[Federal Register Volume 83, Number 152 (Tuesday, August 7, 2018)]
[Notices]
[Pages 38738-38748]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-16824]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-83761; File No. SR-OCC-2017-809]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Notice of Filing of Amendments No. 1 and 2 To Advance Notice Concerning 
Enhanced and New Tools for Recovery Scenarios

August 1, 2018.
    Pursuant to Section 806(e)(1) of Title VIII of the Dodd-Frank Wall 
Street Reform and Consumer Protection Act, entitled Payment, Clearing 
and Settlement Supervision Act of 2010 (``Clearing Supervision Act'') 
\1\ and Rule 19b-4(n)(1)(i) of the Securities Exchange Act of 1934 
(``Act''),\2\ The Options Clearing Corporation (``OCC'') filed with the 
Securities and Exchange Commission (``Commission'') an advance notice 
concerning updates to

[[Page 38739]]

and formalization of OCC's Recovery and Orderly Wind-Down Plan 
(``Advance Notice''). The Advance Notice was published for public 
comment in the Federal Register on January 23, 2018.\3\ On January 23, 
2018, the Commission requested OCC provide it with additional 
information regarding the Advance Notice.\4\ OCC responded to this 
request for information, and the information was received on July 13, 
2018.\5\ On July 11, 2018, OCC filed Amendment No. 1 to the Advance 
Notice, and subsequently filed Amendment No. 2 to the advance notice to 
supersede and replace Amendment No. 1 in its entirety, due to technical 
defects in Amendment No. 1. Therefore, the Initial Filing, as modified 
by Amendment No. 2, reflects the changes being proposed.
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    \1\ 12 U.S.C. 5465(e)(1).
    \2\ 17 CFR 240.19b-4(n)(1)(i).
    \3\ See Securities Exchange Act Release No. 82513 (January 17, 
2018), 83 FR 3244 (January 23, 2018) (SR-OCC-2017-809) (hereinafter 
referred to as the ``Initial Filing'').
    \4\ See Memorandum from Office of Clearance and Settlement, 
Division of Trading and Markets, dated January 23, 2018, available 
at https://www.sec.gov/comments/sr-occ-2017-809/occ2017809-2948229-161855.pdf.
    \5\ See Memorandum from Office of Clearance and Settlement, 
Division of Trading and Markets, dated July 17, 2018, available at 
https://www.sec.gov/comments/sr-occ-2017-809/occ2017809-4062512-169148.pdf.
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    Pursuant to Section 806(e)(1) of the Clearing Supervision Act \6\ 
and Rule 19b-4(n)(1)(i) of the Act,\7\ the Commission is hereby 
publishing notice of these Amendments No. 1 and 2 as described in Items 
I, II and III below, which Items have been prepared by OCC. The 
Commission is publishing this notice to solicit comments on the Advance 
Notice, as amended by Amendments No. 1 and 2, from interested persons.
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    \6\ 12 U.S.C. 5465(e)(1).
    \7\ 17 CFR 240.19b-4(n)(1)(i).
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I. Clearing Agency's Statement of the Terms of Substance of the Advance 
Notice

    This Amendment No. 2 to the advance notice is filed in connection 
with a proposed change to make certain revisions to OCC's Rules and By-
Laws to enhance OCC's existing tools to address the risks of liquidity 
shortfalls and credit losses and to establish new tools by which OCC 
could re-establish a matched book following a default. Each of the 
tools proposed herein is contemplated to be deployed by OCC in an 
extreme stress event that has placed OCC into a recovery or orderly 
wind-down scenario.
    The proposed changes to OCC's By-Laws and Rules were submitted as 
Exhibits 5A and 5B of the filing, respectively, and proposed changes to 
OCC's Default Management Policy were submitted as confidential Exhibit 
5C of the filing.\8\ OCC also has attached as Exhibits 4A and 4B the 
proposed amendments to the rule text in Exhibits 5A and 5B of the 
Initial Filing, respectively. Material proposed to be added to the 
proposed rule text in the Initial Filing is marked by double 
underlining and material proposed to be deleted is marked by double 
strikethrough text.
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    \8\ OCC has filed a proposed rule change with the Commission in 
connection with the proposed change. See SR-OCC-2017-020.
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    The proposed change is described in detail in Item II below. All 
terms with initial capitalization not defined herein have the same 
meaning as set forth in OCC's By-Laws and Rules.\9\
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    \9\ OCC's By-Laws and Rules can be found on OCC's public 
website: http://optionsclearing.com/about/publications/bylaws.jsp.
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II. Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Advance Notice

    In its filing with the Commission, OCC included statements 
concerning the purpose of and basis for the advance notice and 
discussed any comments it received on the advance notice. 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 and B below, 
of the most significant aspects of these statements.

(A) Clearing Agency's Statement on Comments on the Advance Notice 
Received From Members, Participants or Others

    Written comments were not and are not intended to be solicited with 
respect to the advance notice and none have been received. OCC will 
notify the Commission of any written comments received by OCC.

(B) Advance Notices Filed Pursuant to Section 806(e) of the Payment, 
Clearing, and Settlement Supervision Act

Purpose of the Proposed Change
Background
    The purpose of this advance notice is to make certain revisions to 
OCC's Rules and By-Laws Laws that are designed to enhance OCC's 
existing tools to address the risks of liquidity shortfalls and credit 
losses and to establish tools by which OCC could re-establish a matched 
book following a default. Each of the tools proposed herein is 
contemplated to be deployed by OCC in an extreme stress event that has 
placed OCC into a recovery or orderly wind-down scenario. Each of the 
proposed revisions also is designed to further OCC's compliance, in 
whole or in part, with the provisions of the Commission's rules 
identified immediately below.
    On September 28, 2016, the Commission adopted amendments to Rule 
17Ad-22 \10\ and added new Rules 17Ad-22(e)(3)(ii), (e)(4)(viii), 
(e)(4)(ix), (e)(7)(ix), (e)(13), (e)(23)(i) and (e)(23)(ii) \11\ 
pursuant to Section 17A of the Securities Exchange Act of 1934 \12\ and 
the Payment, Clearing, and Settlement Supervision Act of 2010 
(``Payment, Clearing and Settlement Supervision Act'').\13\ In relevant 
part, these new rules collectively require a covered clearing agency 
(``CCA''), as defined by Rule 17Ad-22(a)(5),\14\ to establish, 
implement, maintain and enforce written policies and procedures 
reasonably designed to: (1) Maintain a risk management framework 
including plans for recovery and orderly wind-down necessitated by 
credit losses, liquidity shortfalls, general business risk losses or 
any other losses, (2) effectively identify, measure, monitor and manage 
its credit exposures to participants and those arising from its 
payment, clearing and settlement processes, including by addressing the 
allocation of credit losses a CCA might face if its collateral and 
other resources are insufficient to fully cover its credit exposures, 
(3) effectively identify, measure, monitor and manage credit exposures, 
including by describing the process to replenish any financial resource 
that a CCA may use following a default event or other event in which 
use of such resource is contemplated, (4) effectively identify, 
measure, monitor and manage liquidity risks that arises or is borne by 
the CCA by, at a minimum, describing the process for replenishing any 
liquid resource that a CCA may employ during a stress event, (5) ensure 
it has the authority and operational capacity to take timely action to 
contain losses and liquidity demands and continue to meet its 
obligations, (6) publicly disclose relevant rules and material 
procedures, including key aspects of its default rules and procedures, 
and (7) provide sufficient information to enable participants to 
identify and evaluate the risks, fees, and other material costs they 
incur by participating in the CCA. The relevant portions of each of 
these new requirements is restated below:
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    \10\ 17 CFR 240.17Ad-22.
    \11\ 17 CFR 240.17Ad-22(e)(3)(ii), (e)(4)(viii), (e)(4)(ix), 
(e)(7)(ix), (e)(13), (e)(23)(i) and (e)(23)(ii).
    \12\ 15 U.S.C. 78q-1.
    \13\ 12 U.S.C. 5461 et. seq.
    \14\ 17 CFR 240.17Ad-22(a)(5).
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     Rule 17Ad-22(e)(3)(ii) requires that each CCA ``establish, 
implement,

[[Page 38740]]

maintain and enforce written policies and procedures reasonably 
designed to . . . [m]aintain a sound risk management framework for 
comprehensively managing legal, credit, liquidity, operational, general 
business, investment, custody, and other risks that arise in or are 
borne by the [CCA], which . . . [i]ncludes plans for the recovery and 
orderly wind-down of the [CCA] necessitated by credit losses, liquidity 
shortfalls, losses from general business risk, or any other losses.'' 
\15\
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    \15\ 17 CFR 240.17Ad-22(e)(3)(ii).
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     Rule 17Ad-22(e)(4)(viii) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [e]ffectively identify, 
measure, monitor, and manage its credit exposures to participants and 
those arising from its payment, clearing, and settlement processes, 
including by . . . [a]ddressing allocation of credit losses the [CCA] 
may face if its collateral and other resources are insufficient to 
fully cover its credit exposures, including the repayment of any funds 
the [CCA] may borrow from liquidity providers.'' \16\
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    \16\ 17 CFR 240.17Ad-22(e)(v)(viii).
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     Rule 17Ad-22(e)(4)(ix) requires that each CCA ``establish, 
implement, maintain and enforce written policies and procedures 
reasonably designed to . . . [e]ffectively identify, measure, monitor, 
and manage its credit exposures to participants and those arising from 
its payment, clearing, and settlement processes, including by . . . 
[d]escribing the [CCA's] process to replenish any financial resources 
it may use following a default or other event in which use of such 
resources is contemplated.'' \17\
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    \17\ 17 CFR 240.17Ad-22(e)(4)(ix).
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     Rule 17Ad-22(e)(7)(ix) requires that each CCA ``establish, 
implement, maintain and enforce written policies and procedures 
reasonably designed to . . . [e]ffectively measure, monitor, and manage 
the liquidity risk that arises in or is borne by the [CCA], including 
measuring, monitoring, and managing its settlement and funding flows on 
an ongoing and timely basis, and its use of intraday liquidity by, at a 
minimum, doing the following . . . [d]escribing the [CCA's] process to 
replenish any liquid resources that the clearing agency may employ 
during a stress event.'' \18\
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    \18\ 17 CFR 240.17Ad-22(e)(7)(ix).
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     Rule 17Ad-22(e)(13) requires that each CCA ``establish, 
implement, maintain and enforce written policies and procedures 
reasonably designed to . . . [e]nsure the covered clearing agency has 
the authority and operational capacity to take timely action to contain 
losses and liquidity demands and continue to meet its obligations . . 
.'' \19\
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    \19\ 17 CFR 240.17Ad-22(e)(13).
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     Rule 17Ad-22(e)(23)(i) requires that each CCA ``establish, 
implement, maintain and enforce written policies and procedures 
reasonably designed to . . . [p]ublicly disclos[e] all relevant rules 
and material procedures, including key aspects of its default rules and 
procedures.'' \20\
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    \20\ 17 CFR 240.17Ad-22(e)(23)(i).
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     Rule 17Ad-22(e)(23)(ii) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [p]rovid[e] sufficient 
information to enable participants to identify and evaluate the risks, 
fees, and other material costs they incur by participating in the 
covered clearing agency.'' \21\
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    \21\ 17 CFR 240.17Ad-22(e)(23)(ii).
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    OCC meets the definition of a CCA and is therefore subject to the 
requirements of the CCA rules, including new Rules 17Ad-22(e)(3)(ii), 
(e)(4)(viii), (e)(4)(ix), (e)(7)(ix), (e)(13), (e)(23)(i) and 
(e)(23)(ii).\22\
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    \22\ 17 CFR 240.17Ad-22(e)(3)(ii), (e)(4)(viii), (e)(4)(ix) and 
(e)(7)(ix).
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Proposed Changes
Summary of Proposed Changes
    In order to enhance OCC's existing tools to address the risks of 
liquidity shortfalls and credit losses and to establish new tools by 
which OCC could re-establish a matched book following a default, OCC is 
proposing to make the following revisions to its Rules and By-Laws:
    (1) Revise the existing assessment powers in Section 6 of Article 
VIII of OCC's By-Laws, specifically to:
    (a) Establish a rolling ``cooling-off period'' that would be 
triggered by the payment of a proportionate charge against the Clearing 
Fund (``triggering proportionate charge''), during which period the 
aggregate liability of a Clearing Member to replenish the Clearing Fund 
(inclusive of assessments) would be 200% of the Clearing Member's 
required contribution as of the time immediately preceding the 
triggering proportionate charge;
    (b) Clarify that a Clearing Member that chooses to terminate its 
membership status during a cooling-off period will not be liable for 
replenishment of the Clearing Fund immediately following the expiration 
of such cooling-off period, provided that the withdrawing Clearing 
Member satisfies enumerated criteria, including providing notice of 
such termination by no later than the end of the cooling-off period and 
by closing-out and/or transferring of all its open positions with OCC 
by no later than the last day of the cooling-off period; and
    (c) Delineate between the obligation of a Clearing Member to 
replenish its contributions to the Clearing Fund and its obligations to 
meet additional ``assessments'' that may be levied following a 
proportionate charge to the Clearing Fund.
    (2) Adopt a new Rule 1011 \23\ that would provide OCC with 
discretionary authority to call for voluntary payments from non-
defaulting Clearing Members in a circumstance where one or more 
Clearing Members has already defaulted and OCC has determined that it 
may not have sufficient resources to satisfy its obligations and 
liabilities resulting from such default.\24\ Rule 1011 also would 
establish that OCC would prioritize compensation of Clearing Members 
that made voluntary payments from any amounts recovered from the 
defaulted Clearing Members.
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    \23\ OCC is amending the Initial Filing to renumber proposed 
Rule 1009 to proposed Rule 1011 and updated related cross references 
in Rule 1111 to reflect this renumbering. OCC is also amending the 
Default Management Policy as submitted in the Initial Filing to 
update similar cross references.
    \24\ Under the Initial Filing, OCC's authority to conduct 
Partial Tear-Ups, as well as call for voluntary payments or to 
conduct Voluntary Tear-Ups, would be conditioned in part on OCC 
having determined that, notwithstanding the availability of any 
remaining resources, OCC may not have sufficient resources to 
satisfy its obligations and liabilities resulting from such default. 
Under the Initial Filing, the proposed text of Rules 1009(a), 
1111(a) and 1111(b) incorrectly transcribed this condition to 
require that OCC determine that, notwithstanding the availability of 
any remaining resources, OCC does not have sufficient resources to 
satisfy its obligations and liabilities resulting from such default 
(emphasis added). In each such instance, OCC is amending the 
proposed text of Rules 1009(a) (which is being renumbered as Rule 
1011(a)), 1111(a) and 1111(b) in Exhibit 5B of the Initial Filing to 
delete the word ``does'' and insert in its place the word ``may.''
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    (3) Adopt a new Rule 1111 that would provide authority to:
    (a) Allow OCC to call for voluntary tear-ups (``Voluntary Tear-
Up,'' as defined below) of non-defaulting Clearing Member and/or 
customer positions at any time following the suspension or default of a 
Clearing Member, with the scope of any such Voluntary Tear-Ups being 
determined by the Risk Committee of OCC's Board (``Risk Committee'');
    (b) Allow OCC's Board to vote to tear-up the ``Remaining Open 
Positions'' (defined below) of a defaulted Clearing Member, as well as 
any ``Related Open Positions'' (defined below) in a circumstance where 
OCC has attempted one or more auctions of such defaulted

[[Page 38741]]

Clearing Member's remaining open positions and OCC has determined that 
it may not have sufficient resources to satisfy its obligations and 
liabilities resulting from such default with the scope of any such 
tear-up (``Partial Tear-Up'') being determined by the Risk Committee; 
and
    (c) Allow OCC's Board to vote to re-allocate losses, costs and fees 
imposed upon holders of positions extinguished in a Partial Tear-Up 
through a special charge levied against remaining non-defaulting 
Clearing Members.
    (4) Revise the descriptions and authorizations in Article VIII of 
OCC's By-Laws concerning the use of the Clearing Fund to reflect the 
discretion of OCC to use remaining Clearing Fund contributions to re-
allocate losses imposed on non-defaulting Clearing Members and 
customers from a Voluntary Tear-Up or a mandatory tear-up (``Partial 
Tear-Up,'' as defined below).
Discussion of Proposed Changes
    Each of the proposed revisions to OCC's Rules and By-Laws is 
described in more detail in the following sub-sections:
1. Proposed Changes to OCC's Assessment Powers
a. Current Assessment Powers
    OCC's current assessment powers are described in Section 6 of 
Article VIII of OCC's By-Laws. Section 6 establishes a general 
requirement for each Clearing Member to promptly make good any 
deficiency in its required contribution to the Clearing Fund whenever 
an amount is paid out of its Clearing Fund contribution (whether by 
proportionate charge or otherwise).\25\ In this regard, a Clearing 
Member's obligation to replenish the Clearing Fund is not currently 
subject to any pre-determined limit. Notwithstanding the foregoing, a 
Clearing Member can limit the amount of its liability for replenishing 
the Clearing Fund (at an additional 100% of the amount of its then-
required Clearing Fund contribution) by winding-down its clearing 
activities and terminating its status as a Clearing Member. Any 
Clearing Member seeking to so limit its liability for replenishing the 
Clearing Fund must: (i) Notify OCC in writing not later than the fifth 
business day after the proportionate charge that it is terminating its 
status as a Clearing Member, (ii) not initiate any opening purchase or 
opening writing transaction, and, if the Clearing Member is a Market 
Loan Clearing Member or a Hedge Clearing Member, not initiate any Stock 
Loan transaction, through any of its accounts, and (iii) close out or 
transfer all of its open positions as promptly as practicable after 
giving notice to OCC. Thus, withdrawal from clearing membership is the 
only means by which a Clearing Member currently can limit its liability 
for replenishing the Clearing Fund.
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    \25\ Under Article VIII, Section 6 of OCC's By-Laws, OCC 
currently has authority to assess proportionate charges against 
Clearing Members' contributions to the Clearing Fund in certain 
enumerated situations. For example, Section 6 generally provides 
that if the conditions regarding a Clearing Member default specified 
in subparagraphs (a)(i) through (vi) of Article VIII, Section 5 of 
OCC's By-Laws are satisfied, OCC will make good resulting losses or 
expenses that are suffered by OCC by applying the defaulting 
Clearing Member's Clearing Fund contribution after first applying 
other funds available to OCC in the accounts of the Clearing Member. 
If the sum of the obligations, however, exceeds the total Clearing 
Fund contribution and other funds of the defaulting Clearing Member 
available to OCC, then OCC will charge the amount of the remaining 
deficiency on a proportionate basis against all non-defaulting 
Clearing Members' required contributions to the Clearing Fund at the 
time. Section 5(b) of Article VIII of OCC's By-Laws similarly 
provides for proportionate charges against Clearing Members' 
contributions to the Clearing Fund when certain conditions are met 
that involve a failure by a bank or a securities or commodities 
clearing organization to perform obligations to OCC when they are 
due.
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b. Proposed Changes to Assessment Powers
    OCC proposes to revise Section 6 of Article VIII of OCC's By-Laws 
to make three primary modifications regarding its existing authority to 
assess proportionate charges against Clearing Members' contributions to 
the Clearing Fund. First, the proposal introduces an automatic minimum 
fifteen calendar day ``cooling-off'' period that begins when a 
proportionate charge is assessed by OCC against Clearing Members' 
Clearing Fund contributions. While the cooling-off period will continue 
for a minimum of fifteen consecutive calendar days, if one or more of 
the events described in clauses (i) through (iv) of Article VIII, 
Section 5(a) of OCC's By-Laws occur(s) during that fifteen calendar day 
period and result in one or more proportionate charges against the 
Clearing Fund, the cooling-off period shall be extended through either 
(i) the fifteenth calendar day from the date of the most recent 
proportionate charge resulting from the subsequent event, or (ii) the 
twentieth day from the date of the proportionate charge that initiated 
the cooling-off period, whichever is sooner.
    During a cooling-off period, each Clearing Member would have its 
aggregate liability to replenish the Clearing Fund capped at 200% of 
the Clearing Member's then-required contribution to the Clearing Fund. 
Once the cooling-off period ends each remaining Clearing Member would 
be required to replenish the Clearing Fund in the amount necessary to 
meet its then-required contribution. Once the cooling-off period ends, 
any remaining losses or expenses suffered by OCC as a result of any 
event described in clauses (i) through (iv) of Article VIII, Section 
5(a) of OCC's By-Laws that occurred during such cooling-off period 
could not be charged against the amounts Clearing Members have 
contributed to replenish the Clearing Fund upon the expiration of the 
cooling-off period.\26\
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    \26\ After a cooling-off period has ended, the occurrence of any 
event described in clauses (i) through (iv) of Article VIII, Section 
5(a) of OCC's By-Laws that results in a proportionate charge against 
the Clearing Fund would trigger a new cooling off period, and 
thusly, a cap of 200% of each Clearing Member's then-required 
contribution would again apply.
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    Second, in connection with the cooling-off period, the proposal 
would extend the time frame within which a Clearing Member may provide 
a termination notice to OCC to avoid liability for replenishment of the 
Clearing Fund after the cooling-off period and would modify the 
obligations of such a terminating Clearing Member for closing-out and 
transferring its remaining open positions. Specifically, to effectively 
terminate its status as a Clearing Member and not be liable for 
replenishing the Clearing Fund after the cooling-off period, a Clearing 
Member would be required to: (i) Notify OCC in writing of its intent to 
terminate not later than the last day of the cooling-off period, (ii) 
not initiate any opening purchase or opening writing transaction, and, 
if the Clearing Member is a Market Loan Clearing Member or a Hedge 
Clearing Member, not initiate any Stock Loan transaction, through any 
of its accounts, and (iii) close-out or transfer all of its open 
positions by no later than the last day of the cooling-off period. If a 
Clearing Member fails to satisfy all of these conditions by the end of 
a given cooling-off period, it would not have completed all of the 
requirements necessary to terminate its status as a Clearing Member 
under Article VIII, Section 6 of OCC's By-Laws and therefore it would 
remain subject to the obligation to replenish the Clearing Fund after 
the end of the cooling-off period.
    Third, the proposal would clarify the distinction between 
``replenishment'' of the Clearing Fund and a Clearing Member's 
obligation to answer ``assessments.'' In this context, the term 
``replenish'' (and its variations) shall to refer to a Clearing 
Member's standing

[[Page 38742]]

duty, following any proportionate charge against the Clearing Fund, to 
return its Clearing Fund contribution to the amount required from such 
Clearing Member for the month in question.\27\ The term ``assessment'' 
(and its variations) shall refer to the amount, during any cooling-off 
period, that a Clearing Member would be required to contribute to the 
Clearing Fund in excess of the amount of the Clearing Member's pre-
funded required Clearing Fund contribution.
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    \27\ This assumes that the proportionate charge resulted in the 
Clearing Member's actual Clearing Fund contribution dropping below 
the amount of its required contribution (i.e., that the Clearing 
Member did not have excess above its required contribution that was 
sufficient to cover the amount of the proportionate charge allocated 
to such Clearing Member).
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Proposed Addition of Ability To Request Voluntary Payments
    OCC proposes to add new Rule 1011, which will provide a framework 
by which OCC could receive voluntary payments in a circumstance where a 
Clearing Member has defaulted and OCC has determined that, 
notwithstanding the availability of any remaining resources under OCC 
Rules 707, 1001, 1104 through 1107, 2210 and 2211,\28\ OCC may not have 
sufficient resources to satisfy its obligations and liabilities 
resulting from such default. Under new Rule 1011, OCC will initiate a 
call for voluntary payments by issuing a ``Voluntary Payment Notice'' 
inviting all non-defaulting Clearing Members to make payments to the 
Clearing Fund in addition to any amounts they are otherwise required to 
contribute pursuant to Rule 1001. The Voluntary Payment Notice would 
specify the terms applicable to any voluntary payment, including but 
not limited to, that any voluntary payment may not be withdrawn once 
made, that no Clearing Member shall be obligated to make a voluntary 
payment and that OCC shall retain full discretion to accept or reject 
any voluntary payment. Rule 1011 specifies that if OCC subsequently 
recovers from the defaulted Clearing Member or the estate(s) of the 
defaulted Clearing Member(s), OCC would seek to compensate first from 
such recovery all non-defaulting Clearing Members that made voluntary 
payments (and if the amount recovered from the defaulted Clearing 
Member(s) is less than the aggregate amount of voluntary payments, non-
defaulting Clearing Members that made voluntary payments each would 
receive a percentage of the recovery that corresponds to that Clearing 
Member's percentage of the total amount of voluntary payments 
received).
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    \28\ Rule 707 addresses the treatment of funds in a Clearing 
Member's X-M accounts. Rule 1001 addresses the size of OCC's 
Clearing Fund and the amount of a Clearing Member's contribution. 
Rules 1104 through 1107 concern the treatment of the portfolio of a 
defaulted Clearing Member. Rules 2210 and 2211 concern the treatment 
of Stock Loan positions of a defaulted Clearing Member.
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Proposed Addition of Ability To Conduct Voluntary Tear-Ups
    OCC proposes to add new Rule 1111, which, in relevant part, will 
establish a framework by which non-defaulting Clearing Members and non-
defaulting customers of Clearing Members could be given an opportunity 
to voluntarily extinguish (i.e., voluntarily tear-up) their open 
positions at OCC in a circumstance where a Clearing Member has 
defaulted and OCC has determined that, notwithstanding the availability 
of any remaining resources under OCC Rules 707, 1001, 1104 through 
1107, 2210 and 2211, OCC may not have sufficient resources to satisfy 
its obligations and liabilities resulting from such default.
    While Risk Committee approval is not needed to commence a voluntary 
tear-up, the Risk Committee would be responsible for determining the 
appropriate scope of each voluntary tear-up. To ensure OCC retains 
sufficient flexibility to effectively deploy this tool in an extreme 
stress event, proposed Rule 1111(c) is drafted to provide the Risk 
Committee with discretion to determine the appropriate scope of each 
voluntary tear-up.\29\ New Rule 1111(c) also would impose standards 
designed to circumscribe the Risk Committee's discretion, requiring 
that any determination regarding the scope of a voluntary tear-up shall 
(i) be based on then-existing facts and circumstances, (ii) be in 
furtherance of the integrity of OCC and the stability of the financial 
system, and (iii) take into consideration the legitimate interests of 
Clearing Members and market participants.
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    \29\ Notwithstanding the discretion that would be afforded by 
the text of proposed Rule 1111(c), OCC anticipates that the scope of 
voluntary tear-ups likely would be dictated by the cleared contracts 
remaining in the portfolio(s) of the defaulted Clearing Member(s).
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    Once the Risk Committee has determined the scope of the Voluntary 
Tear-Up, OCC will initiate the call for voluntary tear-ups by issuing a 
``Voluntary Tear-Up Notice.'' The Voluntary Tear-Up Notice shall inform 
all non-defaulting Clearing Members of the opportunity to participate 
in a Voluntary Tear-Up.\30\ The Voluntary Tear-Up Notice would specify 
the terms applicable to any voluntary tear-up, including but not 
limited to, that no Clearing Member or customers of a Clearing Member 
shall be obligated to participate in a voluntary tear-up and that OCC 
shall retain full discretion to accept or reject any voluntary tear-up.
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    \30\ Since OCC does not know the identities of Clearing Members' 
customers, OCC would depend on each Clearing Member to notify its 
customers with positions in scope of the Voluntary Tear-Up of the 
opportunity to participate in such tear-up.
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    OCC is not proposing a tear-up process that would require the 
imposition of ``gains haircutting'' (i.e., the reduction of unpaid 
gains) on a portion of OCC's cleared contracts.\31\ Instead, OCC has 
determined that its tear-up process--for both Voluntary Tear-Ups as 
well as Partial Tear-Ups--should be initiated on a date sufficiently in 
advance of the exhaustion of OCC's financial resources such that OCC 
would be expected to have adequate remaining resources to cover the 
amount it must pay to extinguish the positions of Clearing Members and 
customers without haircutting gains.\32\
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    \31\ In general, forced gains haircutting is a tool that can be 
more easily applied to products whose gains are settled at least 
daily, like futures through an exchange of variation margin, and by 
central counterparties with comparatively large daily settlement 
flows. Listed options, which constitute the vast majority of the 
contracts cleared by OCC, do not have daily settlement flows and any 
attempt to reduce the ``unrealized gains'' of a listed options 
contract would require the reduction of the option premium that is 
embedded within the required margin (such a process would 
effectively require haircutting the listed option's initial margin).
    \32\ OCC anticipates that it would determine the date on which 
to initiate Partial Tear-Ups by monitoring its remaining financial 
resources against the potential exposure of the remaining 
unauctioned positions from the portfolio(s) of the defaulted 
Clearing Member(s).
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    In OCC's proposed tear-up process, the holders of torn-up positions 
would be assigned a Tear-Up Price and OCC would draw on its remaining 
financial resources in order to extinguish the torn-up positions at the 
assigned Tear-Up Price without forcing a reduction in the amount of 
unpaid value of such positions. OCC is amending the Initial Filing to 
clarify that while OCC does not intend, in the first instance, for its 
tear-up process to serve as a means of loss allocation, circumstances 
may arise such that, despite best efforts, OCC has inadequate remaining 
financial resources to extinguish torn-up positions at their assigned 
Tear-Up Price without forcing a reduction in the amount of unpaid value 
of such positions (e.g., despite best efforts, market movements not 
accounted for by monitoring, additional Clearing Member defaults occur 
immediately preceding a tear-up). In such circumstances, despite best 
efforts, OCC would use its partial

[[Page 38743]]

tear-up process as a means of loss allocation.\33\
---------------------------------------------------------------------------

    \33\ This change does not impact the statutory basis for the 
advance notice filing.
---------------------------------------------------------------------------

    The proposed changes would provide OCC with two separate and non-
exclusive means of equitably re-allocating the losses, costs or 
expenses imposed upon the holders of torn-up positions as a result of 
the tear-up(s). First, the proposed changes to Article VIII would 
provide OCC discretion to use remaining Clearing Fund contributions to 
re-allocate losses imposed on non-defaulting Clearing Members and 
customers from such tear-up(s). Second, Rule 1111(a) would provide that 
if OCC subsequently recovers from the defaulted Clearing Member or the 
estate(s) of the defaulted Clearing Member(s) and the amount of such 
recovery exceeds the amount OCC received in voluntary payments, then 
non-defaulting Clearing Members and non-defaulting customers that 
voluntarily tore-up open positions and incurred losses from such tear-
ups would be repaid from the amount of the recovery in excess of the 
amount OCC received in voluntary payments.\34\ If the amount recovered 
is less than the aggregate amount of Voluntary Tear-Up, each non-
defaulting Clearing Member and non-defaulting customer that incurred 
losses from voluntarily torn-up positions would be repaid in an amount 
proportionate to the percentage of its total amount of losses, costs 
and fees imposed on Clearing Members or customers as a result of the 
Voluntary Tear-Ups.
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    \34\ In order to effect re-allocation of the losses, costs or 
expenses imposed upon the holders of torn-up positions, OCC expects 
that after it has completed its tear-up process and re-established a 
matched book, holders of both voluntarily torn-up and mandatorily 
torn-up positions would be provided with a limited opportunity to 
re-establish positions in the contracts that were voluntarily or 
mandatorily extinguished. After the expiration of such period, OCC 
would seek to collect the information on the losses, costs or 
expenses that had been imposed on the holders of torn-up positions. 
Based on the information collected, OCC would determine whether it 
can reasonably determine the losses, costs and expenses sufficiently 
to re-allocate such amounts.
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    With respect to Voluntary Tear-Ups, new Rule 1111(h) would clarify 
that no action or omission by OCC pursuant to and in accordance with 
Rule 1111 shall constitute a default by OCC.
Proposed Addition of Ability To Conduct Partial Tear-Ups
    OCC proposes to add new Rule 1111, which, in relevant part, will 
provide the Board with discretion to extinguish the remaining open 
positions of any defaulted Clearing Member or customer of such 
defaulted Clearing Member(s) (such positions, ``Remaining Open 
Positions''), as well as any related open positions as necessary to 
mitigate further disruptions to the markets affected by the Remaining 
Open Positions (such positions, ``Related Open Positions''), in a 
circumstance where a Clearing Member has defaulted and OCC has 
determined that, notwithstanding the availability of any remaining 
resources under OCC Rules 707, 1001, 1104 through 1107, 2210 and 2211, 
OCC may not have sufficient resources to satisfy its obligations and 
liabilities resulting from such default (such tear-ups hereinafter 
collectively referred to as ``Partial Tear-Ups''). Like the 
determination for Voluntary Tear-Ups, the Risk Committee shall 
determine the appropriate scope of each Partial Tear-Up and such 
determination shall (i) be based on then-existing facts and 
circumstances, (ii) be in furtherance of the integrity of OCC and the 
stability of the financial system, and (iii) take into consideration 
the legitimate interests of Clearing Members and market participants. 
Once the Risk Committee has determined the scope of the Partial Tear-
Up, OCC will initiate the Partial Tear-Up process by issuing a 
``Partial Tear-Up Notice.'' The Partial Tear-Up Notice shall (i) 
identify the Remaining Open Positions and Related Open Positions 
designated for tear-up, (ii) identify the open positions of non-
defaulting Clearing Members and non-defaulting customers that will be 
subject to Partial Tear-Up (such positions, ``Tear-Up Positions''), 
(iii) specify the termination price (``Partial Tear-Up Price'') for 
each position to be torn-up, and (iv) list the date and time as of 
which the Partial Tear-Up will occur.\35\ With regard to the date and 
time of a Partial Tear-Up, Rule 1111(d) specifies that the Risk 
Committee shall set the date and time. With regard to the Partial Tear-
Up Price, OCC anticipates that it is likely to use the last established 
end-of-day settlement price, in accordance with its existing practices 
concerning pricing and valuation. However, given that it is not 
possible to know in advance the precise circumstances that would cause 
OCC to conduct a tear-up, Rule 1111(f) has been drafted to allow OCC to 
exercise reasonable discretion, if necessary, in establishing the 
Partial Tear-Up Price by some means other than its existing practices 
concerning pricing and valuation.\36\ Specifically, Rule 1111(f) would 
require that OCC, in exercising any such discretion, would act in good 
faith and in a commercially reasonable manner to adopt methods of 
valuation expected to produce reasonably accurate substitutes for the 
values that would have been obtained from the relevant market if it 
were operating normally, including but not limited to the use of 
pricing models that use the market price of the underlying interest or 
the market prices of its components. Rule 1111(f) further specifies 
that OCC may consider the same information set forth in subpart (c) of 
Section 27, Article VI of OCC's By-Laws.\37\
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    \35\ Since OCC does not know the identities of Clearing Members' 
customers, OCC would depend on each Clearing Member to notify its 
customers with positions in scope of the Partial Tear-Up of the 
possibility of tear-up.
    \36\ For example, OCC has observed certain rare circumstances in 
which a closing price for an underlying security of an option may be 
stale or unavailable. A stale or unavailable closing price could be 
the result of a halt on trading in the underlying security, or a 
corporate action resulting in a cash-out or conversion of the 
underlying security (but that has not yet been finalized), or the 
result of an ADR whose underlying security is being impacted by 
certain provisions under foreign laws. OCC would consider the 
presence of these factors on its end-of-day prices in determining 
whether use of the discretion that would be afforded under proposed 
Rule 1111(f) might be warranted.
    \37\ In relevant part, subpart (c) reads as follows: ``In 
determining a close-out amount, the Corporation may consider any 
information that it deems relevant, including, but not limited to, 
any of the following: (1) Prices for underlying interests in recent 
transactions, as reported by the market or markets for such 
interests; (2) quotations from leading dealers in the underlying 
interest, setting forth the price (which may be a dealing price or 
an indicative price) that the quoting dealer would charge or pay for 
a specified quantity of the underlying interest; (3) relevant 
historical and current market data for the relevant market, provided 
by reputable outside sources or generated internally; and (4) values 
derived from theoretical pricing models using available prices for 
the underlying interest or a related interest and other relevant 
data. Amounts stated in a currency other than U.S. Dollars shall be 
converted to U.S. Dollars at the current rate of exchange, as 
determined by the Corporation. A position having a positive close-
out value shall be an `asset position' and a position having a 
negative close-out value shall be a `liability position.' ''
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    The scope of any Partial Tear-Up will be determined in accordance 
with Rule 1111(e).\38\ With respect to the extinguishment of Remaining 
Open Positions, OCC will designate Tear-Up Positions in identical 
Cleared Contracts and Cleared Securities on the opposite side of the 
market and in an aggregate amount equal to that of the Remaining Open 
Positions. OCC will only designate Tear-Up Positions in the

[[Page 38744]]

accounts of non-defaulting Clearing Members (inclusive of such Clearing 
Members' customer accounts) with an open position in the applicable 
Cleared Contract or Cleared Security.\39\ Tear-Up Positions shall be 
designated and applied by OCC on a pro rata basis across all the 
identical positions in Cleared Contracts and Cleared Securities on the 
opposite side of the market in the accounts of non-defaulted Clearing 
Members and their customers.\40\
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    \38\ OCC is amending the Initial Filing to reflect that after 
further evaluation of its proposed recovery tools and the proposed 
tear-up process, OCC does not believe there would be a need to 
assign or transfer any hedging transactions established with 
relation to tear-up positions. OCC is therefore amending the Initial 
Filing to remove text in proposed Rule 1111(e) concerning proposed 
authority for OCC to offer to assign or transfer any hedging 
transactions related to Remaining Open Positions with related Tear-
Up Positions. This change does not impact the statutory basis for 
the advance notice filing.
    \39\ Since, as stated in the Initial Filing, the objective of 
Partial Tear-Ups is to extinguish the Remaining Open Positions 
cleared by the defaulted Clearing Member(s) or customer of such 
defaulted Clearing Member(s) (emphasis added), OCC does not believe 
there would be a need to designate Tear-Up Positions to the non-
defaulted customers of a defaulted Clearing Member. OCC is therefore 
amending the Initial Filing to remove references to non-defaulted 
customers of defaulted Clearing Members.
    \40\ OCC is amending the Initial Filing to clarify that a non-
defaulted Clearing Member would be required to allocate the assigned 
Tear-Up Positions on a pro rata basis across those customers that 
have open positions in such Cleared Contract or Cleared Security in 
such account, and for any listed option positions being 
extinguished, allocation across customer accounts should occur in 
accordance with such Clearing Member's procedures for allocating 
exercises and assignments. This change does not impact the statutory 
basis for the advance notice filing.
---------------------------------------------------------------------------

    Rule 1111(e)(iii) provides that every Partial Tear-Up position is 
automatically terminated upon and with effect from the Partial Tear-Up 
Time, without the need for any further step by any party to such 
Cleared Contract or Cleared Security, and that upon termination, either 
OCC or the relevant Clearing Member (as the case may be) shall be 
obligated to pay the other the applicable Partial Tear-Up Price. Rule 
1111(e)(iii) further provides that the corresponding open position 
shall be deemed terminated at the Partial Tear-Up Price.\41\
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    \41\ OCC is amending the Initial Filing and the proposed text of 
Rule 1111(e)(iii) to clarify that if, in the circumstances discussed 
in fn. 26 (above), OCC, in its discretion, determines that its 
remaining resources are inadequate to pay the applicable Partial 
Tear-Up Price for each position being extinguished in the Partial 
Tear-Up, OCC shall be obligated to pay each relevant Clearing Member 
a pro rata amount of the applicable Partial Tear-Up Price based on 
OCC's remaining resources, and the relevant Clearing Member shall 
have an unsecured claim against the Corporation for the value of the 
difference between the pro rata amount received and the Partial 
Tear-Up Price. With regard to amounts recovered from a suspended or 
defaulted Clearing Member (or from the estate of a suspended or 
defaulted Clearing Member) Rules 1011(b) and 111(a)(ii) would 
continue to apply. This change does not impact the statutory basis 
for the advance notice filing.
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    Rule 1111(g) provides that to the extent losses imposed upon non-
defaulting Clearing Members and non-defaulting customers resulting from 
a Partial Tear-Up can reasonably be determined, the Board may elect to 
re-allocate such losses among all non-defaulting Clearing Members 
through a special charge to all non-defaulting Clearing Members in an 
amount corresponding to each such non-defaulting Clearing Member's 
proportionate share of the variable amount of the Clearing Fund at the 
time such Partial Tear-Up is conducted.\42\
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    \42\ For the avoidance of doubt, the special charge would be 
distinct and separate from a Clearing Member's obligation to satisfy 
Clearing Fund assessments, and therefore, would not be subject to 
the aforementioned assessment cap in the amount of 200% of a 
Clearing Member's then-required contribution to the Clearing Fund.
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    With respect to Partial Tear-Ups, new Rule 1111(h) would clarify 
that no action or omission by OCC pursuant to and in accordance with 
Rule 1111 shall constitute a default by OCC.
Expected Effect on and Management of Risk
    OCC believes that the proposed changes would reduce the nature and 
level of risk presented to OCC in three primary ways: (i) By providing 
greater certainty regarding what financial resources will be available 
to OCC after a proportionate charge is assessed; (ii) by providing 
additional tools by which to allocate credit losses in excess of OCC's 
available financial resources; and (iii) by enhancing OCC's ability to 
re-establish a matched book. First, OCC believes the imposition of a 
200% cap on OCC's assessment powers during any cooling-off period 
provides Clearing Members with greater certainty regarding their 
maximum liability with respect to the Clearing Fund during extreme 
stress events, which in turn, facilitates Clearing Members' management 
of their own risks, and to the extent applicable, regulatory capital 
considerations. Further, OCC believes that extending the window for 
Clearing Member withdrawal following a proportionate charge to be 
equivalent with the cooling-off period would afford a Clearing Member a 
more reasonable period in which to evaluate whether the withdrawal from 
clearing membership would be necessary to cap its liability for 
proportionate charges at 200% of its then-required Clearing Fund 
contributions. With this change, OCC believes the increased 
predictability would help it to more reliably understand the amount of 
Clearing Fund contributions that will likely be available to it after a 
proportionate charge is assessed. Second, the introduction of rules to 
allow for voluntary payments, Voluntary Tear-Ups and Partial Tear-Ups 
would provide OCC with three distinct tools that could be used to 
allocate any credit losses OCC may face in excess of collateral and 
other resources available to OCC. Finally, in the event that OCC 
believes its obligations and liabilities arising from remaining 
positions in the portfolio of a defaulted Clearing Member may exceed 
its remaining available financial resources, the proposed changes 
ultimately would enable OCC to extinguish those positions, thereby re-
establishing a matched book.
    The risks of a Partial Tear-Up are extremely remote; nonetheless, 
OCC believes that the express authority to conduct a Partial Tear-Up 
may be viewed as increasing Clearing Members' and customers' exposure 
to an extreme stress scenario. As explained above, the proposed Partial 
Tear-Up authority is consistent with regulatory requirements, as well 
as with the expectations of CCPs of various international 
organizations. OCC further believes that its proposed Partial Tear-Up 
authority strikes an appropriate balance between seeking to protect the 
interests of Clearing Members and customers and the need to have 
appropriate tools to stabilize a systemically important financial 
market utility and minimize the risk of disruption to the broader 
financial system. To address the potential impact of a Partial Tear-Up 
on Clearing Members and customers, OCC has proposed two tools that 
would enable it to equitably re-allocate the losses, costs and fees 
imposed upon holders of torn-up positions.
Consistency With the Clearing Supervision Act
    The stated purpose of the Clearing Supervision Act is to mitigate 
systemic risk in the financial system and promote financial stability 
by, among other things, promoting uniform risk management standards for 
systemically important financial market utilities and strengthening the 
liquidity of systemically important financial market utilities.\43\ 
Section 805(a)(2) of the Clearing Supervision Act \44\ also authorizes 
the Commission to prescribe risk management standards for the payment, 
clearing and settlement activities of designated clearing entities, 
like OCC, for which the Commission is the supervisory agency. Section 
805(b) of the Clearing Supervision Act \45\ states that the objectives 
and principles for risk management standards prescribed under Section 
805(a) shall be to:
---------------------------------------------------------------------------

    \43\ 12 U.S.C. 5461(b).
    \44\ 12 U.S.C. 5464(a)(2).
    \45\ 12 U.S.C. 5464(b).
---------------------------------------------------------------------------

     Promote robust risk management;

[[Page 38745]]

     promote safety and soundness;
     reduce systemic risks; and
     support the stability of the broader financial system.
    The Commission has adopted risk management standards under Section 
805(a)(2) of the Clearing Supervision Act and the Act in furtherance of 
these objectives and principles, including those standards adopted 
pursuant to the Commission rules cited below.\46\ For the reasons set 
forth below, OCC believes that the proposed change is consistent with 
the risk management standards promulgated under Section 805(a) of the 
Clearing Supervision Act.\47\
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    \46\ 17 CFR 240.17Ad-22. See Securities Exchange Act Release 
Nos. 68080 (October 22, 2012), 77 FR 66220 (November 2, 2012) (S7-
08-11) (``Clearing Agency Standards''); 78961 (September 28, 2016), 
81 FR 70786 (October 13, 2016) (S7-03-14) (``Standards for Covered 
Clearing Agencies''). The Standards for Covered Clearing Agencies 
became effective on December 12, 2016. OCC is a ``covered clearing 
agency'' as defined in Rule 17Ad-22(a)(5) and therefore is subject 
to section (e) of Rule 17Ad-22.
    \47\ 12 U.S.C. 5464(b)(1) and (4).
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Recovery and Orderly Wind-Down
    In relevant part, Rule 17Ad-22(e)(3)(ii) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . plan[ ] for the recovery and 
orderly wind-down of the [CCA] necessitated by credit losses, liquidity 
shortfalls, losses from general business risk, or any other losses.'' 
\48\ As stated above, each of the proposed changes is designed to 
provide OCC with tools to address the risks OCC might confront in a 
recovery and orderly wind-down scenario.\49\ Consistent with the 
requirements of Rule 17Ad-22(e)(3)(ii), the proposed tools would enable 
OCC to better address the risks of liquidity shortfalls and credit 
losses resulting from a Clearing Member default or certain other loss 
events and, if necessary, to ultimately re-establish a matched book in 
a recovery or orderly wind-down scenario.\50\ In this context, the 
proposed changes serve as a critical component of OCC's recovery and 
orderly wind-down plan. As a result, in OCC's view, the proposed 
changes are consistent with the requirements of Rule 17Ad-22(e)(3)(ii) 
as to the recovery and orderly wind-down plan.\51\
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    \48\ 17 CFR 240.17Ad-22(e)(3)(ii).
    \49\ Indeed, the OCC's separately filed recovery and orderly 
wind-down plan identifies OCC's assessment powers, ability to call 
for voluntary payments, ability to call for Voluntary Tear-Ups and 
ability to impose Partial Tear-Ups among its ``Recovery Tools.'' OCC 
has filed a proposed rule change with the Commission in connection 
with this proposal. See Securities Exchange Act Release No. 82352 
(December 19, 2017), 82 FR 61072 (December 26, 2017) (SR-OCC-2017-
021). On March 22, 2018, the U.S. Securities and Exchange Commission 
(``Commission'') instituted proceedings to determine whether to 
approve or disapprove the proposed rule change. See Securities 
Exchange Act Release No. 82927 (March 22, 2018), 83 FR 13176 (March 
27, 2018) (SR-OCC-2017-021).
    \50\ 17 CFR 240.17Ad-22(e)(3)(ii).
    \51\ 17 CFR 240.17Ad-22(e)(3)(ii).
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Allocation of Credit Losses Above Available Resources
    In relevant part, Rule 17Ad-22(e)(4)(viii) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [ a]ddress[ ] allocation of 
credit losses the [CCA] may face if its collateral and other resources 
are insufficient to fully cover its credit exposures . . .'' \52\ The 
proposed changes would provide OCC with three distinct tools that could 
be used to allocate any credit losses OCC may face in excess of 
collateral and other resources available to OCC. First, new Rule 1011 
would provide a framework by which OCC could receive voluntary payments 
in a circumstance where a Clearing Member has defaulted and OCC has 
determined that, notwithstanding the availability of any remaining 
resources under OCC Rules 707, 1001, 1104 through 1107, 2210 and 
2211,\53\ OCC may not have sufficient resources to satisfy its 
obligations and liabilities resulting from such default. Second, new 
Rule 1111 would establish a framework by which non-defaulting Clearing 
Members and non-defaulting customers of Clearing Members could be given 
an opportunity to participate in Voluntarily Tear-Ups in a circumstance 
where a Clearing Member has defaulted and OCC has determined that, 
notwithstanding the availability of any remaining resources under OCC 
Rules 707, 1001, 1104 through 1107, 2210 and 2211, OCC may not have 
sufficient resources to satisfy its obligations and liabilities 
resulting from such default. Finally, new Rule 1111 also would provide 
the Board with discretion to mandatorily tear-up Remaining Open 
Positions and Related Open Positions, in a circumstance where a 
Clearing Member has defaulted and OCC has determined that, 
notwithstanding the availability of any remaining resources under OCC 
Rules 707, 1001, 1104 through 1107, 2210 and 2211, OCC may not have 
sufficient resources to satisfy its obligations and liabilities 
resulting from such default.\54\ In OCC's view, each of these tools 
could be deployed by OCC, if necessary, to allocate credit losses in 
excess of the collateral and other resources available to OCC, in 
accordance with Rule 17Ad-22(e)(4)(viii).\55\
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    \52\ 17 CFR 240.17Ad-22(e)(v)(viii).
    \53\ Rule 707 addresses the treatment of funds in a Clearing 
Member's X-M accounts. Rule 1001 addresses the size of OCC's 
Clearing Fund and the amount of a Clearing Member's contribution. 
Rules 1104 through 1107 concern the treatment of the portfolio of a 
defaulted Clearing Member. Rules 2210 and 2211 concern the treatment 
of Stock Loan positions of a defaulted Clearing Member.
    \54\ Rule 1111(g), which would provide the Board authority to 
equitably re-allocate losses, costs and fees directly imposed as a 
result of a Partial Tear-Up among all non-defaulting Clearing 
Members through a special charge, would serve as a discretionary 
tool to redistribute the credit losses allocated through Partial 
Tear-Up.
    \55\ 17 CFR 240.17Ad-22(e)(v)(viii).
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Replenishment of Financial Resources Following a Default
    In relevant part, Rule 17Ad-22(e)(4)(ix) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [d]escrib[e] the [CCA's] 
process to replenish any financial resources it may use following a 
default or other event in which use of such resources is 
contemplated.'' \56\ OCC's Clearing Members have a standing obligation 
to replenish the Clearing Fund following any proportionate charge. The 
proposed changes would establish a rolling cooling-off period, 
triggered by the payment of a proportionate charge against the Clearing 
Fund, during which period the aggregate liability of a Clearing Member 
to replenish the Clearing Fund (inclusive of assessments) would be 200% 
of the Clearing Member's required contribution as of the time 
immediately preceding the triggering proportionate charge. Compared to 
the current requirement under which a Clearing Member may cap its 
liability to proportionate charges at an additional 100% of its then-
required contribution, a Clearing Member would instead be permitted to 
cap its liability for proportionate charges at an additional 200% of 
its then-required Clearing Fund contribution.
---------------------------------------------------------------------------

    \56\ 17 CFR 240.17Ad-22(e)(4)(ix).
---------------------------------------------------------------------------

    OCC believes that the proposed approach improves predictability for 
OCC and for Clearing Members regarding the size of Clearing Fund 
contributions that are likely to be subject to assessments for 
proportionate charges. Additionally, replacing the five business day 
withdrawal period with the withdrawal period commensurate with the 
cooling-off period (which, as proposed would be a minimum of fifteen 
calendar days) would give Clearing Members a more reasonable period in 
which to meet the wind-down and termination requirements necessary to 
cap their liability. OCC believes that

[[Page 38746]]

this would afford them greater certainty regarding their maximum 
liability with respect to the Clearing Fund during extreme stress 
events, which in turn, facilitates Clearing Members' management of 
their own risk management, and to the extent applicable, regulatory 
capital considerations. And OCC believes this increased predictability 
would also be beneficial to OCC by helping it to more reliably 
understand the amount of Clearing Fund contributions that will likely 
be available to it after a proportionate charge is assessed.\57\
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    \57\ Under the existing approach, it is less certain from OCC's 
standpoint regarding whether Clearing Members would reasonably be 
able to cap their liability to proportionate charges within five 
business days.
---------------------------------------------------------------------------

    OCC believes that the relative certainty provided by the proposed 
cooling-off period and 200% cap on assessments ultimately could reduce 
the risks of successive or ``cascading'' defaults, in which the 
financial demands on remaining non-defaulting Clearing Members to 
continually replenish OCC's Clearing Fund (and similar guaranty funds 
at other CCPs to which such Clearing Members might belong) have the 
effect of further weakening such Clearing Members to the point of 
default. In this regard, the proposed changes are designed to provide 
OCC, Clearing Members and other stakeholders with sufficient time to 
manage the ongoing default(s) without further aggravating the extreme 
stresses facing market participants.
    OCC recognizes that the proposed changes would limit the maximum 
amount of Clearing Fund resources that could be available to OCC in an 
extreme stress scenario, which introduces the possibility, however 
remote, that the proposed 200% cap ultimately could be reached. If 
during any cooling-off period the amount of aggregate proportionate 
charges against the Clearing Fund approaches the 200% cap, the amount 
remaining in the Clearing Fund may no longer be sufficient to comply 
with the applicable minimum regulatory financial resources requirements 
in the CCAs. In any such event, OCC's existing authority under Rule 603 
would permit OCC to call on participants for additional initial margin, 
which could ensure that OCC's minimum financial resources remain in 
excess of applicable CCA requirements.\58\ OCC recognizes that the 
imposition of increased margin requirements could have an immediate 
pro-cyclical impact on participants (and consequential impacts on the 
broader financial system) that is potentially greater than the impact 
of replenishing the Clearing Fund. These risks would be limited to a 
specific extreme stress event and could be mitigated by certain 
factors. First, OCC, in coordination with its regulators, would 
carefully evaluate any potential increase in the context of then-
existing facts and circumstances. Second, during the cooling-off 
period, Clearing Members and their customers will have the opportunity 
to reduce or rebalance their respective portfolios in order to mitigate 
their exposures to stress losses and initial margin increases. Finally, 
since initial margin is not designed to be subject to mutualized loss, 
the risk of loss faced by Clearing Members for amounts posted as 
additional margin would be substantially less than for replenishments 
of the Clearing Fund.
---------------------------------------------------------------------------

    \58\ Rule 603 provides that ``[t]he Risk Committee may, from 
time to time, increase the amount of margin which may be required in 
respect of a cleared contract, open short position or exercised 
contract if, in its discretion, it determines that such increase is 
advisable for the protection of [OCC], the Clearing Members or the 
general public.''
---------------------------------------------------------------------------

    Given the products cleared by OCC and the composition of its 
clearing membership, OCC has determined that a minimum 15-calendar day 
cooling-off period, rolling up to a maximum of 20 calendar days, is 
likely to be a sufficient amount of time for OCC to manage the ongoing 
default(s) and take necessary steps in furtherance of stabilizing the 
clearing system. Further, through conversations with Clearing Members, 
OCC believes that the proposed cooling-off period is likely to be a 
sufficient amount for Clearing Members (and their customers) to orderly 
reduce or rebalance their positions, in an attempt to mitigate stress 
losses and exposure to potential initial margin increases as they 
navigate the stress event. Through conversations with Clearing Members, 
OCC also believes that the proposed cooling-off period is likely to be 
a sufficient amount for certain Clearing Members to orderly close-out 
their positions and transfer customer positions as they withdraw from 
clearing membership. OCC believes the proposed cooling-off period, 
coupled with the other proposed changes to OCC's assessment powers, is 
likely to provide Clearing Members with an adequate measure of 
stability and predictability as to the potential use of Clearing Fund 
resources, which OCC believes removes the existing incentive for 
Clearing Members to withdraw following a proportionate charge.\59\
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    \59\ OCC initially considered a fixed 15-calendar day cooling-
off period; however, OCC concluded that a fixed 15-calendar day 
cooling-off period may increase the risks of successive or cascading 
Clearing Member defaults and may perversely incentivize Clearing 
Members to seek to withdraw from clearing membership. Through 
conversations with Clearing Members, OCC believes that these 
potentially disruptive consequences are mitigated by the proposed 
rolling cooling-off period.
---------------------------------------------------------------------------

    In light of the foregoing, OCC believes that the proposed changes 
would enhance and strengthen its process to replenish the Clearing Fund 
following a default or other event in which use of the Clearing Fund is 
contemplated, in accordance with Rule 17Ad-22(e)(4)(ix).\60\
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    \60\ 17 CFR 240.17Ad-22(e)(4)(ix).
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Replenishment of Liquid Resources
    In relevant part, Rule 17Ad-22(e)(7)(ix) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [d]escrib[e] the [CCA's] 
process to replenish any liquid resources that the clearing agency may 
employ during a stress event.'' \61\ Since the use any part of the cash 
portion of OCC's Clearing Fund would constitute a depletion of one of 
OCC's liquid resources, OCC's assessment power, discussed above, is the 
primary means of replenishing the Clearing Fund cash that OCC used to 
address the stress event. For the same reasons stated above, OCC 
believes that the proposed changes enhance and strengthen its process 
to replenish the Clearing Fund, as necessary, following a default or 
other stress event in which the Clearing Fund is used, and therefore, 
OCC views the proposed changes as consistent with Rule 17Ad-
22(e)(7)(ix).\62\
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    \61\ 17 CFR 240.17Ad-22(e)(7)(ix).
    \62\ 17 CFR 240.17Ad-22(e)(7)(ix).
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Timely Action To Contain Losses
    In relevant part, Rule 17Ad-22(e)(13) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [e]nsure the [CCA] has the 
authority and operational capacity to take timely action to contain 
losses and liquidity demands and continue to meet its obligations . . 
.'' \63\ The proposed changes would provide OCC with the authority to 
call for Voluntary Tear-Ups and OCC's Board with the discretion to 
impose Partial Tear-Ups, which would provide OCC with authority 
necessary to extinguish certain losses (and attendant liquidity 
demands) thereby potentially enabling OCC to continue to meet its 
remaining obligations to participants. As designed, Voluntary Tear-Ups 
and Partial Tear-Ups would be initiated on a date sufficiently in 
advance of the exhaustion of OCC's financial resources such that OCC is 
expected to have adequate resources remaining to cover the amount it 
must pay to extinguish the

[[Page 38747]]

positions of Clearing Members and customers without haircutting gains. 
Accordingly, OCC believes that its authority and capacity to conduct a 
Partial Tear-Up should be timely, relative to the adequacy of OCC's 
remaining financial resources. Finally, OCC believes it has the 
operational and systems capacity sufficient to support the proposed 
changes, and OCC's policies and procedures will be updated accordingly 
to reflect the existence of these new tools. As a result, OCC believes 
that the proposed changes conform to the relevant requirements in Rule 
17Ad-22(e)(13).\64\
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    \63\ 17 CFR 240.17Ad-22(e)(13).
    \64\ 17 CFR 240.17Ad-22(e)(13).
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Public Disclosure of Key Aspects of Default Rules
    In relevant part, Rule 17Ad-22(e)(23)(i) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [p]ublicly disclos[e] all 
relevant rules and material procedures, including key aspects of its 
default rules and procedures.'' \65\ As stated above, each of the tools 
discussed herein are contemplated to be deployed by OCC if an extreme 
stress event has placed OCC into a recovery or orderly wind-down 
scenario, and therefore, the tools discussed herein constitute key 
aspects of OCC's default rules. By incorporating the proposed changes 
into OCC's Rules and By-Laws, as further supplemented by the discussion 
in OCC's public rule filing, OCC believes that proposed changes would 
conform to the relevant requirements in Rule 17Ad-22(e)(23)(i).\66\
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    \65\ 17 CFR 240.17Ad-22(e)(23)(i).
    \66\ 17 CFR 240.17Ad-22(e)(13).
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Sufficient Information Regarding the Risks, Fees and Costs of Clearing
    In relevant part, Rule 17Ad-22(e)(23)(ii) requires that each CCA 
``establish, implement, maintain and enforce written policies and 
procedures reasonably designed to . . . [p]rovid[e] sufficient 
information to enable participants to identify and evaluate the risks, 
fees, and other material costs they incur by participating in the 
covered clearing agency.'' \67\ The proposed changes would clearly 
explain to Clearing Members and market participants that an extreme 
stress scenario could result in the use--and theoretically the 
exhaustion--of OCC's financial resources, inclusive of OCC's proposed 
assessment powers. Proposed changes to Section 6, Article VIII of OCC's 
By-Laws would explain Clearing Members' replenishment obligation and 
liability for assessments. The proposed changes also would clearly 
explain, through proposed Rules 1011 and 1111, that as OCC nears the 
exhaustion of its assessment powers, Clearing Members may be asked for 
voluntary payments and, if necessary, Clearing Members and customers 
may be asked to participate in a Voluntary Tear-Up and/or subject to a 
Partial Tear-Up. Proposed Rules 1011(b) and 1111(a)(ii) also would make 
clear that Clearing Members that made voluntary payments and Clearing 
Members and customers whose tendered positions were extinguished in the 
Voluntary Tear-Up would be prioritized in the distribution of any 
recovery from the defaulted Clearing Member(s). Proposed changes to 
Article VIII would clarify that the Clearing Fund contributions 
remaining after OCC has conducted a Voluntary Tear-Up or Partial Tear-
Up could be used to compensate the non-defaulting Clearing Members and 
non-defaulting customers for the losses, costs or fees imposed upon 
them as a result of such Voluntary Tear-Up or Partial Tear-Up. Proposed 
Rule 1111(g) would make clear that, following a Partial Tear-Up, OCC's 
Board may seek to equitably re-allocate losses, costs and fees directly 
imposed as a result of a Partial Tear-Up among all non-defaulting 
Clearing Members through a special charge. By incorporating the 
proposed changes into OCC's Rules and By-Laws, as further supplemented 
by the discussion in OCC's public rule filing, OCC believes that is has 
provided sufficient information to enable participants to identify and 
evaluate the risks, fees, and other material costs they could incur by 
participating OCC, consistent with the requirements in Rule 17Ad-
22(e)(23)(ii).\68\
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    \67\ 17 CFR 240.17Ad-22(e)(23)(ii).
    \68\ 17 CFR 240.17Ad-22(e)(23)(ii).
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III. Date of Effectiveness of the Advance Notice and Timing for 
Commission Action

    The proposed change may be implemented if the Commission does not 
object to the proposed change within 60 days of the later of (i) the 
date the proposed change was filed with the Commission or (ii) the date 
any additional information requested by the Commission is received. OCC 
shall not implement the proposed change if the Commission has any 
objection to the proposed change.
    The Commission may extend the period for review by an additional 60 
days if the proposed change raises novel or complex issues, subject to 
the Commission providing the clearing agency with prompt written notice 
of the extension. A proposed change may be implemented in less than 60 
days from the date the advance notice is filed, or the date further 
information requested by the Commission is received, if the Commission 
notifies the clearing agency in writing that it does not object to the 
proposed change and authorizes the clearing agency to implement the 
proposed change on an earlier date, subject to any conditions imposed 
by the Commission.
    OCC shall post notice on its website of proposed changes that are 
implemented. The proposal shall not take effect until all regulatory 
actions required with respect to the proposal are completed.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the advance 
notice is consistent with the Clearing Supervision 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 [email protected]. Please include 
File Number SR-OCC-2017-809 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-OCC-2017-809. 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 website (http://www.sec.gov/rules/sro.shtml). 
Copies of the submission, all subsequent amendments, all written 
statements with respect to the advance notice that are filed with the 
Commission, and all written communications relating to the advance 
notice 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 website 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

[[Page 38748]]

inspection and copying at the principal office of OCC and on OCC's 
website at https://www.theocc.com/about/publications/bylaws.jsp.
    All comments received will be posted without change. Persons 
submitting comments are cautioned that we do not redact or edit 
personal or identifying information from comment submissions. You 
should submit only information that you wish to make available 
publicly.
    All submissions should refer to File Number SR-OCC-2017-809 and 
should be submitted on or before August 22, 2018.

    By the Commission.
Brent J. Fields,
Secretary.
[FR Doc. 2018-16824 Filed 8-6-18; 8:45 am]
BILLING CODE 8011-01-P


