Document ID: SEC-2018-0205-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Fixed Income Clearing Corp.
Posted Date: 2018-02-01T05:00Z

[Federal Register Volume 83, Number 22 (Thursday, February 1, 2018)]
[Notices]
[Pages 4687-4704]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-01949]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-82588; File No. SR-FICC-2018-001]

Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Notice of Filing of Proposed Rule Changes to the Required Fund Deposit 
Calculation in the Government Securities Division Rulebook

January 26, 2018.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 
1934, as amended (``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is 
hereby given that on January 12, 2018, Fixed Income Clearing 
Corporation (``FICC'') filed with the Securities and Exchange 
Commission (``Commission'') the proposed rule change as described in 
Items I, II and III below, which Items have been prepared by the 
clearing agency.\3\ The Commission is publishing this notice to solicit 
comments on the proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ On January 12, 2018, FICC filed this proposed rule change as 
an advance notice (SR-FICC-2018-801) (``Advance Notice Filing'') 
with the Commission pursuant to Section 806(e)(1) Of Title VIII of 
the Dodd-Frank Wall Street Reform and Consumer Protection Act 
entitled the Payment, Clearing, and Settlement Supervision Act of 
2010 (the ``Clearing Supervision Act''), 12 U.S.C. 5465(e)(1), and 
Rule 19b-4(n)(1)(i) under the Act, 17 CFR 240.19b-4(n)(1)(i). A copy 
of the advance notice is available at http://www.dtcc.com/legal/sec-rule-filings.aspx.
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I. Clearing Agency's Statement of the Terms of Substance of the 
Proposed Rule Change

    The purpose of this filing is to amend the Government Securities 
Division (``GSD'') Rulebook (the ``GSD Rules'') \4\ to propose changes 
to GSD's method of calculating Netting Members' margin, referred to in 
the GSD Rules as the Required Fund Deposit amount.\5\ Specifically, 
FICC is proposing to (1) change its method of calculating the VaR 
Charge component, (2) add a new component referred to as the ``Blackout 
Period Exposure Adjustment'' (as defined in section C. of Item II(A)1.

[[Page 4688]]

below), (3) eliminate the Blackout Period Exposure Charge and the 
Coverage Charge components, (4) amend the Backtesting Charge component 
to (i) include the backtesting deficiencies of certain GCF 
Counterparties during the Blackout Period \6\ and (ii) give GSD the 
ability to assess the Backtesting Charge on an intraday basis for all 
Netting Members, and (5) amend the calculation for determining the 
Excess Capital Premium for Broker Netting Members, Inter-Dealer Broker 
Netting Members and Dealer Netting Members. In addition, FICC is 
proposing to provide transparency with respect to GSD's existing 
authority to calculate and assess Intraday Supplemental Fund Deposit 
amounts.\7\
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    \4\ Available at DTCC's website, www.dtcc.com/legal/rules-and-procedures.aspx. Capitalized terms used herein and not defined shall 
have the meaning assigned to such terms in the GSD Rules.
    \5\ Id. at GSD Rules 1 and 4.
    \6\ As further discussed in subsection F of Item II(A)1. below, 
the proposed Backtesting Charge would consider a GCF Counterparty's 
backtesting deficiencies that are attributable to GCF Repo 
Transactions collateralized with mortgage-backed securities during 
the Blackout Period.
    \7\ Pursuant to the GSD Rules, FICC has the existing authority 
and discretion to calculate an additional amount on an intraday 
basis in the form of an Intraday Supplemental Clearing Fund Deposit. 
See GSD Rules 1 and 4, Section 2a, supra note 4.
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    FICC has also provided the following documentation to the 
Commission:
    1. Backtesting results reflect FICC's comparison of the aggregate 
Clearing Fund requirement (``CFR'') under GSD's current methodology and 
the aggregate CFR under the proposed methodology (as listed in the 
first paragraph above) to historical returns of end-of-day snapshots of 
each Netting Member's portfolio for the period May 2016 through October 
2017. The CFR backtesting results under the proposed methodology were 
calculated in two ways for end-of-day portfolios: One set of results 
included the proposed Blackout Period Exposure Adjustment and the other 
set of results excluded the proposed Blackout Period Exposure 
Adjustment.
    2. An impact study that shows the portfolio level VaR Charge under 
the proposed methodology for the period January 3, 2013 through 
December 30, 2016,\8\ and
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    \8\ This period includes market stress events such as the U.S. 
presidential election, United Kingdom's vote to leave the European 
Union, and the 2013 spike in U.S. Treasury yields which resulted 
from the Federal Reserve's plans to reduce its balance sheet 
purchases.
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    3. An impact study that shows the aggregate Required Fund Deposit 
amount by Netting Member for the period May 1, 2017 through November 
30, 2017.
    4. The GSD Initial Margin Model (the ``QRM Methodology'') which 
would reflect the proposed methodology of the VaR Charge calculation 
and the proposed Blackout Period Exposure Adjustment.
    FICC is requesting confidential treatment of the above-referenced 
backtesting results, impact studies and QRM Methodology, and has filed 
it separately with the Commission.\9\
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    \9\ See 17 CFR 240-24b-2.
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II. Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

    In its filing with the Commission, the clearing agency included 
statements concerning the purpose of and basis for the proposed rule 
change and discussed any comments it received on the proposed rule 
change. The text of these statements may be examined at the places 
specified in Item IV below. The clearing agency has prepared summaries, 
set forth in sections A, B, and C below, of the most significant 
aspects of such statements.

(A) Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

1. Purpose
    The purpose of this filing is to amend the GSD Rules to propose 
changes to GSD's method of calculating Netting Members' margin, 
referred to in the GSD Rules as the Required Fund Deposit amount. 
Specifically, FICC is proposing to (1) change its method of calculating 
the VaR Charge component, (2) add the Blackout Period Exposure 
Adjustment as a new component, (3) eliminate the Blackout Period 
Exposure Charge and the Coverage Charge components, (4) amend the 
Backtesting Charge to (i) consider the backtesting deficiencies of 
certain GCF Counterparties during the Blackout Period \10\ and (ii) 
give GSD the ability to assess the Backtesting Charge on an intraday 
basis for all Netting Members, and (5) amend the calculation for 
determining the Excess Capital Premium for Broker Netting Members, 
Dealer Netting Members and Inter-Dealer Broker Netting Members. In 
addition, FICC is proposing to provide transparency with respect to 
GSD's existing authority to calculate and assess Intraday Supplemental 
Fund Deposit amounts.\11\
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    \10\ As further discussed in subsection F of section 
II(A)1.below, the proposed Backtesting Charge would consider a GCF 
Counterparty's backtesting deficiencies that are attributable to GCF 
Repo Transactions collateralized with mortgage-backed securities 
during the Blackout Period.
    \11\ See supra note 7.
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    The proposed QRM Methodology would reflect the proposed methodology 
of the VaR Charge calculation and the proposed Blackout Period Exposure 
Adjustment calculation.
A. The Required Fund Deposit and Clearing Fund Calculation Overview
    GSD provides trade comparison, netting and settlement for the U.S. 
Government securities marketplace. Pursuant to the GSD Rules, Netting 
Members may process the following securities and transaction types 
through GSD: (1) Buy-sell transactions in eligible U.S. Treasury and 
Agency securities, (2) delivery versus payment repurchase agreement 
(``repo'') transactions, where the underlying collateral must be U.S. 
Treasury securities or Agency securities, and (3) GCF Repo 
Transactions, where the underlying collateral must be U.S. Treasury 
securities, Agency securities, or eligible mortgage-backed securities.
    A key tool that FICC uses to manage counterparty risk is the daily 
calculation and collection of Required Fund Deposits from Netting 
Members.\12\ The Required Fund Deposit serves as each Netting Member's 
margin. Twice each business day, Netting Members are required to 
satisfy their Required Fund Deposit by 9:30 a.m. (E.T.) (the ``AM 
RFD'') and 2:45 p.m. (E.T.) (the ``PM RFD''). The aggregate of all 
Netting Members' Required Fund Deposits constitutes the Clearing Fund 
of GSD, which FICC would access should a defaulting Netting Member's 
own Required Fund Deposit be insufficient to satisfy losses to GSD 
caused by the liquidation of that Netting Member's portfolio. The 
objective of a Netting Member's Required Fund Deposit is to mitigate 
potential losses to GSD associated with liquidation of such Member's 
portfolio in the event that FICC ceases to act for such Member 
(hereinafter referred to as a ``default'').
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    \12\ See GSD Rules 1 and 4, supra note 4.
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    As discussed below, a Netting Member's Required Fund Deposit 
currently consists of the VaR Charge and, to the extent applicable, the 
Coverage Charge, the Blackout Period Exposure Charge, the Backtesting 
Charge, the Excess Capital Premium, and other components.\13\
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    \13\ Pursuant to the GSD Rules, the Required Fund Deposit 
calculation may include the following additional components: The 
Holiday Charge, the Cross-Margining Reduction, the GCF Premium 
Charge, the GCF Repo Event Premium, the Early Unwind Intraday Charge 
and the Special Charge. See GSD Rules 1 and 4, supra note 4. FICC is 
not proposing any changes to these components, thus a description of 
these components is not included in this rule filing.
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1. GSD's Required Fund Deposit Calculation--the VaR Charge Component
    The VaR Charge generally comprises the largest portion of a Netting 
Member's Required Fund Deposit

[[Page 4689]]

amount. Currently, GSD uses a methodology referred to as the ``full 
revaluation'' approach to capture the market price risk associated with 
the securities in a Netting Member's portfolio. The full revaluation 
approach uses valuation algorithms to fully reprice each security in a 
Netting Member's portfolio over a range of historically simulated 
scenarios. These historical market moves are then used to project the 
potential gains or losses that could occur in connection with the 
liquidation of a defaulting Netting Member's portfolio to determine the 
amount of the VaR Charge, which is calibrated to cover the projected 
liquidation losses at a 99% confidence level.
    The VaR Charge provides an estimate of the possible losses for a 
given portfolio based on a given confidence level over a particular 
time horizon. The current VaR Charge is calibrated at a 99% confidence 
level based on a front-weighted \14\ 1-year look-back period assuming a 
three-day liquidation period.\15\ In the event that FICC determines 
that certain classes of securities in a Netting Member's portfolio 
(including, but not limited to, the repo rate for Term Repo 
Transactions and Forward-Starting Repo Transactions) are less amenable 
to statistical analysis,\16\ FICC may apply a historic index volatility 
model rather than the VaR calculation.\17\
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    \14\ A fronted weighted approach means that GSD allows recently 
observed market data to have more impact on the VaR Charge than 
older historic market data.
    \15\ The three-day liquidation period is sometimes referred to 
as the ``margin period of risk'' or ``closeout-period.'' This period 
reflects the time between the most recent collection of the Required 
Fund Deposit from a defaulting Netting Member and the liquidation of 
such Netting Member's portfolio. FICC currently assumes that it 
would take three days to liquidate or hedge a portfolio in normal 
market conditions.
    \16\ Certain classes of securities are less amenable to 
statistical analysis because FICC believes that it does not observe 
sufficient historical market price data to reliably estimate the 99% 
confidence level.
    \17\ See GSD Rule 4 Section 1b(a), supra note 4.
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    In addition to the full revaluation approach that GSD uses to 
calculate the VaR Charge, GSD also utilizes ``implied volatility 
indicators'' among the assumptions and other observable market data as 
part of its volatility model. Specifically, GSD applies a multiplier 
(also known as the ``augmented volatility adjustment multiplier'') to 
calculate the VaR Charge. The multiplier is based on the levels of 
change in current and implied volatility measures of market benchmarks.
    FICC also employs a supplemental risk charge referred to as the 
Margin Proxy.\18\ The Margin Proxy is designed to help ensure that each 
Netting Member's VaR Charge is adequate and, at the minimum, mirrors 
historical price moves.
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    \18\ The Margin Proxy is currently used to provide supplemental 
coverage to the VaR Charge, however, pursuant to this rule filing, 
the Margin Proxy would only be used as an alternative volatility 
calculation as described below in subsection B.3.--Proposed change 
to implement the Margin Proxy as the VaR Charge during a vendor data 
disruption.
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2. GSD's Required Fund Deposit Calculation--Other Components
    In addition to the VaR Charge, a Netting Member's Required Fund 
Deposit calculation may include a number of other components including, 
but not limited to, the Coverage Charge, the Blackout Period Exposure 
Charge, and the Backtesting Charge.\19\ In addition, the Required Fund 
Deposit may include an Excess Capital Premium charge.\20\
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    \19\ See supra note 13.
    \20\ See GSD Rules 1 and 3, Section 1, supra note 4.
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    The Coverage Charge is designed to address potential shortfalls 
\21\ in the margin amount calculated by the existing VaR Charge and 
Funds-Only Settlement.\22\ Thus, the Coverage Charge is applied to 
supplement the VaR Charge to help ensure that a Netting Member's 
backtesting coverage achieves the 99% confidence level.
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    \21\ While multiple factors may contribute to a shortfall, 
shortfalls could be observed based on the mark-to-market change on a 
Netting Member's positions after the last margin collection.
    \22\ The Coverage Charge is calculated as the front-weighted 
average of backtesting coverage deficiencies observed over the prior 
100 days. The backtesting coverage deficiencies are determined by 
comparing (x) the simulated liquidation profit and loss of a Netting 
Member's portfolio (using actual positions in the Member's portfolio 
and the actual historical returns on the security positions in the 
portfolio) to (y) the sum of the VaR Charge and the Funds-Only 
Settlement Amount (which is the mark-to-market amount) in order to 
determine whether there would have been any shortfalls between the 
amounts collected.
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    The Blackout Period Exposure Charge is applied when FICC determines 
that a GCF Counterparty has experienced backtesting deficiencies due to 
reductions in the notional value of the mortgage-backed securities used 
to collateralize its GCF Repo Transactions during the monthly Blackout 
Period. This charge is designed to mitigate FICC's exposure resulting 
from potential decreases in the collateral value of mortgage-backed 
securities that occur during the monthly Blackout Period.
    The Backtesting Charge is applied when FICC determines that a 
Netting Member's portfolio has experienced backtesting deficiencies 
over the prior 12-month period. The Backtesting Charge is designed to 
mitigate exposures to GSD caused by settlement risks that may not be 
adequately captured by GSD's Required Fund Deposit.
    The Excess Capital Premium is applied to a Netting Member's 
Required Fund Deposit when its VaR Charge exceeds its Excess Capital. 
The Excess Capital Premium is designed to more effectively manage a 
Netting Member's credit risk to GSD that is caused because such Netting 
Member's trading activity has resulted in a VaR Charge that is greater 
than its excess regulatory capital.
3. GSD's Backtesting Process
    FICC employs daily backtesting to determine the adequacy of each 
Netting Member's Required Fund Deposit. Backtesting compares the 
Required Fund Deposit for each Netting Member with actual price changes 
in the Netting Member's portfolio. The portfolio values are calculated 
using the actual positions in a Netting Member's portfolio on a given 
day and the observed security price changes over the following three 
days. The backtesting results are reviewed by FICC as part of its 
performance monitoring and assessment of the adequacy of each Netting 
Member's Required Fund Deposit. As noted above, a Backtesting Charge 
may be assessed if GSD determines that a Netting Member's Required Fund 
Deposit may not fully address the projected liquidation losses 
estimated from such Netting Member's settlement activity. Similarly, 
the Coverage Charge may be assessed to address potential shortfalls in 
the VaR Charge calculation. The Coverage Charge supplements the VaR 
Charge to help ensure that the Netting Member's backtesting coverage 
achieves the 99% confidence level. The Coverage Charge considers the 
backtesting results of only the VaR Charge (including the augmented 
volatility adjustment multiplier) and mark-to-market, while the 
Backtesting Charge considers the total Required Fund Deposit amount.
B. Proposed Changes to GSD's Calculation of the VaR Charge
    FICC is proposing to amend its calculation of GSD's VaR Charge 
because during the fourth quarter of 2016, FICC's current methodology 
for calculating the VaR Charge did not respond effectively to the 
market volatility that existed at that time. As a result, the VaR 
Charge did not achieve backtesting coverage at a 99% confidence level 
and therefore yielded backtesting deficiencies beyond FICC's risk 
tolerance. In response, FICC implemented the Margin Proxy to help 
ensure that each Netting Member's VaR Charge achieves a minimum 99%

[[Page 4690]]

confidence level and, at the minimum, mirrors historical price moves, 
while FICC continued the development effort on the proposed sensitivity 
based approach to remediate the observed model weaknesses.\23\
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    \23\ See supra note 18.
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    As a result of FICC's review of GSD's existing VaR model 
deficiencies, FICC is proposing to: (1) Replace the full revaluation 
approach with the sensitivity approach, (2) eliminate the augmented 
volatility adjustment multiplier, (3) employ the Margin Proxy as an 
alternative volatility calculation rather than as a minimum volatility 
calculation, (4) utilize a haircut method for securities that lack 
sufficient historical data, and (5) establish a minimum calculation, 
referred to as the VaR Floor (as defined below in subsection 5 below), 
as the minimum VaR Charge. These proposed changes are described in 
detail below.
1. Proposed Change To Replace the Full Revaluation Approach With the 
Sensitivity Approach
    FICC is proposing to address GSD's existing VaR model deficiencies 
by replacing the full revaluation method with the sensitivity 
approach.\24\ The current full revaluation approach uses valuation 
algorithms to fully reprice each security in a Netting Member's 
portfolio over a range of historically simulated scenarios. While there 
are benefits to this method, some of its deficiencies are that it 
requires significant historical market data inputs, calibration of 
various model parameters and extensive quantitative support for price 
simulations.
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    \24\ GSD's proposed sensitivity approach is similar to the 
sensitivity approach that FICC's Mortgage-Backed Securities Division 
(``MBSD'') uses to calculate the VaR Charge for MBSD clearing 
members. See MBSD's Clearing Rules, available at DTCC's website, 
www.dtcc.com/legal/rules-and-procedures.aspx. See Securities 
Exchange Act Release No. 79868 (January 24, 2017) 82 FR 8780 
(January 30, 2017) (SR-FICC-2016-007) and Securities Exchange Act 
Release No. 79643 (December 21, 2016), 81 FR 95669 (December 28, 
2016) (SR-FICC-2016-801).
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    FICC believes that the proposed sensitivity approach would address 
these deficiencies because it would leverage external vendor \25\ 
expertise in supplying the market risk attributes, which would then be 
incorporated by FICC into GSD's model to calculate the VaR Charge. 
Specifically, FICC would source security-level risk sensitivity data 
and relevant historical risk factor time series data from an external 
vendor for all Eligible Securities.
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    \25\ FICC does not believe that its engagement of the vendor 
would present a conflict of interest because the vendor is not an 
existing Netting Member nor are any of the vendor's affiliates 
existing Netting Members. To the extent that the vendor or any of 
its affiliates submit an application to become a Netting Member, 
FICC will negotiate an appropriate information barrier with the 
applicant in an effort to prevent a conflict of interest from 
arising. An affiliate of the vendor currently provides an existing 
service to FICC; however, this arrangement does not present a 
conflict of interest because the existing agreement between FICC and 
the vendor, and the existing agreement between FICC and the vendor's 
affiliate each contain provisions that limit the sharing of 
confidential information.
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    The sensitivity data would be generated by a vendor based on its 
econometric, risk and pricing models.\26\ Because the quality of this 
data is an important component of calculating the VaR Charge, FICC 
would conduct independent data checks to verify the accuracy and 
consistency of the data feed received from the vendor. With respect to 
the historical risk factor time series data, FICC has evaluated the 
historical price moves and determined which risk factors primarily 
explain those price changes, a practice commonly referred to as risk 
attribution.
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    \26\ The following risk factors would be incorporated into GSD's 
proposed sensitivity approach: Key rate, convexity, implied 
inflation rate, agency spread, mortgage-backed securities spread, 
volatility, mortgage basis, and time risk factor. These risk factors 
are defined as follows:
     key rate measures the sensitivity of a price change to 
changes in interest rates;
     convexity measures the degree of curvature in the 
price/yield relationship of key interest rates;
     implied inflation rate measures the difference between 
the yield on an ordinary bond and the yield on an inflation-indexed 
bond with the same maturity;
     agency spread is yield spread that is added to a 
benchmark yield curve to discount an Agency bond's cash flows to 
match its market price;
     mortgage-backed securities spread is the yield spread 
that is added to a benchmark yield curve to discount a to-be-
announced (``TBA'') security's cash flows to match its market price;
     volatility reflects the implied volatility observed 
from the swaption market to estimate fluctuations in interest rates;
     mortgage basis captures the basis risk between the 
prevailing mortgage rate and a blended Treasury rate; and
     time risk factor accounts for the time value change (or 
carry adjustment) over the assumed liquidation period.
    The above-referenced risk factors are similar to the risk 
factors currently utilized in MBSD's sensitivity approach, however, 
GSD has included other risk factors that are specific to the U.S. 
Treasury securities, Agency securities and mortgage-backed 
securities cleared through GSD.
    Concerning U.S. Treasury securities and Agency securities, FICC 
would select the following risk factors: Key rates, convexity, 
agency spread, implied inflation rates, volatility, and time.
    For mortgage-backed securities, each security would be mapped to 
a corresponding TBA forward contract and FICC would use the risk 
exposure analytics for the TBA as an estimate for the mortgage-
backed security's risk exposure analytics. FICC would use the 
following risk factors to model a TBA security: Key rates, 
convexity, mortgage-backed securities spread, volatility, mortgage 
basis, and time. To account for differences between mortgage-backed 
securities and their corresponding TBA, FICC would apply an 
additional basis risk adjustment.-
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    FICC's proposal to use the vendor's risk analytics data requires 
that FICC take steps to mitigate potential model risk. FICC has 
reviewed a description of the vendor's calculation methodology and the 
manner in which the market data is used to calibrate the vendor's 
models. FICC understands and is comfortable with the vendor's controls, 
governance process and data quality standards. FICC would conduct an 
independent review of the vendor's release of a new version of its 
model prior to using it in GSD's proposed sensitivity approach 
calculation. In the event that the vendor changes its model and 
methodologies that produce the risk factors and risk sensitivities, 
FICC would analyze the effect of the proposed changes on GSD's proposed 
sensitivity approach. Future changes to the QRM Methodology would be 
subject to a proposed rule change pursuant to Rule 19b-4 (``Rule 19b-
4'') \27\ of the Act and may be subject to an advance notice filing 
pursuant to Section 806(e)(1) of the Clearing Supervision Act \28\ and 
Rule 19b-4(n)(1)(I) under the Act.\29\ Modifications to the proposed 
VaR Charge may be subject to a proposed rule change pursuant to Rule 
19b-4 \30\ and/or an advance notice filing pursuant to Section 
806(e)(1) of the Clearing Supervision Act \31\ and Rule 19b-4(n)(1)(I) 
under the Act.\32\
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    \27\ See 17 CFR 240.19b-4.
    \28\ See 12 U.S.C. 5465(e)(1).
    \29\ See 17 CFR 240.19b-4(n)(1)(I).
    \30\ See 17 CFR 240.19b-4.
    \31\ See 12 U.S.C. 5465(e)(1).
    \32\ See 17 CFR 240.19b-4(n)(1)(I).
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    Under the proposed approach, a Netting Member's portfolio risk 
sensitivities would be calculated by FICC as the aggregate of the 
security level risk sensitivities weighted by the corresponding 
position market values. More specifically, FICC would look at the 
historical changes of the chosen risk factors during the look-back 
period in order to generate risk scenarios to arrive at the market 
value changes for a given portfolio. A statistical probability 
distribution would be formed from the portfolio's market value changes, 
which are then calibrated to cover the projected liquidation losses at 
a 99% confidence level. The portfolio risk sensitivities and the 
historical risk factor time series data would then be used by FICC's 
risk model to calculate the VaR Charge for each Netting Member.
    The proposed sensitivity approach differs from the current full 
revaluation approach mainly in how the market

[[Page 4691]]

value changes are calculated. The full revaluation approach accounts 
for changes in market variables and instrument specific characteristics 
of U.S. Treasury/Agency securities and mortgage-backed securities by 
incorporating certain historical data to calibrate a pricing model that 
generates simulated prices. This data is used to create a distribution 
of returns per each security. By comparison, the proposed sensitivity 
approach would simulate the market value changes of a Netting Member's 
portfolio under a given market scenario as the sum of the portfolio 
risk factor exposures multiplied by the corresponding risk factor 
movements.
    FICC believes that the sensitivity approach would provide three key 
benefits. First, the sensitivity approach incorporates a broad range of 
structured risk factors and a Netting Member portfolios' exposure to 
these risk factors, while the full revaluation approach is calibrated 
with only security level historical data that is supplemented by the 
augmented volatility adjustment multiplier. The proposed sensitivity 
approach integrates both observed risk factor changes and current 
market conditions to more effectively respond to current market price 
moves that may not be reflected in the historical price moves combined 
with the augmented volatility adjustment multiplier. In this regard, 
FICC has concluded, based on its assessment of the backtesting results 
of the proposed sensitivity approach and its comparison of those 
results to the backtesting results of the current full revaluation 
approach \33\ that the proposed sensitivity approach would address the 
deficiencies observed in the existing model because it would leverage 
external vendor expertise, which FICC does not need to develop in-
house, in supplying the market risk attributes that would then be 
incorporated by FICC into GSD's model to calculate the VaR Charge. With 
respect to FICC's review of the backtesting results, FICC believes that 
the calculation of the VaR Charge using the proposed sensitivity 
approach would provide better coverage on volatile days while not 
significantly increasing the overall Clearing Fund.\34\ In fact, the 
calculation of the VaR Charge using the proposed sensitivity approach 
would produce a VaR Charge amount that is consistent with the current 
VaR Charge calculation, as supplemented by Margin Proxy.\35\
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    \33\ The backtesting results compared the aggregate CFR under 
the current methodology and the aggregate CFR under the proposed 
methodology to historical returns of end-of-day snapshots of each 
Netting Member's portfolio for the period May 2016 through October 
2017. The CFR backtesting results under the proposed methodology 
were calculated in two ways for end-of-day portfolios: one set of 
results included the proposed Blackout Period Exposure Adjustment 
and the other set of results excluded the proposed Blackout Period 
Exposure Adjustment.
    \34\ The CFR backtesting results under the proposed methodology 
(both with and without Blackout Period Exposure Adjustment) indicate 
that the proposed methodology provided better overall coverage 
during the volatile period following the U.S. election than under 
the current methodology. The CFR Backtesting results under the 
proposed methodology were also more stable over the May 2016 through 
October 2017 study period than the CFR backtesting results under the 
existing methodology.
    \35\ FICC implemented the Margin Proxy at the end of April 2017. 
As a result, the CFR backtesting coverage under the current 
methodology increased in May 2017 and were more consistent with the 
CFR backtesting results under the proposed methodology from May 2017 
through October 2017. Based on data reflected in the impact study, 
FICC observes that for the period May 1, 2017 to November 30, 2017 
an approximate 7% increase in average aggregate AM RFD across all 
Netting Members.
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    The second benefit of the proposed sensitivity approach is that it 
would provide more transparency to Netting Members. Because Netting 
Members typically use risk factor analysis for their own risk and 
financial reporting, such Members would have comparable data and 
analysis to assess the variation in their VaR Charge based on changes 
in the market value of their portfolios. Thus, Netting Members would be 
able to simulate the VaR Charge to a closer degree than under the 
existing full revaluation approach.
    The third benefit of the proposed sensitivity approach is that it 
would provide FICC with the ability to adjust the look-back period that 
FICC uses for purposes of calculating the VaR Charge. Specifically, 
FICC would change the look-back period from a front-weighted \36\ 1-
year look-back (which is currently utilized today) to a 10-year look-
back period that is not front-weighted and would include, to the extent 
applicable, an additional stressed period.\37\ The proposed extended 
look-back period would help to ensure that the historical simulation 
contains a sufficient number of historical market conditions (including 
but not limited to stressed market conditions).
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    \36\ A front-weighted look-back period assigns more weight to 
the most recent market observations thus effectively diminishing the 
value of older market observations. The front-weighted approach is 
based on the assumption that the most recent price history is more 
relevant to current market volatility levels.
    \37\ Under the proposed model, the 10-year look-back period 
would include the 2008/2009 financial crisis scenario. To the extent 
that an equally or more stressed market period does not occur when 
the 2008/2009 financial crisis period is phased out from the 10-year 
look-back period (i.e., from September 2018 onward), pursuant to the 
QRM methodology document, FICC would continue to include the 2008/
2009 financial crisis scenario in its historical scenarios. However, 
if an equally or more stressed market period emerges in the future, 
FICC may choose not to augment its 10-year historical scenarios with 
those from the 2008/2009 financial crisis.
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    While FICC could extend the 1-year look-back period in the existing 
full revaluation approach to a 10-year look-back period, the 
performance of the existing model could deteriorate if current market 
conditions are materially different than indicated in the historical 
data. Additionally, since the full revaluation approach requires FICC 
to maintain in-house complex pricing models and mortgage prepayment 
models, enhancing these models to extend the look-back period to 
include 10 years of historical data involves significant model 
development. The sensitivity approach, on the other hand, would 
leverage external vendor data to incorporate a longer look-back period 
of 10 years, which would allow the proposed model to capture periods of 
historical volatility.
    In the event FICC observes that the 10-year look-back period does 
not contain a sufficient number of stressed market conditions, FICC 
would have the ability to include an additional period of historically 
observed stressed market conditions to a 10-year look-back period or 
adjust the length of look-back period. The additional stress period is 
designed to be a continuous period (typically 1 year). FICC believes 
that it is appropriate to assess on an annual basis whether an 
additional stressed period should be included. This assessment, which 
will only occur annually, would include a review of (1) the largest 
moves in the dominating market risk factor of the proposed sensitivity 
approach, (2) the impact analyses resulting from the removal and/or 
addition of a stressed period, and (3) the backtesting results of the 
proposed look-back period. As described in the QRM Methodology, 
approval by DTCC's Model Risk Governance Committee (``MRGC'') and, to 
the extent necessary, the Management Risk Committee (``MRC'') would be 
required to determine when to apply an additional period of stressed 
market conditions to the look-back period and the appropriate 
historical stressed period to utilize if it is not within the current 
10-year period.
2. Proposed Change To Amend the VaR Charge To Eliminate the Augmented 
Volatility Adjustment Multiplier
    As described above, the augmented volatility adjustment multiplier 
gives GSD the ability to adjust its volatility

[[Page 4692]]

calculations as needed to improve the performance of its VaR model in 
periods of market volatility. The augmented volatility adjustment 
multiplier was designed to mitigate the effect of the 1-year 
look[hyphen]back period used in the existing full revaluation approach 
because it allowed the model to better react to conditions that may not 
have been within the recent historical one-year period. FICC is 
proposing to eliminate the augmented volatility adjustment multiplier 
because it would be no longer necessary given that the proposed 
sensitivity approach would have a longer look-back period and the 
ability to include an additional stressed market condition to account 
for periods of market volatility.
3. Proposed Change To Implement the Margin Proxy as the VaR Charge 
During a Vendor Data Disruption
a. Vendor Data Disruption
    In connection with FICC's proposal to source data for the proposed 
sensitivity approach, FICC is also proposing procedures that would 
govern in the event that the vendor fails to provide risk analytics 
data. If the vendor fails to provide any data or a significant portion 
of the data timely, FICC would use the most recently available data on 
the first day that such data disruption occurs. If it is determined 
that the vendor will resume providing data within five (5) business 
days, FICC's management would determine whether the VaR Charge should 
continue to be calculated by using the most recently available data 
along with an extended look-back period or whether the Margin Proxy 
should be invoked, subject to the approval of DTCC's Group Chief Risk 
Officer or his/her designee. If it is determined that the data 
disruption will extend beyond five (5) business days, the Margin Proxy 
would be applied as an alternative volatility calculation for the VaR 
Charge subject to the proposed VaR Floor.\38\ FICC's proposed use of 
the Margin Proxy would be subject to the approval of the MRC followed 
by notification to FICC's Board Risk Committee. FICC would continue to 
calculate the Margin Proxy on a daily basis and this calculation would 
continue to reflect separate calculations for U.S. Treasury/Agency 
securities and mortgage-backed securities.\39\ The Margin Proxy would 
be subject to monthly performance review by the MRGC. FICC would 
monitor the performance of the Margin Proxy calculation on a monthly 
basis to ensure that it could be used in the circumstance described 
above. Specifically, FICC would monitor each Netting Member's Required 
Fund Deposit and the aggregate Clearing Fund requirements versus the 
requirements calculated by Margin Proxy. FICC would also backtest the 
Margin Proxy results versus the three-day profit and loss based on 
actual market price moves. If FICC observes material differences 
between the Margin Proxy calculations and the aggregate Clearing Fund 
requirement calculated using the proposed sensitivity approach, or if 
the Margin Proxy's backtesting results do not meet FICC's 99% 
confidence level, FICC management may recommend remedial actions to the 
MRGC, and to the extent necessary the MRC, such as increasing the look-
back period and/or applying an appropriate historical stressed period 
to the Margin Proxy calibration.
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    \38\ The proposed VaR Floor is defined below in subsection 
B.5.--Proposed change to amend the VaR Charge calculation to 
establish a VaR Floor.
    \39\ Currently, GSD conducts separate calculations in order to 
cover the historical market prices of U.S. Treasury/Agency 
securities and mortgage-backed securities, respectively, because the 
historical price changes of these asset classes are different as a 
result of market factors such as credit spreads and prepayment risk. 
Separate calculations also provide FICC with the ability to monitor 
the performance of each asset class individually. Each security in a 
Netting Member's Margin Portfolio is mapped to a separate benchmark 
based on the security's asset class and maturity. All securities 
within each benchmark are then aggregated into a net exposure. FICC 
then applies an applicable haircut to the net exposure per benchmark 
to determine the net price risk for each benchmark. Finally, FICC 
determines the asset class price risk (``Asset Class Price Risk'') 
for U.S. Treasury/Agency securities and mortgage-backed securities 
benchmarks separately by aggregating the respective net price risk. 
For the U.S. Treasury benchmarks, the calculation includes a 
correlation adjustment to provide risk diversification across tenor 
buckets that has been historically observed across the U.S. Treasury 
benchmarks. The Margin Proxy is the sum of the U.S. Treasury/Agency 
securities and mortgage-backed securities Asset Class Price Risk. No 
changes are being proposed to this calculation.
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    As noted above, FICC intends to source certain sensitivity data and 
risk factor data from a vendor. FICC's Quantitative Risk Management, 
Vendor Risk Management, and Information Technology teams have conducted 
due diligence of the vendor in order to evaluate its control framework 
for managing key risks. FICC's due diligence included an assessment of 
the vendor's technology risk, business continuity, regulatory 
compliance, and privacy controls. FICC has existing policies and 
procedures for data management that includes market data and analytical 
data provided by vendors. These policies and procedures do not have to 
be amended in connection with this proposed rule change. FICC also has 
tools in place to assess the quality of the data that it receives from 
vendors.
b. Regulation SCI Implications
    Rule 1001(c)(1) of Regulation Systems Compliance and Integrity 
(``SCI'') requires FICC to establish, maintain, and enforce reasonably 
designed written policies and procedures that include the criteria for 
identifying responsible SCI personnel, the designation and 
documentation of responsible SCI personnel, and escalation procedures 
to quickly inform responsible SCI personnel of potential SCI 
events.\40\ Further, pursuant to Rule 1002 of Regulation SCI, each 
responsible SCI personnel determines when there is a reasonable basis 
to conclude that a SCI event has occurred, which will trigger certain 
obligations of a SCI entity with respect to such SCI events.\41\ FICC 
has existing policies and procedures that reflect established criteria 
that must be used by responsible SCI personnel to determine whether a 
disruption to, or significantly downgrade of, the normal operation of 
FICC's risk management system has occurred as defined under Regulation 
SCI. These policies and procedures do not have to be amended in 
connection with this proposed rule change. In the event that the vendor 
fails to provide the requisite risk analytics data, the responsible SCI 
personnel would determine whether a SCI event has occurred, and FICC 
would fulfill its obligations with respect to the SCI event.
---------------------------------------------------------------------------

    \40\ See 17 CFR 242.1001(c)(1).
    \41\ See 17 CFR 242.1002.
---------------------------------------------------------------------------

4. Proposed Change To Utilize a Haircut Method To Measure the Risk 
Exposure of Securities That Lack Historical Data
    Occasionally, portfolios contain classes of securities that reflect 
market price changes that are not consistently related to historical 
risk factors. The value of these securities is often uncertain because 
the securities' market volume varies widely, thus the price histories 
are limited. Because the volume and price information for such 
securities is not robust, a historical simulation approach would not 
generate VaR Charge amounts that adequately reflect the risk profile of 
such securities. Currently, GSD Rule 4 provides that FICC may use a 
historic index volatility model to calculate the VaR Charge for these 
classes of securities.\42\ FICC is proposing to amend GSD Rule 4 to 
utilize a haircut method based on a historic index volatility model for 
any security that lacks sufficient historical

[[Page 4693]]

data to be incorporated into the proposed sensitivity approach.
---------------------------------------------------------------------------

    \42\ See GSD Rule 4, supra note 4.
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    FICC believes that the proposal to implement a haircut method for 
securities that lack sufficient historical information would allow FICC 
to use appropriate market data to estimate a margin at a 99% confident 
level, thus helping to ensure that sufficient margin would be 
calculated for portfolios that contain these securities. FICC would 
continue to manage the market risk of clearing these securities by 
conducting analysis on the type of securities that cannot be processed 
by the proposed VaR model and engaging in periodic reviews of the 
haircuts used for calculating margin for these types of securities.
    FICC is proposing to calculate the VaR Charge for these securities 
by utilizing a haircut approach based on a market benchmark with a 
similar risk profile as the related security. The proposed haircut 
approach would be calculated separately for U.S. Treasury/Agency 
securities (other than (x) treasury floating-rate notes and (y) term 
repo rate volatility for Term Repo Transactions and Forward-Starting 
Repo Transactions (including term and forward-starting GCF Repo 
Transactions)) \43\ and mortgage-backed securities.
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    \43\ GSD is not proposing any changes to its current approach to 
calculating the VaR Charge for floating rate notes. Currently, GSD 
uses a haircut approach with a constant discount margin movement 
scenario. The discount margin movement scenario is based on the 
current market condition of the floating rate note price movements. 
This amount plus the calculated discount margin sensitivity of each 
floating rate note issue's market price plus the formula provided by 
the U.S. Department of Treasury equals the haircut of the floating 
rate note portion of a Netting Member's portfolio. GSD is also not 
proposing any change to its current approach to calculating the VaR 
Charge for repo interest volatility, which is based on internally 
constructed repo interest rate indices.
---------------------------------------------------------------------------

    Specifically, each security in a Netting Member's portfolio would 
be mapped to a respective benchmark based on the security's asset class 
and remaining maturity, then all securities within each benchmark would 
be aggregated into a net exposure. FICC would apply an applicable 
haircut to the net exposure per benchmark to determine the net price 
risk for each benchmark. Finally, the net price risk would be 
aggregated across all benchmarks (but separately for U.S. Treasury/
Agency securities and mortgage-backed securities) and a correlation 
adjustment \44\ would be applied to securities mapped to the U.S. 
Treasury benchmarks to provide risk diversification across tenor 
buckets that were historically observed.
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    \44\ The correlation adjustment is based on 3-day returns during 
a 10-year look-back. It reflects the average amount that the 3-day 
returns of each benchmark moves in relation to one another. The 
correlation adjustment would only be applied for U.S. Treasury and 
Agency indices with maturities greater than 1 year.
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5. Proposed Change To Amend the VaR Charge Calculation To Establish a 
VaR Floor
    FICC is proposing to amend the existing calculation of the VaR 
Charge to include a minimum amount, which would be referred to as the 
``VaR Floor.'' The proposed VaR Floor would be a calculated amount that 
would be used as the VaR Charge when the sum of the amounts calculated 
by the proposed sensitivity approach and haircut method is less than 
the proposed VaR Floor. FICC's proposal to establish a VaR Floor seeks 
to address the risk that the proposed VaR model calculates a VaR Charge 
that is erroneously low where the gross market value of unsettled 
positions in the Netting Member's portfolio is high and the cost of 
liquidation in the event of a Member default could also be high. This 
would be likely to occur when the proposed VaR model applies 
substantial risk offsets among long and short positions in different 
classes of securities that have a high degree of historical price 
correlation. Because this high degree of historical price correlation 
may not apply in future changing market conditions,\45\ FICC believes 
that it would be prudent to apply a VaR Floor that is based upon the 
market value of the gross unsettled positions in the Netting Member's 
portfolio in order to protect FICC against such risk in the event that 
FICC is required to liquidate a large Netting Member's portfolio in 
stressed market conditions.
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    \45\ For example, and without limitation, certain securities may 
have highly correlated historical price returns, but if future 
market conditions were to substantially change, these historical 
correlations could break down, leading to model-generated offsets 
that would not adequately capture a portfolio's risk.
---------------------------------------------------------------------------

    The VaR Floor would be calculated as the sum of the following two 
components: (1) A U.S. Treasury/Agency bond margin floor and (2) a 
mortgage-backed securities margin floor. The U.S. Treasury/Agency bond 
margin floor would be calculated by mapping each U.S. Treasury/Agency 
security to a tenor bucket, then multiplying the gross positions of 
each tenor bucket by its bond floor rate, and summing the results. The 
bond floor rate of each tenor bucket would be a fraction (which would 
be initially set at 10%) of an index-based haircut rate for such tenor 
bucket. The mortgage-backed securities margin floor would be calculated 
by multiplying the gross market value of the total value of mortgage-
backed securities in a Netting Member's portfolio by a designated 
amount, referred to as the pool floor rate, (which would be initially 
set at 0.05%).\46\ GSD would evaluate the appropriateness of the 
proposed initial floor rates (e.g., the 10% of the benchmark haircut 
rate for U.S. Treasury/Agency securities and 0.05% for mortgage-backed 
securities) at least annually based on backtesting performance and risk 
tolerance considerations.
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    \46\ For example, assume the pool floor rate is set to 0.05% and 
the bond floor rate is set to 10% of haircut rates. Further assume 
that a Netting Member has a portfolio with gross positions of $2 
billion in mortgage-backed securities and gross positions of U.S. 
Treasury/Agency securities that fall into two tenor buckets--$2 
billion in tenor bucket ``A'' and $3 billion in tenor bucket ``B.'' 
If the haircut rate for tenor bucket ``A'' is 1% and the haircut 
rate for tenor bucket ``B'' is 2%, then the bond floor rate would be 
0.1% and 0.2%, respectively. Therefore, the resulting VaR Floor 
would be $9 million (i.e., ([0.05%]*[$2 billion]) + [0.1%]*[$2 
billion]) + ([0.2%]*[$3 billion])). If the VaR model charge is less 
than $9 million, then the VaR Floor calculation of $9 million would 
be set as the VaR Charge.
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6. Mitigating Risks of Concentrated Positions
    For the reasons described above, FICC believes that the proposed 
changes to GSD's VaR Charge calculation would allow it to better 
measure and mitigate the risks presented within Netting Members' 
portfolios.
    One of the risks presented by unsettled positions concentrated in 
an asset class is that FICC may not be able to liquidate or hedge the 
unsettled positions of a defaulted Netting Member in the assumed 
timeframe at the market price in the event of such Netting Member's 
default. Because FICC relies on external market data in connection with 
monitoring exposures to its Netting Members, the market data may not 
reflect the market impact transaction costs associated with the 
potential liquidation as the concentration risk of an unsettled 
position increases. However, FICC believes that, through the proposed 
changes and through existing risk management measures,\47\ it would be 
able to effectively measure and mitigate risks presented when a Netting 
Member's unsettled positions are concentrated in a particular security.
---------------------------------------------------------------------------

    \47\ For example, pursuant to existing authority under GSD Rule 
4, FICC has the discretion to calculate an additional amount 
(``special charge'') applicable to a Margin Portfolio as determined 
by FICC from time to time in view of market conditions and other 
financial and operational capabilities of the Netting Member. FICC 
shall make any such determination based on such factors as FICC 
determines to be appropriate from time to time. See GSD Rule 4, 
supra note 4.
---------------------------------------------------------------------------

    FICC will continue to evaluate its exposures to these risks. Any 
future proposed changes to the margin

[[Page 4694]]

methodology to address such risks would be subject to a separate 
proposed rule change pursuant Rule 19b-4 of the Act,\48\ and/or an 
advance notice pursuant to Section 806(e)(1) of the Clearing 
Supervision Act \49\ and the rules thereunder.
---------------------------------------------------------------------------

    \48\ See 17 CFR 240.19b-4.
    \49\ See 12 U.S.C. 5465(e)(1).
---------------------------------------------------------------------------

C. Proposed Change To Establish the Blackout Period Exposure Adjustment 
As a Component to the Required Fund Deposit Calculation
    FICC is proposing to add a new component to the Required Fund 
Deposit calculation that would be applied to the VaR Charge for all GCF 
Counterparties with GCF Repo Transactions collateralized with mortgage-
backed securities during the monthly Blackout Period (the ``Blackout 
Period Exposure Adjustment''). FICC is proposing this new component 
because it would better protect FICC and its Netting Members from 
losses that could result from overstated values of mortgage-backed 
securities pledged as collateral for GCF Repo Transactions during the 
Blackout Period.
    The proposed Blackout Period Exposure Adjustment would be in the 
form of a charge that is added to the VaR Charge or a credit that would 
reduce the VaR Charge. The proposed Blackout Period Exposure Adjustment 
would be calculated by (1) projecting an average pay-down rate for the 
government sponsored enterprises (Fannie Mae and Freddie Mac) and the 
Government National Mortgage Association (Ginnie Mae), respectively, 
then (2) multiplying the projected pay-down rate \50\ by the net 
positions of mortgage-backed securities in the related program, and (3) 
summing the results from each program. Because the projected pay-down 
rate would be an average of the weighted averages of pay-down rates for 
all active mortgage pools of the related program during the three most 
recent preceding months, it is possible that the proposed Blackout 
Period Exposure Adjustment could overestimate the amount for a GCF 
Counterparty with a portfolio that primarily includes slower paying 
mortgage-backed securities or underestimate the amount for a GCF 
Counterparty with a portfolio that primarily includes faster paying 
mortgage-backed securities. However, FICC believes that projecting the 
pay-down rate separately for each program and weighting the results by 
recently active pools would reduce instances of large under/over 
estimation. FICC would continue to monitor the realized pay-down 
against FICC's weighted average pay-down rates and its vendor's 
projected pay-down rates as part of the model performance monitoring. 
Further, in the event that a GCF Counterparty continues to experience 
backtesting deficiencies, FICC would apply a Backtesting Charge, which 
as described in section F below, that would be amended to consider 
backtesting deficiencies attributable to GCF Repo Transactions 
collateralized with mortgage-backed securities during the Blackout 
Period.\51\
---------------------------------------------------------------------------

    \50\ GSD would calculate the projected average pay-down rates 
each month using historical pool factor pay-down rates that are 
weighted by historical positions during each of the prior three 
months. Specifically, the projected pay-down rate for a current 
Blackout Period would be an average of the weighted averages of pay-
down rates for all active mortgage pools of the related program 
during the three most recent preceding months.
    \51\ The proposed changes to the Backtesting Charge are 
described below is section F--Proposed change to amend the 
Backtesting Charge to (i) include backtesting deficiencies 
attributed to GCF Repo Transactions collateralized with mortgage-
backed securities during the Blackout Period and (ii) give GSD the 
authority to assess a Backtesting Charge on an intraday basis.
---------------------------------------------------------------------------

    The proposed Blackout Period Exposure Adjustment would only be 
imposed during the Blackout Period and it would be applied as of the 
morning Clearing Fund call on the Record Date through and including the 
intraday Clearing Fund call on the Factor Date, or until the Pool 
Factors \52\ have been updated to reflect the current month's Pool 
Factors in the GCF Clearing Agent Bank's collateral reports.
---------------------------------------------------------------------------

    \52\ Pursuant to the GSD Rules, the term ``Pool Factor'' means, 
with respect to the Blackout Period, the percentage of the initial 
principal that remains outstanding on the mortgage loan pool 
underlying a mortgage-backed security, as published by the 
government-sponsored entity that is the issuer of such security. See 
GSD Rule 1, supra note 4.
---------------------------------------------------------------------------

D. Proposed Change To Eliminate the Existing Blackout Period Exposure 
Charge
    FICC would eliminate the existing Blackout Period Exposure Charge 
\53\ because the proposed Blackout Period Exposure Adjustment (which is 
described in section C above) would be applied to all GCF 
Counterparties with GCF Repo Transactions collateralized with mortgage-
backed securities during the Blackout Period. The existing Blackout 
Period Exposure Charge, on the other hand, only applies to GCF 
Counterparties that have two or more backtesting deficiencies during 
the Blackout Period and whose overall 12-month trailing backtesting 
coverage falls below the 99% coverage target.\54\ FICC believes that 
the Blackout Period Exposure Charge would no longer be necessary 
because the applicability of the proposed Blackout Period Exposure 
Adjustment would better estimate potential changes to the GCF Repo 
Transactions and help to ensure that GCF Counterparties' with GCF Repo 
Transactions collateralized with mortgage-backed securities maintain a 
backtesting coverage above the 99% confidence level. Further, in the 
event that a GCF Counterparty continues to experience backtesting 
deficiencies, FICC would apply a Backtesting Charge, which as described 
in section F below, that would be amended to consider backtesting 
deficiencies attributable to GCF Repo Transactions collateralized with 
mortgage-backed securities during the Blackout Period.\55\
---------------------------------------------------------------------------

    \53\ Pursuant to the GSD Rules, FICC imposes a Blackout Period 
Exposure Charge when FICC determines, based on prior backtesting 
deficiencies of a GCF Counterparty's Required Fund Deposit, that the 
GCF Counterparty may experience a deficiency due to reductions in 
the notional value of the mortgage-backed securities used by such 
GCF Counterparty to collateralize its GCF Repo trading activity that 
occur during the monthly Blackout Period. See GSD Rules 1 and 4, 
supra note 4.
    \54\ See GSD Rules 1 and 4, supra note 4.
    \55\ The proposed changes to the Backtesting Charge are 
described below is section F--Proposed change to amend the 
Backtesting Charge to (i) include backtesting deficiencies 
attributed to GCF Repo Transactions collateralized with mortgage-
backed securities during the Blackout Period and (ii) give GSD the 
authority to assess a Backtesting Charge on an intraday basis.
---------------------------------------------------------------------------

E. Proposed Change To Eliminate the Coverage Charge Component From the 
Required Fund Deposit Calculation
    FICC is proposing to eliminate the Coverage Charge component from 
GSD's Required Fund Deposit calculation.\56\ The Coverage Charge 
component is based on historical portfolio activity, which may not be 
indicative of a Netting Member's current risk profile, but was 
determined by FICC to be appropriate to address potential shortfalls in 
margin charges under the current VaR model. FICC is proposing to 
eliminate the Coverage Component because its analysis indicates that 
the sensitivity approach would provide overall better margin coverage.
---------------------------------------------------------------------------

    \56\ See GSD Rules 1 and 4, supra note 4.
---------------------------------------------------------------------------

    As part of the development and assessment of the proposed VaR 
Charge, FICC backtested the model's performance and analyzed the impact 
of the margin changes. Results of the analysis indicated that the 
proposed sensitivity approach would be more responsive to changing 
market dynamics and a Netting Member's portfolio composition coverage 
than the existing VaR model that utilizes the full revaluation 
approach. The backtesting analysis also demonstrated that the proposed 
sensitivity approach would provide sufficient margin coverage on a

[[Page 4695]]

standalone basis. Additionally, in the event that FICC observes 
unexpected deficiencies in the backtesting of a Netting Member's 
Required Fund Deposit, the Backtesting Charge would apply.\57\ Given 
the above, FICC believes the Coverage Charge would no longer be 
necessary.
---------------------------------------------------------------------------

    \57\ Similar to the Coverage Charge, the purpose of the 
Backtesting Charge is to address potential shortfalls in margin 
charges, however, the Coverage Charge considers the backtesting 
results of only the VaR Charge (including the augmented volatility 
adjustment multiplier) and mark-to-market.
---------------------------------------------------------------------------

F. Proposed Change To Amend the Backtesting Charge To (i) Include 
Backtesting Deficiencies Attributable to GCF Repo Transactions 
Collateralized With Mortgage-Backed Securities During the Blackout 
Period and (ii) Give GSD the Authority To Assess a Backtesting Charge 
on an Intraday Basis
    FICC is proposing to amend the Backtesting Charge to (i) include 
backtesting deficiencies attributable to GCF Repo Transactions 
collateralized with mortgage-backed securities during the Blackout 
Period and (ii) give GSD the authority to assess a Backtesting Charge 
on an intraday basis.
(i) Proposed Change To Amend the Backtesting Charge To Include 
Backtesting Deficiencies Attributable to GCF Repo Transactions 
Collateralized With Mortgage-Backed Securities During the Blackout 
Period
    FICC is proposing to amend the Backtesting Charge to provide that 
this charge would be applied to a GCF Counterparty that experiences 
backtesting deficiencies that are attributed to GCF Repo Transactions 
collateralized with mortgage-backed securities during the Blackout 
Period. Currently, Backtesting Charges are not applied to GCF 
Counterparties with collateralized mortgage-backed securities during 
the Blackout Period because such counterparties may be subject to a 
Blackout Period Exposure Charge. However, now that FICC is proposing to 
eliminate the Blackout Period Exposure Charge, FICC is proposing to 
amend the applicability of the Backtesting Charge in the circumstances 
described above.
(ii) Proposed Change To Give GSD the Authority To Assess a Backtesting 
Charge on an Intraday Basis
    FICC is also proposing to amend the Backtesting Charge to provide 
that this charge may be assessed if a Netting Member is experiencing 
backtesting deficiencies during the trading day (i.e., intraday) 
because of such Netting Member's large fluctuations of intraday trading 
activities. A Backtesting Charge that is imposed intraday would be 
referred to as a ``Intraday Backtesting Charge.'' The Intraday 
Backtesting Charge would be assessed on an intraday basis and it would 
increase a Netting Member's Required Fund Deposit to help ensure that 
its intraday backtesting coverage achieves the 99% confidence level.
    The proposed assessment of the Intraday Backtesting Charge differs 
from the existing assessment of the Backtesting Charge because the 
existing assessment is based on the backtesting results of a Netting 
Member's PM RFD versus the historical returns of such Netting Member's 
portfolio at the end of the trading day while the proposed Intraday 
Backtesting Charge would be based on the most recent Required Fund 
Deposit amount that was collected from a Netting Member versus the 
historical returns of such Netting Member's portfolio intraday.
    In an effort to differentiate the proposed Intraday Backtesting 
Charge from the existing Backtesting Charge, FICC is proposing to 
change the name of the existing Backtesting Charge to ``Regular 
Backtesting Charge.'' The Intraday Backtesting Charge and the Regular 
Backtesting Charge would collectively be referred to as the Backtesting 
Charge.
Calculation and Assessment of Intraday Backtesting Charges
    FICC would use a snapshot of each Netting Member's portfolio during 
the trading day,\58\ and compare each Netting Member's AM RFD with the 
simulated liquidation gains/losses using an intraday snapshot of the 
actual positions in the Netting Member's portfolio, and the actual 
historical security returns. FICC would review portfolios with intraday 
backtesting deficiencies that bring the results for that Netting Member 
below the 99% confidence level (i.e., greater than two intraday 
backtesting deficiency days in a rolling twelve-month period) and 
determine whether there is an identifiable cause of ongoing repeat 
backtesting deficiencies. FICC would also evaluate whether multiple 
Netting Members are experiencing backtesting deficiencies due to 
similar underlying reasons.
---------------------------------------------------------------------------

    \58\ The snapshot would occur once a day. The timing of the 
snapshot would be subject to change based upon market conditions 
and/or settlement activity. This snapshot would be taken at the same 
time for all Netting Members. All positions that have settled would 
be excluded. FICC would take additional intraday snapshots and/or 
change the time of the intraday snapshot based upon market 
conditions. FICC would include the positions from the start-of-day 
plus any additional positions up to that time.
---------------------------------------------------------------------------

    As is the case with the existing Backtesting Charge (which would be 
referred to as the ``Regular Backtesting Charge''), the proposed 
Intraday Backtesting Charge would be assessed on Netting Members with 
portfolios that experience at least three intraday backtesting 
deficiencies over the prior 12-month period. The proposed Intraday 
Backtesting Charge would generally equal a Netting Member's third 
largest historical intraday backtesting deficiency because FICC 
believes that an Intraday Backtesting Charge equal to the third largest 
historical intraday backtesting deficiency would bring the affected 
Netting Member's historically observed intraday backtesting coverage 
above the 99% confidence level.
    FICC would have the discretion to adjust the Intraday Backtesting 
Charge to an amount that is more appropriate for maintaining such 
Netting Member's intraday backtesting results above the 99% coverage 
threshold.\59\
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    \59\ For example, FICC may consider whether the affected Netting 
Member would be likely to experience future intraday backtesting 
deficiencies, the estimated size of such deficiencies, material 
differences in the three largest intraday backtesting deficiencies 
observed over the prior 12-month period, variabilities in its net 
settlement activity subsequent to GSD's collection of the AM RFD, 
seasonality in observed intraday backtesting deficiencies and 
observed market price volatility in excess of its historical VaR 
Charge.
---------------------------------------------------------------------------

    In the event that FICC determines that an Intraday Backtesting 
Charge should apply in the circumstances described above, FICC would 
notify the affected Netting Member prior to its assessment of the 
charge. As is the case with the existing application of the Backtesting 
Charge, FICC would notify Netting Members on or around the 25th 
calendar day of the month.
    The proposed Intraday Backtesting Charge would be applied to the 
affected Netting Member's Required Fund Deposit on a daily basis for a 
one-month period. FICC would review the assessed Intraday Backtesting 
Charge on a monthly basis to determine if the charge is still 
applicable and that the amount charged continues to provide appropriate 
coverage. In the event that an affected Netting Member's trailing 12-
month intraday backtesting coverage exceeds 99% (without taking into 
account historically imposed Intraday Backtesting Charges), the 
Intraday Backtesting Charge would be removed.

[[Page 4696]]

G. Proposed Change to the Excess Capital Premium Calculation for Broker 
Netting Members, Inter-Dealer Broker Netting Members and Dealer Netting 
Members
    FICC is proposing to move to a net capital measure for Broker 
Netting Members, Inter-Dealer Broker Netting Members and Dealer Netting 
Members that would align the Excess Capital Premium for such Members to 
a measure that is consistent with the equity capital measure that is 
used for Bank Netting Members in the Excess Capital Premium 
calculation.
    Currently, the Excess Capital Premium is determined based on the 
amount that a Netting Member's Required Fund Deposit exceeds its Excess 
Capital.\60\ Only Netting Members that are brokers or dealers 
registered under Section 15 of the Act are required to report Excess 
Net Capital figures to FICC while other Netting Members report net 
capital or equity capital. If a Netting Member is not a broker/dealer, 
FICC would use net capital or equity capital, as applicable (based on 
the type of regulation that such Netting Member is subject to) in order 
to calculate its Excess Capital Premium.
---------------------------------------------------------------------------

    \60\ Pursuant to the GSD Rules, the term ``Excess Capital'' 
means Excess Net Capital, net assets or equity capital as 
applicable, to a Netting Member based on its type of regulation. See 
GSD Rule 1, supra note 4.
---------------------------------------------------------------------------

    FICC is proposing this change because of the Commission's 
amendments to Rule 15c3-1 (the ``Net Capital Rule''), which were 
adopted in 2013.\61\ The amendments are designed to promote a broker/
dealer's capital quality and require the maintenance of ``net capital'' 
(i.e., capital in excess of liabilities) in specified amounts as 
determined by the type of business conducted. The Net Capital Rule is 
designed to ensure the availability of funds and assets (including 
securities) in the event that a broker/dealer's liquidation becomes 
necessary. The Net Capital Rule represents a net worth perspective, 
which is adjusted by unrealized profit or loss, deferred tax 
provisions, and certain liabilities as detailed in the rule. It also 
includes deductions and offsets, and requires that a broker/dealer 
demonstrate compliance with the Net Capital Rule including maintaining 
sufficient net capital at all times (including intraday).
---------------------------------------------------------------------------

    \61\ See 17 CFR 240.15c3-1. Securities Exchange Act Release No. 
34-70072 (July 30, 2013), 78 FR 51823 (August 21, 2013) (File No. 
S7-08-07).
---------------------------------------------------------------------------

    FICC believes that the Net Capital Rule is an effective process of 
separating liquid and illiquid assets, and computing a broker/dealer's 
regulatory net capital that should replace GSD's existing practice of 
using Excess Net Capital (which is the difference between the Net 
Capital and the minimum regulatory Net Capital) as the basis for the 
Excess Capital Premium.
H. GSD's Existing Calculation and Assessment of Intraday Supplemental 
Fund Deposit Amounts
    Separate and apart from the AM RFD and the PM RFD, the GSD Rules 
give FICC the existing authority to collect Intraday Supplemental Fund 
Deposits from Netting Members.\62\ Through this filing, FICC is 
providing transparency with respect to GSD's existing calculation of 
Intraday Supplemental Fund Deposit amounts.
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    \62\ As described above in section A.--The Required Fund Deposit 
and Clearing Fund Calculation Overview, GSD calculates and collects 
each Netting Member's Required Fund Deposit twice each business day. 
The AM RFD is collected at 9:30 a.m. (E.T.) and is comprised of a 
VaR Charge that is based on each Netting Member's portfolio at the 
end of the trading day. The PM RFD is collected at 2:45 p.m. and is 
comprised of a VaR Charge that is based on a snapshot of each 
Netting Member's portfolio collected at noon and, if applicable, an 
Intraday Supplemental Fund Deposit collected after noon.
---------------------------------------------------------------------------

    Pursuant to the GSD Rules, the Intraday Supplemental Fund Deposits 
is determined based on GSD's observations of a Netting Member's 
simulated VaR Charge as it is re-calculated throughout the trading day 
based on the open positions of such Member's portfolio at designated 
times (the ``Intraday VaR Charge'').\63\ FICC is proposing to provide 
transparency with respect to its existing authority to calculate and 
assess the Intraday Supplemental Fund Deposit as described in further 
detail below.
---------------------------------------------------------------------------

    \63\ See Rule 4 Section 2a, supra note 4.
---------------------------------------------------------------------------

    The Intraday Supplemental Fund Deposit is designed to mitigate 
exposure to GSD that results from large fluctuations in a Netting 
Member's portfolio due to new and settled trade activities that are not 
otherwise covered by a Netting Member's recently collected Required 
Fund Deposit. FICC determines whether to assess an Intraday 
Supplemental Fund Deposit by tracking three criteria (each, a 
``Parameter Break'') for each Netting Member. The first Parameter Break 
evaluates whether a Netting Member's Intraday VaR Charge equals or 
exceeds a set dollar amount (as determined by FICC from time to time) 
when compared to the VaR Charge that was included in the most recently 
collected Required Fund Deposit including, any subsequently collected 
Intraday Supplemental Fund Deposit (the ``Dollar Threshold''). The 
second Parameter Break evaluates whether the Intraday VaR Charge equals 
or exceeds a percentage increase (as determined by FICC from time to 
time) of the VaR Charge that was included in the most recently 
collected Required Fund Deposit including, if applicable, any 
subsequently collected Intraday Supplemental Fund Deposit (the 
``Percentage Threshold''). The third Parameter Break evaluates whether 
a Netting Member is experiencing backtesting results below the 99% 
confidence level (the ``Coverage Target'').
(a) The Dollar Threshold
    The purpose of the Dollar Threshold is to identify Netting Members 
with additional risk exposures that represent a substantial portion of 
the Clearing Fund. FICC believes these Netting Members pose an 
increased risk of loss to GSD because the coverage provided by the 
Clearing Fund (which is designed to cover the aggregate losses of all 
Netting Members' portfolios) would be substantially impacted by large 
exposures. In other words, in the event that a Netting Member's 
Required Fund Deposit is not sufficient to satisfy losses to GSD caused 
by the liquidation of the defaulted Netting Member's portfolio, FICC 
will use the Clearing Fund to satisfy such losses. However, because the 
Clearing Fund must be available to satisfy potential losses that may 
arise from any Netting Member's defaults, GSD will be exposed to a 
significant risk of loss if a defaulted Netting Member's additional 
risk exposure accounted for a substantial portion of the Clearing Fund.
    The Dollar Threshold is set to an amount that would help to ensure 
that the aggregate additional risk exposure of all Netting Members does 
not exceed 5% of the Clearing Fund. FICC believes that the availability 
of at least 95% of the Clearing Fund to satisfy all other liquidation 
losses caused by a defaulted Netting Member is sufficient to mitigate 
risks posed to FICC by such losses.
    Currently, the Dollar Threshold equals a change in a Netting 
Member's Intraday VaR Charge that equals or exceeds $1,000,000 when 
compared to the VaR Charge that was included in the most recently 
collected Required Fund Deposit including, if applicable, any 
subsequently collected Intraday Supplemental Fund Deposit. On an annual 
basis, FICC assesses the sufficiency of the Dollar Threshold, and may 
adjust the Dollar Threshold if FICC determines that an adjustment is 
necessary to provide GSD with reasonable coverage.

[[Page 4697]]

(b) The Percentage Threshold
    The purpose of the Percentage Threshold is to identify Netting 
Members with Intraday VaR Charge amounts that reflect significant 
changes when such amounts are compared to the VaR Charge that was 
included as a component in such Netting Member's most recently 
collected Required Fund Deposit. FICC believes that these Netting 
Members pose an increased risk of loss to GSD because the most recently 
collected VaR Charge (which is designed to cover estimated losses to a 
portfolio over a three-day liquidation period at least 99% of the time) 
may not adequately reflect a Netting Member's portfolio with such 
Netting Member's significant intraday changes in additional risk 
exposure. Thus, in the event that the Netting Member defaults during 
the trading day the Netting Member's most recently collected Required 
Fund Deposit may be insufficient to cover the liquidation of its 
portfolio within a three-day liquidation period.
    Currently, the Percentage Threshold is equal to a Netting Member's 
Intraday VaR Charge that equals or exceeds 100% of the most recently 
calculated VaR Charge included in the most recently collected Required 
Fund Deposit including, if applicable, any subsequently collected 
Intraday Supplemental Fund Deposit. On an annual basis, FICC assesses 
the sufficiency of the Percentage Threshold and may adjust the 
Percentage Threshold if it determines that such adjustment is necessary 
to provide GSD with reasonable coverage.
(c) The Coverage Target
    The purpose of the Coverage Target is to identify Netting Members 
with backtesting results \64\ below the 99% confidence level (i.e., 
greater than two deficiency days in a rolling 12-month period) as 
reported in the most current month. FICC believes that these Netting 
Members pose an increased risk of loss to FICC because their 
backtesting deficiencies demonstrate that GSD' risk-based margin model 
has not performed as expected based on the Netting Member's trading 
activity. Thus, the most recently collected Required Fund Deposit might 
be insufficient to cover the liquidation of a Netting Member's 
portfolio within a three-day liquidation period in the event that such 
Member defaults during the trading day.
---------------------------------------------------------------------------

    \64\ The referenced backtesting results would only reflect the 
Backtesting Charge if such charge is collected in the Required Fund 
Deposit.
---------------------------------------------------------------------------

(d) Assessment and Collection of the Intraday Supplemental Fund 
Deposits
    In the event that FICC determines that a Netting Member's 
additional risk exposure breaches all three Parameter Breaks, FICC will 
assess an Intraday Supplemental Fund Deposit. Should FICC determine 
that certain market conditions exist \65\ FICC would impose an Intraday 
Supplemental Fund Deposit if a Netting Member's Intraday VaR Charge 
breaches the Dollar Amount threshold and the Percentage Threshold 
notwithstanding the fact that the Coverage Target has not been breached 
by such Netting Member.\66\ In addition, during such market conditions, 
the Dollar Threshold and Percentage Threshold may be reduced if FICC 
determines a Netting Member's portfolios may present relatively greater 
risks to FICC since the most recently collected Required Fund Deposit. 
Any such reduction will not cause the Dollar Threshold to be less than 
$250,000 and the Percentage Threshold to be less than 5%.
---------------------------------------------------------------------------

    \65\ Examples include but are not limited to (i) sudden swings 
in an equity index or (ii) movements in the U.S. Treasury yields and 
mortgage-backed securities spreads that are outside of historically 
observed market moves.
    \66\ In certain market condition, a Netting Member's backtesting 
coverage may not accurately reflect the risks posed by such Netting 
Member's portfolio. Therefore, FICC imposes the Intraday 
Supplemental Fund on Netting Members that breach the Dollar 
Threshold and Percentage Threshold, despite the fact that such 
Member may not have breached the Coverage Target during certain 
market conditions.
---------------------------------------------------------------------------

    FICC has the discretion to waive or change \67\ Intraday 
Supplemental Fund Deposit amounts if it determines that a Netting 
Member's additional risk exposure and/or breach of a Parameter Break 
does not accurately reflect GSD's exposure to the fluctuations in the 
Netting Member's portfolio.\68\ Given that there are numerous factors 
that could result in a Netting Member's additional risk exposure and/or 
breach of a Parameter Break, FICC believes that it is important to 
maintain such discretion in order to help ensure that the Intraday 
Supplemental Fund Deposit is imposed only on Netting Members with 
additional risk exposures that pose a significant level of risk to 
FICC.
---------------------------------------------------------------------------

    \67\ FICC will not reduce the Intraday Supplemental Fund Deposit 
if such reduction will cause the Netting Member's most recently 
collected Required Fund Deposit to decrease. In addition, FICC will 
not increase the Intraday VaR Charge to an amount that is two times 
more than a Netting Member's most recently collected Required Fund 
Deposit.
    \68\ For example, a Netting Member's breach of the Coverage 
Target could be due to a shortened backtesting look-back period and/
or large position fluctuations caused by trading errors.
---------------------------------------------------------------------------

I. Delayed Implementation of the Proposed Rule Change
    This proposed rule change would become operative 45 business days 
after the later date of the Commission's approval of this proposed rule 
change and its notice of no objection to FICC's related advance notice 
filing (the ``Advance Notice Filing'').\69\ The delayed implementation 
is designed to give Netting Members the opportunity to assess the 
impact that the proposed rule change would have on their Required Fund 
Deposit.
---------------------------------------------------------------------------

    \69\ See supra note 3.
---------------------------------------------------------------------------

    Prior to the effective date, FICC would add a legend to the GSD 
Rules to state that the specified changes to the GSD Rules are approved 
but not yet operative, and to provide the date such approved changes 
would become operative. The legend would also include the file numbers 
of the approved proposed rule change and Advance Notice Filing and 
would state that once operative, the legend would automatically be 
removed from the GSD Rules.
J. Description of the Proposed Changes to the Text of the GSD Rules
1. Proposed Changes to GSD Rule 1 (Definitions)
    FICC is proposing to amend the term ``Backtesting Charge'' to 
provide that a GCF Counterparty's backtesting deficiencies attributable 
to collateralized mortgage-backed securities during the Blackout Period 
would be considered in FICC's assessment of the applicability of the 
charge. FICC is also proposing to amend the definition of the term 
``Backtesting Charge'' to provide that an Intraday Backtesting Charge 
may be assessed based on the backtesting results of a Netting Member's 
intraday portfolio. In order to differentiate the Intraday Backtesting 
charge from the existing application of the Backtesting Charge, the 
existing charge would be referred to as the ``Regular Backtesting 
Charge.'' As a result of this proposed change, FICC would be permitted 
to assess an Intraday Backtesting Charge based on a Netting Member's 
intraday portfolio and a Regular Backtesting Charge based on a Netting 
Member's end of day portfolio. As a result of this proposed change, 
FICC's calculation of the Intraday Backtesting Charge and the Regular 
Backtesting Charge could include deficiencies attributable to GCF Repo 
Transactions collateralized with mortgage-backed securities during the 
Blackout Period.

[[Page 4698]]

    FICC is proposing to add the new defined term ``Blackout Period 
Exposure Adjustment'' to define a new component in the Required Fund 
Deposit calculation. This component would apply to all GCF 
Counterparties with exposure to mortgage-backed securities in their 
portfolio during the Blackout Period.
    FICC is proposing to delete the term ``Blackout Period Exposure 
Charge.'' This component would no longer be necessary because the 
proposed Blackout Period Exposure Adjustment would be applied to all 
GCF Counterparties with exposure to mortgage-backed securities in their 
portfolio.
    FICC is proposing to delete the term ``Coverage Charge'' because 
this component would be eliminated from the Required Fund Deposit 
calculation.
    FICC is proposing to delete the term ``Excess Capital'' because 
FICC is proposing to add the new defined term ``Netting Member 
Capital.''
    FICC is proposing to amend the definition of the term ``Excess 
Capital Ratio'' to reflect the replacement of ``Excess Capital'' with 
``Netting Member Capital.''
    FICC is proposing to change the term ``Intraday Supplemental 
Clearing Fund Deposit'' to ``Intraday Supplemental Fund Deposit'' 
because the latter is consistent with the term that is reflected in GSD 
Rule 4.
    FICC is proposing to amend the term ``Margin Proxy'' to reflect 
that the Margin Proxy would be used as an alternative volatility 
calculation.
    FICC is proposing to add the new defined term ``Netting Member 
Capital'' to reflect the change to the Net Capital for Broker Netting 
Members', Inter-Broker Dealer Netting Members' and Dealer Netting 
Members' calculation of the Excess Capital Ratio.
    FICC is proposing to amend the definition of the term ``VaR 
Charge'' to establish that (1) the Margin Proxy would be utilized as an 
alternative volatility calculation in the event that the requisite data 
used to employ the sensitivity approach is unavailable, and (2) a VaR 
Floor would be utilized as the VaR Charge in the event that the 
proposed model based approach yields an amount that is lower than the 
VaR Floor.
2. Proposed Changes to GSD Rule 4 (Clearing Fund and Loss Allocation)
Proposed Changes to Rule 4 Section 1b
    FICC is proposing to eliminate the reference to ``Coverage Charge'' 
because this component would no longer be included in the Required Fund 
Deposit calculation.
    FICC is proposing to add the ``Blackout Period Exposure 
Adjustment'' because this would be a new component included in the 
Required Fund Deposit calculation.
    FICC is proposing to eliminate the reference to ``Blackout Period 
Exposure Charge'' because this component would no longer be included in 
the Required Fund Deposit calculation.
    FICC is proposing to renumber this section in order to accommodate 
the above-referenced proposed changes.
    FICC is proposing to define ``Net Unsettled Position'' because it 
is a defined term in GSD Rule 1.
    FICC is proposing to amend this section to state that a haircut 
method would be utilized based on the historic index volatility model 
for the purposes of calculating the VaR Charge for classes of 
securities that cannot be handled by the VaR model's methodology.
    FICC is proposing to delete the paragraph relating to the Margin 
Proxy because the Margin Proxy would no longer be used to supplement 
the VaR Charge.
K. Description of the QRM Methodology
    The QRM Methodology document provides the methodology by which FICC 
would calculate the VaR Charge with the proposed sensitivity approach 
as well as other components of the Required Fund Deposit calculation. 
The QRM Methodology document specifies (i) the model inputs, 
parameters, assumptions and qualitative adjustments, (ii) the 
calculation used to generate Required Fund Deposit amounts, (iii) 
additional calculations used for benchmarking and monitoring purposes, 
(iv) theoretical analysis, (v) the process by which the VaR methodology 
was developed as well as its application and limitations, (vi) internal 
business requirements associated with the implementation and ongoing 
monitoring of the VaR methodology, (vii) the model change management 
process and governance framework (which includes the escalation process 
for adding a stressed period to the VaR calculation), (viii) the 
haircut methodology, (ix) the Blackout Period Exposure Adjustment 
calculations, (x) intraday margin calculation, and (xi) the Margin 
Proxy calculation.
2. Statutory Basis
    FICC believes that the proposed changes, as described in Item 
II.(A)1. above, are consistent with the requirements of the Act and the 
rules and regulations thereunder applicable to a registered clearing 
agency. In particular, FICC believes that the proposed changes are 
consistent with Section 17A(b)(3)(F) of the Act,\70\ and Rules 17Ad-
22(e)(4)(i) and (e)(6)(i), (ii), (iii), (iv) and (v), each promulgated 
under the Act,\71\ for the reasons described below.
---------------------------------------------------------------------------

    \70\ 15 U.S.C. 78q-1(b)(3)(F).
    \71\ 17 CFR 240.17Ad-22(e)(4)(i) and (e)(6)(i), (ii), (iii), 
(iv) and (v).
---------------------------------------------------------------------------

    Section 17A(b)(3)(F) \72\ of the Act as cited above requires, in 
part, that the rules of a clearing agency be designed ``to assure the 
safeguarding of securities and funds which are in the custody or 
control of the clearing agency or for which it is responsible.'' As 
described in detail in Item II.(A)1. above, the proposal consists of 
changes to the calculation of GSD's Required Fund Deposit. FICC 
believes that these changes would be designed to assure the 
safeguarding of securities and funds that are in the custody or control 
of FICC or for which it is responsible because the proposed changes 
would enable FICC to better limit its credit exposure to Netting 
Members arising out of the activity in their portfolios. The proposed 
changes would collectively work to help ensure that FICC calculates and 
collects adequate margin from its Netting Members. Specifically, (1) 
the proposed change to utilize the sensitivity approach would better 
enable FICC to limit its exposure to Netting Members because the 
sensitivity approach would incorporate a broad range of structured risk 
factors as well as an extended look-back period that would calculate 
better margin coverage for FICC, (2) the proposed use of the Margin 
Proxy as an alternative volatility calculation would better enable FICC 
to limit its exposure to Netting Members because it would help to 
ensure that FICC has a margin methodology in place that effectively 
measures FICC's exposure to Netting Members in the event that a vendor 
data disruption reduces the reliability of the margin amount calculated 
by the proposed sensitivity-based VaR model, (3) the proposed haircut 
method would better enable FICC to limit its exposure to Netting 
Members because it would provide a better assessment of the risks 
associated with classes of securities with inadequate historical 
pricing data, (4) the proposed VaR Floor would better enable FICC to 
limit its exposure to Netting Members because it would help to ensure 
that each Netting Member has a minimum VaR Charge in the event that the 
proposed VaR model utilizing the sensitivity approach yields too low a 
VaR Charge for such portfolios, (5) the proposal to add the proposed 
Blackout

[[Page 4699]]

Period Exposure Adjustment as a new component and the proposal to amend 
the Backtesting Charge to consider backtesting deficiencies 
attributable to GCF Repo Transactions collateralized with mortgage-
backed securities during the Blackout Period would better enable FICC 
to limit its exposure to Netting Members because these changes would 
help to ensure that FICC collects sufficient margin from GCF 
Counterparties with GCF Repo Transactions collateralized mortgage-
backed securities with risk characteristics that are not effectively 
captured by the Required Fund Deposit calculation during the Blackout 
Period, (6) the proposed Intraday Backtesting Charge would better 
enable FICC to limit its exposure to Netting Members because it would 
help to ensure that FICC collects appropriate margin from Netting 
Members that have backtesting deficiencies during the trading day due 
to large fluctuations of intraday trading activity that could pose risk 
to FICC in the event that such Netting Members default during the 
trading day, and (7) the proposed change to the Excess Capital Premium 
calculation would better enable FICC to limit its exposure to Netting 
Members because it would help to ensure that FICC does not 
unnecessarily increase its calculation and collection of Required Fund 
Deposit amounts for Broker Netting Members, Inter-Dealer Broker Netting 
Members and Dealer Netting Members. Finally, FICC's proposal to 
eliminate the Blackout Period Exposure Charge, Coverage Charge and 
augmented volatility adjustment multiplier would enable FICC to 
eliminate components that do not measure risk as accurately as the 
proposed and existing risk management measures, as described above.
---------------------------------------------------------------------------

    \72\ 15 U.S.C. 78q-1(b)(3)(F).
---------------------------------------------------------------------------

    By enabling FICC to better limit its exposure to Netting Members, 
the proposed changes described in Item II.(A)1. are designed to ensure 
that, in the event of a Netting Member default, FICC's operations would 
not be disrupted and non-defaulting Netting Members would not be 
exposed to losses they cannot anticipate or control. In this way, the 
proposed rules are designed to assure the safeguarding of securities 
and funds which are in the custody or control of FICC or for which it 
is responsible and therefore consistent with Section 17A(b)(3)(F) of 
the Act.
    In addition, FICC believes that the proposed changes are consistent 
with Rules 17Ad-22(e)(4)(i) and (e)(6)(i), (ii), (iii), (iv) and (v) of 
the Act.\73\
---------------------------------------------------------------------------

    \73\ See 17 CFR 240.17Ad-22(e)(4)(i) and (e)(6)(i), (ii), (iii), 
(iv) and (v).
---------------------------------------------------------------------------

    Rule 17Ad-22(e)(4)(i) under the Act \74\ requires a clearing agency 
to 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 
exposures arising from its payment, clearing, and settlement processes 
by maintaining sufficient financial resources to cover its credit 
exposure to each participant fully with a high degree of confidence.
---------------------------------------------------------------------------

    \74\ See 17 CFR 240.17Ad-22(e)(4)(i).
---------------------------------------------------------------------------

    FICC believes that the proposed changes described in Item II.(A)1. 
above enhance FICC's ability to identify, measure, monitor and manage 
its credit exposures to Netting Members and those exposures arising 
from its payment, clearing, and settlement processes because the 
proposed changes would collectively help to ensure that FICC maintains 
sufficient financial resources to cover its credit exposure to each 
Netting Member with a high degree of confidence.
    Because each of the proposed changes to FICC's Required Fund 
Deposit calculation would provide FICC with a more effective measure of 
the risks that these calculations were designed to assess, the proposed 
changes would permit FICC to more effectively identify, measure, 
monitor and manage its exposures to market price risk, and would enable 
it to better limit its exposure to potential losses from Netting Member 
default. Specifically, the proposed changes described in Item II.(A)1. 
above are designed to help ensure that GSD appropriately calculates and 
collects margin to cover its credit exposure to each Netting Member 
with a high degree of confidence because (1) the proposed change to 
utilize the sensitivity approach would provide better margin coverage 
for FICC, (2) the proposed use of the Margin Proxy as an alternative 
volatility calculation would help to ensure that FICC has a margin 
methodology in place that effectively measures FICC's exposure to 
Netting Members in the event that a vendor data disruption reduces the 
reliability of the margin amount calculated by the proposed 
sensitivity-based VaR model, (3) the proposed haircut method would 
provide a better assessment of the risks associated with classes of 
securities with inadequate historical pricing data, (4) the proposed 
VaR Floor would limit FICC's credit exposures to Netting Members in the 
event that the proposed VaR model utilizing the sensitivity approach 
yields too low a VaR Charge for such portfolios, (5) the proposal 
eliminates the Blackout Period Exposure, Coverage Charge and augmented 
volatility adjustment multiplier because FICC should not maintain 
elements of the prior model that would unnecessarily increase Netting 
Members' Required Fund Deposits, (6) the proposal to add the proposed 
Blackout Period Exposure Adjustment as a new component would limit 
FICC's credit exposures during the Blackout Period caused by GCF Repo 
Transactions collateralized mortgage-backed securities with risk 
characteristics that are not effectively captured by the Required Fund 
Deposit calculation, (7) the proposal to amend the Backtesting Charge 
to consider backtesting deficiencies attributable to GCF Repo 
Transactions collateralized with mortgage-backed securities during the 
Blackout Period would help to ensure that FICC could cover credit 
exposure to GCF Counterparties, (8) the proposed Intraday Backtesting 
Charge would help to ensure that FICC collects appropriate margin from 
Netting Members that have backtesting deficiencies during the trading 
day due to large fluctuations of intraday trading activity that could 
pose risk to FICC in the event that such Netting Members defaults 
during the trading day, and (9) the proposed change to the Excess 
Capital Premium calculation would help to ensure that FICC does not 
unnecessarily increase its calculation and collection of Required Fund 
Deposit amounts for Broker Netting Members, Inter-Dealer Broker Netting 
Members and Dealer Netting Members.
    The proposed changes would continue to be subject to performance 
reviews by FICC. In the event that FICC's backtesting process reveals 
that the VaR Charge, Required Fund Deposit amounts and/or the Clearing 
Fund do not meet FICC's 99% confidence level, FICC would review its 
margin methodologies and assess whether any changes should be 
considered. Therefore, FICC believes the proposed changes are 
consistent with the requirements of Rule 17Ad-22(e)(4)(i) of the Act 
cited above.
    Rule 17Ad-22(e)(6)(i) under the Act \75\ requires a clearing agency 
to 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

[[Page 4700]]

of each relevant product, portfolio, and market.
---------------------------------------------------------------------------

    \75\ See 17 CFR 240.17Ad-22(e)(6)(i).
---------------------------------------------------------------------------

    FICC believes that the proposed changes referenced above in the 
second paragraph of this section (each of which have been described in 
detail in Item II.(A)1. above) are consistent with Rule 17Ad-
22(e)(6)(i) of the Act cited above because the proposed changes would 
help to ensure that FICC calculates and collects adequate Required Fund 
Deposit amounts, and that each Netting Member's amount is commensurate 
with the risks and particular attributes of each relevant product, 
portfolio, and market. Specifically, (1) the proposed change to utilize 
the sensitivity approach would provide better margin coverage for FICC, 
(2) the proposed use of the Margin Proxy as an alternative volatility 
calculation would help to ensure that FICC has a margin methodology in 
place that effectively measures FICC's exposure to Netting Members in 
the event that a vendor data disruption reduces the reliability of the 
margin amount calculated by the proposed sensitivity-based VaR model, 
(3) the proposed haircut method would provide a better assessment of 
the risks associated with classes of securities with inadequate 
historical pricing data, (4) the proposed VaR Floor would limit FICC's 
credit exposures to Netting Members in the event that the proposed VaR 
model utilizing the sensitivity approach yields too low a VaR Charge 
for such portfolios, (5) the proposal eliminates the Blackout Period 
Exposure, Coverage Charge and augmented volatility adjustment 
multiplier because FICC should not maintain elements of the prior model 
that would unnecessarily increase Netting Members' Required Fund 
Deposits, (6) the proposal to add the proposed Blackout Period Exposure 
Adjustment as a new component would limit FICC's credit exposures 
during the Blackout Period caused by GCF Repo Transactions 
collateralized mortgage-backed securities with risk characteristics 
that are not effectively captured by the Required Fund Deposit 
calculation, (7) the proposal to amend the Backtesting Charge to 
consider backtesting deficiencies attributable to GCF Repo Transactions 
collateralized with mortgage-backed securities during the Blackout 
Period would help to ensure that FICC could cover credit exposure to 
GCF Counterparties, (8) the proposed Intraday Backtesting Charge would 
help to ensure that FICC collects appropriate margin from Netting 
Members that have backtesting deficiencies during the trading day due 
to large fluctuations of intraday trading activity that could pose risk 
to FICC in the event that such Netting Members defaults during the 
trading day, and (9) the proposed change to the Excess Capital Premium 
calculation would help to ensure that FICC does not unnecessarily 
increase its calculation and collection of Required Fund Deposit 
amounts for Broker Netting Members, Inter-Dealer Broker Netting Members 
and Dealer Netting Members.
    Therefore, FICC believes that the proposed changes are consistent 
with the requirements of Rule 17Ad-22(e)(6)(i) cited above because the 
collective proposed rule changes would consider, and produce margin 
levels commensurate with, the risks and particular attributes of each 
relevant product, portfolio, and market.
    Rule 17Ad-22(e)(6)(ii) under the Act \76\ requires a clearing 
agency to 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, marks participant positions to market and collects margin, 
including variation margin or equivalent charges if relevant, at least 
daily and includes the authority and operational capacity to make 
intraday margin calls in defined circumstances.
---------------------------------------------------------------------------

    \76\ See 17 CFR 240.17Ad-22(e)(6)(ii).
---------------------------------------------------------------------------

    FICC believes that the proposed changes are consistent Rule 17Ad-
22(e)(6)(ii) of the Act cited above because the proposed Intraday 
Backtesting Charge would help to ensure that FICC collects appropriate 
margin from Netting Members that have backtesting deficiencies during 
the trading day due to large fluctuations of intraday trading activity 
that could pose risk to FICC in the event that such Netting Members 
defaults during the trading day. Therefore, FICC believes that the 
proposed Intraday Backtesting Charge would provide GSD with the 
authority and operational capacity to make intraday margin calls in a 
manner that is consistent with Rule 17Ad-22(e)(6)(ii) of the Act cited 
above.
    Rule 17Ad-22(e)(6)(iii) under the Act \77\ requires a clearing 
agency to 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, calculates margin sufficient to cover its potential future 
exposure to participants in the interval between the last margin 
collection and the close out of positions following a participant 
default.
---------------------------------------------------------------------------

    \77\ See 17 CFR 240.17Ad-22(e)(6)(iii).
---------------------------------------------------------------------------

    FICC believes that the proposed changes are consistent Rule 17Ad-
22(e)(6)(iii) of the Act cited above because the proposed changes are 
designed to calculate Required Fund Deposit amounts that are sufficient 
to cover FICC's potential future exposure to Netting Members in the 
interval between the last margin collection and the close out of 
positions following a participant default. Specifically, (1) the 
proposed change to utilize the sensitivity approach would provide 
better margin coverage for FICC, (2) the proposed use of the Margin 
Proxy as an alternative volatility calculation would help to ensure 
that FICC has a margin methodology in place that effectively measures 
FICC's exposure to Netting Members in the event that a vendor data 
disruption reduces the reliability of the margin amount calculated by 
the proposed sensitivity-based VaR model, (3) the proposed haircut 
method would provide a better assessment of the risks associated with 
classes of securities with inadequate historical pricing data, (4) the 
proposed VaR Floor would limit FICC's credit exposures to Netting 
Members in the event that the proposed VaR model utilizing the 
sensitivity approach yields too low a VaR Charge for such portfolios, 
(5) the proposal eliminates the Blackout Period Exposure, Coverage 
Charge and augmented volatility adjustment multiplier because FICC 
should not maintain elements of the prior model that would 
unnecessarily increase Netting Members' Required Fund Deposits, (6) the 
proposal to add the proposed Blackout Period Exposure Adjustment as a 
new component would limit FICC's credit exposures during the Blackout 
Period caused by GCF Repo Transactions collateralized mortgage-backed 
securities with risk characteristics that are not effectively captured 
by the Required Fund Deposit calculation, (7) the proposal to amend the 
Backtesting Charge to consider backtesting deficiencies attributable to 
GCF Repo Transactions collateralized with mortgage-backed securities 
during the Blackout Period would help to ensure that FICC could cover 
credit exposure to GCF Counterparties, (8) the proposed Intraday 
Backtesting Charge would help to ensure that FICC collects appropriate 
margin from Netting Members that have backtesting deficiencies during 
the trading day due to large fluctuations of intraday trading activity 
that could pose risk to FICC in the event that such Netting Members 
defaults during the trading day, and (9)

[[Page 4701]]

the proposed change to the Excess Capital Premium calculation would 
help to ensure that FICC does not unnecessarily increase its 
calculation and collection of Required Fund Deposit amounts for Broker 
Netting Members, Inter-Dealer Broker Netting Members and Dealer Netting 
Members.
    Therefore, FICC believes that the proposed changes would be 
consistent with Rule 17Ad-22(e)(6)(iii) of the Act cited above because 
the proposed rules changes would collectively be designed to help 
ensure that FICC calculates Required Fund Deposit amounts that are 
sufficient to cover FICC's potential future exposure to Netting Members 
in the interval between the last margin collection and the close out of 
positions following a participant default.
    Rule 17Ad-22(e)(6)(iv) under the Act \78\ requires a clearing 
agency to 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 reliable sources of timely price data and procedures and 
sound valuation models for addressing circumstances in which pricing 
data are not readily available or reliable.
---------------------------------------------------------------------------

    \78\ See 17 CFR 240.17Ad-22(e)(6)(iv).
---------------------------------------------------------------------------

    FICC believes that the proposed change to implement a haircut 
method for securities that lack sufficient historical information is 
consistent with Rule 17Ad-22(e)(6)(iv) of the Act cited above because 
the proposed change would allow FICC to use appropriate market data to 
estimate an appropriate margin at a 99% confidence level, thus helping 
to ensure that sufficient margin would be calculated for portfolios 
that contain these securities.
    Rule 17Ad-22(e)(6)(v) under the Act \79\ requires a clearing agency 
to 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.
---------------------------------------------------------------------------

    \79\ See 17 CFR 240.17Ad-22(e)(6)(v).
---------------------------------------------------------------------------

    FICC believes that the proposed changes to implement a haircut 
method for securities that lack sufficient historical information is 
consistent with Rule 17Ad-22(e)(6)(v) of the Act cited above because 
the haircut method would allow FICC to use appropriate market data to 
estimate an appropriate margin at a 99% confident level, thus helping 
to ensure that sufficient margin would be calculated for portfolios 
that contain these securities.
    FICC also believes that its proposal to replace the Blackout Period 
Exposure Charge with the Blackout Period Exposure Adjustment is 
consistent with Rule 17Ad-22(e)(6)(v) of the Act cited above because 
the proposed Blackout Period Exposure Adjustment would limit FICC's 
credit exposures during the Blackout Period caused by portfolios with 
collateralized mortgage-backed securities with risk characteristics 
that are not effectively captured by the Required Fund Deposit 
calculation.
    Therefore, FICC believes that the proposed haircut method and the 
proposed Blackout Period Exposure Adjustment are consistent with Rule 
17Ad-22(e)(6)(v) of the Act cited above because the proposed changes 
appropriate method for measuring credit exposure that accounts for 
relevant product risk factors and portfolio effects across products.

(B) Clearing Agency's Statement on Burden on Competition

    FICC does not believe that the implementation of the risk 
management changes that comprise the proposed rule change related to 
the Required Fund Deposit calculations would impose any burden on 
competition that is not necessary or appropriate in furtherance of the 
Act.\80\
---------------------------------------------------------------------------

    \80\ See 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------

    FICC believes that the proposed rule change could have an impact 
upon competition because implementation of the risk management changes 
that comprise the proposed rule change would produce changes in the 
daily calculations of Netting Members' Required Fund Deposits, and thus 
will either increase or decrease Netting Members' Required Fund 
Deposits for each day when compared to the calculation of the Required 
Fund Deposit methodology that FICC currently uses. The proposed changes 
to the calculation of the Required Fund Deposit could both burden 
competition and promote competition, at different points in time, by 
altering Netting Members' Required Fund Deposits. At any point in time 
when the proposed change to the calculation of the Required Fund 
Deposit produces relatively greater increases in Required Fund Deposits 
for Netting Members that have lower operating margins or higher costs 
of capital than other Netting Members, the proposed change would burden 
competition. Conversely, when such Netting Members' Required Fund 
Deposits are reduced because of the proposed change to the calculation 
of the Required Fund Deposit, the change may promote competition. 
Because (i) all Netting Members are expected to experience both 
increases and decreases in Required Fund Deposits compared to the 
amounts that would be calculated using the existing methodology, 
depending on each Netting Member's particular portfolio and market 
conditions, and (ii) no particular category of Netting Member is 
expected to experience materially greater increases or decreases than 
other Netting Members, FICC believes that the proposed change will not 
impose a significant burden on competition.
    FICC believes that any burden on competition that is created by the 
proposed rule change is necessary in furtherance of the Act because, as 
described above, the GSD Rules must be designed to assure the 
safeguarding of securities and funds that are in its custody or control 
or for which it is responsible.\81\ The proposed rule change would 
support FICC's compliance with Rules 17Ad-22(e)(4)(i) and (e)(6)(i), 
(ii), (iii), (iv) and (v) under the Act \82\ for the reasons explained 
above in Item II.(A)2.
---------------------------------------------------------------------------

    \81\ See 15 U.S.C. 78q-1(b)(3)(F).
    \82\ See 17 CFR 240.17Ad-22(e)(4)(i) and (e)(6)(i), (ii), (iii), 
(iv) and (v).
---------------------------------------------------------------------------

    FICC believes that the risk management changes that comprise the 
proposed rule change are appropriate in furtherance of the Act because 
they enhance FICC's methodology for calculating margin requirements by 
implementing an improved risk-based approach that provides better 
coverage for FICC with respect to its credit exposures to Netting 
Members while not significantly increasing Netting Members' Required 
Fund Deposits when averaged across time. The financial impact of and 
risk management benefit of each change is further described below.
Impact of the Proposed Sensitivity Approach
    Utilization of the proposed sensitivity approach to calculate the 
VaR Charge rather than the existing full revaluation approach with the 
augmented volatility multiplier is expected, generally, to generate 
higher VaR Charges during volatile market periods and lower VaR Charges 
during normal market conditions. While the degree of impact depends 
upon each Netting Member's particular portfolio, Netting Members that 
submit similar portfolios will have similar impacts to their VaR 
Charges during both volatile and normal market conditions. To the 
extent that a Netting Member's portfolio may pose a greater

[[Page 4702]]

risk to FICC than would have been captured under the full revaluation 
approach with the augmented volatility multiplier, such Netting Member 
will have higher VaR Charges, particularly during volatile market 
conditions. FICC believes that any burden on competition that derives 
from the proposed sensitivity approach is necessary in furtherance of 
the Act because the proposed approach corrects the deficiencies in the 
existing model and it provides better margin coverage for FICC. 
Additionally, FICC believes that any burden on competition that derives 
from the proposed sensitivity approach is appropriate in furtherance of 
the Act because the proposed approach would produce VaR Charges that 
are consistent with the current VaR Charge calculation as supplemented 
by Margin Proxy.
    FICC performed an impact study of the portfolio level VaR Charge 
under the proposed methodology for the period January 3, 2013 through 
December 30, 2016 and backtested the performance of the CFR that 
includes the proposed sensitivity approach from May 2016 through 
October 2017. This analysis revealed that, under the proposed 
sensitivity approach, the portfolio level backtesting coverage of the 
VaR Charge is similar to the existing VaR Charge supplemented by Margin 
Proxy for the majority of Netting Members, but would have increased for 
24% of the Netting Members' portfolios. The rolling 12 months coverage 
of CFR for May 2016 through October 2017 using the proposed methodology 
was more stable than the current methodology and remained above 99% for 
the entire observation period. Implementing the proposed sensitivity 
approach improves the risk-based model that FICC employs to set margin 
requirements and better limits FICC's credit exposures to participants.
Impact of the Margin Proxy as a Proposed Alternative Methodology
    The Margin Proxy would be used as an alternative methodology to 
calculate the VaR Charge in the event that the data needed to operate 
the VaR model becomes unavailable for an extended period of time. 
Invocation of the Margin Proxy could produce slightly higher VaR 
Charges for Netting Members when compared to the proposed VaR model 
because the Margin Proxy could reduce certain risk offsets among 
portfolio positions. FICC believes that any burden on competition that 
derives from the proposed use of the Margin Proxy is necessary in 
furtherance of the Act because the Margin Proxy would help to ensure 
that FICC has a margin methodology in place that effectively measures 
FICC's exposure to Netting Members in the event that a vendor data 
disruption reduces the reliability of the margin amount calculated by 
the proposed sensitivity-based VaR model. FICC believes that any burden 
on competition that derives from the proposed use of the Margin Proxy 
is appropriate in furtherance of the Act because (1) FICC's ongoing 
monitoring of the Margin Proxy would help to ensure that the Margin 
Proxy calculates VaR Charges that are reasonably consistent with the 
sensitivity approach and (2) FICC expects that the Margin Proxy would 
rarely be invoked.
Impact of the Proposed Change To Utilize a Haircut Method To Measure 
the Risk Exposure of Securities That Lack Historical Data
    The proposed haircut method would be applied to classes of 
securities that cannot be processed by the proposed VaR model because 
such securities have inadequate historical pricing data. The proposed 
haircut approach could produce higher VaR Charges for Netting Members 
with portfolios with these classes of securities. FICC believes that 
any burden on competition that derives from implementing the proposed 
haircut method is necessary in furtherance of the Act because the 
proposed haircut method provides a better assessment of the risks 
associated with these securities and therefore would enhance FICC's 
ability to limit its credit exposures to participants. FICC believes 
that any burden on competition that derives from implementing the 
proposed haircut method is appropriate in furtherance of the Act 
because FICC would continue to manage the market risk of clearing these 
securities by conducting analysis on the type of securities that cannot 
be processed by the proposed VaR model and engaging in periodic reviews 
of the haircuts used for calculating margin for these types of 
securities.
Impact of the Proposed VaR Floor
    The proposed VaR Floor would establish a minimum VaR Charge for 
Netting Members that have portfolios with long and short positions in 
different classes of securities that have a high degree of historical 
price correlation. Implementing the VaR Floor will likely increase 
Required Fund Deposits for such Netting Members because such portfolios 
might generate a lower VaR Charge using the sensitivity calculations 
alone. FICC believes that any burden on competition that derives from 
the proposed VaR Floor is necessary in furtherance of the Act because 
the proposed VaR Floor would enhance FICC's ability to limit its credit 
exposures to participants in the event that the proposed VaR model 
utilizing the sensitivity approach yields too low a VaR Charge for such 
portfolios. FICC believes that any burden on competition that derives 
from the proposed VaR Floor is appropriate in furtherance of the Act 
because the proposed VaR Floor would help to ensure that FICC has 
sufficient margin in the event that FICC is required to liquidate or 
hedge a large securities portfolio in stressed market conditions.
Impact of the Proposed Blackout Period Exposure Adjustment
    The proposed Blackout Period Exposure Adjustment would be applied, 
in the form of a credit or charge, to the VaR Charge for GCF 
Counterparties with GCF Repo Transactions collateralized with mortgage-
backed securities during the Blackout Period. The proposed Blackout 
Period Exposure Adjustment is expected to either increase or decrease a 
GCF Counterparty's Required Fund Deposit amount if such participant has 
GCF Repo Transactions collateralized with mortgage-backed securities 
during the monthly Blackout Period. While the degree of the impact 
would depend upon the amount and type of mortgage-backed securities 
used to collateralize GCF Repo Transactions, GCF Counterparties that 
have similar amounts of mortgage-backed securities are likely to have a 
similar Blackout Period Exposure Adjustment. Nevertheless, GCF 
Counterparties that are assessed a Blackout Period Exposure Adjustment 
may experience a lower Required Fund Deposit in the future because such 
GCF Counterparties would be less likely to experience backtesting 
deficiencies and therefore may not be subject to a Backtesting Charge. 
As noted above, the proposed Blackout Period Exposure Adjustment would 
be calculated by (1) projecting an average pay-down rate for the 
government sponsored enterprises (Fannie Mae and Freddie Mac) and the 
Government National Mortgage Association (Ginnie Mae), respectively, 
then (2) multiplying the projected pay-down rate \83\ by the net 
positions of mortgage-backed securities in the related program, and (3) 
summing the results from each program. Because the projected pay-down 
rate

[[Page 4703]]

would be an average of the weighted averages of pay-down rates for all 
active mortgage pools of the related program during the three most 
recent preceding months, it is possible that the proposed Blackout 
Period Exposure Adjustment could overestimate the amount for a GCF 
Counterparty with a portfolio that primarily includes slower paying 
mortgage-backed securities or underestimate the amount for a GCF 
Counterparty with a portfolio that primarily includes faster paying 
mortgage-backed securities. FICC believes that any burden on 
competition that derives from the proposed Blackout Period Exposure 
Adjustment is necessary in furtherance of the Act because the proposed 
Blackout Period Exposure Adjustment would effectively measure and limit 
FICC's credit exposures during the Blackout Period caused by portfolios 
with collateralized mortgage-backed securities with risk 
characteristics that are not effectively captured by the existing 
components of the Required Fund Deposit calculation. FICC believes that 
any burden on competition that derives from the proposed Blackout 
Period Exposure Adjustment is appropriate in furtherance of the Act 
because the proposed Blackout Period Exposure Adjustment is designed to 
help ensure that GCF Counterparties with collateralized mortgage-backed 
securities maintain a backtesting coverage above the 99% confidence 
threshold. Further, FICC would continue to monitor the realized pay-
down against FICC's weighted average pay-down rates and its vendor's 
projected pay-down rates as part of the model performance monitoring. 
Further, in the event that a GCF Counterparty continues to experience 
backtesting deficiencies, FICC would apply a Backtesting Charge, which 
as described in section F above, would be amended to consider 
backtesting deficiencies attributable to GCF Repo Transactions during 
the Blackout Period.
---------------------------------------------------------------------------

    \83\ GSD would calculate the projected average pay-down rates 
each month using historical pool factor pay-down rates that are 
weighted by historical positions during each of the prior three 
months. Specifically, the projected pay-down rate for a current 
Blackout Period would be an average of the weighted averages of pay-
down rates for all active mortgage pools of the related program 
during the three most recent preceding months.
---------------------------------------------------------------------------

Impact of the Proposed Elimination of the Blackout Period Exposure 
Charge, Coverage Charge and Augmented Volatility Adjustment Multiplier
    The proposed removal of the Blackout Period Exposure Charge, 
Coverage Charge and augmented volatility adjustment multiplier would 
reduce Netting Members' Required Fund Deposits by eliminating charges 
that are no longer necessary following implementation of the other 
changes that comprise the proposed rule change. FICC believes that any 
burden on competition that derives from eliminating the Coverage Charge 
and augmented volatility adjustment multiplier are necessary in 
furtherance of the Act because the proposed changes support FICC's 
implementation of policies and procedures reasonably designed to limit 
its credit exposures to participants and use of risk-based models to 
set margin requirements. FICC believes that any burden on competition 
that derives from eliminating the Coverage Charge and augmented 
volatility adjustment multiplier are appropriate in furtherance of the 
Act because FICC should not maintain elements of the prior model that 
would unnecessarily increase Netting Members' Required Fund Deposits.
Impact of the Proposed Change To Amend the Backtesting Charge To 
Include Backtesting Deficiencies That Are Attributable to GCF Repo 
Transactions Collateralized With Mortgage-Backed Securities During 
Blackout Period
    The proposed change to amend the Backtesting Charge to include 
backtesting deficiencies attributable to GCF Repo Transactions 
collateralized with mortgage-backed securities during the Blackout 
Period could increase a GCF Counterparty's Required Fund Deposit amount 
if the third largest deficiency amount used to calculate the 
Backtesting Charge is larger during the Blackout Period. FICC believes 
that any burden on competition that derives from the proposed change is 
necessary in furtherance of the Act because the proposed change would 
help FICC to maintain its credit exposures to such GCF Repo Participant 
at a confidence level of at least 99%. FICC believes that any burden on 
competition that derives from the proposed change is appropriate in 
furtherance of the Act because the proposed change would help to ensure 
that FICC collects appropriate margin from a GCF Counterparty with 
exposures due to decreases in the collateral value of mortgage-backed 
securities during the monthly Blackout Period that would not be 
captured by the proposed Blackout Period Exposure Adjustment. FICC 
believes that imposing the proposed Backtesting Charge during the 
Blackout Period protects FICC against the risk that a defaulted GCF 
Counterparty's portfolio contains exposure to GCF Repo Transactions 
collateralized with mortgage-backed securities that would not be 
adequately captured by the GCF Counterparty's Required Fund Deposit.
Impact of the Proposed Change To Assess an Intraday Backtesting Charge
    The proposed change to assess an Intraday Backtesting Charge would 
increase Netting Members' Required Fund Deposits because FICC would 
apply an Intraday Backtesting Charge in the event that a Netting Member 
experiences multiple intraday backtesting deficiencies. FICC believes 
that any burden on competition that derives from the proposed change to 
assess an Intraday Backtesting Charge is necessary in furtherance of 
the Act because the proposed Intraday Backtesting Charge would help to 
ensure that FICC collects appropriate margin from Netting Members that 
have backtesting deficiencies during the trading day due to large 
fluctuations of intraday trading activity that could pose risk to FICC 
in the event that such Netting Members defaults during the trading day. 
FICC believes that any burden on competition that derives from the 
proposed change is appropriate in furtherance of the Act because the 
Intraday Backtesting Charge would be commensurate with the portfolio 
risk that Netting Members clear through GSD.
Impact of the Proposed Modification of the Excess Capital Premium for a 
Broker Netting Member, Inter-Dealer Broker Netting Member or Dealer 
Netting Member
    The proposed change to the Excess Capital Premium formula for a 
Broker Netting Member, Inter-Dealer Broker Netting Member and Dealer 
Netting Member may reduce such Member' Required Fund Deposits by using 
Net Capital in GSD's calculation of the Excess Capital Premium. FICC 
believes that this impact reduces the burden on competition for Broker 
Netting Members, Inter-Dealer Broker Netting Members and Dealer Netting 
Members because FICC will use a similar capital measure for broker/
dealer and banks when determining whether an Excess Capital Premium 
should be applied to their Required Fund Deposit calculation. FICC 
believes that any burden on competition that derives from modifying the 
Excess Capital Premium is necessary in furtherance of the Act because 
the proposed changes support FICC's implementation of policies and 
procedures reasonably designed to limit its credit exposures to 
participants and use of risk-based models to set margin requirements. 
FICC believes change in the burden on competition that derives from 
modification of the Excess Capital Premium is appropriate in 
furtherance of the Act because FICC should not

[[Page 4704]]

maintain elements that would unnecessarily increase some Netting 
Members' Required Fund Deposits.
    For the reasons stated above, FICC believes that any burden on 
competition that derives from risk management changes is necessary and 
appropriate in furtherance of FICC's obligations under the Act and 
Rules 17Ad-22(b)(i) and (e)(i), (ii), (iii), (iv) and (v) 
thereunder.\84\
---------------------------------------------------------------------------

    \84\ See 17 CFR 240.17Ad-22(b) and (e)(i), (ii), (iii), (iv) and 
(v).
---------------------------------------------------------------------------

(C) Clearing Agency's Statement on Comments on the Proposed Rule Change 
Received From Members, Participants, or Others

    Written comments relating to the proposed rule changes have not 
been solicited or received. FICC will notify the Commission of any 
written comments received by FICC.

III. Date of Effectiveness of the Proposed Rule Change, and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period up to 90 days (i) as the 
Commission may designate if it finds such longer period to be 
appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.
    The proposal shall not take effect until all regulatory actions 
required with respect to the proposal are completed.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposed rule 
change 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 [email protected]. Please include 
File Number SR-FICC-2018-001 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-2018-001. 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 the filing also will be available for inspection 
and copying at the principal office of FICC and on DTCC's website 
(http://dtcc.com/legal/sec-rule-filings.aspx). 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-2018-001 and 
should be submitted on or before February 22, 2018.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\85\
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    \85\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Robert W. Errett,
Deputy Secretary.
[FR Doc. 2018-01949 Filed 1-31-18; 8:45 am]
 BILLING CODE 8011-01-P