[Federal Register Volume 88, Number 121 (Monday, June 26, 2023)]
[Notices]
[Pages 41453-41455]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2023-13449]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-97763; File No. SR-OCC-2023-004]


Self-Regulatory Organizations; The Options Clearing Corporation; 
Order Granting Approval of Proposed Rule Change by The Options Clearing 
Corporation To Amend and Enhance the Options Clearing Corporation's 
Model Risk Management Policy

June 20, 2023.

I. Introduction

    On April 27, 2023, the Options Clearing Corporation (``OCC'') filed 
with the Securities and Exchange Commission (``Commission'') the 
proposed rule change SR-OCC-2023-004 pursuant to Section 19(b) of the 
Securities Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4 
\2\ thereunder. The proposed rule change would amend OCC's Model Risk 
Management Policy (the ``MRM Policy'' or ``Policy'') to, in part, 
broaden the scope of OCC's processes for managing model risk. The 
proposed rule change was published for public comment in the Federal 
Register on May 17, 2023.\3\ The Commission has received no comments 
regarding the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 97484 (May 11, 2023), 88 
FR 31549 (May 17, 2023) (File No. SR-OCC-2023-004) (``Notice of 
Filing'').
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II. Background 4
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    \4\ Capitalized terms used but not defined herein have the 
meanings specified in OCC's Rules and By-Laws, available at https://www.theocc.com/about/publications/bylaws.jsp.
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    OCC is a central counterparty (``CCP''), which means it interposes 
itself as the buyer to every seller and seller to every buyer for 
financial transactions. As the CCP for the listed options markets in 
the U.S., as well as for certain futures, OCC is exposed to certain 
risks arising from its relationships with its members. To manage such 
risks, OCC uses quantitative methods to make estimates, forecasts, and 
projections in the context of its credit risk models, margin system and 
related models, and liquidity risk models (each a ``Risk Model'').\5\
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    \5\ See Securities Exchange Act Release No. 82785 (Feb. 27, 
2018), 83 FR 9345 (Mar. 5, 2018) (File No. SR-OCC-2017-011) 
(approving the formalization of the MRM Policy).
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    OCC's use of models inherently exposes OCC to model risk, such as 
the risk of losses arising out of decisions based on incorrect or 
misused model outputs. For example, a model that is not managed 
properly could potentially cause OCC to under-collect the collateral 
used to cover credit risk posed by a Clearing Member. OCC's MRM Policy 
outlines OCC's framework for managing model risk and defines the roles 
and responsibilities throughout the risk model and methodology 
lifecycle.
    Currently, the Policy applies to the Risk Models that OCC uses to 
determine, quantify, or measure actual or potential risk exposures or 
risk mitigating actions.\6\ The Policy also describes and outlines the 
roles and responsibilities of various groups at OCC with regard to 
model risk management.\7\ Further, changes to the Policy are subject to 
annual review and approval by the Risk Committee of OCC's Board of 
Directors.\8\ As described in more detail below, OCC proposes to expand 
the application of the Policy to contemplate methodologies comprising 
Risk Models and their related inputs and outputs, rather than only 
individual Risk Models. To accommodate the expansion of the Policy's 
scope beyond individual Risk Models, OCC proposes to revise the roles 
and responsibilities described in the MRM Policy. To further broaden 
the Policy, OCC proposes adding a new section regarding the use of 
tools with quantitative or mathematical techniques not focused on 
credit risk models, margin system and related models, and liquidity 
risk models (such tools and techniques referred to as ``Risk 
Applications'').\9\
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    \6\ See id.
    \7\ See id.
    \8\ See Notice of Filing, 88 FR at 31552, n. 22.
    \9\ OCC also proposes non-material verbiage changes, such as 
updating references to internal policies and removing duplicative 
definitions. For example, OCC would remove standalone definitions at 
the end of the Policy where either the term is defined in the body 
of the Policy or is not used in the Policy.
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A. Expanding From Risk Models to Risk Methodologies

    As noted above, OCC proposes to expand the scope of its MRM Policy 
to encompass not only individual Risk Models, but also the 
methodologies such models comprise. Such ``Risk Methodologies'' include 
the related inputs and outputs of OCC's Risk Models, which OCC uses to 
estimate or

[[Page 41454]]

compute the distinct aspects of OCC's credit (i.e., Clearing Fund and 
margin) and liquidity resources. To effectuate this expansion, OCC 
proposes to replace references to Risk Models with references to Risk 
Methodologies, and to revise the roles and responsibilities of OCC 
staff as described below.

B. OCC Internal Roles and Responsibilities

    OCC proposes changes to the roles and responsibilities defined in 
its MRM Policy to accommodate the shift in focus from Risk Models to 
Risk Methodologies. Such changes include the expansion of the Model 
Risk Management (``MRM'') department's responsibilities. MRM would 
become responsible for validating both Risk Models and Risk 
Methodologies no less than annually.\10\ Further, the proposed Policy 
would require MRM, in validating OCC's Risk Methodologies, to review 
the performance of each methodology and verify the related software 
implementation.\11\ Additionally, certain references to a specific 
department would be replaced with references to such department's 
parent to encompass a broader set of staff and responsibilities. For 
example, discussion of OCC's Quantitative Risk Management (``QRM'') 
department's role in monitoring the use and performance of individual 
Risk Models would be replaced with discussion of OCC's Financial Risk 
Management (``FRM'') department, of which QRM is a part. Similarly, OCC 
proposes to expand the responsibilities of the Model Risk Working Group 
(``MRWG'') in accordance with the expansion of the MRM Policy.\12\ 
Currently, the MRWG reviews risk model changes and determines which 
should be sent to OCC's Management Committee for further consideration. 
OCC proposes to expand the MRWG's purview to include review of Risk 
Methodologies (not just individual Risk Models).\13\
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    \10\ Such validations would be performed both prior to 
implementation as well as on an ongoing basis to evaluate the 
performance of individual Risk Models. Pursuant to the MRM Policy, 
OCC requires MRM to validate its Risk Models annually, which OCC 
defines as every ``12 months or 365 days.'' The head of MRM would be 
responsible for developing and maintain OCC's Annual Model 
Validation Plan. OCC proposes to use the more generic ``head of 
MRM'' to accommodate non-material title changes that may occur from 
time to time. For example, the head of MRM was previously the 
Executive Director of MRM, but is currently the Managing Director, 
Model Risk Management.
    \11\ Such validations would be governed by two procedures 
underlying the MRM Policy (the Methodology and Model Validation 
Procedure and the Methodology and Model Performance Monitoring 
Procedure), which OCC provided to staff as confidential exhibits to 
File No. SR-OCC-2023-004.
    \12\ The MRWG assists OCC's Management Committee in overseeing 
and governing OCC's model-related risk issues. In addition to the 
expansion of responsibilities described here, OCC proposes to 
describe the membership of the MRWG more generally in the MRM Policy 
than is currently the case. Based on a review of OCC's Model Risk 
Working Group Procedure, the Commission understands that the MRM 
Policy change will not remove any of the current departments 
represented on the MRWG. OCC provided the MRWG Procedure as a 
confidential exhibit to File No. SR-OCC-2023-004.
    \13\ OCC also proposes non-substantive changes that touch on 
roles and responsibilities. For example, OCC's Chief Financial Risk 
Officer (``CFRO'') has responsibility for reviewing and approving 
Risk Model documentation. Currently, the Policy describes review of 
documentation as the responsibility of the CFRO or the CFRO's 
delegate. The proposed Policy would instead describe it as the 
responsibility of the CFRO pursuant to OCC's Risk Methodology 
Documentation Procedure. According to OCC, the change would not 
result in any substantive change in the roles and responsibilities. 
See Notice of Filing, 88 FR at 31550, n. 10.
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C. New Section on Risk Applications

    Lastly, OCC proposes to add a new section regarding the use of Risk 
Applications. The current MRM Policy focuses on OCC's financial risk 
management (i.e., credit risk models, margin system and related models, 
and liquidity risk models).\14\ The Risk Applications are tools with 
quantitative or mathematical techniques specifically not focused on 
financial risk management. Although the Risk Applications do not affect 
OCC's Risk Methodologies (or the underlying Risk Models), the processes 
for managing the potential risks are similar, so OCC proposes to 
encompass both Risk Methodologies and Risk Applications in its Model 
Risk Management Policy going forward.\15\
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    \14\ See Securities Exchange Act Release No. 82785 (Feb. 27, 
2018), 83 FR 9345 (Mar. 5, 2018) (File No. SR-OCC-2017-011) 
(approving the formalization of the MRM Policy).
    \15\ The proposed MRM Policy would also note that OCC uses user 
developed applications (``UDAs''), which are analytical applications 
designed to manipulate and analyze data that are used on a 
repetitive basis and might expose OCC to Model Risk, and that the 
governance for such UDAs is outlined in OCC's User Developed 
Application Management Procedure.
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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.\16\ 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,\17\ Rules 17Ad-22(e)(3), 
(e)(4), (e)(6), and (e)(7) \18\ thereunder as described in detail 
below.
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    \16\ 15 U.S.C. 78s(b)(2)(C).
    \17\ 15 U.S.C. 78q-1(b)(3)(F).
    \18\ 17 CFR 240.17Ad-22(e)(3), 17 CFR 240.17Ad-22(e)(4), 17 CFR 
240.17Ad-22(e)(6), and 17 CFR 240.17Ad-22(e)(7).
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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 a clearing agency's rules are designed to assure the 
safeguarding of securities and funds in custody or control of the 
clearing agency or for which it is responsible.\19\
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    \19\ 15 U.S.C. 78q-1(b)(3)(F).
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    The Commission believes that the proposed change supports OCC's 
ability to safeguard of securities and funds because the proposed 
change builds on the foundation of OCC's current processes to provide a 
more complete view of model risk at OCC. The MRM Policy governs OCC's 
processes for reducing model risk. Expanding OCC's view of model risk 
to encompass Risk Methodologies rather than focusing only on individual 
Risk Models in isolation will give OCC a more comprehensive 
understanding of model risk. The Commission continues to believe that 
reducing model risk may allow OCC to avoid taking non-defaulters' 
resources to manage a default by covering losses and shortfalls with a 
defaulter's collateral.\20\ Similarly, applying its model risk 
management practices to OCC's Risk Applications will reduce the 
likelihood of loss arising out of decisions based on those 
applications.
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    \20\ See Securities Exchange Act Release No. 82785 (Feb. 27, 
2018), 83 FR 9345, 9346 (Mar. 5, 2018) (File No. SR-OCC-2017-011).
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    The Commission believes, therefore, that the proposal is consistent 
with the requirements of Section 17A(b)(3)(F) of the Exchange Act.

B. Consistency With Rule 17Ad-22(e)(4), (e)(6), and (e)(7) Under the 
Exchange Act

    Rules 17Ad-22(e)(4)(vii), (e)(6)(vii) and (e)(7)(vii) under the 
Exchange Act require a covered clearing agency to establish, implement, 
maintain, and enforce written policies and procedures reasonably 
designed to, among other things, require the performance of a model 
validation for its credit risk models, margin system and related 
models, and liquidity risk models not

[[Page 41455]]

less than annually, or more frequently as may be contemplated by the 
covered clearing agency's risk management framework established 
pursuant to Rule 17Ad-22(e)(3) under the Exchange Act.\21\ The 
Commission has stated that a covered clearing agency generally should 
consider, in establishing and maintaining policies and procedures for 
margin, whether it regularly reviews and validates its margin 
system.\22\
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    \21\ 17 CFR 240.17Ad-22(e)(4)(vii), (e)(6)(vii) and (e)(7)(vii). 
The requirements of Rule 17Ad-22(e)(4) pertain to the effective 
identification, measurement, monitoring, and management of credit 
exposures. 17 CFR 240.17Ad-22(e)(4). The requirements of Rule 17Ad-
22(e)(6), which apply to a covered clearing agency that performs 
central counterparty services, pertain to the covering of a covered 
clearing agency's credit exposures to its participants. 17 CFR 
240.17Ad-22(e)(6). The requirements of Rule 17Ad-22(e)(7) pertain to 
the effective measurement, monitoring, and management of liquidity 
risk. 17 CFR 240.17Ad-22(e)(7).
    \22\ See Standards for Covered Clearing Agencies, Securities 
Exchange Act Release No. 78961 (Sept. 28, 2016), 81 FR 70786, 70819 
(Oct. 13, 2016).
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    The Commission previously found the adoption of the MRM Policy to 
be consistent with Rules 17Ad-22(e)(4)(vii), (e)(6)(vii), and 
(e)(7)(vii) under the Exchange Act because the MRM Policy requires the 
annual validations of the performance, parameters, and assumptions of 
OCC's credit risk, margin, and liquidity risk models. As described 
above, OCC proposes to broaden the scope of the Policy to contemplate 
not only individual Risk Models, but also the Risk Methodologies such 
models comprise. The proposal includes governance changes that would 
facilitate expansion of the Policy's scope without reducing the current 
validation obligations of OCC's MRM department. The Commission believes 
that expanding the scope of the MRM Policy to encompass Risk 
Methodologies without weakening the arrangements governing the 
validation of individual Risk Models would strengthen OCC's validation 
of its credit risk models, margin system and related models, and 
liquidity risk models.
    The Commission believes, therefore, that the proposal is consistent 
with the requirements of Rules 17Ad-22(e)(4)(vii), (e)(6)(vii) and 
(e)(7)(vii) under the Exchange Act.\23\
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    \23\ 17 CFR 240.17Ad-22(e)(4)(vii), (e)(6)(vii) and (e)(7)(vii).
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C. Consistency With Rule 17Ad-22(e)(3) Under the Exchange Act

    Rule 17Ad-22(e)(3)(i) requires, among other things, that a covered 
clearing agency establish, implement, maintain and enforce written 
policies and procedures reasonably designed to maintain 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 covered clearing agency, 
which includes risk management policies, procedures, and systems 
designed to identify, measure, monitor, and manage the range of risks 
that arise in or are borne by the covered clearing agency, that are 
subject to review on a specified periodic basis and approved by the 
board of directors annually.\24\
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    \24\ 17 CFR 240.17Ad-22(e)(3)(i).
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    Currently, the MRM Policy (and related risk management processes) 
applies to Risk Models, which include only credit risk models, margin 
system and related models, and liquidity risk models (i.e., financial 
risk management models). As proposed, the MRM Policy would apply to 
quantitative or mathematical techniques (i.e., the Risk Applications) 
that OCC uses outside of financial risk management. As a result, OCC is 
proposing to apply a consistent risk management approach to Risk 
Methodologies and Risk Applications. The Commission believes that 
broadening the application of risk management processes to cover models 
that deal with both financial risks and non-financial risks is 
consistent with the maintain a sound risk management framework for 
comprehensively managing such risks.
    The Commission believes, therefore, that the proposal is consistent 
with the requirements of Rule 17Ad-22(e)(3)(i) under the Exchange 
Act.\25\
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    \25\ 17 CFR 240.17Ad-22(e)(3)(i).
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VI. 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 \26\ and the rules and regulations thereunder.
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    \26\ 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,\27\ that the proposed rule change (SR-OCC-2022-004) be, 
and hereby is, approved.
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    \27\ 15 U.S.C. 78s(b)(2).
    \28\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\28\
J. Matthew DeLesDernier,
Deputy Secretary.
[FR Doc. 2023-13449 Filed 6-23-23; 8:45 am]
BILLING CODE 8011-01-P


