
[Federal Register Volume 78, Number 115 (Friday, June 14, 2013)]
[Notices]
[Pages 36002-36005]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2013-14112]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-69723; File No. SR-OCC-2013-08]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Notice of Filing of Proposed Rule Change To Reflect Enhancements in 
OCC's System for Theoretical Analysis and Numerical Simulations as 
Applied to Longer-Tenor Options

June 10, 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 May 30, 2013, The Options Clearing Corporation (``OCC'') filed with 
the Securities and Exchange Commission (``Commission'') the proposed 
rule change as described in Items I and II below, which Items have been 
prepared by the clearing agency.\3\ 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.
    \3\ OCC also filed the proposed rule change as an advance notice 
under Section 806(e)(1) of Title VIII of the Dodd-Frank Wall Street 
Reform and Consumer Protection Act entitled the Payment, Clearing, 
and Settlement Supervision Act of 2010 (``Clearing Supervision 
Act''). 12 U.S.C. 5465(e)(1). See SR-OCC-2013-803.
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I. Clearing Agency's Statement of the Terms of Substance of the 
Proposed Rule Change

    The proposed rule change would provide for enhancements in OCC's 
margin model for longer-tenor options (i.e., those options with at 
least three years of residual tenor) and would reflect those 
enhancements in the description of OCC's margin model in OCC's Rules.

II. Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

    In its filing with the Commission, OCC 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. OCC has prepared summaries, set forth in sections A, B, 
and C below, of the most significant aspects of such statements.\4\
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    \4\ The Commission has modified the text of the summaries 
prepared by OCC.
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(A) Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

    The purpose of this proposed rule change is to provide for 
enhancements in OCC's margin model for longer-tenor options (i.e., 
those options with at least three years of residual tenor) and to 
reflect those enhancements in the description of OCC's margin model in 
OCC's Rules. OCC also proposes to make changes to the description of 
OCC's margin model to clarify that description.
1. Background
    On August 30, 2012, OCC submitted a rule change with respect to 
OCC's proposal to clear certain over-the-counter options on the S&P 500 
Index (``OTC Options'').\5\ The OTC Options Rule Filing, as amended, 
added a statement appearing before Section 6 of Article XVII of OCC's 
By-Laws that ``THE BY-LAWS IN THIS SECTION (OTC INDEX OPTIONS) ARE

[[Page 36003]]

INOPERATIVE UNTIL FURTHER NOTICE BY THE CORPORATION'' to clarify that 
OCC would not commence clearing OTC Options until the changes being 
made to OCC's margin model for longer-tenor options, as provided in 
this rule change, were put in place, notwithstanding whether the OTC 
Options Rule Filing had already been approved. OCC is now proposing to 
remove this statement from Section 6, which will allow OCC to commence 
clearing of OTC Options on the S&P 500 Index.
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    \5\ See Release No. 34-67835; File No. SR-OCC-2012-14 (``OTC 
Options Rule Filing''); published September 18, 2012 at 77 FR 57602. 
SR-OCC-2012-14 replaced SR-OCC-2011-19, which was withdrawn on March 
9, 2012. The OTC Options Rule Filing was subsequently amended to add 
a statement to Section 6 of Article XVII of OCC's By-Laws providing 
that the OTC Index Options By-Laws were to be inoperative until 
further notice by OCC. See File No. SR-OCC-2012-14 Amendment No.1.
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    Additional information concerning OCC's proposal to clear OTC 
Options is included in the OTC Options Rule Filing. As described in the 
OTC Options Rule Filing, OCC intends to use its STANS margin system to 
calculate margin requirements for OTC Options on the same basis as for 
exchange-listed options cleared by OCC. However, OCC is proposing to 
implement enhancements to its risk models for all longer-tenor options 
(including OTC Options) in order to better reflect certain risks of 
longer-tenor options. The changes described herein would apply to all 
longer-tenor options cleared by OCC and would be implemented before OCC 
begins clearing OTC Options.
2. Description of Proposed Rule Changes
    OCC states that the proposed rule change includes daily OTC quotes, 
variations in implied volatility, and valuation adjustments in the 
modeling of all longer-tenor options under STANS, thereby enhancing 
OCC's ability to set margin requirements through the use of risk-based 
models and parameters and encouraging clearing members to have 
sufficient financial resources to meet their obligations to OCC. OCC 
believes the proposed rule change would not affect OCC's safeguarding 
of securities and funds in its custody or control because, though it 
may change margin requirements in respect of certain longer-tenor 
options, it does not change the manner in which margin assets are 
pledged. In addition, OCC believes the proposed rule change allows OCC 
to enhance its risk management procedures and controls related to 
longer-tenor options.
    OCC states that it calculates clearing-level margin using STANS, 
which determines the minimum expected liquidating value of each account 
using a large number of projected price scenarios created by large-
scale Monte Carlo simulations. OCC is proposing to implement 
enhancements to the STANS margin calculation methodology with respect 
to longer-tenor options and to amend Rule 601 to reflect these 
enhancements as well as to make certain clarifying changes in the 
description of STANS in Rule 601. The specific details of the 
calculations performed by STANS are maintained in OCC's proprietary 
procedures for the calculation of margin and coded into the computer 
systems used by OCC to calculate daily margin requirements.
    OCC has proposed at this time to clear only OTC Options on the S&P 
500 index and only such options with tenors of up to five years. 
However, OCC currently clears FLEX Options with tenors of up to fifteen 
years. While OCC believes that its current risk management practices 
are adequate for current clearing activity, OCC proposes to implement 
risk modeling enhancements with respect to all longer-tenor options.
Daily OTC Indicative Quotes
    OCC states that, in general, the market for listed longer-tenor 
options is less liquid that the market for other options, with less 
volume and therefore less price information. In order to supplement 
OCC's pricing data derived from the listed markets, and to improve the 
price discovery process for longer-tenor options, OCC proposes to 
include in the daily dataset of market prices used by STANS to value 
each portfolio indicative daily quotations obtained through a third-
party service provider that obtains these quotations through a daily 
poll of OTC derivatives dealers. A third-party service provider was 
selected to provide this data in lieu of having the data provided 
directly by the OTC derivatives dealers in order to avoid unnecessarily 
duplicating reporting that is already done in the OTC markets.
Variations in Implied Volatility
    OCC states that, to date, the STANS methodology has assumed that 
implied volatilities of option contracts do not change during the two-
day risk horizon used by OCC in the STANS methodology. According to 
OCC, back testing of its margin models has identified few instances in 
which this assumption would have, as a result of sudden changes in 
implied volatility, resulted in margin deposits insufficient to 
liquidate clearing member accounts without loss. However, as OCC 
expects to begin clearing more substantial volumes of longer-tenor 
options, including OTC Options, OCC believes that implied volatility 
shocks may become more relevant due to the greater sensitivity of 
longer-tenor options to implied volatility. OCC therefore proposes to 
introduce variations in implied volatility in the modeling of all 
longer-tenor options under STANS. OCC states that this will be achieved 
by incorporating, into the set of risk factors whose behavior is 
included in the econometric models underlying STANS, time series of 
proportional changes in implied volatilities for a range of tenors and 
in-the-money and out-of-the-money amounts representative of the dataset 
provided by OCC's third-party service provider.
    OCC states that it has reviewed individual S&P 500 Index put and 
call options positions with varying in-the-money amounts and with four 
to nine years of residual tenor and that such review indicates that the 
inclusion of modeled implied volatilities tends to result in less 
margin being held against short call positions and more margin being 
held against short put positions. OCC believes these results are 
consistent with what would be expected given the strong negative 
correlation that exists between changes in implied volatility and 
market returns.
    OCC states that the description of the Monte Carlo simulations 
performed within STANS in Rule 601 references revaluations of assets 
and liabilities in an account under numerous price scenarios for 
``underlying interests.'' In order to accommodate the proposed implied 
volatility enhancements, OCC is proposing to amend this portion of Rule 
601 to provide that the scenarios used may also involve projected 
levels of other variables influencing prices of cleared contracts and 
modeled collateral. Accordingly, the references to ``underlying 
interests'' are proposed to be deleted.
Valuation Adjustment
    OCC states that historically it has not cleared a significant 
volume of longer-tenor options, but that it anticipates that there will 
be growth in volume of longer-tenor options, including OTC Options, 
being cleared with three to five year tenors. Longer-tenor options may 
represent a larger portion of any clearing member's portfolio in the 
future, and OCC has therefore identified a need to model anticipated 
changes in the value of longer-tenor options on a portfolio basis in 
order to address OCC's exposure to longer-tenor options that may have 
illiquid characteristics. OCC proposes to introduce a valuation 
adjustment into the portfolio net asset value used by STANS based upon 
the aggregate sensitivity of any longer-tenor options in a portfolio to 
the overall level of implied volatilities at three years and five years 
and to the relationship between implied volatility and exercise prices 
at both the three- and five-year tenors in order to allow for the 
anticipated market impact of unwinding

[[Page 36004]]

a portfolio of longer-tenor options, as well as for any differences in 
the quality of data in OCC's third party service provider's dataset, 
given that month-end data may be subjected to more extensive validation 
by the service provider than daily data. In order to accommodate the 
planned valuation adjustment for longer-tenor options, OCC proposes to 
add language to Rule 601 to indicate that the projected portfolio 
values under the Monte Carlo simulations may be adjusted to account for 
bid-ask spreads, illiquidity, or other factors.
Clarification of Pricing Model Reference in Rule 601
    Rule 601 currently refers to the use of ``options pricing models'' 
to predict the impact of changes in values on positions in OCC-cleared 
contracts. OCC is proposing to amend this description to reflect that 
OCC currently uses non-options related models to price certain 
instruments, such as futures contracts and U.S. Treasury securities. 
OCC states that this change is not intended to be substantive and 
simply clarifies the description in Rule 601.
Effect on Clearing Members
    OCC believes that the proposed rule change will affect clearing 
members who engage in transactions in longer-tenor options, and 
indirectly their customers, by enhancing the STANS margin calculation 
methodology for these options. The STANS enhancements could increase 
margin requirements with respect to these positions. However, OCC 
states that it does not believe that the enhancements will result in 
significantly increased margin requirements for any particular clearing 
member, and therefore that it is not aware of any significant problems 
that clearing members are likely to have in complying with the proposed 
rule change.
    OCC believes the proposed rule change is consistent with the 
purposes and requirements of Section 17A(b)(3)(F) of the Act \6\ and 
the rules and regulations thereunder, including Rules 17Ad-22(b)(2) and 
(d)(2), because, by providing additional clarity to clearing members 
and others concerning the current calculation of margin requirements 
under OCC's Rules, while also enhancing the calculation of margin with 
respect to longer-tenor options, the proposed modifications would help 
remove impediments to and perfect the mechanism of a national system 
for the prompt and accurate clearance and settlement of securities 
transactions,\7\ ensure that OCC's rules are reasonably designed to 
have participation requirements that are objective and publicly 
disclosed and permit fair and open access,\8\ and provide for a well-
founded, transparent, and enforceable legal framework.\9\ OCC states 
that the proposed rule change is not inconsistent with any rules of 
OCC, including any other rules proposed to be amended.
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    \6\ 15 U.S.C. 78q-1.
    \7\ 15 U.S.C. 78q-1(b)(3)(F).
    \8\ 17 CFR 240.17Ad-22(d)(2).
    \9\ 17 CFR 240.17Ad-22(d)(1).
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(B) Clearing Agency's Statement on Burden on Competition

    OCC does not believe that the proposed rule change would impose a 
burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act. With respect to a burden on 
competition among clearing agencies, OCC does not believe that the 
proposed rule change would have any impact because OCC is the only 
registered clearing agency that issues options and provides central 
counterparty services to the options markets.
    OCC does not believe that enhancing OCC's margin model for longer-
tenor options would inhibit access to any of OCC's services or 
disadvantage or favor any user of OCC's services in relationship to any 
other such user because the model enhancements would apply equally to 
all clearing members clearing longer-tenor options. Moreover, OCC 
believes that the proposed rule change would also promote competition 
among participants in the longer-tenor options markets. The rule change 
would enhance OCC's ability to manage risk within OCC's existing 
structure, and improve OCC's ability to reduce systemic risk to the 
longer-tenor options market in general as well as reduce inter-dealer 
counterparty risk in the OTC Options market, allowing for increased 
participation in this market.
    For the foregoing reasons, OCC believes that the proposed rule 
change is in the public interest, would be consistent with the 
requirements of the Act applicable to clearing agencies, and would not 
impose a burden on competition that is unnecessary or inappropriate in 
furtherance of the purposes of the Act because the changes would 
enhance OCC's margin methodology for longer-tenor options in ways that 
help to promote the purposes of the Act and Rule 17Ad-22 thereunder as 
described above.

(C) Clearing Agency's Statement on Comments on the Proposed Rule Change 
Received From Members, Participants, or Others

    Written comments were not and are not intended to be solicited by 
OCC with respect to the proposed rule change and none have been 
received.

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 such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.
    The proposal shall not take effect until all regulatory actions 
required with respect to the proposal are completed.\10\
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    \10\ OCC also filed the proposed rule change as an advance 
notice under Section 806(e)(1) of the Clearing Supervision Act. See 
supra note 3.
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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-OCC-2013-08 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-OCC-2013-08. 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

[[Page 36005]]

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 the filing also will be available for inspection 
and copying at the principal office of OCC and on OCC's Web site 
(http://www.theocc.com/about/publications/bylaws.jsp). All comments 
received will be posted without change; the Commission does 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-OCC-2013-08 and should be 
submitted on or before July 5, 2013.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\11\
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    \11\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-14112 Filed 6-13-13; 8:45 am]
BILLING CODE 8011-01-P


