broker intermediary between two 
dealers. Each dealer and broker must submit the trade details to the 
MBSD for trade comparison. This means that each dealer submits 
against the broker and the broker submits against each dealer. A 
fully matched trade will be achieved when both dealers match against 
the broker (i.e. all submissions discussed above match). With a 
fully matched trade, both dealers assume principal status, which 
results in the broker having no settlement obligations with respect 
to the trade; the broker cannot be subject to any loss with respect 
to such trade. A partially matched trade results when only one of 
the two submissions achieves a bilateral match versus the broker. 
The dealer who has matched with the broker will have a settlement 
guarantee and is subject to Clearing Fund requirements with respect 
to such trade. If the unmatched dealer submits a statement to FICC 
denying the existence of the trade, the broker becomes responsible 
for such trade from a risk management perspective and loss 
allocation. If the unmatched dealer does not submit a statement to 
FICC denying the existence of the trade, the dealer becomes 
responsible for the settlement and risk management and the broker is 
released from these responsibilities.
    \19\ To illustrate the proposed MBSD Tier One (``T1'')/Tier 2 
(``T2'') loss allocation rules, consider an example where the $20 
million Clearing Fund requirement of an insolvent MBSD member X 
turns out to be insufficient to cover the $30 million liquidation 
loss that the MBSD incurred as a result of closing out all of X's 
open positions. If X doesn't have any excess collateral, MBSD would 
need to allocate a $10 million remaining loss.
    Assume that X has unsettled trades with three Tier One original 
counterparties (T1A, T1B and T1C) and three Tier Two original 
counterparties (T2A, T2B and T2C), all executed directly. Further 
assume that the bilateral liquidation results of X's solvent 
original counterparties are as follows: T1A: $5 million; T1B: ($5 
million); T1C: ($15 million); T2A: ($20 million); T2B: ($10 
million); T2C: $15 million; Total: ($30 million). Also assume that 
there are no secondary defaults and no off-the-market trades.
    Based on these assumptions, the bilateral Tier One liquidation 
losses amount to $20 million ($5 million attributable to T1B and $15 
million attributable to T1C), while the bilateral Tier Two 
liquidation losses amount to $30 million ($20 million attributable 
to T2A and $10 million attributable to T2B). This means that out of 
a total of $50 million bilateral liquidation losses, 40% or $20 
million can be attributed to Tier One counterparties and 60% or $30 
million to Tier Two counterparties. As a result, the Tier One 
remaining loss would be $4 million (i.e., 40% of the MBSD's $10 
million overall remaining loss) and the Tier Two remaining loss 
would be $6 million (i.e., 60% of the MBSD's $10 million overall 
remaining loss). Given that T2A's and T2B's bilateral losses 
represent \2/3\ and \1/3\ respectively of the Tier Two Remaining 
Loss, T2A's loss allocation will be $4 million and T2B's loss 
allocation will be $2 million.
    The $4 million Tier One Remaining Loss would first be assessed 
equally to each Tier One member's clearing fund, up to an amount of 
$50,000 per Tier One member. If a loss still remains, the amount is 
allocated among Tier One members, pro-rata based on each Tier One 
member's average daily level of clearing fund over the prior twelve 
months (or shorter period if a member did not maintain a clearing 
fund deposit over the full twelve month period).
    The loss allocation results are not impacted by whether the 
defaulting Clearing Member is a Tier One or a Tier Two member.
---------------------------------------------------------------------------

4. Trade Processing
    Under the proposed MBSD rules, each Clearing Member will be 
required to submit to the MBSD for processing transactions with other 
Clearing Members in all securities that are netting-eligible according 
to MBSD rules and procedures.\20\ Eligible transactions will be 
submitted to FICC's Real-Time Trade Manager (``RTTM'') system for 
matching purposes.\21\ FICC will provide a trade guarantee for all 
existing types of trades upon comparison of trade details submitted by 
members.\22\
---------------------------------------------------------------------------

    \20\ Currently, the MBSD recognizes two types of trades: (i) 
``To be announced'' (``TBA'') trades and (ii) specified pool trades 
(``SPTs''). A TBA is a contract for the purchase or sale of agency 
mortgage-backed securities to be delivered at an agreed-upon future 
date; however, the actual pool identities and/or the number of pools 
that will be delivered to fulfill the trade obligation or terms of 
the contract are unknown at the time of the trade. TBA trades may 
proceed through the Settlement Balance Order engine for netting or 
may settle on a trade-for-trade basis (``TFTD''). In an SPT 
contract, required pool data, including the pool number to be 
delivered on settlement date, is specified at the time of execution.
    Clearing Members may use FICC's Interactive Submission Method, 
Multiple Batch Submission Method, or Single Batch Submission Method 
to submit trade data to the MBSD.
    \21\ Trade data submitted to the MBSD must include such 
identifying information as the MBSD may require and must be 
submitted in the form and manner and in accordance with the time 
schedules prescribed by the MBSD rules or otherwise set forth by 
FICC from time to time. The symbol corresponding to the name of a 
Clearing Member that is printed, stamped, or written on any form, 
document, or other item issued by the Clearing Member pursuant to 
Rule 5 Section 2 shall be deemed to have been adopted by the 
Clearing Member as its signature and shall be valid and binding upon 
the Clearing Member in all respects as though it had manually 
affixed its signature to such form document or other item.
    \22\ Comparison is deemed to occur at the point at which the 
MBSD makes available to both of the counterparties an output 
indicating that the trade data has been compared. FICC generates the 
output indicating that a trade is compared contemporaneous with 
successful comparison of the trade data in FICC's RTTM system.
---------------------------------------------------------------------------

    Additionally, the MBSD will introduce ``pool comparison'' and 
``pool netting'' and interpose itself as settlement counterparty to 
certain settlement obligations. Specifically, after the netting of TBA 
transactions, settlement obligations will be issued between Clearing 
Members and Clearing Members will allocate pools for settlement through 
the MBSD's Electronic Pool Notification (``EPN'') Service.\23\ Clearing 
Members then will submit pool details for those netted TBA settlement 
obligations through the RTTM system for pool comparison and for 
consideration for pool netting.\24\ Upon FICC's issuance of pool 
netting results to Clearing Members, those pools that are netted will 
be novated; i.e., settlement obligations between the Clearing Members 
will be replaced with settlement obligations between each Clearing 
Member and FICC. For all other transactions, settlement will occur 
outside of FICC between the original settlement counterparties and must 
be reported to FICC through a Notification of Settlement (``NOS'').\25\ 
Obligations that fail to settle will not be re-netted, as they are in 
the GSD.\26\
---------------------------------------------------------------------------

    \23\ Because Clearing Members will be required to allocate pools 
via EPN and RTTM in order for pool allocations to proceed to pool 
comparison and netting, all MBSD Clearing Members will be required 
to be EPN members.
    \24\ Not every compared pool will be included in the pool 
netting system. FICC will determine which guaranteed trades would 
receive maximum benefit from pool netting by considering such 
factors as trading velocity and projected netting factor. SPTs are 
not eligible for pool netting under this proposal.
    Pool allocation information (``Pool Instructs'') may be 
submitted up to the point that pool netting is executed. Pool 
Instructs must bilaterally compare (i.e., mandatory comparison pool 
data submitted by the seller must match the mandatory comparison 
pool data submitted by the buyer) in order for the Pool Instructs to 
be eligible for consideration for pool netting. Pool Instructs must 
also be assigned by the MBSD to a valid, open TBA position, meaning 
that the trade terms submitted on the Pool Instructs must match the 
trade terms of a TBA CUSIP that has a sufficient open position. Only 
compared and assigned Pool Instructs will be evaluated for inclusion 
in pool netting.
    \25\ These obligations include: (i) SPTs, which are ineligible 
for pool netting; (ii) transactions for which Clearing Members do 
not submit allocation information for pool netting; and (iii) 
transactions with incomplete pool information on file.
    \26\ The MBSD retains the discretion to re-net fails or to 
conduct pair-offs if it believes that such actions are necessary to 
protect itself or its Clearing Members due to market conditions or 
events.
---------------------------------------------------------------------------

5. Settlement
i. Settlement With FICC as Counterparty
    As stated above, obligations generated by the pool netting system 
will settle versus FICC. Clearing Members will be required to designate 
a clearing bank for purposes of delivering securities to, and receiving 
securities from, the MBSD in satisfaction of settlement obligations. 
All deliveries and receipts of securities in satisfaction of pool 
deliver obligations and pool receive obligations

[[Page 15159]]

will be required to be made against simultaneous payment. These 
securities settlement procedures mirror the current GSD securities 
settlement rule.
ii. Settlement Outside of FICC
    Clearing Members will be required to settle trades ineligible for 
pool netting and allocated pools that are not processed through the 
pool netting system bilaterally with applicable settlement 
counterparties outside of FICC. As noted above, these trades remain 
guaranteed for settlement by FICC but are not novated. The settlement 
obligations between the Clearing Members are not replaced with 
settlement obligations between each Clearing Member and FICC. Clearing 
Members must submit to FICC NOSs on the applicable clearance date for 
each transaction. When the MBSD receives an NOS from each counterparty 
to a transaction, the MBSD will report clearance of the applicable 
transaction back to each Clearing Member. At this point, the MBSD will 
stop collecting margin on the transaction and will no longer be 
responsible for principal and interest payments.
iii. Cash Settlement
    Several items have been added to the calculation of each Clearing 
Member's cash settlement obligation, including: (a) A ``net pool 
transaction adjustment payment'' (to reflect the difference between the 
pool net price \27\ and a settlement price established at the TBA 
level); (b) principal and interest payment amounts related to fails; 
and (c) a ``clearance difference amount'' \28\ (to take into account 
the delivery to FICC of mispriced securities by a Clearing Member).
---------------------------------------------------------------------------

    \27\ ``Pool Net Price'' is defined as the uniform price for a 
pool (expressed in dollars per unit of par value), not including 
accrued interest, established by FICC on each business day, based on 
current market information for each eligible security.
    \28\ ``Clearance Difference Amount'' is defined as the absolute 
value of the dollar difference between the settlement value of a 
pool deliver obligation or a pool receive obligation and the actual 
value at which such pool deliver obligation or pool receive 
obligation was settled.
---------------------------------------------------------------------------

6. Capped Contingency Liquidity Facility
    FICC is adding a provision to the MBSD rulebook that introduces a 
``Capped Contingency Liquidity Facility,'' which is a procedure 
designed to ensure that the MBSD has sufficient liquidity resources to 
cover the largest failure of a family of accounts. This facility will 
only be invoked if FICC declares a default or a ``cease to act'' 
against a Clearing Member and FICC does not have the ability to obtain 
sufficient liquidity through its Clearing Fund cash deposits and its 
established repurchase agreement arrangements (``CCLF Event''). FICC 
believes that the Capped Contingency Liquidity Facility provides 
Clearing Members with finality of settlement and allows firms to 
prepare for and manage their potential financing requirements in the 
event of a Clearing Member's default. Once a CCLF Event has been 
declared, FICC will contact Clearing Members that are due to deliver 
obligations to FICC that are owed to a defaulting Clearing Member. FICC 
will either cancel the Clearing Member's obligations or instruct the 
Clearing Member to hold the obligations (or a portion thereof) and 
await instructions as to when to make these deliveries. With respect to 
the obligations subject to financing (``Financing Amount'') up to the 
Clearing Member's defined liquidity contribution cap (``Defined Capped 
Liquidity Amount''),\29\ FICC as counterparty, will enter into 
repurchase agreements with the Clearing Member equal to the Financing 
Amount pursuant to the terms of the deemed 1996 SIFMA Master Repurchase 
Agreement (without referenced annexes). If a liquidity need still 
exists (``Remaining Financing Amount''), FICC will inform Clearing 
Members that are below the Defined Capped Liquidity Amount and also 
inform Clearing Members that do not have a delivery obligation to the 
defaulting Clearing Member.\30\ After these Clearing Members have been 
notified, FICC will distribute the remaining financing need to such 
Clearing Members on a pro rata basis and enter into repurchase 
agreements pursuant to the terms of the deemed 1996 SIFMA Master 
Repurchase Agreement (without referenced annexes). These transactions 
would remain open until FICC completes the liquidation of the 
underlying obligations and a haircut based on market conditions will be 
applied to the transactions.
---------------------------------------------------------------------------

    \29\ The ``Defined Capped Liquidity Amount'' is the maximum 
amount that a Clearing Member shall be required to fund during a 
CCLF Event. The Defined Capped Liquidity Amount will be established 
as follows:
    (a) For those Clearing Members that are eligible for and that 
have established borrowing privileges at the Federal Reserve 
Discount Window or for those Clearing Members who have an affiliate 
that is eligible for and has established borrowing privileges at the 
Federal Reserve Discount Window, FICC will conduct a study every six 
months, or such other time period as FICC shall determine from time 
to time as specified in Important Notices to Clearing Members, to 
determine each Clearing Member's largest liquidity requirement for 
the applicable time period based on a Clearing Member's sell 
positions versus other Clearing Members at the family level on a 
bilateral net basis within a TBA CUSIP. Based on the overall study, 
FICC will define an adjustable percentage (the initial percentage 
will be set at 60%), as determined by FICC from time to time, and 
multiply that percentage amount against the maximum amount to 
establish each Clearing Member's Defined Capped Liquidity Amount; 
and
    (b) For those Clearing Members that are ineligible for or have 
not established borrowing privileges at the Federal Reserve Discount 
Window and for those Clearing Members that do not have an affiliate 
that is eligible for or has established borrowing privileges at the 
Federal Reserve Discount Window, FICC will conduct a study every 
month or such other time period as FICC shall determine from time to 
time as specified in Important Notices to Clearing Members, to 
determine each Clearing Member's largest liquidity requirement for 
the applicable time period based on a Clearing Member's sell 
positions versus other Clearing Members at the family level on a 
bilateral net basis within a TBA CUSIP. The Clearing Member's 
largest liquidity requirement for the past month, adjusted in each 
case of a CCLF Event to be no greater than the actual pool delivery 
obligation to the defaulting Clearing Member, will represent the 
Clearing Member's Defined Capped Liquidity Amount. Clearing Members 
in this category will have a defined non-adjustable percentage 
amount set to 100%. Clearing Members in this category will not be 
required to finance any Remaining Financing Amount.
    (c)
    \30\ Applicable to those Clearing Members that are eligible for 
and that have established borrowing privileges at the Federal 
Reserve Discount Window or to those Clearing Members who have an 
affiliate that is eligible for and has established borrowing 
privileges at the Federal Reserve Discount Window.
---------------------------------------------------------------------------

    Once FICC completes the liquidation of the underlying obligation, 
FICC will instruct the Clearing Member to deliver the securities back 
to FICC. FICC will then close the repurchase transaction and deliver 
the securities to complete settlement on the contractual settlement 
date of the liquidating trade. Because FICC would be receiving and 
delivering securities on the same day, FICC would not have a liquidity 
need resulting from the transaction of a defaulting Clearing Member.
7. Corporation Default
    FICC is adding provisions to the MBSD rulebook to make explicit the 
close-out netting of obligations running between FICC and its Clearing 
Members in the event that FICC becomes insolvent or defaults in its 
obligations to its Clearing Members. FICC represents that its Clearing 
Members have stated that the proposed rule changes will provide clarity 
in their application of balance sheet netting to their positions with 
FICC under U.S. GAAP in accordance with the criteria specified in the 
Financial Accounting Standards Board's Interpretation No. 39, 
Offsetting of Amounts Related to Certain Contracts (FIN 39). The firms 
have stated further that the provisions would allow them to comply with 
Basel Accord Standards relating to netting. Specifically, firms are 
able to calculate their capital requirements on the basis of their net

[[Page 15160]]

credit exposure where they have legally enforceable netting 
arrangements with their counterparties, which includes a close-out 
netting provision in the event of the default of the counterparty (in 
this case, the division of the clearing corporation acting as a central 
counterparty).
8. Fails Charge
    To encourage market participants to resolve fails promptly, FICC is 
applying a fails charge recommended by the Treasury Market Practices 
Group (``TMPG'') that expands the applicability of the fails charge to 
settlement of pools versus FICC involving failing agency MBS issued or 
guaranteed by Fannie Mae, Freddie Mac and Ginnie Mae.\31\ A fails 
charge will not apply to TBA and pool level ``round robins.'' \32\ FICC 
believes that the fails charge will reduce the incidence of delivery 
failures and supporting liquidity in these markets.
---------------------------------------------------------------------------

    \31\ TMPG is a group of market participants active in the 
Treasury securities market and sponsored by the Federal Reserve Bank 
of New York. The Commission has approved similar rule proposals at 
the GSD. See Securities Exchange Act Release No. 59802 (Apr. 20, 
2009), 74 FR 19248 (Apr. 28, 2009) and Securities Exchange Act 
Release No. 65910 (Dec. 8, 2011), 76 FR 77861 (Dec. 14, 2011) 
(expanding applicability of the fails charge to Agency debt 
securities transactions).
    \32\ ``Round robins'' are a circular series of transactions 
between multiple parties where there is no ultimate long and short 
position to be settled. For example, if A sells to B and B sells to 
C and C sells to A, this group of transactions constitutes a round 
robin. In a round robin, there is no settlement of securities, but 
there is satisfaction of money across all interested parties. There 
can be a fail in a round robin transaction when a deliver obligation 
arises because the trade submission of certain members of the round 
robin do not match. The MBSD will not apply the fails charge to a 
round robin if each affected Clearing Member in the round robin 
provides the MBSD with the required information to resolve the 
trade.
---------------------------------------------------------------------------

    The proposed charge will be equal to the greater of (a) 0 percent 
and (b) 2 percent per annum minus the federal funds target rate. The 
charge accrues each calendar day a fail is outstanding. The MBSD will 
not impose a fails charge if delivery occurs on either of the two 
business days following the contractual settlement date. The MBSD will 
not employ a minimum fail charge amount, but, instead, will apply the 
fails charge to any pool for which delivery has not occurred within the 
two business day grace period.\33\ Each business day, the MBSD will 
provide reports reflecting fail charge amounts to Clearing Members and 
will generate a consolidated monthly report at month end. Failing 
parties with a net debit (i.e., the fails charge amounts such party 
owes exceed the fails charge amounts it is owed) will be required to 
pay such net amount in respect of those pools that have settled the 
previous month and that are reflected in the previous month's 
consolidated month end report by the Class ``B'' payable date (as 
established by SIFMA guidelines) of the month following settlement in 
conjunction with other cash movements. The fails charge funds received 
by the MBSD then will be used to pay Clearing Members with fail net 
credits.
---------------------------------------------------------------------------

    \33\ FICC is not establishing a minimum charge because the MBSD, 
as counterparty in multiple transactions, may owe a net credit to 
one counterparty that is financed by multiple small net debits owed 
to it by multiple counterparties. The lack of a threshold minimum 
charge deviates from the TMPG recommendation of a $500 threshold. 
FICC notified Clearing Members of this deviation in an Important 
Notice (MBS 119.11) and received no objection.
---------------------------------------------------------------------------

    The MBSD will implement a rate change procedure so that if fails 
accrue at one rate and the rate changes, the fail will keep the 
original accrual and new fails calculations will be subject to the new 
rate. When there is a substitution of the underlying pool, the fails 
charge will be calculated pursuant to the above formula, using (in the 
formula) the federal funds target rate for each day of the substitution 
period beginning on the contractual settlement date.
    In the event that the MBSD is the failing party because (i) the 
MBSD received Agency MBS issued or guaranteed by Fannie Mae, Freddie 
Mac, or Ginnie Mae too late to make redelivery or for any other reason 
or (ii) MBSD received a substitution of a pool deliver obligation of 
agency MBS issued or guaranteed by Fannie Mae, Freddie Mac or Ginnie 
Mae too late for same day redelivery of securities or for any other 
reason, the fails charge will be distributed pro-rata to the Clearing 
Members based upon usage of the MBSD's services.
    The MBSD will not guarantee fails charge proceeds in the event of a 
default (i.e., if a defaulting Clearing Member does not pay its fail 
charge, Clearing Members due to receive fails charge proceeds will have 
those proceeds reduced pro-rata by the defaulting Clearing Member's 
unpaid amount). Failure by a Clearing Member to meet its obligations in 
connection with a fails charge may be a violation of the MBSD rules 
that is subject to disciplinary actions consistent with the MBSD rule 
book. FICC's Board of Directors (or appropriate Committee thereof) will 
retain the right to revoke application of the charges if industry 
events or practices warrant such revocation. The fails charges will 
apply to applicable transactions entered into on or after the date of 
this order, as well as to transactions that were entered into, but 
remain unsettled as of the date of this order. For transactions entered 
into prior to, and unsettled as of, the date of this order, the fails 
charge will begin accruing on the later of the date of this order or 
the contractual settlement date. The following are examples of fails 
scenarios and the applicable fails charge in each scenario:
    Example 1: A delivery is contracted to occur on settlement date 
(S), a Tuesday, but does not occur until the second business day 
following contractual settlement, Thursday (S+2). The Clearing 
Member would not be subject to a fails charge because delivery 
occurs within the two business days following the contractual 
settlement date.
    Example 2: A delivery is contracted to occur on settlement date 
(S), a Tuesday, but does not occur until the third business day 
following contractual settlement, Friday (S+3). The Clearing Member 
would be subject to a three-day fails charge.
    Example 3: A delivery is contracted to occur on settlement date 
(S), a Wednesday, but does not occur until the third business day 
following contractual settlement, Monday (S+3). The Clearing Member 
would be subject to a five-day fails charge, as the charge accrues 
on each calendar day in the fail period.
    Example 4: A delivery is contracted to occur on settlement date 
(S), May 10th, but does not occur until the month following the 
contractual settlement date; it settles on June 8th. The Clearing 
Member will not be subject to collection of the fails charge in June 
(the month following the contractual settlement date) because 
delivery did not occur in May. The participant will be subject to 
the collection of the fails charge in July (on the Class ``B'' 
payable date) because delivery occurred in June. The charge will be 
recalculated for 29 days.
9. Suspension of Rules in Emergency Circumstances
    The MBSD rule regarding suspension of its rules in emergency 
situations is being revised to specify that: (i) The rule applies to 
emergency circumstances; (ii) an emergency shall exist in the judgement 
of the FICC Board or a FICC Officer, which causes the Board or the FICC 
Officer, as applicable, to believe that an extension, waiver, or 
suspension of the MBSD rules is necessary for FICC to continue to 
facilitate the prompt and accurate clearance and settlement of 
securities transactions; (iii) FICC shall notify the Commission of such 
extension, waiver, or suspension of the MBSD rules within 2 hours of 
such determination;\34\ (iv) the written report of such extension shall 
include the nature of the emergency, along with the other requirements 
listed in the current rules; (v) such written report shall be submitted 
to the Commission no later

[[Page 15161]]

than three calendar days after the implementation of the extension, 
waiver, or suspension of the MBSD rules; and (vi) any suspension shall 
not last for more than thirty calendar days from the date of the event 
or events giving rise to the suspension unless the MBSD submits a 
proposed rule change to the Commission seeking approval of a further 
extension.
---------------------------------------------------------------------------

    \34\ But no later than one hour before the close of the Federal 
Reserve Banks' Fedwire Funds Service if such determination relates 
to the extension of time for settlement and is made on a settlement 
day.
---------------------------------------------------------------------------

10. Ceasing to Act, Wind-Down Members, and Insolvency
    The MBSD's rules regarding restrictions on access to services, 
ceasing to act, winding-down Clearing Members, and Clearing Member 
mirror the current GSD rules, conformed to apply to the specifics of 
MBSD processing as applicable. For example, upon the MBSD ceasing to 
act for a Clearing Member, Clearing Members will be required to submit 
immediate NOS so that the MBSD has all necessary settlement information 
with respect to a defaulting Clearing Member to affect a close-out of 
such Clearing Member. In addition, the MBSD will have the right, with 
respect to specified pool trades, to substitute alternate pools as 
necessary.\35\
---------------------------------------------------------------------------

    \35\ In the event of a close-out of a defaulting Clearing 
Member, broker members will be responsible for partially-matched 
trades for which FICC has received a statement denying the existence 
of the trade.
---------------------------------------------------------------------------

11. DTCC Audit Committee
    While FICC MBSD does not have a rule and it is not adding a rule to 
require an audit committee, FICC is governed by the DTCC Audit 
Committee and such Committee could not be dismantled without a proposed 
rule change filed with the Commission.
12. Summary of Other Rule Changes
i. Current MBSD Rules Not Reflected in Proposed Rulebook
    The following current MBSD rules are not included in the new 
rulebook:
     With respect to Article III (Participants), in the current 
MBSD rules: Rule 1, ``Requirements Applicable to Participants and 
Limited Purpose Participants''; Section 5, ``Supplemental Agreement of 
Participants and Limited Purpose Participants''; and Section 14 
``Special Provisions Applicable to Partnerships'' are not included in 
the proposed MBSD rules because each of these rules is no longer 
necessary because proposed Rule 2A harmonizes the MBSD rules with the 
GSD rules on this subject. Rule 1, ``Requirements Applicable to 
Participants and Limited Purpose Participants'' Section 15 ``Special 
Provisions Applicable to Non-Domestic Participants'' is not included in 
the proposed MBSD rules because as with the GSD, the MBSD will be using 
the Netting Agreement for foreign members and not the master agreement 
format. Proposed Rule 2A, ``Initial Membership Requirements,'' Section 
5, ``Member Agreement'' covers the provisions of the membership 
agreement generally and thereby serves to harmonize the proposed MBSD 
rules with the GSD rules with respect to this subject.
     Rule 3, ``Corporation Declines to Act for a Participant or 
Limited Purpose Participant'' Section 2 ``Other Grounds for Ceasing to 
Act for a Participant or Limited Purpose'' of the current MBSD rules is 
not included in the proposed MBSD rules because it is being replaced by 
proposed MBSD Rule 14 ``Restrictions on Access to Services'' and Rule 
16 ``Insolvency of a Member'' which cover the same matters and 
harmonize these provisions with those in the GSD rules.
     In an effort to harmonize with the GSD rules, Rule 3, 
``Corporation Declines to Act for a Participant or Limited Purpose 
Participant'' Section 3 is not reflected in the proposed MBSD Rules. 
FICC does not believe it is necessary to state the current MBSD concept 
in the proposed MBSD rules because it would apply regardless of whether 
it is stated in the rules. Rule 3, ``Corporation Declines to Act for a 
Participant or Limited Purpose Participant'' Sections 5(a) 
``Disposition of Open Commitments'' is not included in the proposed 
MBSD rules because FICC does not accept Letters of Credit as a 
permissible form of Clearing Fund collateral as a routine matter; 
however, FICC reserves the right to accept this type of collateral, if 
needed. In addition, the current MBSD rule addresses the liquidation of 
other types of collateral posted by the defaulting Clearing Member. 
Under the proposed MBSD rule, close-out processes, in general, are 
covered by Rule 17, which has been drafted to be harmonized with the 
equivalent GSD Rule to the extent possible. Section 5(c) of the current 
MBSD Rule 3 in Article III is not reflected in proposed rulebook 
because it addresses non-defaulting Clearing Members engaging in the 
close-out of the defaulting Clearing Member's positions, which will be 
undertaken by the MBSD as CCP under the proposed rules.
     Under the section titled ``Schedule of Charges Broker 
Account Group'' in the appendix to the proposed MBSD rules, FICC no 
longer provides hardcopy output from microfiche. As a result, the 
reference to this charge is being removed.
ii. New MBSD Rules
    The following rules are being added to the MBSD rulebook in 
connection with this filing and have not been addressed separately 
above:
     Rule 3, Section 6 ``General Continuance Standard'' of the 
proposed MBSD rules includes additional language which states that FICC 
may require that increased or modified Required Fund Deposits be 
deposited by the Clearing Member on the same Business Day on which the 
FICC requests additional assurances from such Clearing Member. FICC has 
always interpreted the current rules to permit such action; this 
additional language makes this point explicit.
     Rule 5, ``Trade Comparison'' Section 1 ``General'' and 
Section 3 ``Trade Submission Communication Methods'' includes 
disclosure relating to the means by which data may be entered and 
submitted to FICC. Section 10 ``Modification of Trade Data'' of this 
rule allows FICC to unilaterally modify trade data submitted by 
Clearing Members if FICC becomes aware of any changes to the 
transaction that invalidates the original terms upon which it was 
submitted or compared and Rule 12 ``Obligations'' of Section 10 
discusses the point at which trade data becomes a settlement 
obligation.
     With respect to the computation of cash balances under 
Rule 11, ``Cash Settlement,'' FICC has included a new process with 
respect to fail tracking. Fail tracking is an automated process that 
takes place when the actual settlement date of a transaction is beyond 
the contract date. An adjustment is made when one or more beneficiary 
dates (i.e., certain securities have a record date that does not 
represent the end of the accrual period and instead the beneficiary 
date is the actual date the accrual period ends) fall between the 
contract date and the settlement date. The adjustment results in the 
payment of funds from the message originator to the message receiver 
through the Federal Reserve's National Settlement Service. This 
eliminates a cumbersome manual process for tracking and clearing 
adjustments from securities transaction counterparties and it impacts 
all Fed-eligible mortgage-backed securities, including Freddie Mac, 
Fannie Mae, and Ginnie Mae.
     With respect to Rule 26, ``Financial Reports and Internal 
Accounting Control Reports'', Section 1 ``Financial Reports'' has been 
revised to state that FICC will: (i) Prepare its financial statements 
in accordance with Generally Accepted Accounting Principles; (ii) make 
unaudited financial statements

[[Page 15162]]

for the fourth quarter available to its Clearing Members within 60 days 
following the close of FICC's calendar year; and (iii) provide a 
certain level of minimum disclosures in its quarterly financial 
statements. This rule has also been revised to include Section 2 
``Internal Accounting Control Reports,'' which requires FICC to make 
internal accounting control reports available to its Clearing Members.
     The proposed MBSD rules also introduce pool netting fees. 
Below is a description of each fee:
    1. Matched Pool Instruct (``PID'') (per side): When a pool instruct 
is matched resulting from either an instruct or an affirmation (with or 
without pending status), a matched fee is charged to both sides.
    2. Customer Delivery Request (``CDR'') Pool Instruct Fee: When a 
pool instruct in a matched status is included in the net (vs. FICC) a 
CDR fee is charged at the instruct PID level to the Clearing Member 
that submitted the CDR.
    3. Cancel of Matched Pool Instruct: This fee is assessed to the 
Clearing Member submitting a unilateral cancel on a matched pool 
instruct.
    4. Pool Obligation: This fee is charged to the net long and short 
Clearing Member when a Pool Obligation (``POID'') is created versus 
FICC.
    5. Post Net Subs: This fee is charged to the Clearing Member that 
submits a substitution (the net seller) on a POID vs. FICC.
    6. Clearance of Pool vs. FICC: This is a fee associated with 
clearing a POID versus FICC.
    7. Financing Charges (Financing costs are the costs of carrying 
positions overnight): For each Clearing Member, a pass-through charge 
calculated on a percentage of the total of all such costs incurred by 
FICC, allocated by Agency product.
iii. Revised MBSD Rules to Harmonize With GSD Rules
    The provisions listed below are revised to harmonize them with 
similar provisions in the current GSD rules and in some cases updated 
as appropriate to reflect the mortgage-backed securities market:
     Rule 3 Section 12 (Excess Capital Premium)
     Rule 5 Section 10 (Modification of Trade Data by the 
Corporation)
     Rule 14 (Restrictions on Access to Services)
     Rule 15 (Wind-Down of a Member)
     Rule 16 (Insolvency of a Member)
     Rule 17 (Procedures For When the Corporation Ceases to 
Act) (revised for the mortgage-backed securities market)
     Rule 17A (Corporation Default)
     Rule 18 (Charges for Services Rendered)
     Rule 19 (Bills Rendered)
     Rule 20 (Admission to Premises of the Corporation, Powers 
of Attorney, etc.)
     Rule 21 (Forms)
     Rule 22 (Release of Clearing Data)
     Rule 23 (Lists to be Maintained) (revised for the mortgage 
backed-securities market)
     Rule 24 (Signatures)
     Rule 25 (Insurance)
     Rule 26 (Financial Reports and Internal Accounting Control 
Reports) (revised as explained above)
     Rule 27 (Rule Changes)
     Rule 28 (Hearing Procedures)
     Rule 29 (Governing Law and Captions)
     Rule 30 (Limitations of Liability)
     Rule 31 (General Provisions)
     Rule 32 (Cross-Guaranty Agreements)
     Rule 33 (Suspension of Rules in Emergency Circumstances) 
(revised as explained above)
     Rule 34 (Action by the Corporation)
     Rule 35 (Notices)
     Rule 36 (Interpretation of Terms)
     Rule 37 (Interpretation of Rules)
     Rule 38 (Disciplinary Proceedings)
     Rule 39 (DTCC Shareholders Agreement)

 III. Comments

    The Commission received one comment to the proposed rule change, 
from SIFMA.\36\ The commenter supported the proposed rule change, 
stating that the proposed rule change would both reduce risk and 
increase efficiency in the mortgage-backed security market. The 
commenter believes that the proposed rule change would reduce risk 
because it would decrease the number of settlements through the pool 
netting process and as a result likely would reduce the number of fails 
in the market. Furthermore, the commenter believes the proposed rule 
change would provide for a less risky process for the liquidation of 
positions of a defaulting member.\37\ The commenter believes that the 
proposed rule change would increase efficiency because as the total 
number of settlements is reduced through pool netting, market 
participants likely would have to deal with fewer settlement-related 
issues, such as pool notifications, resolution disputes, and fails, for 
which they currently dedicate significant time and resources.
---------------------------------------------------------------------------

    \36\ See supra note 5.
    \37\ The Commission notes that FICC, consulting with market 
participants and regulators and using emergency powers under its 
rulebook, has temporarily provided certain central counterparty 
services in two instances to alleviate liquidity pressure on the 
market: (i) To facilitate the orderly liquidation of Lehman 
Brothers' positions and (ii) to facilitate the orderly liquidation 
of MF Global positions. In both instances, FICC significantly 
reduced the number of deliveries required by netting deliver and 
receive obligations among members.
---------------------------------------------------------------------------

IV. Discussion

    The Commission has carefully considered the proposed rule change 
and the comment thereto and the Commission finds that the proposed rule 
change is consistent with the requirements of the Exchange Act and the 
rules and regulations thereunder.
    The Commission agrees with the commenter that the proposed rule 
change likely will reduce risk and promote efficiency in the mortgage-
backed security market by reducing the number of settlements that are 
performed and as a result reducing the number of settlement-related 
risks and costs that confront counterparties. The Commission also 
believes that the FICC guarantee and the provision of CCP services will 
reduce risks of bilateral counterparty default. The Commission believes 
that these changes are consistent with the Exchange Act, including 
Section 17A, because they should help facilitate the prompt and 
accurate clearance and settlement of securities transactions and help 
assure the safeguarding of securities and funds under FICC's control or 
for which FICC is responsible. In particular, the Commission believes 
that these changes to the MBSD's rules should result in a more 
efficient system of settlement for the mortgage-backed security market.
    The Commission also notes that the MBSD marks Clearing Member 
portfolios to the market on a daily basis and charges variation margins 
accordingly, and establishes initial margins designed to cover a 
minimum 99th percentile of expected possible losses that could arise 
over a 3-day settlement period utilizing a VaR-based approach. In 
addition, in order to further enhance the MBSD's risk framework, the 
MBSD will add two components--the margin requirement differential and 
the coverage charge--to the Clearing Fund, as well as additional MBSD 
mark-to-market items related to the new pool netting services. 
Furthermore, the MBSD uses regular back and stress testing to monitor 
the sufficiency of collected margin levels vis-a-vis the risk 
represented by the 99th percentile of expected possible losses from 
Clearing Member portfolios and to monitor its tail risk exposure that 
is beyond the 99th percentile. The Commission believes these steps 
should, consistent with Section

[[Page 15163]]

17A(b)(3)(A) of the Exchange Act,\38\ facilitate the prompt and 
accurate clearance and settlement of securities transactions and the 
safeguarding of securities and funds under FICC's custody or control or 
for which FICC is responsible.
---------------------------------------------------------------------------

    \38\ 15 U.S.C. 78q-1(b)(3)(A).
---------------------------------------------------------------------------

V. Conclusion

    On the basis of the foregoing, the Commission finds that the 
amended proposed rule change is consistent with the requirements of the 
Exchange Act and in particular Section 17A of the Exchange Act and the 
rules and regulations thereunder.\39\
---------------------------------------------------------------------------

    \39\ 15 U.S.C. 78q-1.
---------------------------------------------------------------------------

    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Exchange Act, that the proposed rule change (File No. SR-FICC-2008-01) 
be, and hereby is, approved.\40\
---------------------------------------------------------------------------

    \40\ 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).

    By the Commission.
    Dated: March 9, 2012.
Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2012-6187 Filed 3-13-12; 8:45 am]
BILLING CODE 8011-01-P


