Document ID: SEC-2017-2108-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: The Options Clearing Corp.
Posted Date: 2017-12-19T05:00Z

[Federal Register Volume 82, Number 242 (Tuesday, December 19, 2017)]
[Notices]
[Pages 60265-60268]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-27229]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-82310; File No. SR-OCC-2017-010]

Self-Regulatory Organizations; the Options Clearing Corporation; 
Order Approving Proposed Rule Change Relating to The Options Clearing 
Corporation's Default Management Policy

December 13, 2017.
    On October 12, 2017, The Options Clearing Corporation (``OCC'') 
filed with the Securities and Exchange Commission (``Commission'') 
proposed rule change SR-OCC-2017-010 pursuant to Section 19(b)(1) of 
the Securities Exchange Act of 1934 (``Act''),\1\ and Rule 19b-4 
thereunder.\2\ The proposed rule change was published for comment in 
the Federal Register on November 1, 2017.\3\ The Commission did not 
receive any comment letters on 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 Securities Exchange Act Release No. 34-81955 (Oct. 26, 
2017), 82 FR 50707 (Nov. 1, 2017) (File No. SR-OCC-2017-010).
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I. Description of the Proposed Rule Change

    This proposed rule change by OCC will formalize OCC's Default 
Management Policy (``DM Policy''). The proposed rule change does not 
require any changes to the text of OCC's By-Laws or Rules.\4\
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    \4\ All terms with initial capitalization that are not otherwise 
defined herein have the same meaning as set forth in the OCC By-Laws 
and Rules.
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    As described by OCC, the DM Policy would apply in the event of a 
default by a Clearing Member, settlement bank, or a financial market 
utility (``FMU'') with which OCC has a relationship.\5\ The purpose of 
the DM Policy is to outline OCC's default management framework and 
describe the default management steps that OCC has authority to take 
depending upon the facts and circumstances of a default. The DM Policy 
focuses on Clearing Member default, which OCC believes is appropriate 
because Clearing Member default represents a substantial part of the 
overall default risk that is posed to OCC in connection with its 
central counterparty clearing services.\6\ OCC notes that the DM Policy 
is part of a broader framework used by OCC to manage the default of a 
Clearing Member, settlement bank, or FMU, including OCC's By-Laws, 
Rules, and other policies and procedures. The broader framework is 
designed to collectively ensure that OCC would appropriately manage any 
such default consistent with OCC's obligations as a covered clearing 
agency.\7\
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    \5\ The DM Policy identifies the following securities or 
commodities clearing organizations as examples of such FMUs: The 
Depository Trust Company, National Securities Clearing Corporation, 
and the Chicago Mercantile Exchange. In an event of default by one 
of these securities or commodities clearing organizations, or by a 
settlement bank, OCC has authority under certain conditions pursuant 
to Article VIII, Sections 1(a)(vii) and 5(b) of the By-Laws to 
manage the default using Clearing Member contributions to the 
Clearing Fund.
    \6\ For purposes of the DM Policy, references to a Clearing 
Member suspension or default contemplate the circumstances specified 
in OCC Rule 1102, which constitute events of ``default'' under 
Interpretation and Policy .01 to the Rule.
    \7\ On September 28, 2016, the Commission amended Rule 17Ad-22 
under the Act by adding new Rule 17Ad-22(e) to establish 
requirements for the operation and governance of registered clearing 
agencies that meet the definition of a covered clearing agency, as 
defined by Rule 17Ad-22(a)(5). Standards for Covered Clearing 
Agencies, Securities Exchange Act Release No. 34-78961 (Sept. 28, 
2016), 81 FR 70786 (Oct. 13, 2016).
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    The DM Policy describes the authority of OCC's Board of Directors 
(``Board'') or a Designated Officer \8\ to summarily suspend a Clearing 
Member pursuant to OCC Rule 1102(a) in the event the Clearing Member 
defaults. The DM Policy further provides that, pursuant to OCC Rule 
707, OCC may suspend a Clearing Member that participates in a cross-
margining program in the event of a default regarding its cross-
margining accounts. Upon any suspension of a Clearing Member, the DM 
Policy states that OCC would immediately notify a number of parties, 
including the suspended Clearing Member, regulatory authorities, 
participant and other exchanges (as applicable) in which the suspended 
Clearing Member is a common member, other Clearing Members,\9\ and 
OCC's Board.\10\
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    \8\ For this purpose, the term Designated Officer includes the 
Executive Chairman, Chief Administrative Officer (``CAO''), Chief 
Operating Officer (``COO''), Chief Risk Officer (``CRO''), and 
Executive Vice President--Financial Risk Management (``EVP-FRM'').
    \9\ OCC Rule 1103 requires OCC to notify all Clearing Members of 
the suspension as soon as possible.
    \10\ With respect to pending transactions of a suspended 
Clearing Member, the DM Policy provides that these will be handled 
pursuant to OCC Rule 1105, provided that OCC has no obligation to 
accept the trades effected by a suspended Clearing Member post-
suspension.
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    In the event of a Clearing Member suspension, the DM Policy 
provides that

[[Page 60266]]

OCC's Financial Risk Management Department (``FRM'') shall prepare an 
exposure summary report to be provided to OCC's Management Committee 
detailing, among other things, the open obligations of the suspended 
Clearing Member, collateral deposited by the Clearing Member, 
obligations to other FMUs, and a summary of related entity exposure. 
The report summarizes the net settlement obligation of the suspended 
Clearing Member at the time of default. The DM Policy further provides 
that a recommendation as to any liquidity needs requiring a draw on 
OCC's credit facilities would be provided to OCC's Management Committee 
and subsequently be authorized, as applicable, by the Executive 
Chairman, CAO, or COO, as provided for in Article VIII, Section 5 of 
the By-Laws. These practices ensure that OCC's Management Committee 
remains properly informed and can make appropriate decisions in the 
default management process.
    The DM Policy describes OCC's existing authority under OCC Rule 505 
to extend the time for OCC's settlement obligations (i.e., payment 
obligations owed by OCC to Clearing Members). The DM Policy notes that, 
as set forth in OCC Rule 505, any such determination to extend the 
settlement time and the reasons thereof will be promptly reported by 
OCC to the Commission and the Commodity Futures Trading Commission 
(``CFTC''); however, the effectiveness of the extension would not be 
conditioned upon such reporting. The DM Policy notes that such an 
extension may be necessary as a result of a Clearing Member default or 
a failure of a Clearing Member's settlement bank.
    To address situations in which a Clearing Member's settlement bank 
fails or experiences an operational outage that prevents the Clearing 
Member from meeting its settlement obligations to OCC, the DM Policy 
provides that OCC requires each Clearing Member to maintain procedures 
detailing how it would meet its settlement obligations in such an 
event. The DM Policy further provides that a Designated Officer would 
determine whether to enact alternate settlement procedures in the event 
that a Clearing Member's settlement bank is unable to perform.
    The DM Policy sets forth the sequence or ``waterfall'' of financial 
resources that OCC may use to meet its obligations in the event of a 
Clearing Member suspension to provide certainty regarding the order in 
which these resources would be applied. Specifically, the DM Policy 
describes that OCC is able to use the following financial resources: 
(i) Margin deposits of the suspended Clearing Member; (ii) deposits in 
lieu of margin of the suspended Clearing Member; \11\ (iii) Clearing 
Fund deposits of the suspended Clearing Member; (iv) Clearing Fund 
deposits of non-defaulting Clearing Members; (v) Clearing Fund 
assessments against Clearing Members; and (vi) the current or retained 
earnings of OCC, subject to the unanimous approval of certain OCC 
shareholders.\12\
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    \11\ See OCC Rules 610(f) and (g).
    \12\ See OCC By-Law Article VIII, Section 5(d). In lieu of 
charging a loss or deficiency proportionately to the computed 
Clearing Fund contributions of non-defaulting Clearing Members, OCC 
may charge the loss or deficiency to current or retained earnings. 
This discretion applies in connection with any loss by reason of the 
failure of a bank or securities or commodities clearing organization 
to perform an obligation to OCC.
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    In the case of a suspended Clearing Member, the DM Policy outlines 
the means by which OCC may close out positions and liquidate collateral 
of the suspended Clearing Member pursuant to OCC's Rules, including 
certain provisions under Chapter XI of the Rules. Based upon 
recommendations from OCC's risk staff, the EVP-FRM may take any one, or 
any combination, of the following actions pursuant to the terms of 
OCC's By-Laws and Rules: (i) Net the suspended Clearing Member's 
positions by offset; (ii) effect close out open short positions, long 
positions, and collateral through market transactions; (iii) transfer 
the positions and related collateral to a non-suspended Clearing 
Member; (iv) effect hedging transactions to reduce the risk to OCC of 
open positions; (v) conduct a private auction of the positions and 
collateral of the suspended Clearing Member; (vi) exercise unsegregated 
and segregated long options; (vii) set cash settlement values or 
perform buy-in or sell-out processes; and (viii) defer close-out, as 
may be authorized by certain officers of OCC.\13\
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    \13\ The DM Policy also provides that any determination to defer 
close-out or hedging transactions under the Close-out Action Plan 
(as discussed herein) would be reported to the Board and/or the 
Board Risk Committee, as required under OCC Rule 1106.
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    In addition, the DM Policy specifies that OCC risk staff will 
develop a Close-out Action Plan (``CAP'') and present it to the EVP-FRM 
for approval. The DM Policy provides that upon approval of the CAP by 
the EVP-FRM, FRM, and other designated business officers/departments 
will be responsible for its execution. The DM Policy also provides that 
OCC's legal department would advise OCC's Management Committee on OCC's 
authority to execute the proposed CAP and describe the responsibilities 
for the execution, monitoring, and reporting of the CAP and escalation 
of issues to OCC's Management Committee. The CAP process is designed to 
ensure that OCC has an appropriate process in place to analyze its 
exposures, take into consideration current and expected market 
conditions, and evaluate the tools and resources available to deal with 
those exposures under the circumstances so that OCC can appropriately 
manage any default in a manner that would protect Clearing Members, 
investors, the public interest, and the markets that OCC serves.
    The DM Policy provides that OCC would generally liquidate all 
positions and collateral of a suspended Clearing Member, and the 
proceeds would be attributed to the account type from which they 
originated. It also specifies that as a registered clearing agency with 
the Commission and a registered derivatives clearing organization with 
the CFTC, OCC is required to comply with regulatory requirements to 
safeguard customer assets.
    In the event of a default, OCC would immediately demand any pledged 
collateral of the suspended Clearing Member from custodian(s) to ensure 
those resources are available for default management purposes. For 
example, the DM Policy provides that, among other things, cash and 
proceeds from any liquidated collateral or demand of payment on a 
letter of credit would be placed in the appropriate liquidating 
settlement account, pursuant to OCC Rule 1104. The DM Policy further 
provides that all pledged valued margin collateral will be moved by 
OCC's Collateral Services Department into an OCC account and may be 
transferred to an auction recipient, delivered to a liquidating agent, 
or delivered to a liquidating settlement account. In the case of 
deposits in lieu of margin, however, the DM Policy states that OCC 
would only demand such collateral to meet obligations arising from the 
assignment of a related contract.
    After the close-out of the positions and collateral of the 
suspended Clearing Member is completed, the DM Policy describes that 
the Executive Chairman, CAO, or COO would determine whether, consistent 
with Article VIII, Section 5(a) of OCC's By-Laws, an assessment must be 
made against the Clearing Fund in connection with the liquidation. In 
the event of a shortfall whereby the close-out of the suspended 
Clearing Member does not result in enough resources to cover its 
obligations, the DM Policy states that each Clearing Member, consistent 
with

[[Page 60267]]

Article VIII, Section 6 of OCC's By-Laws, may be assessed an additional 
amount equal to the amount of its initial Clearing Fund deposit, as 
determined by the Executive Chairman, CAO, or COO. The DM Policy notes 
that any such assessment decision would be communicated via email in 
accordance with the applicable OCC procedure covering the assessment 
process. The DM Policy also specifies that a Clearing Member is liable 
for further assessments until the balance of OCC's losses are covered 
or the Clearing Member has withdrawn from membership as set forth in 
Article VIII, Sections 6 and 7 of OCC's By-Laws.
    The DM Policy provides that, on at least an annual basis, OCC's 
default management working group will provide OCC's Management 
Committee with recommended areas for testing, including close-out 
procedures, and that the Management Committee is responsible for 
reviewing and ultimately approving the overall test plan.\14\ In 
addition, the DM Policy specifies that the default management working 
group maintains the authority to approve individual test plans and 
overall plan changes, but that any changes to the overall plan would be 
reported to and reviewed by OCC's Management Committee. The DM Policy 
further provides that testing is recommended and performed more 
frequently than annually if a material change is made to OCC's default 
management procedures or if it is deemed necessary by OCC's default 
management working group.
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    \14\ The DM Policy also provides that Clearing Members are 
required to participate in default management testing pursuant to 
OCC Rules 218(c) and (d). See Securities Exchange Act Release No. 
80372 (April 4, 2017), 82 FR 17311 (April 10, 2017) (SR-OCC-2017-
003).
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    In addition, the DM Policy outlines the execution of the testing 
plan and the review of the results of the testing plan, including the 
production of annual reports to OCC's Management Committee and Risk 
Committee of OCC's Board regarding the results of OCC's default tests 
to provide appropriate oversight over the default testing process.

II. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act \15\ 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 rules and regulations thereunder applicable 
to such organization. The Commission finds that the proposal is 
consistent with Section 17A(b)(3)(F) of the Act \16\ and Rules 17Ad-22 
(e)(4)(ix) and (e)(13) \17\ thereunder, as described in detail below.
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    \15\ 15 U.S.C. 78s(b)(2)(C).
    \16\ 15 U.S.C. 78q-1(b)(3)(F).
    \17\ 17 CFR 240.17Ad-22(e)(4)(ix), (e)(13).
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A. Consistency With Section 17A(b)(3)(F) of the Act

    The Commission finds OCC's proposed changes to be consistent with 
Section 17A(b)(3)(F) of the Act,\18\ which 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, in general, to protect investors and the public interest. 
As noted above, the DM Policy focuses on the processes that OCC would 
use to take timely action to contain losses and liquidity demands in an 
event of default by a Clearing Member, such as closing out open 
positions and collateral of a defaulted Clearing Member, using 
alternate settlement bank procedures, or relying on Clearing Fund 
contributions of Clearing Members under certain conditions. In this 
regard, the DM Policy is designed to ensure that OCC can maintain its 
resilience in the event of a default, thereby enabling OCC to continue 
to provide its clearance and settlement services to the public in such 
circumstances. By formalizing the components of the DM Policy, OCC has 
taken measures to provide that its rules are designed to promote the 
prompt and accurate clearance and settlement of securities 
transactions, and, in general, to protect investors and the public 
interest.
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    \18\ 15 U.S.C. 78q-1(b)(3)(A).
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B. Consistency With Rule 17Ad-22(e)(4)(ix)

    Rule 17Ad-22(e)(4)(ix) \19\ requires each covered clearing agency 
to establish, implement, maintain and enforce written policies and 
procedures reasonably designed to effectively identify, measure, and 
manage its credit exposures to participants and those arising from its 
payment, clearing, and settlement processes, including by describing 
its process to replenish any financial resources it may use following a 
default or other event in which use of such resources is contemplated. 
The DM Policy describes the process by which OCC may initiate a 
Clearing Fund assessment to replenish financial resources that may be 
used following a default and the attendant suspension of a Clearing 
Member. Specifically, the DM Policy provides that where the liquidation 
of a suspended Clearing Member results in a shortfall, certain officers 
of OCC may require that all Clearing Members be assessed an additional 
amount equal to the amount of their respective Clearing Fund deposits, 
consistent with OCC's By-Laws, and that a Clearing Member is liable for 
further assessments until the balance of OCC's losses are covered or 
the Clearing Member has withdrawn from membership as set forth in OCC's 
By-Laws. In addition, the DM Policy also provides that, pursuant to the 
waterfall of financial resources used in the event of a Clearing Member 
suspension, OCC could use current or retained earnings, consistent with 
OCC's By-Laws, to continue meeting its financial obligations. 
Accordingly, the Commission finds that the proposed changes are 
consistent with Rule 17Ad-22(e)(4)(ix).\20\
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    \19\ 17 CFR 240.17Ad-22(e)(4)(ix).
    \20\ Id.
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C. Consistency With Rule 17Ad-22(e)(13)

    Rule 17Ad-22(e)(13) \21\ requires each covered clearing agency to 
establish, implement, maintain and enforce written policies and 
procedures reasonably designed to ensure that it has the authority and 
operational capacity to take timely action to contain losses and 
liquidity demands and continue to meet its obligations by, at a 
minimum, requiring its participants and, when practicable, other 
stakeholders to participate in the testing and review of its default 
procedures, including any close-out procedure, at least annually and 
following material changes thereto. The DM Policy, among other things, 
sets forth OCC's authority and operational capabilities to take timely 
action to contain losses and liquidity demands and continue to meet its 
obligations. For example, the DM Policy sets forth the procedures by 
which OCC would suspend a Clearing Member as well as the waterfall of 
financial resources that OCC would use to contain losses arising from 
the Clearing Member's default. The DM Policy also describes, among 
other things, the various means by which OCC may close-out the 
positions of a suspended Clearing Member and the process it uses to 
make such determinations, which OCC believes helps ensure that it has 
sufficient operational capacity to take timely action to contain losses 
and liquidity demands and continue to meet its obligations. In 
addition, the DM Policy sets forth OCC's processes for managing annual 
default management testing, or more frequent testing following a change 
to OCC's default management

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procedures. Accordingly, the Commission finds that these policies and 
procedures are consistent with the requirements in Rule 17Ad-
22(e)(13).\22\
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    \21\ 17 CFR 240.17Ad-22(e)(13).
    \22\ Id.
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III. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposed change is consistent with the requirements of the Act, and in 
particular, with the requirements of Section 17A of the Act \23\ and 
the rules and regulations thereunder.
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    \23\ In approving this proposed rule change, the Commission has 
considered the proposed rule's 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 
Act,\24\ that the proposed rule change (SR-OCC-2017-010) be, and it 
hereby is, approved.
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    \24\ 15 U.S.C. 78s(b)(2).
    \25\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated Authority.\25\
Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2017-27229 Filed 12-18-17; 8:45 am]
 BILLING CODE 8011-01-P