
[Federal Register Volume 80, Number 201 (Monday, October 19, 2015)]
[Notices]
[Pages 63269-63272]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2015-26423]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-76136; File No. SR-ICEEU-2015-010]


Self-Regulatory Organizations; ICE Clear Europe Limited; Order 
Approving Proposed Rule Change, as Modified by Amendment No. 1 Thereto, 
Relating to Credit Default Swap Risk Policies

October 13, 2015.

I. Introduction

    On June 25, 2015, ICE Clear Europe Limited (``ICE Clear Europe'') 
filed with the Securities and Exchange Commission (``Commission''), 
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ a proposed rule change to 
amend certain of its credit default swap (``CDS'') risk policies (the 
``Risk Policy Amendments'') in order to enhance its current risk model 
(SR-ICEEU-2015-010). The proposed rule change was published for comment 
in the Federal Register on July 16, 2015.\3\ On July 21, 2015, ICE 
Clear Europe filed Amendment No. 1 to the proposed rule change solely 
to reflect the formal approval of the Risk Policy Amendments by the ICE 
Clear Europe Board.\4\ ICE Clear Europe consented to an extension of 
the time period in which the Commission shall approve, disapprove, or 
institute proceedings to determine whether to disapprove the proposed 
rule change to October 14, 2015. The Commission received no comment 
letters regarding the proposed change. For the reasons discussed below, 
the Commission is approving the proposed rule change, as modified by 
Amendment No. 1.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 34-75426 (July 10, 
2015), 80 FR 42146 (July 16, 2015) (SR-ICEEU-2015-010).
    \4\ In its filing on June 25, 2015, ICE Clear Europe represented 
that the Risk Policy Amendments would be approved by the ICE Clear 
Europe Board before implementation. ICE Clear Europe subsequently 
filed Amendment No. 1 to state that the ICE Clear Europe Board 
approved the Risk Policy Amendments on July 8, 2015. Amendment No. 1 
is not subject to notice and comment because it is a technical 
amendment that does not alter the substance of the proposed rule 
change or raise any novel regulatory issues.
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II. Description of the Proposed Rule Change

    ICE Clear Europe has proposed amending certain risk policies 
relating to the CDS product category to incorporate enhancements to the 
existing CDS risk model. The relevant policies to be modified are the 
CDS Risk Policy (``CDS Risk Policy'') and the CDS Risk Model 
Description (``Risk Model Description''). ICE Clear Europe did not 
propose to make any changes to its Clearing Rules or Procedures in 
connection with these amendments.
    ICE Clear Europe has proposed to, among other matters, (i) modify 
the credit spread response component of the risk model to devolatilize 
returns, (ii) enhance the portfolio spread response component of the 
risk model to limit procyclicality, (iii) establish a new framework for 
recovery rate sensitivity requirement (``RRSR'') parameters, (iv) 
modify the CDS Guaranty Fund allocation methodology, (v) modify index 
liquidity and concentration charges and (vi) revise procedures for 
intraday margin calls. The Risk Policy Amendments would also include 
certain other clarifications and conforming changes.
    The following is a summary of the principal changes to be made by 
the Risk Policy Amendments:
    Devolatilization of Credit Spread Response. Under the revised Risk 
Model Description, the credit spread response component of the margin 
model would be revised to provide that the tail estimation of the 
relevant fitted returns distribution is based on devolatilized returns. 
ICE Clear Europe has represented that the use of devolatilized returns 
in this manner facilitates the comparison of returns for periods with 
different volatilities.
    Procyclicality of Portfolio Spread Response. In order to limit 
procyclicality of the spread response component of the model, ICE Clear 
Europe has proposed to modify the CDS Risk Policy and Risk Model 
Description to use an additional portfolio analysis that features price 
changes observed during and immediately after the Lehman Brothers 
default. According to ICE Clear Europe, the analysis considers price 
scenarios derived from the greatest price decrease and increase during 
and immediately after the Lehman Brothers default. ICE Clear Europe has 
designed these scenarios to capture the default of a major participant 
in the credit market and the market response to the event. ICE Clear 
Europe has defined the introduced scenarios in price terms to maintain 
the stress severity during periods of low credit spread levels (high 
price) when the spread response requirements, computed under the 
current framework, are expected to be lower. Furthermore, ICE Clear 
Europe has also incorporated the Lehman default price scenarios into 
the

[[Page 63270]]

calculation of CDS Guaranty Fund requirements.\5\
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    \5\ ICE Clear Europe has represented that this enhancement also 
addresses a regulatory requirement in Article 30 of the Regulatory 
Technical Standards implementing the European Market Infrastructure 
Regulations (``EMIR''). Commission Delegated Regulation (EU) No. 
153/2013 of 19 December 2012 Supplementing Regulation (EU) No. 648/
2012 of the European Parliament and of the Council with regard to 
Regulatory Technical Standards on Requirements for Central 
Counterparties (the ``Regulatory Technical Standards'').
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    Recovery Rate Sensitivity Requirements. ICE Clear Europe has 
proposed to revise the Risk Model Description to incorporate a more 
sensitive parameter estimation approach for the RRSR computation. The 
RRSR factor is designed to capture the risk of fluctuations in market 
expected recovery rates under CDS transactions. Under the current 
model, the RRSR is determined using fixed minimum and maximum recovery 
rate stress scenarios based on sector levels. In calculating the RRSR, 
all instruments belonging to a risk factor (``RF'') or risk sub-factor 
(``RSF'') are subjected to recovery rate stress scenarios to obtain 
resulting profit/loss responses, and the worst scenario response is 
chosen for the estimation of the RRSR. (In addition, these same 
recovery rate stress scenarios are used in determination of jump-to-
default requirements.)
    ICE Clear Europe has proposed separating the recovery rate stress 
levels for these two computations in order to introduce more dynamic 
and appropriate estimations of the recovery rate stress levels for RRSR 
purposes. Under the revised framework, the recovery rate levels for 
RRSR purposes will be determined using a 5-day, 99% confidence interval 
expected shortfall risk measure assuming a distribution of recovery 
rate fluctuations. The proposal will also eliminate index RRSR, as 
index recovery rates are assumed under relevant market convention and 
are thus not subject to market uncertainty. ICE Clear Europe represents 
that the dynamic feature of the revised stress level estimations is 
achieved by analyzing historical time series of recovery rates in order 
to calibrate a statistical model with a time varying volatility. In ICE 
Clear Europe's view, the proposed enhancements provide a robust and 
quantitative driven approach for establishing the recovery rate stress 
scenarios.
    Modifications to Guaranty Fund Methodology. ICE Clear Europe has 
proposed certain clarifications and enhancements to its CDS Guaranty 
Fund methodology. The Risk Model Description will be revised to clarify 
that the CDS Guaranty Fund size is calculated to cover losses 
associated with the default of the two Clearing Members and their 
affiliates that create the greatest cumulative uncollateralized loss 
under extreme but plausible scenarios. Certain other clarifications 
will be made in the calculation of the various components of the 
overall CDS Guaranty Fund requirement.
    ICE Clear Europe has also proposed to modify the procedure for 
allocating CDS Guaranty Fund requirements among the CDS Clearing 
Members. Under the existing model, CDS Guaranty Fund allocations 
reflect a risk ``silo'' approach, in which a Clearing Member's 
contribution reflects its uncollateralized exposure for each CDS 
Guaranty Fund component or ``silo''. Under the current approach, 
allocations can significantly fluctuate in response to position changes 
in the portfolios of the Clearing Members that drive the CDS Guaranty 
Fund size, and in response to the distribution of the total CDS 
Guaranty Fund size across all ``silos''. ICE Clear Europe has proposed 
modifying the methodology, so that the allocations are based on the 
Clearing Members' total unconditional uncollateralized losses in the 
CDS product category.\6\ ICE Clear Europe represents that under the 
proposed approach, the allocations are independent of the distribution 
of the uncollateralized losses across the ``silos''. In ICE Clear 
Europe's view, the new allocation methodology reflects an improved and 
more stable approach which allows for easier attributions of 
contributions to individual CDS Clearing Member or client portfolios.
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    \6\ ICE Clear Europe has represented that the existing specific 
wrong way risk component of the CDS Guaranty Fund calculation is 
maintained.
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    ICE Clear Europe has also proposed revising the CDS Risk Policy's 
discussion of the initial CDS Guaranty Fund contribution to be 
consistent with the requirements of the Finance Procedures.
    Index Liquidity and Concentration Charges. ICE Clear Europe has 
proposed to modify the liquidity charge calculation in the margin model 
as it applies to index CDS positions. (The existing liquidity charge 
calculation for single-name CDS will remain unchanged.) ICE Clear 
Europe represents that the revised approach will address calculation of 
liquidity charges where index CDS is traded under either price or 
spread terms, and will calculate a separate liquidity charge for 
positions in each series of the relevant index. ICE Clear Europe also 
represents that the revised approach limits the reduction in liquidity 
charge for offsetting positions across different series of the same 
index family, by applying the greater of the liquidity charge 
applicable to the long and short positions in the relevant portfolio in 
the same index family. According to ICE Clear Europe, under the revised 
methodology, the reduction in liquidity charge is greatest across 
positions in the ``on-the-run'' (current) index and first (most recent) 
``off-the-run'' indices, with a higher reduction during the period 
immediately following the index roll (when the two indices are treated 
as effectively the same index) and a lower reduction over time as the 
liquidity of contracts in the two series diverge.
    ICE Clear Europe has proposed to modify the concentration charge 
calculation for index CDS positions. (Again, the existing approach for 
single-name CDS will not change.) ICE Clear Europe represents that the 
revised framework provides for calculation of series-specific 
concentration charges, based on the direction of the 5-year equivalent 
notional amount or the net notional amount of positions in the 
particular series and a series threshold limit (above which the 
concentration charge is imposed). According to ICE Clear Europe, series 
threshold limits are expected to be higher for the on-the-run and the 
first off-the-run index series, and are determined based on a formula 
comparing the open interest in the series to the on-the-run open 
interest.
    Intraday Margin Calls. ICE Clear Europe has proposed certain 
amendments to the intra-day risk monitoring and special margin call 
processes. Under ICE Clear Europe's proposal, intra-day margin calls 
will be made based on an ``Intraday Risk Limit.'' The Intraday Risk 
Limit will be set at the Clearing Member level and is calculated based 
on 40% of the total initial margin requirements (across all account 
classes), with a minimum amount of EUR 15 million and a maximum of EUR 
100 million. Intra-day margin calls will be made on the following 
basis: (i) Where there has been a 50% erosion of the Intraday Risk 
Limit, the Risk Department will investigate what is driving the 
shortfall and monitor the CDS Clearing Member, (ii) where the erosion 
of the Intraday Risk Limit exceeds 50%, the Risk Department will inform 
the CDS Clearing Member that its initial margin may cease to be 
sufficient and that it may be subject to an intraday margin call, and 
(iii) where there has been a 100% erosion of the Intraday Risk Limit, 
the Risk Department will issue an intraday margin call to the CDS 
Clearing Member (and will also contact it by telephone and/or email) 
for a sum

[[Page 63271]]

sufficient to reduce the level of Intraday Risk Limit erosion back to 
0%. The member intraday shortfall is the sum of intraday shortfalls at 
the account level (i.e. house and client accounts), and the account 
level shortfall represents the unrealized profit and loss from the 
aggregate change in the Mark-to-Market Margin and Initial Margin.
    Governance. ICE Clear Europe has proposed revising the CDS Risk 
Policy to address in further detail management and governance oversight 
in a new Management and Governance Oversight section. The new section 
will provide that the CDS Director of Risk is responsible for ensuring 
that the CDS Risk Policy remains up-to-date and is reviewed in 
accordance with certain guidelines. The Risk Working Group (``RWG'') 
and Trading Advisory Committee (``TAC'') will provide on-going 
consultation and support with respect to the CDS Risk Policy. The 
composition of the RWG and the TAC will include both ICE Clear Europe 
Management and Clearing Member representatives, mainly from risk, 
trading and compliance areas.
    Under ICE Clear Europe's proposal, changes to the CDS Risk Policy 
will be subject to initial approval by the Director of Risk and may be 
determined in consultation with the RWG and/or the TAC. Any changes 
that affect the risk profile of ICE Clear Europe will be subject to 
Board approval on the advice and support of the CDS Risk Committee and 
the Board Risk Committee. In addition, the CDS Risk Policy will be 
subject to at least an annual routine approval by the Board, after 
consultation with the CDS Risk Committee and the Board Risk Committee. 
CDS risk model performance testing will be subject to review by the 
Director of Risk and reported to the CDS Risk Committee and the Board 
Risk Committee.
    Additional Changes. ICE Clear Europe has proposed certain other 
clarifications and enhancements in the Risk Policy Amendments. Certain 
clarifications will be made in the CDS Risk Policy with respect to 
wrong way risk requirements. The policy will also be revised to clarify 
that the currency specific initial margin requirements must cover at 
least the specific and general wrong way risk components of the initial 
margin requirement for the relevant currency. ICE Clear Europe has also 
revised the CDS Risk Policy to incorporate (without change) from the 
its existing CDS clearing membership policy the capital-to-margin ratio 
limit (which requires that certain remedial actions be taken if the 
margin requirement for a Clearing Member's CDS positions would exceed 
three times the Clearing Member's capital as set forth on its balance 
sheet). The description of the Clearing House's Monte Carlo model will 
be revised to clarify that model parameters used are the same as those 
used in the credit spread model. Various other defined terms and 
certain obsolete references will be updated throughout the CDS Risk 
Policy and Risk Model Description.

III. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act \7\ 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 \8\ 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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    \7\ 15 U.S.C. 78s(b)(2)(C).
    \8\ 15 U.S.C. 78q-1(b)(3)(F).
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    The Commission finds that the proposed rule change, as modified by 
Amendment No. 1, is consistent with Section 17A of the Act \9\ and the 
rules thereunder applicable to ICE Clear Europe, including the 
requirements of Rule 17Ad-22.\10\ The Commission believes that using 
devolatilized returns should enhance the credit spread response 
component of the margin model by enabling comparison of returns for 
periods with different volatilities. The Commission also believes that 
the proposed framework for establishing RRSR parameters would use a 
more robust and quantitative driven approach for establishing the RR 
stress scenarios, resulting in more dynamic and appropriate estimations 
of the RR stress levels for RRSR purposes. Additionally, the Commission 
finds that the incorporation of the Lehman Brothers default price 
scenarios into the computation of the spread response requirements 
enhances the anti-procyclical feature of ICE Clear Europe's risk 
methodology.
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    \9\ 15 U.S.C. 78q-1.
    \10\ 17 CFR 240.17Ad-22.
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    The Commission further finds that the proposed modifications to the 
CDS Guaranty Fund allocation methodology to reflect the Clearing 
Member's total uncollateralized losses across all Guaranty Fund 
components regardless of the fluctuation of the Clearing Member's 
uncollateralized losses with respect to each Guaranty Fund component 
should result in more stable attributions of GF contributions to 
individual Clearing Member or portfolios. The Commission also believes 
that the proposed rule change to establish series-specific index 
liquidity and concentration charges should generally apply a more 
conservative approach to these margin components. Additionally, the 
Commission believes that the proposed rule change to intraday margin 
calls, in conjunction with ICE Clear Europe's existing risk policies 
and other proposed changes to the risk methodology, is reasonably 
designed to allow ICE Clear Europe to collect sufficient margin to meet 
its requirements and obligations, including under scenarios where it 
may have to call for margin on an intraday basis. The Commission also 
finds that the proposed rule change with respect to governance 
appropriately engages management and Clearing Member representatives in 
the oversight of the effectiveness ICE Clear Europe's risk management 
function. The Commission believes that the proposed additional changes 
are each designed to enhance ICE Clear Europe's risk management 
functions and more accurately reflect ICE Clear Europe's current 
practices. The new provisions in the CDS Risk Policy concerning (i) the 
responsibilities of the CDS Director of Risk to ensure that the CDS 
Risk Policy remains up to date and is reviewed in accordance with 
certain guidelines, to approve changes to the CDS Risk Policy, and to 
review and report to the CDS Risk Committee and the Board Risk 
Committee concerning CDS risk model performance testing; and (ii) the 
roles of the CDS Risk Committee and Board Risk Committee in providing 
advice on and approving, respectively, changes that affect the risk 
profile of ICE Clear Europe, improve the clarity of ICE Clear Europe's 
governance arrangements and promote the effectiveness of the clearing 
agency's risk management procedures, consistent with Rule 17Ad-
22(d)(8).
    The Commission therefore believes that the proposed rule change, as 
modified by Amendment No. 1, is designed to promote the prompt and 
accurate clearance and settlement of securities transactions and 
derivative agreements, contracts and transactions cleared by ICE Clear 
Europe and, in general, to protect investors and the public interest, 
consistent with Section

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17A(b)(3)(F) of the Act \11\ and is reasonably designed to meet the 
margin, financial resource and governance requirements of Rules 17Ad-
22(b)(2), (b)(3) and (d)(8).\12\
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    \11\ 15 U.S.C. 78q-1(b)(3)(F).
    \12\ 17 CFR 240.17Ad(22)(b)(2), (b)(3) and (d)(8).
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IV. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposed rule change is consistent with the requirements of the Act and 
in particular with the requirements of Section 17A of the Act \13\ and 
the rules and regulations thereunder.
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    \13\ 15 U.S.C. 78q-1.
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    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Act,\14\ that the proposed rule change (SR-ICEEU-2015-010), as modified 
by Amendment No. 1 thereto be, and hereby is, approved.\15\
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    \14\ 15 U.S.C. 78s(b)(2).
    \15\ In approving the proposed rule change, the Commission 
considered the proposed rule change'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.\16\
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    \16\ 17 CFR 200.30-3(a)(12).
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Robert W. Errett,
Deputy Secretary.
[FR Doc. 2015-26423 Filed 10-16-15; 8:45 am]
 BILLING CODE 8011-01-P


