[Federal Register Volume 85, Number 110 (Monday, June 8, 2020)]
[Notices]
[Pages 34791-34793]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-12273]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-88989; File No. SR-OCC-2020-004]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Order Approving Proposed Rule Change To Modify the Sequence for 
Processing Options Transactions

June 2, 2020.

I. Introduction

    On April 6, 2020, the Options Clearing Corporation (``OCC'') filed 
with the Securities and Exchange Commission (``Commission'') the 
proposed rule change SR-OCC-2020-004 (``Proposed Rule Change'') 
pursuant to Section 19(b) of the Securities Exchange Act of 1934 
(``Exchange Act'') \1\ and Rule 19b-4 \2\ thereunder to describe a 
change to the sequence in which options transactions are processed.\3\ 
The Proposed Rule Change was published for public comment in the 
Federal Register on April 21, 2020.\4\ The Commission has received no 
comments regarding the Proposed Rule Change. This order approves the 
Proposed Rule Change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ See Notice of Filing infra note 4, 85 FR at 22197.
    \4\ Securities Exchange Act Release No. 88654 (Apr. 15, 2020), 
85 FR 22197 (Apr. 21, 2020) (File No. SR-OCC-2020-004) (``Notice of 
Filing'').
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II. Background

    Currently, OCC processes all securities and commodity futures 
options transactions in the following sequence: \5\ (1) Opening Buys; 
(2) Opening Sells; (3) Closing Buys; (4) Exercises; (5) Closing Sells; 
and (6) Assignments. As discussed below, OCC's Clearing Members 
indicated that the current processing sequence could raise issues 
related to compliance with exchange rules requiring that firms exercise 
only ``outstanding'' net long positions.\6\ OCC proposes to change the 
order in which it processes such transactions by moving ``Closing 
Sells'' ahead of ``Exercises,'' which would result in the following 
sequence: (1) Opening Buys; (2) Opening Sells; (3) Closing Buys; (4) 
Closing Sells; (5) Exercises; and (6) Assignments. The current 
processing sequence was designed to protect Clearing Members against 
certain errors; however, OCC believes that operational changes as well 
as increased Clearing Member proficiency in trade processing warrants a 
change to the processing sequence to reflect the tools OCC offers its 
Clearing Members as well as increased Clearing Member proficiency.\7\
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    \5\ A ``commodity future'' is defined in Article I(c)(24) of By-
Laws as ``a futures contract within the exclusive jurisdiction of 
the Commodity Futures Trading Commission that is traded on, through 
the facilities of, or subject to the rules of a futures market.'' 
Options on securities futures currently do not exist. See https://www.theocc.com/components/docs/legal/rules_and_bylaws/occ_bylaws.pdf.
    \6\ See Notice of Filing, 85 FR at 22198.
    \7\ See id.
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Current Processing Sequence

    The current processing sequence was designed to protect against the 
risk that an erroneously coded transaction could prevent a Clearing 
Member from appropriately exercising a long position. The vast majority 
of customer securities options positions are maintained on a gross 
basis at OCC. A miscoded sell transaction of one customer could close 
out a long position in the same series of another customer, which would 
prevent the latter from exercising the long position. Processing 
closing sell transactions after exercises avoids the prevention of 
exercises by erroneously coded sell transactions.
    Market-Maker and Other Net Accounts: The current processing 
sequence applies to firm, customer, and Market-Maker accounts. The 
processing sequence for Market-Maker accounts, however, includes one 
additional step because Market-Maker accounts are held on a net 
basis.\8\ At the end of each trading day, OCC nets offsetting positions 
in the same options series in each Market-Maker account. OCC nets 
offsetting positions before processing the exercise of long 
positions.\9\ From a systems perspective, this means that the current 
processing sequence for Market-Maker accounts is as follows: (1) 
Opening Buys; (2) Opening Sells; (3) Closing Buys; (4) Position 
Netting; (5)

[[Page 34792]]

Exercises; (6) Closing Sells; and (7) Assignments.
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    \8\ As noted above, the vast majority of customer accounts are 
maintained on a gross basis. A few Clearing Members have established 
the functionality to designate sub-accounts within their omnibus 
customer and firm accounts held at OCC. These sub-accounts are 
established for a specific customer or joint back office account and 
the account holders can elect to hold these accounts on a net basis 
to assist with the position reconciliation process. When the account 
holders elect to hold the accounts in this manner, they are subject 
to the same netting process to which Market-Maker accounts are 
subject. See Interpretation and Policy .04 to Article VI, Section 3 
of OCC's By-Laws available at https://www.theocc.com/components/docs/legal/rules_and_bylaws/occ_bylaws.pdf.
    \9\ OCC represented that netting before exercise is designed to 
address operational risk concerns related to the processing of 
dividend play transactions by Market-Makers. See Notice of Filing, 
85 FR at 22198. A dividend play is a trading strategy that 
historically was primarily engaged in by Market-Makers and involved 
buying and selling an equal number of call options right before a 
dividend date on the underlying equity and exercising the long call 
options with the goal of capturing the dividend on the underlying 
equity.
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    Clearing Members have visibility into the trade information that 
OCC receives, which is now available in near real-time.\10\ OCC 
provides for visibility through a screen in ENCORE and an On Demand 
Position file provided to Clearing Members, both of which allow 
Clearing Members to evaluate the availability of long positions to 
cover exercises notices. OCC also permits Clearing Members to adjust 
positions for the purpose of correcting the miscoding errors as 
described above. Specifically, Clearing Members may correct such errors 
by entering a position adjustment in ENCORE prior to exercises being 
processed.\11\
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    \10\ When the current processing sequence was adopted, OCC 
received trades in a batch file from each exchange at the end of the 
trading day. OCC would then process trades on a batch basis prior to 
the opening of trading the following business day. In contrast, OCC 
now receives trade information on a near real-time basis. The 
functionality to receive trades on a near real-time basis has been 
available through OCC's ENCORE clearing system since 2002. See id.
    \11\ OCC allows Clearing Members to make such position 
adjustment only for non-critical aspects of a trade. For example, a 
Clearing Member would not be permitted to change the price or symbol 
of a trade.
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    Additionally, OCC's Clearing Members have indicated that the 
current processing sequence could raise issues related to compliance 
with exchange rules requiring that firms exercise only ``outstanding'' 
net long positions.\12\ Clearing Members have indicated that a customer 
position could be subject to conflicting closing sale and exercise 
instructions. Under OCC's current processing sequence, such 
instructions could lead to a position that was intended to be closed 
out being exercised instead.
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    \12\ See Notice of Filing, 85 FR at 22198. The rules of one 
exchange provide that, ``an outstanding options contract may be 
exercised during the time period specified in the Rules of [OCC] by 
the tender to [OCC] of an exercise notice in accordance with the 
Rules of [OCC].'' NYSE Arca Rule 6.24-O(a). See also FINRA Rule 2360 
(b)(23) and NYSE American Options Rule 980(a). An ``outstanding'' 
contract is ``an options contract which has been issued by [OCC] and 
has neither been the subject of a closing writing transaction nor 
has reached its expiration date.'' NYSE Arca Rule 6.1-O(b)(26). See 
also FINRA Rule 2360 (a)(26).
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Proposed Processing Sequence

    OCC proposes to modify the processing sequence for all securities 
and futures options transactions for all account types to process all 
closing sell transactions prior to all exercise transactions.\13\ OCC 
proposes to change the order in which it processes such transactions by 
moving ``Closing Sells'' ahead of ``Exercises,'' which would result in 
the following sequence: (1) Opening Buys; (2) Opening Sells; (3) 
Closing Buys; (4) Closing Sells; (5) Exercises; and (6) Assignments. 
For Market-Maker and other accounts held on a net basis, OCC proposes 
to net offsetting positions after closing sells but before exercises.
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    \13\ OCC currently uses the same processing sequence for options 
on commodity futures; however, OCC understands that futures 
customers and Clearing Members are indifferent to the processing 
sequence for futures transactions. See Notice of Filing, 85 FR at 
22199. Futures firms submit very few trades marked as closing 
transactions, and as a result, submit nightly adjustments to correct 
their open interest, which, in turn reduces the potential of an 
exercise error since the firms verify their long positions on a 
daily basis. Id.
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    OCC discussed the current processing sequence and the Proposed Rule 
Change with its Clearing Members at the OCC Roundtable, an OCC-
sponsored advisory group comprised of representatives from OCC's 
participant.\14\ Based upon those discussions, OCC believes that its 
current processing sequence for options transactions no longer needs to 
be designed to protect Clearing Members from errors in customers' 
accounts that would result in closing out a position that was intended 
to be exercised.\15\ Further, OCC represented that Clearing Members 
believe the Proposed Rule Change would help them comply with certain 
Exchange rules that require customers to exercise only ``outstanding'' 
net long positions.\16\ As noted, Clearing Members now have visibility 
into near real-time trade data and the ability to adjust positions 
prior to exercise to correct errors in the coding of non-critical 
aspects of a trade, which was not available when the current processing 
sequence was established.
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    \14\ The OCC Roundtable is made up of Exchanges, a cross-section 
of OCC Clearing Members, and OCC staff who hold regular monthly 
operations update calls.
    \15\ See Notice of Filing, 85 FR at 22199.
    \16\ See Notice of Filing, 85 FR at 22199. By processing all 
buys and sells prior to exercises, Clearing Members believe that the 
proposed processing sequence would help address situations in which 
a customer position is subject to conflicting closing sale and 
exercise instructions, which could lead to a position being 
exercised that was intended to be closed out under the current 
processing sequence. Id.
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III. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Exchange Act directs the Commission to 
approve a proposed rule change of a self-regulatory organization if it 
finds that such proposed rule change is consistent with the 
requirements of the Exchange Act and the rules and regulations 
thereunder applicable to such organization.\17\ After carefully 
considering the Proposed Rule Change, the Commission finds that the 
proposal is consistent with the requirements of the Exchange Act and 
the rules and regulations thereunder applicable to OCC. More 
specifically, the Commission finds that the proposal is consistent with 
Section 17A(b)(3)(F) of the Exchange Act.\18\
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    \17\ 15 U.S.C. 78s(b)(2)(C).
    \18\ 15 U.S.C. 78q-1(b)(3)(F).
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A. Consistency With Section 17A(b)(3)(F) of the Exchange Act

    Section 17A(b)(3)(F) of the Exchange Act requires, among other 
things, that the rules of a clearing agency be designed to promote the 
prompt and accurate clearance and settlement of securities 
transactions.\19\ Based on its review of the record, the Commission 
believes that modifying OCC's processing sequence for all securities 
and futures options transactions as described above is consistent with 
the promotion of prompt and accurate clearance and settlement of 
securities transactions for the reasons described below.
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    \19\ 15 U.S.C. 78q-1(b)(3)(F).
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    Clearing Members have raised concerns regarding their ability to 
comply with exchange rules given OCC's current processing sequence. 
Specifically, exchanges require market participants to exercise only 
outstanding net long positions. Processing exercises after buys and 
sells could address situations in which a customer position is subject 
to conflicting closing sale and exercise instructions, which could lead 
to a position being exercised that was intended to be closed out.
    The current processing sequence was designed to ensure that a 
market participant would be able to exercise its long positions even if 
a trade has been miscoded. The need for such protections, however, 
arose at a time when trades were received and processed in a batch at 
the end of the day. Visibility into the near real-time trade 
information provided to OCC allows Clearing Members to better 
understand the long positions available for exercise and to correct 
coding errors through position adjustments.
    Further, as noted above, OCC's determination to propose a change to 
its current processing sequence was supported by discussions with 
Clearing Members at the OCC Roundtable and during regular monthly 
operations update calls with Clearing Members and exchanges. Given the 
position adjustment tools available to Clearing Members to address 
miscoded transactions, the Commission believes

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that revising OCC's processing sequence to facilitate compliance with 
exchange rules would promote the prompt and accurate clearance and 
settlement of securities transactions. The Commission believes, 
therefore, that the proposed processing sequence is consistent with the 
requirements of Section 17A(b)(3)(F) of the Exchange Act.\20\
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    \20\ 15 U.S.C. 78q-1(b)(3)(D).
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IV. Conclusion

    On the basis of the foregoing, the Commission finds that the 
Proposed Rule Change is consistent with the requirements of the 
Exchange Act, and in particular, the requirements of Section 17A of the 
Exchange Act \21\ and the rules and regulations thereunder.
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    \21\ In approving this Proposed Rule Change, the Commission has 
considered the proposed rules' impact on efficiency, competition, 
and capital formation. See 15 U.S.C. 78c(f).
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    It is therefore ordered, pursuant to Section 19(b)(2) of the 
Exchange Act,\22\ that the Proposed Rule Change (SR-OCC-2020-004) be, 
and hereby is, approved.
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    \22\ 15 U.S.C. 78s(b)(2).
    \23\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\23\
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-12273 Filed 6-5-20; 8:45 am]
 BILLING CODE 8011-01-P


