
[Federal Register Volume 78, Number 5 (Tuesday, January 8, 2013)]
[Notices]
[Pages 1281-1284]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2013-00084]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-68563; File No. SR-ICEEU-2012-11]


Self-Regulatory Organizations; ICE Clear Europe Limited; Notice 
of Filing of Proposed Rule Change Relating to Enhanced Margin 
Methodology

January 2, 2013.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on December 28, 2012, ICE Clear Europe Limited (``ICE Clear Europe'') 
filed with the Securities and Exchange Commission (``Commission'') the 
proposed rule change as described in Items I, II and III below, which 
Items have been prepared primarily by ICE Clear Europe. The Commission 
is publishing this notice to solicit comments on the proposed rule 
change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    ICE Clear Europe proposes to implement an enhanced margin 
methodology (``Decomp Model'') that addresses the risk of both index 
and

[[Page 1282]]

single-name credit default swaps (``CDS'') cleared by ICE Clear Europe 
and permits appropriate portfolio margining between related index and 
single-name CDS positions.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, ICE Clear Europe included 
statements concerning the purpose of, and basis for, the proposed rule 
change and discussed any comments it received on the proposed rule 
change. The text of these statements may be examined at the places 
specified in Item IV below. ICE Clear Europe has prepared summaries, 
set forth in sections A, B, and C below, of the most significant 
aspects of these statements.\3\
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    \3\ The Commission has modified the text of the summaries 
prepared by ICE Clear Europe.
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A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    A fundamental aspect of the Decomp Model is the recognition that 
index CDS instruments cleared by ICE Clear Europe are essentially a 
composition of specific single-name CDS. The Decomp Model includes the 
following enhancements to the ICE Clear Europe margin methodology for 
index CDS instruments (which are already in place for single-name CDS): 
Replacing standard deviation with mean absolute deviation (MAD) as a 
measure of credit spread variability, use of an auto regressive process 
to obtain multi-horizon risk measures, an increased number of spread 
response scenarios, introduction of liquidity requirements and 
introduction of enhanced concentration charge computations to reflect 
net notional amounts in addition to the currently used 5-Year (``5Y'') 
equivalent notional amount. These enhancements and the enhancements 
referenced below have been reviewed and/or recommended by the ICE Clear 
Europe risk management personnel, risk and model review working groups 
and committees, the ICE Clear Europe Risk Committee and an independent 
third-party risk expert (Finance Concepts). Implementation of these 
enhancements to the ICE Clear Europe risk methodology will result 
specifically in a better measurement of the risk associated with 
clearing index CDS.
    As a result of the decomposition of the index CDS, ICE Clear Europe 
will also be able to (1) incorporate jump-to-default risk as a 
component of the risk margin associated with index CDS (which is 
already in place for single-name CDS) and (2) provide appropriate 
portfolio margin treatment between index CDS and offsetting single-name 
CDS positions. Incorporating jump-to-default risk as a component of the 
Decomp Model will result in a better measurement of the risk associated 
with clearing index CDS (as is already the case for single-name CDS). 
Recognizing the highly correlated relationship between long-short 
positions in index CDS and the underlying single-name CDS constituents 
of an index CDS will provide for fundamental and appropriate portfolio 
margin treatment.
    Upon approval of the Decomp Model, ICE Clear Europe would initially 
make appropriate portfolio margining available with respect to its 
Clearing Members' proprietary positions. ICE Clear Europe does not 
currently clear CDS positions of customers of its Clearing Members, but 
it plans to introduce customer clearing for CDS upon receipt of 
applicable regulatory approvals.\4\ The Commission has granted an 
exemptive order permitting ICE Clear Europe to commingle customer 
positions in index CDS and single-name CDS carried through FCM/BD 
Clearing Members in a single account; \5\ in addition, ICE Clear Europe 
has petitioned the Commodity Futures Trading Commission to permit such 
commingling.\6\ Following the commencement of customer clearing for 
CDS, and receipt of all necessary regulatory approvals, ICE Clear 
Europe would make appropriate portfolio margining available to 
commingled customer positions in index and single-name CDS using the 
Decomp Model. Accordingly, the Decomp Model is an important component 
of ICE Clear Europe's planned customer clearing offering.
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    \4\ ICE Clear Europe has filed separately with the Commission 
proposed rule changes relating to customer clearing for CDS. See 
Securities Exchange Act Release No. 34-68152 (November 5, 2012), 77 
FR 67427 (November 9, 2012).
    \5\ See Securities Exchange Act Release No. 34-68433 (December 
14, 2012), 77 FR 75211 (December 19, 2012).
    \6\ See letter from Paul Swann, President & Chief Operating 
Officer, ICE Clear Europe to Mr. David Stawick, Secretary, Commodity 
Futures Trading Commission, dated May 31, 2012.
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    ICE Clear Europe does not believe that the expected phased 
implementation of the portfolio margining element of the proposed 
Decomp Model (commencing with proprietary positions) raises an issue of 
unfair discrimination. Importantly, the portfolio margining aspect of 
the Decomp Model does not unfairly discriminate with respect to 
similarly situated participants because it is available to any 
participant for whom ICE Clear Europe is currently able to provide 
portfolio margin treatment. ICE Clear Europe does not currently offer 
customer clearing in CDS. Once it does so, and upon receipt of all 
necessary regulatory approvals, ICE Clear Europe will offer portfolio 
margining with respect to customer positions. The proposed rule 
amendments are thus not designed to permit unfair discrimination among 
participants in the use of ICE Clear Europe's clearing services.
    In addition, as part of the implementation of the proposed Decomp 
Model, ICE Clear Europe proposes to (1) reduce the current level of 
risk mutualization among ICE Clear Europe's CDS Clearing Members 
through the default resources held in the mutualized CDS Guaranty Fund 
and significantly increase the level of resources held as initial 
margin for CDS Contracts (``Guaranty Fund/IM Modification''), (2) 
modify the initial margin risk model approach in a manner that will 
make it easier for market participants to measure their risks, by 
removing the conditional recovery rate stress scenarios and adding a 
new recovery rate sensitivity component (``IM Recovery Rate 
Modification''), (3) introduce the 5Y equivalent notional amount (``5Y 
ENA'') per single-name/index with the worst of concentration charge 
based on 5Y ENA or net notional amount (``NNA'') being applied (``IM 
Concentration Charge Modification''), (4) add a new basis risk 
component from single-name CDS positions that are offset by index-
derived single-name CDS positions (``IM Basis Risk Modification'') and 
(5) combine a single guaranty fund calculation for index CDS and 
single-name CDS positions (``Guaranty Fund Modification'').
    Currently, ICE Clear Europe maintains a high percentage of its 
default resources for CDS Contracts in the CDS Guaranty Fund, as 
compared to initial margin for CDS Contracts. This reflects the fact 
that the current CDS Guaranty Fund model is designed to cover the 
uncollateralized losses that would result from the three single names 
that would cause the greatest losses when entering a state of default. 
The Guaranty Fund/IM Modification incorporates into the initial margin 
risk model the single name that causes the greatest loss when entering 
a state of default (i.e., the single name that results in the greatest 
amount of loss when stress-tested to undergo a credit event). This 
change effectively collateralizes the loss that would occur from this 
single name upon default. Consequently, the amount of

[[Page 1283]]

uncollateralized loss that would result from the three single names 
causing the greatest losses when entering a state of default is 
reduced, thereby reducing the amount of required contributions to the 
CDS Guaranty Fund.
    It is important to note that the decrease in the CDS Guaranty Fund 
and the increase in initial margin requirements are not equivalent in 
terms of magnitudes. Instead, based on current portfolios, it is 
expected that for every $1 decrease in the CDS Guaranty Fund 
requirement there will be a corresponding increase of approximately $5 
in initial margin requirements.
    The IM Recovery Rate Modification modifies the initial margin risk 
model by removing the conditional recovery rate stress scenarios and 
adding a new recovery rate sensitivity component that is computed by 
considering changes in the recovery rate assumptions and their impact 
on the net asset value of the CDS portfolio. This modification will 
make it easier for market participants to replicate their initial 
margin requirements.
    The IM Concentration Charge Modification defines concentration 
charge thresholds in terms of NNA as well as 5Y ENA and takes the more 
conservative concentration requirement based on either notional amount. 
This modification captures the risk of large directional CDS positions 
that may not be captured by the calculation based on NNA. For example, 
a set of large NNA positions, whose maturity date is close to the 
current date, may not be subject to concentration charges based on 5Y 
ENA if the estimated 5Y ENA is below the established threshold. The 
alternative NNA-based concentration charge computations may yield 
significant additional initial margin requirements as the NNA exceeds 
the established threshold.
    As index-derived single-name positions and outright single-name 
positions are offset, an additional basis risk requirement is 
introduced to account for the fact that the index instruments are more 
actively traded than single-name instruments and thus are the preferred 
instruments to express changing views about the credit market as a 
whole, or even about specific single-name components of the indices. 
The IM Basis Risk Modification captures the risk associated with 
differences between outright single-name CDS positions and index-
derived single-name CDS positions. In other words, a ``perfectly 
hedged'' portfolio consisting of an index CDS position and opposite 
index replicating single-name CDS positions will still attract an 
initial margin requirement due to the basis risk that exists.
    Currently, ICE Clear Europe estimates separate guaranty fund sizes 
for index CDS positions and single-name positions. The Guaranty Fund 
Modification takes into account the portfolio benefits between index 
and single-name positions, and incorporates the worst 2-member 
uncollateralized losses coming from the jump-to-default, spread 
response, basis and interest rate stress scenario considerations.
    Section 17A(b)(3)(F) of the Act \7\ requires, among other things, 
that the rules of a clearing agency be designed to promote the prompt 
and accurate clearance and settlement of securities transactions and, 
to the extent applicable, derivative agreements, contracts, and 
transactions, and to assure the safeguarding of securities and funds 
which are in the custody or control of the clearing agency or for which 
it is responsible. ICE Clear Europe believes that the changes will 
facilitate the prompt and accurate settlement and risk management of 
security-based swaps and contribute to the safeguarding of securities 
and funds associated with security-based swap transactions. As 
discussed above, ICE Clear Europe does not believe that the portfolio 
margining-related proposed changes raise an issue of unfair 
discrimination in the use of ICE Clear Europe's clearing services by 
similarly situated participants.
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    \7\ 15 U.S.C. 78q-1(b)(3)(F).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    ICE Clear Europe does not believe the proposed changes to its 
margin methodology would have any impact, or impose any burden, on 
competition.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants or Others

    ICE Clear Europe will notify the Commission of any written comments 
received by ICE Clear Europe. As noted above, ICE Clear Europe has 
consulted extensively with CDS Clearing Members and others in 
developing the Decomp Model.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period up to 90 days (i) as the 
Commission may designate if it finds such longer period to be 
appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove the proposed rule change or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml) or
     Send an email to rule-comments@sec.gov. Please include 
File Number SR-ICEEU-2012-11 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-ICEEU-2012-11. This file 
number should be included on the subject line if email is used. To help 
the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (http://www.sec.gov/rules/sro.shtml). Copies of the submission, all subsequent amendments, all 
written statements with respect to the proposed rule change that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. Copies of such filings will also be available 
for inspection and copying at the principal office of ICE Clear Europe 
and on ICE Clear Europe's Web site at https://www.theice.com/publicdocs/regulatory_filings/ICEU_SEC_122812.pdf.
    All comments received will be posted without change; the Commission 
does

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not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly. All 
submissions should refer to File Number SR-ICEEU-2012-11 and should be 
submitted on or before January 29, 2013.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\8\
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    \8\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-00084 Filed 1-7-13; 8:45 am]
BILLING CODE 8011-01-P


