[Federal Register Volume 85, Number 203 (Tuesday, October 20, 2020)]
[Notices]
[Pages 66630-66635]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-23147]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-90182; File No. SR-FICC-2020-009]


Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Notice of Filing of Amendment No. 2 and Order Granting Accelerated 
Approval of a Proposed Rule Change, as Modified by Amendment Nos. 1 and 
2, To Introduce the Margin Liquidity Adjustment Charge and Include a 
Bid-Ask Charge in the VaR Charges

October 14, 2020.
    On July 30, 2020, Fixed Income Clearing Corporation (``FICC'') 
filed with the Securities and Exchange Commission (``Commission''), 
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ proposed rule change SR-
FICC-2020-009 to add two new charges to FICC's margin methodologies.\3\ 
On August 13, 2020, FICC filed Amendment No. 1 to the proposed rule 
change, to make clarifications and corrections to the proposed rule 
change.\4\ The proposed rule change, as modified by Amendment No. 1, 
was published for public comment in the Federal Register on August 20, 
2020,\5\ and the Commission received no comments.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ FICC also filed the proposals contained in the proposed rule 
change as advance notice SR-FICC-2020-802 with the Commission 
pursuant to Section 806(e)(1) of the Dodd-Frank Wall Street Reform 
and Consumer Protection Act entitled the Payment, Clearing, and 
Settlement Supervision Act of 2010 (``Clearing Supervision Act''), 
12 U.S.C. 5465(e)(1), and Rule 19b-4(n)(1)(i) of the Act, 17 CFR 
240.19b-4(n)(1)(i).
    \4\ Amendment No. 1 made clarifications and corrections to the 
description of the proposed rule change and Exhibits 3 and 5 of the 
filing. On August 13, 2020, FICC filed Amendment No. 1 to the 
advance notice to make similar clarifications and corrections to the 
advance notice.
    \5\ Securities Exchange Act Release No. 89560 (August 14, 2020), 
85 FR 51503 (August 20, 2020) (``Notice''). The advance notice, as 
modified by Amendment No. 1, was published for public comment in the 
Federal Register on September 4, 2020. Securities Exchange Act 
Release No. 89718 (September 1, 2020), 85 FR 55341 (September 4, 
2020) (File No. SR-FICC-2020-802). The comment period for the 
advance notice, as modified by Amendment No. 1 closed on September 
21, 2020, and the Commission received no comments.
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    On August 27, 2020, FICC filed Amendment No. 2 to the proposed rule 
change to provide additional data for the Commission to consider in 
analyzing the proposed rule change.\6\ The proposed rule change, as 
modified by Amendment Nos. 1 and 2, is hereinafter referred to as the 
``Proposed Rule Change.'' On October 2, 2020, pursuant to Section 
19(b)(2) of the Act,\7\ the Commission designated a longer period 
within which to approve, disapprove, or institute proceedings to 
determine whether to approve or disapprove the Proposed Rule Change.\8\ 
The Commission is publishing this notice to solicit comments on 
Amendment No. 2 from interested persons and, for the reasons discussed 
below, to approve the Proposed Rule Change on an accelerated basis.
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    \6\ In Amendment No. 2, FICC updated Exhibit 3 to the proposed 
rule change to include impact analysis data with respect to the 
proposed rule change. FICC filed Exhibit 3 as a confidential exhibit 
to the proposed rule change pursuant to 17 CFR 240.24b-2. On August 
27, 2020, FICC filed Amendment No. 2 to the advance notice to 
provide similar additional data for the Commission's consideration. 
The advance notice, as amended by Amendment Nos. 1 and 2, is 
hereinafter referred to as the ``Advance Notice.'' On October 2, 
2020, the Commission published notice of filing of Amendment No. 2 
and notice of no objection to the Advance Notice. Securities 
Exchange Act Release No. 90033 (September 28, 2020), 85 FR 62348 
(October 2, 2020) (File No. SR-FICC-2020-802).
    \7\ 15 U.S.C. 78s(b)(2).
    \8\ Securities Exchange Act Release No. 90083 (October 2, 2020), 
85 FR 63610 (October 8, 2020).
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I. Description of the Proposed Rule Change

    First, the Proposed Rule Change would revise the FICC Government 
Securities Division (``GSD'') Rulebook (``GSD Rules'') and FICC 
Mortgage-Backed Securities Division (``MBSD'') Clearing Rules (``MBSD 
Rules,'' and together with the GSD Rules, the ``Rules'') \9\ to 
introduce the Margin Liquidity Adjustment Charge (``MLA Charge'') as an 
additional margin component. Second, the Proposed Rule Change would 
revise the Rules, GSD Methodology Document--GSD Initial Market Risk 
Margin Model (``GSD QRM Methodology Document''), and MBSD Methodology 
and Model Operations Document--MBSD Quantitative Risk Model (``MBSD QRM 
Methodology Document,'' and together with the GSD QRM Methodology 
Document, the ``QRM Methodology Documents'') \10\ to add a bid-ask 
spread risk charge (``Bid-Ask Spread Charge'') to the margin 
calculations of GSD and MBSD.
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    \9\ Capitalized terms not defined herein are defined in the 
Rules, available at https://www.dtcc.com/legal/rules-and-procedures.aspx.
    \10\ FICC filed the proposed changes to the QRM Methodology 
Documents as confidential exhibits to the Advance Notice pursuant to 
17 CFR 240.24b-2.
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A. Background

    FICC serves as a central counterparty (``CCP'') and provider of 
significant clearance and settlement services for cash-settled U.S. 
Treasury and agency securities and the non-private label

[[Page 66631]]

mortgage-backed securities markets.\11\ FICC is comprised of two 
divisions, GSD and MBSD. GSD provides real-time trade matching, 
clearing, risk management, and netting for trades in U.S. government 
debt issues, including repurchase agreements. MBSD provides real-time 
automated trade matching, trade confirmation, risk management, netting, 
and electronic pool notification to the mortgage-backed securities 
market. GSD and MBSD maintain separate Rulebooks, margin methodologies, 
and members.
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    \11\ See Securities Exchange Act Release No. 69838 (June 24, 
2013), 78 FR 39027 (June 28, 2013).
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    In its role as a CCP, a key tool that FICC uses to manage its 
credit exposure to its respective GSD and MBSD members is by 
determining and collecting an appropriate Required Fund Deposit (i.e., 
margin) for each member.\12\ The aggregate of all members' Required 
Fund Deposits constitutes the respective GSD and MBSD Clearing Funds. 
FICC would access the GSD or MBSD Clearing Fund should a defaulted 
member's own Required Fund Deposit be insufficient to satisfy losses to 
FICC caused by the liquidation of that member's portfolio.\13\
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    \12\ See GSD Rule 4 (Clearing Fund and Loss Allocation) and MBSD 
Rule 4 (Clearing Fund and Loss Allocation), supra note 9.
    \13\ See id.
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    Each member's Required Fund Deposit consists of a number of 
applicable components, which are calculated to address specific risks 
that the member's portfolio presents to FICC.\14\ Generally, the 
largest component of a member's Required Fund Deposit is the value-at-
risk (``VaR'') Charge, which is calculated using a risk-based margin 
methodology that is intended to capture the risks related to the 
movement of market prices associated with the securities in a member's 
portfolio.\15\ The VaR Charge is designed to calculate the potential 
losses on a portfolio over a three-day period of risk assumed necessary 
to liquidate the portfolio, within a 99 percent confidence level.\16\
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    \14\ See id.
    \15\ See GSD Rule 1 (Definitions), MBSD Rule 1 (Definitions), 
GSD Rule 4 (Clearing Fund and Loss Allocation), and MBSD Rule 4 
(Clearing Fund and Loss Allocation), supra note 9.
    \16\ See Notice, supra note 5 at 51504. Unregistered Investment 
Pool Clearing Members are subject to a VaR Charge with a minimum 
target confidence level assumption of 99.5 percent. See MBSD Rule 4, 
Section 2(c), supra note 9.
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    FICC states that it regularly assesses market and liquidity risks 
as such risks relate to its margin methodologies to evaluate whether 
margin levels are commensurate with the particular risk attributes of 
each relevant product, portfolio, and market.\17\ FICC states that the 
proposed MLA Charge and Bid-Ask Spread Charge are necessary for FICC's 
margin methodologies to effectively account for risks associated with 
certain types and attributes of member portfolios.\18\
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    \17\ See Notice, supra note 5 at 51504.
    \18\ See id.
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B. Margin Liquidity Adjustment Charge

    FICC's current margin methodologies do not account for the risk of 
a potential increase in market impact costs that FICC could incur when 
liquidating a defaulted member's portfolio that contains a 
concentration of large positions, as compared to the overall market, in 
either (i) a particular security or group of securities sharing a 
similar risk profile, or (ii) in a particular transaction type \19\ 
(e.g., mortgage pool transactions). In a member default, liquidating 
such large positions within a potentially compressed timeframe \20\ 
(e.g., in a fire sale) could have an impact on the underlying market, 
resulting in price moves that increases FICC's risk of incurring 
additional liquidation costs. Therefore, FICC designed the MLA Charge 
to address this specific risk.\21\
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    \19\ See id.
    \20\ FICC's risk models assume the liquidation occurs over a 
period of three business days. See Notice, supra note 5 at 51504-05.
    \21\ See Notice, supra note 5 at 51504-07.
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    The MLA Charge would be based on comparing the market value of 
member portfolio positions in specified asset groups \22\ to the 
available trading volume of those asset groups in the market. If the 
market value of a member's positions in a certain asset group is large 
in comparison to the available trading volume of that asset group,\23\ 
then it is more likely that FICC would have to manage reduced 
marketability and increased liquidation costs for those positions 
during a member default scenario. Specifically, FICC's margin 
methodologies assume for each asset group that a certain share of the 
market can be liquidated without price impact.\24\ Aggregate positions 
in an asset group which exceed this share are generally considered as 
large and would therefore incur application of the MLA Charge to 
anticipate and address those increased costs.
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    \22\ For GSD, the asset groups would include the following, each 
of which share similar risk profiles: (a) U.S. Treasury securities, 
which would be further categorized by maturity--those maturing in 
(i) less than one year, (ii) equal to or more than one year and less 
than two years, (iii) equal to or more than two years and less than 
five years, (iv) equal to or more than five years and less than ten 
years, and (v) equal to or more than ten years; (b) Treasury-
Inflation Protected Securities (``TIPS''), which would be further 
categorized by maturity--those maturing in (i) less than two years, 
(ii) equal to or more than two years and less than six years, (iii) 
equal to or more than six years and less than eleven years, and (iv) 
equal to or more than eleven years; (c) U.S. agency bonds; and (d) 
mortgage pools transactions.
    For MBSD, to-be-announced (``TBA'') transactions, Specified Pool 
Trades and Stipulated Trades would be included in one mortgage-
backed securities asset group. Notice, supra note 5 at 51505.
    \23\ FICC determines average daily trading volume by reviewing 
publicly available data from the Securities Industry and Financial 
Markets Association (``SIFMA''), at https://www.sifma.org/resources/archive/research/statistics.
    \24\ FICC would establish the particular share for each asset 
group or subgroup based on empirical research which includes the 
simulation of asset liquidation over different time horizons. See 
Notice, supra note 5 at 51504-05.
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    To determine the market impact cost for each portfolio position in 
certain asset groups (i.e., Treasuries maturing in less than one year 
and TIPS for GSD, and in the mortgage-backed securities asset group for 
MBSD), FICC would use the directional market impact cost, which is a 
function of the position's net directional market value.\25\ To 
determine the market impact cost for all other positions in a 
portfolio, FICC would add together two components: (1) The directional 
market impact cost, as described above, and (2) the basis cost, which 
is based on the position's gross market value.\26\ FICC states that the 
calculation of market impact cost for positions in Treasuries maturing 
in less than one year, TIPS for GSD, and in the mortgage-backed 
securities asset group for MBSD would not include basis cost because 
basis risk is negligible for these types of positions.\27\ For all 
asset groups, when determining the market impact costs, the net 
directional market value and the gross market value of the positions 
would be divided by the average daily volumes of the securities in each 
asset group over a lookback period.\28\
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    \25\ The net directional market value of an asset group within a 
portfolio is calculated as the absolute difference between the 
market value of the long positions in that asset group, and the 
market value of the short positions in that asset group. For 
example, if the market value of the long positions is $100,000, and 
the market value of the short positions is $150,000, the net 
directional market value of the asset group is $50,000. See Notice, 
supra note 5 at 51505.
    \26\ To determine the gross market value of the positions in 
each asset group, FICC would sum the absolute value of each CUSIP in 
the asset group. See id.
    \27\ See id.
    \28\ Supra note 23; see Notice, supra note 5 at 51505.
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    FICC would then compare the calculated market impact cost to a 
portion of the VaR Charge that is allocated to positions in each asset 
group.\29\ If the ratio of the calculated

[[Page 66632]]

market impact cost to the one-day VaR Charge is greater than a 
determined threshold, an MLA Charge, as described below, would be 
applied to that asset group. Correspondingly, if the ratio of these two 
amounts is equal to or less than this threshold, an MLA Charge would 
not be applied to that asset group. The threshold would be based on an 
estimate of the market impact cost that is incorporated into the 
calculation of the one-day VaR charge.\30\
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    \29\ As noted earlier, FICC's margin methodologies use a three-
day assumed period of risk. For purposes of this calculation, FICC 
would use a portion of the VaR Charge that is based on a one-day 
assumed period of risk (the ``one-day VaR Charge''). Any changes to 
what FICC determines would be the appropriate portion of the VaR 
Charge would be subject to FICC's model risk management governance 
procedures set forth in the Clearing Agency Model Risk Management 
Framework (``Model Risk Management Framework''). See Securities 
Exchange Act Release Nos. 81485 (August 25, 2017), 82 FR 41433 
(August 31, 2017) (File No. SR-FICC-2017-014); 84458 (October 19, 
2018), 83 FR 53925 (October 25, 2018) (File No. SR-FICC-2018-010); 
88911 (May 20, 2020), 85 FR 31828 (May 27, 2020) (File No. SR-FICC-
2020-004).
    \30\ FICC states that it would review the method for calculating 
the thresholds from time to time, and any changes would be subject 
to FICC's model risk management governance procedures set forth in 
the Model Risk Management Framework. See id.
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    When applicable, an MLA Charge would be calculated as a proportion 
of the product of (1) the amount by which the ratio of the calculated 
market impact cost to a portion of the VaR Charge allocated to that 
position exceeds the threshold, and (2) a portion of the VaR Charge 
allocated to that asset group. For each portfolio, FICC would total the 
MLA Charges for the positions in each asset group to determine a total 
MLA Charge for the member. On a daily basis, FICC would calculate the 
final MLA Charge for each member (if applicable), to be included as a 
component of each member's Required Fund Deposit.
    In certain circumstances, FICC may be able to partially mitigate 
the risks that the MLA Charge is designed to address by extending the 
time period for liquidating a defaulted member's portfolio beyond the 
three day period. Accordingly, the Proposed Rule Change also describes 
a method that FICC would use to reduce a member's total MLA Charge when 
the volatility charge component of the member's margin increases beyond 
a specified point. Specifically, FICC would reduce the member's MLA 
Charge where the market impact cost of a particular portfolio, 
calculated as part of determining the MLA Charge, would be large 
relative to the one-day volatility charge for that portfolio (i.e., a 
portion of the three-day assumed margin period of risk). When the ratio 
of calculated market impact cost to the one-day volatility charge is 
lower, FICC would not adjust the MLA Charge. However, as the ratio gets 
higher, FICC would reduce the MLA Charge. FICC designed this reduction 
mechanism to avoid assessing unnecessarily large MLA Charges.\31\
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    \31\ See Notice, supra note 5 at 51505.
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MLA Excess Amount for GSD Sponsored Members \32\
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    \32\ See GSD Rule 3A, supra note 9. Sponsored Membership at GSD 
is a program that allows well-capitalized members to sponsor their 
eligible clients into GSD membership. Sponsored membership at GSD 
offers eligible clients the ability to lend cash or eligible 
collateral via FICC-cleared delivery-versus-payment sale and 
repurchase transactions. Sponsoring Members facilitate their 
clients' GSD trading activity and act as processing agents on their 
behalf for all operational functions including trade submission and 
settlement with FICC. A Sponsored Member may be sponsored by one or 
more Sponsoring Members.
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    For GSD, the calculation of the MLA Charge for a Sponsored Member 
that clears through a single account sponsored by a Sponsoring Member 
would be the same as described above. For a GSD Sponsored Member that 
clears through multiple accounts sponsored by multiple Sponsoring 
Members, in addition to calculating an MLA Charge for each account (as 
described above), FICC would also calculate an MLA Charge for the 
Sponsored Member's consolidated portfolio.
    If the MLA Charge of the consolidated portfolio is not higher than 
the sum of all MLA Charges for each account of the Sponsored Member, 
then the Sponsored Member would only be charged an MLA Charge for each 
sponsored account, as applicable. However, if the MLA Charge of the 
consolidated portfolio is higher than the sum of all MLA Charges for 
each account of the Sponsored Member, the Sponsored Member would be 
charged the amount of such difference (referred to as the ``MLA Excess 
Amount''), in addition to the applicable MLA Charge.
    The MLA Excess Amount is designed to capture the additional market 
impact cost that could be incurred when a Sponsored Member defaults, 
and each of the Sponsoring Members liquidates positions associated with 
that defaulted Sponsored Member. If large positions in the same asset 
group are being liquidated by multiple Sponsoring Members, the market 
impact cost to liquidate those positions could increase. The MLA Excess 
Amount would address this additional market impact cost by capturing 
any difference between the calculations of the MLA Charge for each 
sponsored account and for the consolidated portfolio.

C. Bid-Ask Spread Charge

    The bid-ask spread refers to the difference between the observed 
market price that a buyer is willing to pay for a security and the 
observed market price at which a seller is willing to sell that 
security. FICC faces the risk of potential bid-ask spread transaction 
costs when liquidating the securities in a defaulted member's 
portfolio. However, FICC's current margin methodologies do not account 
for this risk of potential bid-ask spread transaction costs to FICC in 
connection with liquidating a defaulted member's portfolio. Therefore, 
FICC designed the Bid-Ask Spread Charge to address this deficiency in 
its current margin methodologies.
    The Bid-Ask Spread Charge would be haircut-based and tailored to 
different groups of assets that share similar bid-ask spread 
characteristics.\33\ FICC would assign each asset group a specified 
bid-ask spread haircut rate (measured in basis points (``bps'')) that 
would be applied to the gross market value of the portfolio's positions 
in that particular asset group. FICC would calculate the product of the 
gross market value of the portfolio's positions in a particular asset 
group and the applicable basis point charge to obtain the bid-ask 
spread risk charge for these positions. FICC would total the applicable 
bid-ask spread risk charges for each asset class in a member's 
portfolio to calculate the member's total Bid-Ask Spread Charge.
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    \33\ For GSD, the asset groups would include the following, each 
of which share similar bid-ask spread risk profiles: (a) Mortgage 
pools (``MBS''); (b) TIPS; (c) U.S. agency bonds; and (d) U.S. 
Treasury securities, which would be further segmented into separate 
classes based on maturities as follows: (i) Less than five years, 
(ii) equal to or more than five years and less than ten years, and 
(iii) equal to or more than ten years. Only the MBS asset group is 
applicable to MBSD member portfolios.
    FICC would exclude Option Contracts in to-be-announced (``TBA'') 
transactions from the Bid-Ask Spread Charge because, FICC states 
that in the event of a member default, FICC would liquidate any 
Option Contracts in TBAs in a member's portfolio at the intrinsic 
value of the Option Contract and, therefore, does not face a 
transaction cost related to the bid-ask spread. Notice, supra note 5 
at 51506.
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    FICC determined the proposed initial haircut rates on an analysis 
of bid-ask spread transaction costs using (1) the results of FICC's 
annual member default simulation and (2) market data sourced from a 
third-party data vendor. FICC's proposed initial haircut rates are 
listed in the table below:

------------------------------------------------------------------------
                                                                Haircut
                         Asset group                             (bps)
------------------------------------------------------------------------
MBS..........................................................        0.8
TIPS.........................................................        2.1
U.S. Agency Bonds............................................        3.8
U.S. Treasuries (maturing <5 years)..........................        0.6

[[Page 66633]]

 
U.S. Treasuries (maturing 5-10 years)........................        0.7
U.S. Treasuries (maturing 10+ years).........................        0.7
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    FICC proposes to review the haircut rates annually. Based on 
analyses of recent years' simulation exercises, FICC does not 
anticipate that these haircut rates would change significantly year 
over year. FICC may also adjust the haircut rates following its annual 
model validation review, to the extent the results of that review 
indicate the current haircut rates are not adequate to address the risk 
presented by transaction costs from a bid-ask spread.\34\
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    \34\ All proposed changes to the haircuts would be subject to 
FICC's model risk management governance procedures set forth in the 
Model Risk Management Framework. See supra note 29.
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    Finally, FICC would make technical changes to the QRM Methodology 
Documents to re-number the sections and tables, and update certain 
section titles, as necessary to incorporate the MLA Charge and Bid-Ask 
Spread Charge into those documents.

D. Description of Amendment No. 2

    In Amendment No. 2, FICC updated Exhibit 3 to the Proposed Rule 
Change to include impact analysis data with respect to the Proposed 
Rule Change. Specifically, Amendment No. 2 includes impact studies for 
various time periods detailing the average and maximum MLA and Bid-Ask 
Charges for each member, by both percentage and amount. FICC filed 
Exhibit 3 as a confidential exhibit to the Proposed Rule Change 
pursuant to 17 CFR 240.24b-2.

II. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act \35\ 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 Act and the rules and regulations thereunder 
applicable to such organization. After careful consideration, the 
Commission finds that the Proposed Rule Change is consistent with the 
requirements of the Act and the rules and regulations thereunder 
applicable to FICC. In particular, the Commission finds that the 
Proposed Rule Change is consistent with Sections 17A(b)(3)(F) \36\ of 
the Act and Rules 17Ad-22(e)(4) and (e)(6) thereunder.\37\
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    \35\ 15 U.S.C. 78s(b)(2)(C).
    \36\ 15 U.S.C. 78q-1(b)(3)(F).
    \37\ 17 CFR 240.17Ad-22(e)(4) and (e)(6).
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A. Consistency With Section 17A(b)(3)(F)

    Section 17A(b)(3)(F) of the Act requires, in part, that the rules 
of a clearing agency, such as FICC, be designed to promote the prompt 
and accurate clearance and settlement of securities transactions, 
assure the safeguarding of securities and funds which are in the 
custody or control of the clearing agency or for which it is 
responsible, remove impediments to and perfect the mechanism of a 
national system for the prompt and accurate clearance and settlement of 
securities transactions, and, in general, to protect investors and the 
public interest.\38\ The Commission believes that the Proposed Rule 
Change is consistent with Section 17A(b)(3)(F) of the Act.
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    \38\ 15 U.S.C. 78q-1(b)(3)(F).
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    First, as described above in Section I.A and B, FICC's current 
margin methodologies do not account for the potential increase in 
market impact costs that FICC could incur when liquidating a defaulted 
member's portfolio where the portfolio contains a concentration of 
large positions in a particular security or group of securities sharing 
a similar risk profile. In addition, as described above in Section I.C, 
FICC's margin methodologies do not account for the risk of potential 
bid-ask spread transaction costs when liquidating the securities in a 
defaulted member's portfolio. FICC proposes to address these risks by 
adding the MLA Charge and Bid-Ask Spread Charge, respectively, to its 
margin methodologies.\39\
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    \39\ The Commission notes that the other clearing agencies it 
regulates have charges to account for these types of risks in their 
margin methodologies, and that addressing these types of risks has 
received a great deal of industry focus in recent years.
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    FICC designed the MLA Charge and Bid-Ask Spread Charge to ensure 
that FICC collects margin amounts sufficient to manage FICC's risk of 
incurring costs associated with liquidating defaulted member 
portfolios. Based on its review of the Proposed Rule Change, including 
confidential Exhibit 3 thereto,\40\ the Commission understands that the 
proposed MLA Charge and Bid-Ask Spread Charge would generally provide 
FICC with additional resources to manage potential losses arising out 
of a member default. As discussed above, FICC designed the MLA Charge 
and Bid-Ask Spread Charge, respectively, to reflect two distinct and 
specific risks presented to FICC: (1) The risk associated with 
liquidating a defaulted member's portfolio that holds concentrated 
positions in securities sharing similar risk profiles; as well as (2) 
the risks associated with the bid-ask spread costs relevant to the 
securities in the defaulted member's portfolio. As a result, any margin 
increases that result from the MLA and the Bid-Ask Spread Charges are 
limited to address those respective risks. This targeted increase in 
available financial resources should decrease the likelihood that 
losses arising out of a member default stemming from the liquidation of 
concentrated positions or bid-ask spreads would cause FICC to exhaust 
its financial resources and threaten the operation of its critical 
clearance and settlement services. Accordingly, the Commission believes 
that the Proposed Rule Change should help FICC to continue providing 
prompt and accurate clearance and settlement of securities transactions 
in the event of a member default.
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    \40\ Specifically, the confidential Exhibit 3 submitted by FICC 
includes, among other things, impact studies for various time 
periods detailing the average and maximum MLA and Bid-Ask Spread 
Charges for each member, by both percentage and amount, a detailed 
methodology describing the calculation of the MLA and Bid-Ask Spread 
Charges, and information regarding how FICC determined the 
appropriate methodology.
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    Second, as discussed above, in a member default scenario, FICC 
would access its Clearing Fund should the defaulted member's own 
Required Fund Deposit be insufficient to satisfy losses to FICC caused 
by the liquidation of that member's portfolio. FICC proposes to add the 
MLA Charge and Bid-Ask Spread Charge to its margin methodologies to 
augment its ability to manage the potential costs of liquidating a 
defaulted member's portfolio by collecting additional margin to cover 
such costs. This, in turn, could reduce the possibility that FICC would 
need to mutualize among the non-defaulting members a loss arising out 
of the close-out process. Reducing the potential for loss mutualization 
could, in turn, reduce the potential knock-on effects to non-defaulting 
members, their customers, and FICC arising out of a member default. 
Accordingly, the Commission believes the Proposed Rule Change would 
promote the safeguarding of securities and funds which are in the 
custody or control of FICC or for which FICC is responsible, consistent 
with Section 17A(b)(3)(F) of the Act.
    The Commission believes that the Proposed Rule Change should help 
protect investors and the public interest by mitigating some of the 
risks presented by FICC as a CCP. Because a defaulting member could 
place stresses on FICC with respect to FICC's ability to meet its 
clearance and settlement

[[Page 66634]]

obligations upon which the broader financial system relies, it is 
important that FICC has strong margin methodologies to limit FICC's 
credit risk exposure in the event of a member default. As described 
above, the Proposed Rule Change would add two charges specifically 
designed to address risks that are not currently addressed in FICC's 
margin methodologies related to: (1) The potential costs that FICC may 
incur when liquidating a portfolio that is concentrated in a particular 
security or group of securities with a similar risk profile, and (2) 
the potential costs that FICC may incur to cover the bid-ask spread 
when liquidating a portfolio. These changes should help ensure that 
FICC collects sufficient margin that is more commensurate with the 
risks associated with the potential concentration and bid-ask spread 
liquidation costs identified above, and thus more effectively cover its 
credit exposures to its members. By collecting margin that more 
accurately reflects the risk characteristics of such portfolios and the 
bid-ask spreads of securities they contain (i.e., the potential 
associated costs of liquidating such portfolios), FICC would be in a 
better position to absorb and contain the spread of any losses that 
might arise from a member default. Therefore, the Proposed Rule Change 
is designed to reduce the possibility that FICC would need to call for 
additional resources from non-defaulting members due to a member 
default, which could inhibit the ability of these non-defaulting 
members to facilitate securities transactions. Accordingly, the 
Commission believes that the proposal is designed to protect investors 
and the public interest by mitigating some of the risks presented by 
FICC as a CCP.\41\
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    \41\ See Securities Exchange Act Release No. 78961 (September 
28, 2016), 81 FR 70786, 70849 (October 13, 2016) (``While central 
clearing generally benefits the markets in which it is available, 
clearing agencies can pose substantial risk to the financial system 
as a whole, due in part to the fact that central clearing 
concentrates risk in the clearing agency.'').
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    In addition, similar to other clearing agencies, FICC provides a 
number of services that mitigate risk, reduce costs, and enhance 
processing efficiencies for the securities markets, market 
participants, issuers (including small issuers), and investors. By 
reducing FICC's risk exposure to its members and thus the likelihood of 
its failure, the Proposed Rule Change would help ensure that FICC would 
continue to provide such services, which would benefit securities 
markets, market participants, issuers (including small issuers), and 
investors. As a result, FICC should be more resilient so that it can 
satisfy its obligations as a CCP, which facilitates the protection of 
investors by helping to ensure that investors receive the proceeds from 
their securities transactions. Therefore, the Commission believes that, 
in light of the potential benefits to investors arising from the 
Proposed Rule Change and the overall improved risk management at FICC, 
the Proposed Rule Change is designed to protect investors and the 
public interest, consistent with Section 17A(b)(3)(F) of the Act.

B. Consistency With Rule 17Ad-22(e)(4)(i)

    Rule 17Ad-22(e)(4)(i) requires that FICC establish, implement, 
maintain and enforce written policies and procedures reasonably 
designed to effectively identify, measure, monitor, and manage its 
credit exposures to participants and those arising from its payment, 
clearing, and settlement processes, including by maintaining sufficient 
financial resources to cover its credit exposure to each participant 
fully with a high degree of confidence.\42\
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    \42\ 17 CFR 240.17Ad-22(e)(4)(i).
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    As described above in Section I.A and B, FICC's current margin 
methodologies do not account for the risk of a potential increase in 
market impact costs that FICC could incur when liquidating a defaulted 
member's portfolio where the portfolio contains a large position in 
securities sharing similar risk profiles. Additionally, as described 
above, FICC's current margin methodologies do not account for the risk 
of potential bid-ask spread transaction costs when liquidating the 
securities in a defaulted member's portfolio. FICC proposes to address 
such risks by adding the MLA Charge and Bid-Ask Spread Charge to its 
margin methodologies. Adding these margin charges to FICC's margin 
methodologies should better enable FICC to collect margin amounts 
commensurate with the risk attributes of a broader range of its 
members' portfolios than FICC's current margin methodologies. 
Specifically, the MLA Charge should better enable FICC to manage the 
risk of increased costs to FICC associated with the decreased 
marketability of a defaulted member's portfolio where the portfolio 
contains a large position in securities sharing similar risk profiles. 
Additionally, since FICC's current margin methodologies do not account 
for bid-ask spread transaction costs associated with liquidating a 
defaulted member's portfolio, the Bid-Ask Spread Charge should enable 
FICC to manage such risks and costs.
    The Commission believes that adding the MLA Charge and Bid-Ask 
Spread Charge to FICC's margin methodologies should enable FICC to more 
effectively identify, measure, monitor, and manage its credit exposures 
in connection with liquidating a defaulted member's portfolio that may 
give rise to (1) decreased marketability due to large positions of 
securities sharing similar risk profiles, and (2) bid-ask spread 
transaction costs. Accordingly, the Commission believes that adding the 
MLA Charge and Bid-Ask Spread Charge to FICC's margin methodologies 
would be consistent with Rule 17Ad-22(e)(4)(i) because these new margin 
charges should better enable FICC to maintain sufficient financial 
resources to cover FICC's credit exposure to its members fully with a 
high degree of confidence.\43\
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    \43\ Id.
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C. Consistency With Rules 17Ad-22(e)(6)

    Rule 17Ad-22(e)(6)(i) requires that FICC establish, implement, 
maintain and enforce written policies and procedures reasonably 
designed to cover its credit exposures to its participants by 
establishing a risk-based margin system that, at a minimum, considers, 
and produces margin levels commensurate with, the risks and particular 
attributes of each relevant product, portfolio, and market.\44\ Rule 
17Ad-22(e)(6)(v) requires that FICC establish, implement, maintain and 
enforce written policies and procedures reasonably designed to cover 
its credit exposures to its participants by establishing a risk-based 
margin system that, at a minimum, uses an appropriate method for 
measuring credit exposure that accounts for relevant product risk 
factors and portfolio effects across products.\45\
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    \44\ 17 CFR 240.17Ad-22(e)(6)(i).
    \45\ 17 CFR 240.17Ad-22(e)(6)(v).
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    As described above in Section I.A and B, FICC's current margin 
methodologies do not account for the potential increase in market 
impact costs when liquidating a defaulted member's portfolio where the 
portfolio contains a large position in securities sharing similar risk 
profiles. FICC proposes to address this risk by adding the MLA Charge 
to its margin methodologies. To avoid excessive MLA Charges and ensure 
margin requirements are commensurate with the relevant risks, FICC also 
contemplates reducing a member's MLA Charge when FICC could otherwise 
partially mitigate the relevant risks by extending the time period for 
liquidating a defaulted member's portfolio beyond the three day period.

[[Page 66635]]

    Additionally, as described above in Section I.C, FICC's current 
margin methodologies do not account for the risk of incurring bid-ask 
spread transaction costs when liquidating the securities in a defaulted 
member's portfolio. FICC proposes to address this risk by adding the 
Bid-Ask Spread Charge to its margin methodologies. Adding the MLA 
Charge and Bid-Ask Spread Charge to FICC's margin methodologies should 
better enable FICC to collect margin amounts commensurate with the risk 
attributes of its members' portfolios than FICC's current margin 
methodologies. Specifically, the MLA Charge should better enable FICC 
to manage the risk of increased costs to FICC associated with the 
decreased marketability of a defaulted member's portfolio where the 
portfolio contains a large position in securities sharing similar risk 
profiles. Moreover, the proposal to reduce the MLA Charge when FICC 
could otherwise partially mitigate the relevant risks demonstrates how 
the proposal provides an appropriate method for measuring credit 
exposure, in that it seeks to take into account the particular 
circumstances related to a particular portfolio when determining the 
MLA Charge. Additionally, since FICC's current margin methodologies do 
not account for bid-ask spread transaction costs associated with 
liquidating a defaulted member's portfolio, the Bid-Ask Spread Charge 
should enable FICC to manage such risks.
    Accordingly, the Commission believes that adding the MLA Charge and 
Bid-Ask Spread Charge to FICC's margin methodologies would be 
consistent with Rules 17Ad-22(e)(6)(i) and (v) because these new margin 
charges should better enable FICC to establish a risk-based margin 
system that (1) considers and produces relevant margin levels 
commensurate with the risks associated with liquidating member 
portfolios in a default scenario, including decreased marketability of 
a portfolio's securities due to large positions in securities sharing 
similar risk profiles and bid-ask transaction costs, and (2) uses an 
appropriate method for measuring credit exposure that accounts for such 
risk factors and portfolio effects.\46\
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    \46\ 17 CFR 240.17Ad-22(e)(6)(i) and (v).
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III. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning whether Amendment No. 2 is consistent with the 
Act. Comments may be submitted by any of the following methods:

Electronic Comments

    Use the Commission's internet comment form (http://www.sec.gov/rules/sro.shtml); or
    Send an email to rule-comments@sec.gov. Please include File Number 
SR-FICC-2020-009 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-FICC-2020-009. 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 Proposed Rule Change that are filed with 
the Commission, and all written communications relating to the Proposed 
Rule Change between the Commission and any person, other than those 
that may be withheld from the public in accordance with the provisions 
of 5 U.S.C. 552, will be available for 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 such filings will also be available for inspection 
and copying at the principal office of FICC and FICC's website at 
https://www.dtcc.com/legal.
    All comments received will be posted without change. Persons 
submitting comments are cautioned that we do not redact or edit 
personal 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-FICC-2020-009 and should be 
submitted on or before November 10, 2020.

IV. Accelerated Approval of the Proposed Rule Change, as Modified by 
Amendment No. 2

    The Commission finds good cause, pursuant to Section 
19(b)(2)(C)(iii) of the Act,\47\ to approve the Proposed Rule Change, 
as modified by Amendment Nos. 1 and 2, prior to the thirtieth day after 
the date of publication of Amendment No. 2 in the Federal Register. As 
noted above, in Amendment No. 2, FICC updated the confidential Exhibit 
3 to the Proposed Rule Change to include impact analysis data with 
respect to the Proposed Rule Change. Specifically, Amendment No. 2 
includes impact studies for various time periods detailing the average 
and maximum MLA and Bid-Ask Charges for each member, by both percentage 
and amount. The Commission believes that the member-level data in 
Amendment No. 2 warrants confidential treatment. Amendment No. 2 
neither modifies the Proposed Rule Change as originally published in 
any substantive manner, nor does Amendment No. 2 affect any rights or 
obligations of FICC or its members. Instead, Amendment No. 2 provides 
the Commission with information necessary to evaluate whether the 
Proposed Rule Change is consistent with the Act. Accordingly, the 
Commission finds good cause, pursuant to Section 19(b)(2)(C)(iii) of 
the Act,\48\ to approve the Proposed Rule Change, as modified by 
Amendment Nos. 1 and 2, prior to the thirtieth day after the date of 
publication of notice of Amendment No. 2 in the Federal Register.
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    \47\ 15 U.S.C. 78s(b)(2)(C)(iii).
    \48\ Id.
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V. Conclusion

    On the basis of the foregoing, the Commission finds that the 
Proposed Rule Change, as modified by Amendment Nos. 1 and 2, is 
consistent with the requirements of the Act and in particular with the 
requirements of Section 17A of the Act \49\ and the rules and 
regulations promulgated thereunder.
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    \49\ 15 U.S.C. 78q-1.
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    It is therefore ordered, pursuant to Section 19(b)(2) of the Act 
\50\ that Proposed Rule Change SR-FICC-2020-009, as modified by 
Amendment Nos. 1 and 2, be, and hereby is, approved on an accelerated 
basis.\51\
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    \50\ 15 U.S.C. 78s(b)(2).
    \51\ In approving the proposed rule change, the Commission 
considered the proposals' impact on efficiency, competition, and 
capital formation. 15 U.S.C. 78c(f).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\52\
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    \52\ 17 CFR 200.30-3(a)(12).
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J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-23147 Filed 10-19-20; 8:45 am]
BILLING CODE 8011-01-P


