
[Federal Register Volume 81, Number 179 (Thursday, September 15, 2016)]
[Notices]
[Pages 63538-63541]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-22156]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-78807; File No. SR-FICC-2016-006]


Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Notice of Filing of Proposed Rule Change To Describe the Backtesting 
Charge and the Holiday Charge That May Be Imposed on Members

September 9, 2016.
    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 September 2, 2016, Fixed Income Clearing Corporation (``FICC'') 
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 by the clearing agency. 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. Clearing Agency's Statement of the Terms of Substance of the 
Proposed Rule Change

    The proposed rule change consists of amendments to the Government 
Securities Division (``GSD'') Rulebook (the ``GSD Rules'') and the 
Mortgage-Backed Securities Division (``MBSD'') Clearing Rules (the 
``MBSD Rules'') \3\ in order to include two margin charges (the 
``Backtesting Charge'' and ``Holiday Charge'' as further described 
below) that may be imposed on Netting Members of GSD and Clearing 
Members of MBSD (for purposes of this filing, GSD Netting Members and 
MBSD Clearing Members will be referred to as ``Members'' and each of 
the GSD and the MBSD shall be referred to as a ``Division'' and 
together as the ``Divisions''). The Backtesting Charge is assessed for 
those Members whose portfolios experience backtesting deficiencies over 
the prior 12-month period, as described further below. The Backtesting 
Charge is calculated by each Division to mitigate exposures to the 
Division caused by settlement risks that may not be adequately captured 
by the Division's portfolio volatility model. The Holiday Charge is 
applied to all Members on the Business Day prior to any day on which 
the Corporation is closed, but the day is not observed as a holiday by 
the Securities Industry and Financial Markets Association and the bond 
markets are open (``Holiday''). The Holiday Charge addresses the risk 
exposure that a Member's portfolio on the applicable Holiday poses to 
the Corporation. The proposed rule change would amend GSD Rule 1 
(Definitions) and MBSD Rule 1 (Definitions) to add the Backtesting 
Charge and the Holiday Charge as defined terms, including the manner 
and circumstances in which FICC calculates and imposes such charges, 
and would amend Section 1b of GSD Rule 4 (Clearing Fund and Loss 
Allocation) and Section 2(c) of MBSD Rule 4 (Clearing Fund and Loss 
Allocation) to include these charges as additional components of the 
Required Fund Deposit when applicable. FICC is filing this proposed 
rule change in order to provide transparency in the GSD Rules and MBSD 
Rules with respect to these existing charges, as described in greater 
detail below.
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    \3\ The GSD Rules and MBSD Rules are available at http://www.dtcc.com/legal/rules-and-procedures. Capitalized terms used 
herein and not otherwise defined shall have the meaning assigned to 
such terms in the GSD Rules and MBSD Rules, as applicable.
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II. Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

    In its filing with the Commission, the clearing agency 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. The clearing agency has prepared summaries, 
set forth in sections A, B, and C below, of the most significant 
aspects of such statements.

(A) Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

1. Purpose
    The proposed rule change provides transparency in the GSD Rules and 
MBSD Rules with respect to the Backtesting Charge and Holiday Charge, 
two margin charges that each Division may temporarily impose on a 
Member as part of such Member's Required Fund Deposit.
    A Division may impose the Backtesting Charge on a Member when the 
Division has observed deficiencies in the backtesting of such Member's 
Required Fund Deposit over the prior 12-month period, such that the 
Division determines the VaR Charge being calculated for that Member may 
not fully address the projected liquidation losses estimated from that 
Member's settlement activity.
    The Holiday Charge addresses the risk exposure that occurs on 
Holidays when the Divisions are unable to collect Clearing Fund from 
Members. The Divisions impose the Holiday Charge on all Members to 
cover the additional day of exposure that is not contemplated in the 
prior day's VaR Charge.
(i) Background
A. Backtesting and the Required Fund Deposit
    The GSD's Clearing Fund and the MBSD's Clearing Fund each address 
potential Member exposure through a number of risk-based component 
charges (as margin) calculated and assessed daily. Each of the 
component charges collectively constitute [sic] a Member's Required 
Fund Deposit with respect to each Division. The objective of the 
Required Fund Deposit is to mitigate potential losses to FICC 
associated with liquidation of the Member's portfolio in the event that 
the GSD and/or the MBSD ceases to act for

[[Page 63539]]

a Member (hereinafter referred to as a ``default''). FICC determines 
Required Fund Deposit amounts in both the GSD and the MBSD using risk-
based margin methodologies that are intended to capture market price 
risk. The methodologies for each Clearing Fund use historical market 
moves to project or forecast the potential gains or losses on the 
liquidation of a defaulting Member's portfolio, assuming that a 
portfolio would take three days to liquidate or hedge in normal market 
conditions. The projected liquidation gains or losses are used to 
determine the Member's Required Fund Deposit in each Division, which is 
calculated to cover projected liquidation losses at a 99 percent 
confidence level. The aggregate of all Members' Required Fund Deposits 
in each Division constitutes the Division's Clearing Fund, which the 
Division would be able to access should a defaulting Member's own 
Required Fund Deposit be insufficient to satisfy losses to the Division 
caused by the liquidation of that Member's portfolio.
    FICC employs daily backtesting to determine the adequacy of each 
Member's Required Fund Deposit. FICC compares the Required Fund Deposit 
\4\ for each Member with the simulated liquidation gains/losses using 
the actual positions in the Member's portfolio, and the actual 
historical security returns. FICC investigates the cause(s) of any 
backtesting deficiencies. As a part of this investigation, FICC pays 
particular attention to Members with backtesting deficiencies that 
bring the results for that Member below the 99 percent confidence 
target (i.e., greater than two backtesting deficiency days in a rolling 
twelve-month period) to determine if there is an identifiable cause of 
repeat backtesting deficiencies. FICC also evaluates whether multiple 
Members may experience backtesting deficiencies for the same underlying 
reason.
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    \4\ For backtesting comparisons, FICC uses the Required Fund 
Deposit amount, without regard to the actual collateral posted by 
the Member.
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    While multiple factors may contribute to a Member's backtesting 
deficiency, FICC has observed that some Members with position increases 
after the intraday calculation of their Required Fund Deposit may incur 
backtesting deficiencies due to the additional exposure that is not 
mitigated until the collection of the Required Fund Deposit on the next 
Business Day.
B. Calculation of the Backtesting Charge
    The objective of the Backtesting Charge is to increase Required 
Fund Deposits for Members that are likely to experience backtesting 
deficiencies on the basis described above by an amount sufficient to 
maintain such Member's backtesting coverage above the 99 percent 
confidence threshold. Because the settlement activity and size of the 
backtesting deficiencies varies among impacted Members, FICC must 
assess a Backtesting Charge that is specific to each impacted Member. 
To do so, FICC examines each impacted Member's historical backtesting 
deficiencies observed over the prior 12-month period to identify the 
three largest backtesting deficiencies that have occurred during that 
time (for GSD Netting Members only, excluding any backtesting 
deficiencies attributable to the Blackout Period). The presumptive 
Backtesting Charge amount equals that Member's third largest historical 
backtesting deficiency, subject to adjustment as further described 
below. FICC believes that applying an additional margin charge equal to 
the third largest historical backtesting deficiency would bring the 
Member's historically-observed backtesting coverage above the 99 
percent target.\5\ If assessed, the resulting Backtesting Charge is 
added to the VaR Charge for such Member determined pursuant to each 
Division's risk-based margining methodology. The Backtesting Charge is 
imposed on a daily basis for a one-month period.
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    \5\ Each occurrence of a backtesting deficiency reduces a 
Member's overall backtesting coverage by 0.4 percent (1 exception/
250 observation days). Accordingly, an increase equal to the third 
largest backtesting deficiency would bring backtesting coverage up 
to 99.2 percent.
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    This charge is only applicable to those Members whose overall 12-
month trailing backtesting coverage falls below the 99 percent coverage 
target (for GSD Netting Members only, excluding Blackout Period 
deficiencies).
    Although the third largest historical backtesting deficiency for a 
Member is used as the Backtesting Charge in most cases, each Division 
retains discretion to adjust the charge amount based on other 
circumstances that may be relevant for assessing whether an impacted 
Member is likely to experience future backtesting deficiencies and the 
estimated size of such deficiencies. Examples of relevant circumstances 
that would be considered in calculating the final, applicable 
Backtesting Charge amount include material differences in the three 
largest backtesting deficiencies observed over the prior 12-month 
period, variability in the net settlement activity after the collection 
of the Member's intraday Required Fund Deposit, seasonality in observed 
backtesting deficiencies and observed market price volatility in excess 
of the Member's historical VaR Charge(s). Based on FICC's assessment of 
the impact of these circumstances on the likelihood of, and estimated 
size of, future backtesting deficiencies for a Member, FICC may, in its 
discretion, adjust the Backtesting Charge for such Member in an amount 
that FICC determines to be more appropriate for maintaining such 
Member's backtesting results above the 99 percent coverage threshold 
(including a reasonable buffer).
C. Communication With Members and Imposition of the Backtesting Charge
    If FICC determines that a Backtesting Charge should apply to a 
Member that was not assessed a Backtesting Charge during the 
immediately preceding month or that the Backtesting Charge applied to a 
Member during the previous month should be increased, the applicable 
Division will notify the Member on or around the 25th calendar day of 
the month prior to the assessment of the Backtesting Charge, or prior 
to the increase to the Backtesting Charge.
    Each Division imposes the Backtesting Charge as an additional 
charge applied to each impacted Member's Required Fund Deposit on a 
daily basis for a one month period, and reviews each applied 
Backtesting Charge each month. If an impacted Member's trailing 12-
month backtesting coverage exceeds 99 percent (without taking into 
account historically-imposed Backtesting Charges), the Backtesting 
Charge is removed.
D. Holidays and the Required Fund Deposit
    As described above, FICC determines its Members' Required Fund 
Deposit amounts in each Division using a risk-based margin methodology 
that is intended to capture market price risk, assuming that a 
portfolio would take three days to liquidate or hedge in normal market 
conditions.
    The Holiday Charge may be applied on the Business Day prior to any 
Holiday. This charge approximates the exposure that a Member's trading 
activity on the applicable Holiday could pose to the Division. Since 
the Divisions cannot collect margin on the Holiday, the Holiday Charge 
is due on the Business Day prior to the applicable Holiday.
E. Calculation and Notification of the Holiday Charge
    FICC would determine the appropriate methodology for calculating 
the Holiday Charge in advance of each applicable Holiday. Potential 
methodologies for calculating the Holiday Charge include, for example, 
time scaling of the VaR Charge \6\ or

[[Page 63540]]

application of stress scenarios that cover potential market price risk 
exposure that may not be appropriately covered by scaling the VaR 
Charge. FICC would establish a methodology for calculating each Holiday 
Charge that would take into consideration the market conditions 
prevailing at that time in order to permit FICC to calculate a Holiday 
Charge that appropriately estimates the risk that may be presented to 
FICC on the applicable Holiday, when Members' Required Fund Deposit 
cannot be collected. The Holiday Charge would represent a percentage 
increase of the VaR Charge on the Business Day prior to the Holiday, 
and such percentage increase applies uniformly to all Members. This 
means that if the Holiday Charge is levied, the same methodology (i.e., 
formula) is applied to all Members (that is, the Holiday Charge is not 
a set dollar amount applied to all Members).
    Members would be notified of the applicable methodology by an 
Important Notice issued no later than 10 Business Days prior to the 
application the Holiday Charge, and the charge is collected on the 
Business Day prior to the applicable Holiday. The Holiday Charge is 
removed from the Required Fund Deposit on the Business Day following 
the Holiday.
[GRAPHIC] [TIFF OMITTED] TN15SE16.006

Statutory Basis
    Section 17A(b)(3)(F) of the Act requires, in part, that the rules 
of a clearing agency be designed to assure the safeguarding of 
securities and funds that are within the custody or control of the 
clearing agency.\7\ Rule 17Ad-22(b)(1) under the Act requires a 
clearing agency to establish, implement, maintain and enforce written 
policies and procedures reasonably designed to measure its credit 
exposures to its participants at least once a day and limit its 
exposures to potential losses from defaults by its participants under 
normal market conditions, so that the operations of the clearing agency 
would not be disrupted and non-defaulting participants would not be 
exposed to losses that they cannot anticipate or control.\8\ Rule 17Ad-
22(b)(2) under the Act requires a clearing agency to maintain and 
enforce written policies and procedures reasonably designed to use 
margin requirements to limit its credit exposures to participants under 
normal market conditions.\9\
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    \7\ 15 U.S.C. 78q-1(b)(3)(F).
    \8\ 17 CFR 240.17Ad-22(b)(1).
    \9\ 17 CFR 240.17Ad-22(b)(2).
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    By incorporating the Backtesting Charge and the Holiday Charge into 
the GSD Rules and the MBSD Rules, the proposed change addresses 
exposure that could subject FICC to potential losses under normal 
market conditions in the event that a Member defaults. Specifically, 
the proposed change seeks to remedy potential situations that are 
described above where the Divisions could be undermargined by requiring 
additional margin. Therefore, FICC believes the proposed rule change 
enhances the safeguarding of securities and funds that are in the 
custody or control of FICC, consistent with Section 17(b)(3)(F) of the 
Act.
    The Backtesting Charge is calculated and imposed to cover credit 
exposures estimated by FICC based on historical backtesting 
deficiencies with the goal of maintaining each Member's Required Fund 
Deposit in each Division above the 99 percent coverage threshold. This 
management of FICC's credit exposures to Members is consistent with 
Rule 17Ad-22(b)(1) under the Act. Further, the charge is part of the 
Members' Required Fund Deposits designed to maintain the coverage of 
credit exposures in each Division at a confidence level of at least 99 
percent, which limits FICC's exposures to Members under normal market 
conditions. The proposed Backtesting Charge seeks to address 
backtesting deficiencies that could potentially leave the GSD and/or 
the MBSD undermargined by using the risk-based methodology described 
above to limit its credit exposure to Members. It therefore is also 
consistent with Rule 17Ad-22(b)(2) under the Act.
    The Holiday Charge is calculated and imposed to cover credit 
exposures that result from market price moves that occur on a Holiday 
and are not incorporated in each Member's Required Fund Deposit. This 
management of FICC's credit exposures to Members is consistent with 
Rules 17Ad-22(b)(1) and 17Ad-22(b)(2) under the Act.

(B) Clearing Agency's Statement on Burden on Competition

    FICC does not believe that either the Backtesting Charge or the 
Holiday Charge impose any burden on competition that is not necessary 
or appropriate.\10\ These charges are necessary for FICC to limit its 
exposure to potential losses from defaults by Members.
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    \10\ 15 U.S.C. 78q-1(b)(3)(I).
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    The Backtesting Charge is imposed on each Member on an 
individualized basis in an amount reasonably calculated to maintain its 
Required Fund Deposit above each Division's 99 percent coverage 
threshold. FICC employs reasonable methods to calculate and impose an 
individualized charge in an amount designed to maintain each impacted 
Member's future backtesting coverage above the 99 percent coverage 
threshold in each Division, including a reasonable buffer.
    Because the market price movements that occur on Holidays are 
related to the behavior of the market as a whole, the impact of such 
price movements on FICC's risk is considered general market price risk. 
Therefore, the Holiday Charge is imposed on all Members on a uniform 
basis in an amount reasonably calculated to mitigate the market price 
changes that could occur on a Holiday when the Corporation is closed. 
The Holiday Charge would represent a percentage increase of the VaR 
Charge on the Business Day prior to the Holiday, and such percentage 
increase applies uniformly to all Members in each Division. This means 
that if the Holiday Charge is levied, the same methodology (i.e., 
formula) is applied to all Members (that is, the Holiday Charge is not 
a set dollar amount applied to all Members).
    FICC believes, any burden on competition imposed by the addition of 
these two charges to the GSD Rules and MBSD Rules would be necessary 
and appropriate to limit FICC's exposures to

[[Page 63541]]

the risks being mitigated by such charges.

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

    FICC has not received any written comments relating to this 
proposal. FICC will notify the Commission of any written comments 
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.

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-FICC-2016-006 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-FICC-2016-006. 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 the filing also will be available 
for inspection and copying at the principal office of FICC and on 
DTCC's Web site (http://dtcc.com/legal/sec-rule-filings.aspx). 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-FICC-2016-006 and should be 
submitted on or before October 6, 2016.

    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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Brent J. Fields,
Secretary.
[FR Doc. 2016-22156 Filed 9-14-16; 8:45 am]
 BILLING CODE 8011-01-P


