
[Federal Register Volume 80, Number 96 (Tuesday, May 19, 2015)]
[Notices]
[Pages 28733-28735]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-12032]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-74955; File No. SR-ICEEU-2015-007]


Self-Regulatory Organizations; ICE Clear Europe Limited; Order 
Approving Proposed Rule Change Relating to Collateral and Haircut 
Policy

May 13, 2015.

I.Introduction

    On March 13, 2015, ICE Clear Europe Limited (``ICE Clear Europe'' 
or ``Clearing House'') filed with the Securities and Exchange 
Commission (``Commission'') a proposed rule change pursuant to Section 
19(b)(1) of the Securities Exchange Act of 1934 (``Act''),\1\ and Rule 
19b-4 thereunder,\2\ to implement a new collateral and haircut policy 
(the ``Haircut Policy'') applicable to Permitted Cover posted by 
Clearing Members to meet the Clearing House's Margin and Guaranty Fund 
requirements. The proposed rule change was published for comment in the 
Federal Register on March 31, 2015.\3\ The Commission did not receive 
comment letters regarding the proposed change. For the reasons 
discussed below, the Commission is granting approval of the proposed 
rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 34-74579 (Mar. 25, 
2015), 80 FR 17132 (Mar. 31, 2015) (SR-ICEEU-2015-007).
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II. Description of the Proposed Rule Change

    ICE Clear Europe proposes to implement a Haircut Policy, which 
would codify and consolidate certain existing practices of the Clearing 
House with respect to Permitted Cover. The proposed Haircut Policy is 
designed (i) to set out overall principles with respect to the assets 
accepted by the Clearing House as Permitted Cover; (ii) to establish a 
framework for determining absolute and relative limits, as applicable, 
on the value of the collateral that may be posted by a Clearing Member 
as Permitted Cover; (iii) to establish a value-at-risk (``VaR'') based 
methodology for determining haircuts for all Permitted Cover; (iv) to 
mitigate wrong-way risk from Permitted Cover; (v) to address sources 
for pricing Permitted Cover; and (vi) to set out certain related 
monitoring, reviewing and reporting procedures. The Haircut Policy 
would apply to Permitted Cover provided for all product classes (F&O, 
CDS and FX).\4\ Following implementation, the Clearing House will from 
time to time adjust the haircuts applicable to Permitted Cover under 
the methodology set forth in the policy.
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    \4\ ICE Clear Europe notes that although the Haircut Policy 
generally also applies to Permitted Cover posted with respect to 
Guaranty Fund requirements, certain additional requirements apply to 
Guaranty Fund contributions under the Rules and Finance Procedures. 
Those additional requirements are not proposed to be changed in 
connection with the Haircut Policy.
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    The general aims of the proposed Haircut Policy are to ensure that 
the Clearing House can efficiently liquidate all forms of Permitted 
Cover, that appropriate prices are used for valuation of Permitted 
Cover and that appropriate haircuts (including, as applicable, cross-
currency haircuts) are used. The proposed Haircut Policy would codify 
certain general principles considered by the Clearing House in 
accepting assets as Permitted Cover, including availability of pricing 
information, the existence of liquid and active markets for buyers and 
sellers of those assets, the existence of sufficient price history, the 
ability to liquidate Permitted Cover without causing a market 
disruption, compliance with legal and regulatory requirements and 
sufficient operational and technological framework to handle deposit, 
liquidation and return of such assets as Permitted Cover.
    Under the proposed Haircut Policy, cash collateral must be in one 
of several specified currencies underlying contracts cleared by the 
Clearing House. Additional general requirements would apply to 
financial instruments, including prohibitions on acceptance of 
instruments that have non-``vanilla'' features such as embedded 
options, instruments issued by a Clearing Member or its affiliate, 
instruments issued by a CCP or by entities that provide critical 
services to the Clearing House (other than central banks) and certain 
credit-based limits. Such limits would require that the issuer is rated 
at least ``BBB-'' by S&P (or its equivalent), the average yield on the 
asset over the previous three months is not greater than 8%, and the 5-
year CDS spread of the issuer has not exceeded 500 basis points over 
the previous three months. The proposed Haircut Policy provides that 
where market conditions warrant, or where the Clearing House's 
sovereign risk model indicates deteriorating credit below a certain 
threshold (i.e., ``BBB-'' by S&P), the Clearing House may remove 
securities from the list of Permitted Cover and/or vary applicable 
haircuts. ICE Clear Europe will notify Clearing Members and other 
market participants of such actions by Circular. ICE Clear Europe 
maintains the current List of Permitted

[[Page 28734]]

Cover (along with haircut rates, limits and restrictions) on its Web 
site at https://www.theice.com/publicdocs/clear_europe/list-of-permitted-covers.pdf.
    The proposed Haircut Policy contains a methodology for setting 
absolute limits on the value of non-cash Permitted Cover that can be 
posted by a Clearing Member.\5\ Absolute collateral limits would apply 
across a group of affiliated Clearing Members and apply across all 
product categories cleared by that group. The policy also sets out 
relative (or concentration) limits for Permitted Cover provided by a 
Clearing Member. ICE Clear Europe publishes on its Web site the current 
absolute and relative limits on government bonds provided as Permitted 
Cover. In addition, the policy sets out procedures for monitoring of 
limits on a daily basis and for remediation of breach of a limit by a 
Clearing Member. The risk management department will monitor all 
collateral limits on a daily basis using a collateral breakdown report 
which flags limit breaches. Breaches will be reviewed internally and 
the relevant Clearing Member will be contacted. Breaches can be 
remediated by posting additional collateral, removal of collateral that 
is in breach of a limit, or both of the above.
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    \5\ The Clearing House does not impose absolute or relative 
limits on the use of U.S. Treasury securities as Permitted Cover.
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    The policy also provides for a risk-based reduction in absolute 
limits for government bonds based on the credit default swap (``CDS'') 
spread for the relevant issuer in order to mitigate wrong-way risk 
arising from government bonds accepted as Permitted Cover. Once the 
spread exceeds a specified level for a particular issuer, the absolute 
limit for Permitted Collateral of that issuer would be reduced pursuant 
to a defined formula. If the spread exceeds a second level, the 
absolute limit will be reduced to 5% of the otherwise applicable 
original limit. Spread levels are determined using a five-day average 
to avoid excessive volatility. The specified parameters will be 
reviewed on a quarterly basis.
    Specific wrong-way risk arising in connection with clearing of 
Western European sovereign CDS is addressed through a requirement that 
U.S. dollar denominated collateral be provided for initial margin and 
that a portion of the CDS Guaranty Fund be U.S. dollar-based 
(determined based on the ratio between the dollar-denominated and Euro-
denominated initial margin requirements for CDS). In addition, where 
the member's aggregate short position in sovereign CDS with respect to 
a sovereign exceeds a specified threshold, the Clearing House may 
decline to accept government bonds of that sovereign or any other 
sovereign bonds that exhibit certain correlations with such government 
bonds.
    The Haircut Policy also addresses potential wrong-way risk arising 
from Permitted Cover more generally. The Clearing House will monitor 
collateral on a daily basis. Where the Clearing House considers there 
to be strong general wrong-way risk between a Clearing Member and the 
asset it is posting, the Clearing House will ask the member to change 
the composition of collateral to mitigate that risk.
    The Haircut Policy establishes a VaR-based methodology for 
determining haircuts for Permitted Cover. Under the proposed Haircut 
Policy, the Clearing House will calculate six different estimations of 
VaR for each applicable risk factor. Each estimation is calculated 
using a 99.9% confidence interval (applicable to Permitted Cover posted 
with respect to all product categories). The proposed haircut will be 
based on the largest VaR of the 6 estimations. The policy specifies 
relevant price sources that will be used for the calculation of 
haircuts for each type of Permitted Cover. Haircuts will be determined 
using the bid prices of Permitted Cover assets, in order to account for 
higher liquidation costs in stressed markets. The applicable haircuts 
will be reviewed on a monthly basis, or more frequently where the risk 
management department deems it necessary.
    Under the proposed policy, the risk management department may 
further adjust the haircut determined under the model as it determines 
prudent in light of additional qualitative and quantitative factors, 
including: the Clearing House's credit assessment of the issuer, 
current market conditions and volatility, expected future volatility, 
the liquidity of the underlying market for the asset, including bid/ask 
spread, wrong way risk considerations, VaR estimates determined for a 
period of stressed market conditions, and other factors that might 
affect the liquidity or value of an asset in stressed market 
conditions. ICE Clear Europe anticipates that such adjustments to the 
value calculated under the model would be used only in exceptional 
circumstances and would expect to use such adjustments to increase 
haircuts in stressed market circumstances. ICE Clear Europe has stated 
that it will make judicious use of current market information to 
override the model but anticipates exercising this ability in less than 
5% of haircut rates.
    The proposed Haircut Policy also sets a minimum haircut level of 3% 
in order to avoid pro-cyclical variation in haircuts and will review 
this minimum level annually under the Haircut Policy. In addition, a 
haircut add-on of up to 1% will be applied during the period until the 
next monthly review to issuers presenting increased credit risk. The 
add-on is applied once the issuer's CDS spread exceeds a specified 
level, and increases in steps of 0.25% up to a maximum of 1% where the 
CDS spread exceeds higher thresholds. The add-on is generally designed 
to anticipate potential haircut increases as part of the next monthly 
review cycle.
    The proposed policy also imposes cross-currency haircuts to address 
the exchange rate risk faced by the Clearing House where the Permitted 
Cover is denominated in a different currency from the currency of the 
applicable margin requirement. Under the proposed Haircut Policy, 
cross-currency haircuts are determined using the same methodology 
described above for other haircuts, but are subject to a minimum 
haircut of 4.5%. Cross-currency haircuts will be applied in addition to 
any applicable haircut for the relevant form of Permitted Cover.
    The Clearing House will monitor Permitted Cover on a daily and 
intraday basis. The Clearing House may, under its existing Rules and 
the Haircut Policy, take action to mitigate any change in risk, 
including by increasing haircuts, calling for additional collateral, 
reducing concentration limits and removing an asset from eligibility as 
Permitted Cover. The Clearing House will monitor the value of Permitted 
Cover deposited with it on a real time basis. Any change in a member's 
intra-day cover value that is greater than 3% will be flagged 
immediately by the Risk Management intraday monitoring system that is 
monitored by the Risk Management team throughout the business day. Any 
breach will be investigated and appropriate action taken where 
necessary. The Clearing House also will backtest haircuts based on 
price moves observed in the markets on a daily basis, and review 
haircut levels if a price move breaches an existing haircut. The 
Clearing House will prepare daily reports with respect to Permitted 
Cover for purposes of internal monitoring and provide monthly reports 
to the relevant Risk Committees and Board Risk Committee.
    The Clearing House will review the Haircut Policy on an annual 
basis (which will include review by the Board Risk Committee) or where 
there is a material change to the risk exposure of the Clearing House. 
The Haircut Policy

[[Page 28735]]

also will be independently reviewed annually under the Clearing House's 
model governance framework.

III. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act \6\ directs the Commission to 
approve a proposed rule change of a self-regulatory organization if the 
Commission finds that such proposed rule change is consistent with the 
requirements of the Act and the rules and regulations thereunder 
applicable to such self-regulatory organization. Section 17A(b)(3)(F) 
of the Act \7\ requires, among other things, that the rules of a 
clearing agency are designed to promote the prompt and accurate 
clearance and settlement of securities transactions and, to the extent 
applicable, derivative agreements, contracts, and transactions and, in 
general, to protect investors and the public interest.
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    \6\ 15 U.S.C. 78s(b)(2)(C).
    \7\ 15 U.S.C. 78q-1(b)(3)(F).
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    The Commission finds that the proposed rule change is consistent 
with Section 17A of the Act \8\ and the rules thereunder applicable to 
ICE Clear Europe. The proposed Haircut Policy will codify the general 
principles and limitations for assets accepted by ICE Clear Europe as 
Permitted Cover. The proposed policy also provides a framework for 
ensuring that appropriate prices are used to value Permitted Cover and 
establishes a VaR-based methodology, utilizing six different 
estimations for each applicable risk factor and calculating each 
estimation using a 99.9% confidence interval, for determining haircuts 
to ensure that the value of Permitted Cover held by ICE Clear Europe is 
sufficient to cover the Clearing House's Margin and Guaranty Fund 
requirements. The policy also provides a methodology for setting 
absolute and relative concentration limits on particular bonds a 
Clearing Member may provide as Permitted Cover to guard against 
liquidity and concentration risks and establishes several measures 
designed to mitigate wrong-way-risk. In addition, the proposed policy 
provides procedures for the regular review and monitoring of Permitted 
Cover and associated haircuts and permits the Clearing House to respond 
promptly to changes in market conditions by modifying haircuts or other 
limits on Permitted Cover. Accordingly, the Commission believes that 
the Haircut Policy is designed to appropriately value Permitted Cover 
and enable ICE Clear Europe to efficiently and effectively liquidate 
all forms of accepted Permitted Cover to satisfy its payment 
obligations in the event of a Clearing Member default. The Commission 
therefore finds that the proposed rule change is designed to promote 
the prompt and accurate clearance and settlement of securities 
transactions and, to the extent applicable, derivative agreements, 
contracts, and transactions and, in general, to protect investors and 
the public interest in accordance with Section 17A(b)(3)(F) of the 
Act.\9\
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    \8\ 15 U.S.C. 78q-1.
    \9\ 15 U.S.C. 78q-1(b)(3)(F).
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IV. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposal is consistent with the requirements of the Act and in 
particular with the requirements of Section 17A of the Act \10\ and the 
rules and regulations thereunder.
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    \10\ 15 U.S.C. 78q-1.
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    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\11\ that the proposed rule change (File No. SR-ICEEU-2015-007) be, 
and hereby is, approved.\12\
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    \11\ 15 U.S.C. 78s(b)(2).
    \12\ In approving the proposed rule change, the Commission 
considered the proposal's impact on efficiency, competition and 
capital formation. 15 U.S.C. 78c(f).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\13\
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    \13\ 17 CFR 200.30-3(a)(12).
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Robert W. Errett,
Deputy Secretary.
[FR Doc. 2015-12032 Filed 5-18-15; 8:45 am]
 BILLING CODE 8011-01-P


