Document ID: SEC-2017-0732-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Fixed Income Clearing Corp.
Posted Date: 2017-05-08T04:00Z

[Federal Register Volume 82, Number 87 (Monday, May 8, 2017)]
[Notices]
[Pages 21439-21443]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-09193]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-80574; File No. SR-FICC-2017-005]

Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Order Granting Approval of Proposed Rule Change To Establish the 
Centrally Cleared Institutional Triparty Service and Make Other Changes

May 2, 2017.

I. Introduction

    On March 9, 2017, Fixed Income Clearing Corporation (``FICC'') 
filed with the Securities and Exchange Commission (``Commission'') 
proposed rule change SR-FICC-2017-005, pursuant to Section 19(b)(1) of 
the Securities Exchange Act of 1934 (``Act''),\1\ and Rule 19b-4 
thereunder.\2\ The proposed rule change was published for comment in 
the Federal Register on March 30, 2017.\3\ The Commission received one 
comment letter on the proposed rule change.\4\ This order approves the 
proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4. FICC also filed this proposal as an 
advance notice pursuant to Section 802(e)(1) of the Payment, 
Clearing, and Settlement Supervision Act of 2010 and Rule 19b-
4(n)(1) under the Act. 15 U.S.C. 5465(e)(1) and 17 CFR 240.19b-
4(n)(1). The advance notice was published for comment in the Federal 
Register on April 7, 2017. See Securities Exchange Act Release No. 
80361 (April 3, 2017), 82 FR 17053 (April 7, 2017) (SR-FICC-2017-
803). The Commission did not receive any comments on the advance 
notice.
    \3\ Securities Exchange Act Release No. 80303 (March 24, 2017), 
82 FR 15749 (March 30, 2017) (SR-FICC-2017-005) (``Notice'').
    \4\ See letter from Thomas Wipf, Chief Financial Officer, Morgan 
Stanley & Co. LLC, dated April 19, 2017, to Eduardo A. Aleman, 
Assistant Secretary, Commission, available at https://www.sec.gov/comments/sr-ficc-2017-005/ficc2017005.htm (``Morgan Stanley 
Letter'').
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II. Description of the Proposal

    Repurchase agreement (``repo'') transactions involve the sale of 
securities along with an agreement to repurchase the securities on a 
later date. Bilateral repo transactions involve a cash lender (e.g., a 
money market mutual fund, pension fund, or other entity with funds 
available for lending) and a cash borrower (typically a broker-dealer, 
hedge fund, or other entity seeking to finance securities that can be 
used to collateralize the loan). In the opening leg of the repo 
transaction, the cash borrower receives cash in exchange for securities 
equal in value to the amount of cash received, plus a haircut. In the 
closing leg of the repo transaction, the cash borrower pays back the 
cash plus interest in exchange for

[[Page 21440]]

the securities posted as collateral. In tri-party repo transactions, a 
clearing bank tri-party agent provides to both the cash lender and the 
cash borrower certain operational, custodial, collateral valuation, and 
other services to facilitate the repo transactions. For example, the 
tri-party agent may facilitate and record the exchange of cash and 
securities on a book-entry basis for each of the counterparties to the 
repo transaction, as well as effectuating the collection and transfer 
of collateral that may be required under the terms of the repo 
transaction. Cash lenders use tri-party repos as investments that offer 
liquidity maximization, principal protection, and a small positive 
return, while cash borrowers rely on them as a major source of short-
term funding.\5\
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    \5\ See Federal Reserve Bank of New York, Tri-Party Repo 
Infrastructure Reform, https://www.newyorkfed.org/medialibrary/media/banking/nyfrb_triparty_whitepaper.pdf (last visited Apr. 27, 
2017).
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    FICC currently provides central clearing to a segment of the tri-
party repo market through its general collateral finance repo service 
(``GCF Repo[supreg] Service'').\6\ The GCF Repo Service is available to 
sell-side entities, such as dealers, that enter into tri-party repo 
transactions, in GCF Repo Securities, with each other.\7\
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    \6\ The term ``GCF Repo'' is a registered trademark of FICC. The 
GCF Repo Service is a service offered by FICC to compare, net, and 
settle general collateral repos. Notice, 82 FR at 15750.
    \7\ GCF Repo Securities are securities issued or guaranteed by 
the United States, a U.S. government agency or instrumentality, a 
U.S. government-sponsored corporation (or otherwise approved by 
FICC's Board of Directors), and such securities are only eligible 
for submission to FICC in connection with the comparison, netting 
and/or settlement of repo transactions involving generic CUSIP 
numbers (i.e., identifying numbers established for a category of 
securities, as opposed to a specific security). See Notice, 82 FR at 
15750.
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    FICC's proposal would broaden the pool of entities that would be 
eligible to submit tri-party repo transactions for central clearing at 
FICC. Specifically, FICC proposes to amend its Government Securities 
Division (``GSD'') Rulebook (``GSD Rules'') \8\ to establish the 
``Centrally Cleared Institutional Tri-Party Service'' or the 
``CCITTM Service.'' \9\ The proposed CCIT Service would 
allow the submission of tri-party repo transactions in GCF Repo 
Securities between GSD Netting Members \10\ that participate in the GCF 
Repo Service and institutional counterparties (other than registered 
investment companies (``RICs'') under the Investment Company Act of 
1940, as amended),\11\ where the institutional counterparties are the 
cash lenders in the transactions.
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    \8\ Available at http://www.dtcc.com/legal/rules-and-procedures.
    \9\ CCIT is a trademark of The Depository Trust & Clearing 
Corporation, of which FICC is a subsidiary. FICC defines ``Centrally 
Cleared Institutional Tri-Party Service'' and ``CCIT Service'' as 
``the service offered by the Corporation to clear institutional tri-
party repurchase agreement transactions, as more fully described in 
Rule 3B.'' Proposed GSD Rule 1, Definitions.
    \10\ The term ``Netting Member'' is defined as a member of 
FICC's Comparison System (i.e., the system of reporting, validating, 
and matching the long and short sides of securities trades to ensure 
that the details of such trades are in agreement between the 
parties) and FICC's Netting System (i.e., the system for aggregating 
and matching offsetting obligations resulting from trades). GSD 
Rules, supra note 8.
    \11\ 15 U.S.C. 80a-1 et seq. According to FICC, the legal 
ability of such registered investment companies to participate in 
the proposed CCIT Service is uncertain in light of applicable 
regulatory requirements under the Investment Company Act of 1940 
(including, for example, liquid asset requirements and counterparty 
diversification requirements). Notice 82 FR at 15762.
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    To effectuate the proposed CCIT Service, FICC proposes to create a 
new limited service membership category in GSD for institutional cash 
lenders. These new members would be referred to as CCIT members, and 
the GSD membership provisions that apply to the CCIT members would be 
addressed in proposed GSD Rule 3B. These new membership provisions 
include: \12\
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    \12\ For additional discussion of the membership provisions set 
forth in proposed GSD Rule 3B, see also Notice, 82 FR at 15751-58.
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     Membership eligibility criteria, including minimum 
financial requirements, operational capabilities, and opinions of 
counsel;
     joint account ownership, in which one authorized entity 
would act as agent for two or more CCIT members;
     membership application processes, including document 
provision and disclosure requirements, operational testing 
requirements, reporting requirements, FATCA compliance certification 
requirements,\13\ and the procedures for denying membership;
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    \13\ FATCA is the Foreign Account Tax Compliance Act, 26 U.S.C. 
1471 et seq. FATCA compliance means that an ``. . . FFI [foreign 
financial institution] Member has qualified under such procedures 
promulgated by the Internal Revenue Service . . . to establish 
exemption from withholding under FATCA such that [FICC] would not be 
required to withhold [anything] under FATCA . . . .'' GSD Rules 1, 
supra note 8.
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     membership agreement terms describing rights and 
obligations;
     procedures for the voluntary termination of CCIT 
membership; and
     ongoing membership requirements, including (i) annual 
financial and other disclosure requirements; (ii) operational testing 
requirements and related reporting requirements; (iii) notification of 
GSD rule non-compliance; (iv) penalties for GSD rule non-compliance; 
(v) mandatory assurances in the event that FICC has reason to believe a 
member may fall into GSD rule non-compliance; (vi) requirements to 
comply with applicable tax, money laundering, and sanctions laws; (vii) 
audit provisions allowing FICC to access relevant books and records; 
and (viii) financial/operational monitoring.
    In addition to membership provisions, proposed Rule 3B also would 
set forth the applicable risk management provisions relating to the new 
limited service membership category, including: \14\
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    \14\ For additional discussion of the risk management provisions 
set forth in proposed GSD Rule 3B, see also Notice, 82 FR at 15757-
58.
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     Non-mutualized loss allocation obligations of CCIT 
members, including FICC's perfected security interest in each CCIT 
member's underlying repo securities;
     a rules-based committed liquidity facility for CCIT 
members, in which CCIT members that have outstanding CCIT transactions 
with a defaulting member would be required to enter into CCIT master 
repurchase agreement (``MRA'') transactions with FICC for specified 
periods of time;
     uncommitted liquidity repos between CCIT members and FICC; 
and
     application of certain other GSD Rules (e.g., comparison, 
netting, settlement, default, and other applicable provisions) to CCIT 
members and transactions.
    In addition to the proposed changes to the GSD Rules related to the 
proposed CCIT Service, the proposal also contains other changes to the 
GSD Rules, unrelated to the CCIT proposal. These non-CCIT related 
changes generally are intended to update the GSD Rules and provide 
additional specificity, clarity, and transparency for members that rely 
on them.\15\ These non-CCIT related proposed rule changes include the 
following:
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    \15\ For additional description and explanation of the non-CCIT-
related changes included in the proposal, see Notice, 82 FR at 
15759-60.
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     Clarifying that Comparison-Only Members must conform to 
FICC's operational conditions and requirements; \16\
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    \16\ GSD members may be either Comparison-Only Members or 
Netting Members. Comparison-Only Members are members of the GSD 
Comparison System, which is the GSD system for reporting, 
validating, and in some cases, matching of securities trades. 
Netting Members are members of both the GSD Comparison System and 
the GSD Netting System, which is the GSD system for aggregating and 
matching offsetting obligations resulting from securities trades. 
Pursuant to GSD Rule 2A, FICC may require an entity to be a 
Comparison-Only Member for a period of time (during which FICC 
assess the entity's operational soundness) before the entity becomes 
eligible to apply for netting membership.

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[[Page 21441]]

     clarifying the point of time in which a member is required 
to notify FICC that the member is no longer in compliance with a 
relevant membership qualification and standard;
     providing that a member's written notice of its membership 
termination is not effective until accepted by FICC;
     requiring all GCF Repo transactions to be fully 
collateralized by 9:00 a.m. New York Time;
     prohibiting a member that receives collateral in the GCF 
Repo process from withdrawing the securities or cash collateral 
received;
     specifying the steps that members must take in the event 
of FICC's default so that FICC may determine the net amount owed by or 
to each member;
     reflecting FICC's current practice of annual study and 
evaluation of FICC's internal accounting control system; and
     correcting several grammatical and out-of-date cross-
references.
    In addition to the proposed changes listed above, the proposed rule 
change also includes a proposal for a non-CCIT related rule change that 
would provide FICC with access to the books and records of a RIC 
Netting Member's controlling management. The change is intended to 
enable FICC to determine whether the RIC has sufficient financial 
resources and monitor compliance with FICC's financial requirements on 
an ongoing basis.

III. Summary of Comments Received

    The Commission received one comment letter from Morgan Stanley in 
support of the proposal. In the comment letter, Morgan Stanley notes 
the general benefits of central clearing, including enhanced risk 
management, efficiency in securities financing transactions, enhancing 
market access, and increased creditworthiness.\17\ Morgan Stanley also 
notes the specific benefits of the CCIT proposal, including (i) 
generating access for clients to high quality liquid assets (e.g., U.S. 
Government securities); (ii) providing capacity to cash lenders; (iii) 
retaining bilateral agreements; (iv) building operational efficiencies; 
(v) reducing settlement risk; (vi) providing opportunities for margin 
and capital efficiency and balance sheet netting; and (vii) increasing 
market stability, liquidity, and price transparency by enhancing the 
tri-party repo market.\18\
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    \17\ See Morgan Stanley Letter at 1-2.
    \18\ See Morgan Stanley Letter at 2-3.
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IV. Discussion of Commission Findings

    Section 19(b)(2)(C) of the Act \19\ directs the Commission to 
approve a proposed rule change of a self-regulatory organization if it 
finds that such proposed rule change is consistent with the 
requirements of the Act and rules and regulations thereunder applicable 
to such organization. After carefully considering the proposed rule 
change and the comment received, the Commission finds that the proposed 
rule change is consistent with the requirements of the Act and the 
rules and regulations thereunder applicable to FICC. In particular, the 
Commission believes the proposal is consistent with Sections 
17A(b)(3)(F), (G), and (H) of the Act,\20\ as well as Rules 17Ad-
22(e)(1), (4), and (18) thereunder.\21\
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    \19\ 15 U.S.C. 78s(b)(2)(C).
    \20\ 15 U.S.C. 78q-1(b)(3)(F), (G), and (H).
    \21\ 17 CFR 240.17Ad-22(e)(1), (4), and (18)
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A. Consistency With Section 17A(b)(3)(F) of the Act

    Section 17A(b)(3)(F) of the Act requires, in part, that the GSD 
Rules be designed to (i) promote the prompt and accurate clearance and 
settlement of securities transactions; (ii) remove impediments to and 
perfect the mechanism of a national system for the prompt and accurate 
clearance and settlement of securities transactions; and (iii) in 
general, to protect investors and the public interest.\22\
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    \22\ 15 U.S.C. 78q-1(b)(3)(F).
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    First, the Commission believes that the proposed changes that are 
unrelated to the proposed CCIT Service are consistent with promoting 
prompt and accurate clearance and settlement. As described above, FICC 
proposes a number of rule changes that are unrelated to the proposed 
CCIT service. Specifically, FICC proposes changes to Section 3(a) of 
GSD Rule 2A (Initial Membership Requirements), Sections 7, 10 and 13 of 
GSD Rule 3 (Ongoing Membership Requirements), Section 5 of GSD Rule 4 
(Clearing Fund and Loss Allocation), Section 3 of GSD Rule 20 (Special 
Provisions for GCF Repo Transactions) and the Schedule of GCF 
Timeframes, Subsection (a) of GSD Rule 22B (Corporation Default), and 
GSD Rule 35 (Financial Reports). These changes are intended to provide 
specificity, clarity, and additional transparency to the GSD Rules, 
which would help provide members with a better understanding of the 
Rules, decrease the likelihood of errors in the performance of members' 
responsibilities to FICC, and, thereby, help ensure that FICC's 
clearing and settlement system works more efficiently. Therefore, the 
Commission believes that these proposed rule changes would promote the 
prompt and accurate clearance and settlement of securities transactions 
by FICC, consistent with Section 17A(b)(3)(F) of the Act.\23\
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    \23\ Id.
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    Second, the Commission believes that the proposed rule changes 
related to the proposed CCIT service are consistent with removing 
impediments to and perfecting the mechanism of a national system for 
the prompt and accurate clearance and settlement of securities 
transactions. As described above, the proposed CCIT Service would 
establish a new membership category at FICC (i.e., the CCIT 
membership). By removing current obstacles to FICC's membership through 
the creation of a new, limited-service GSD membership category for 
institutional cash lenders, the proposal would expand the availability 
of GSD's infrastructure to institutional cash lenders and, in turn, 
enable a greater number of tri-party repo transactions to be eligible 
for the benefits of FICC's centralized clearing. Accordingly, the 
Commission believes that the proposed rule change would help remove 
impediments to and perfect the mechanism of a national system for the 
prompt and accurate clearance and settlement of securities 
transactions, consistent with Section 17A(b)(3)(F) of the Act.\24\
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    \24\ Id.
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    Third, the Commission believes that the proposed rule changes 
related to the proposed CCIT service are consistent with the protection 
of investors and in the public interest. As described above, FICC 
proposes to establish the CCIT service, which would establish the 
centralized clearing of proposed CCIT securities transactions that are 
otherwise transacted bilaterally. By expanding access to centralized 
clearing (and thus, FICC's netting, novation, and settlement 
guarantee), the proposal would lower the risk of diminished liquidity 
in the tri-party repo market caused by a large scale exit of 
participants from the market in a stress scenario. The proposal would 
also protect against fire sale risk through FICC's ability to 
centralize and control the liquidation of a greater portion of a failed 
counterparty's portfolio. Accordingly, by applying the efficiencies and 
risk mitigating aspects of centralized clearing to the proposed CCIT 
transactions, the proposal would help decrease the settlement and 
operational risks that are otherwise present in the current bilateral 
transactions of such securities.
    In addition, as described above, the CCIT proposal includes 
provisions that would establish the CCIT MRA and a perfected security 
interest in each CCIT member's underlying repo securities.

[[Page 21442]]

Each of these tools would help provide FICC with sufficient liquidity 
resources to settle the obligations of a CCIT member's defaulted 
Netting Member pre-novation counterparty. In doing so, the proposed 
CCIT Service provides for prudent risk management of CCIT transactions 
and CCIT members.
    For these reasons, the Commission believes that the proposed rule 
changes related to the proposed CCIT Service help protect investors, 
particularly those in the CCIT market, and are in the public interest, 
consistent with Section 17A(b)(3)(F) of the Act.\25\
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    \25\ Id.
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B. Consistency With Section 17A(b)(3)(G) and (H) of the Act

    Section 17A(b)(3)(G) of the Act requires that the GSD Rules 
``provide that . . . [FICC's] participants shall be appropriately 
disciplined for violation of any provision of the rules of the clearing 
agency by expulsion, suspension, limitation of activities, functions, 
and operations, fine, censure, or any other fitting sanction.'' \26\ 
Section 17A(b)(3)(H) of the Act requires, in part, that the GSD Rules 
``provide a fair procedure with respect to the disciplining of 
participants, the denial of participation to any person seeking 
participation therein, and the prohibition or limitation by the 
clearing agency of any person with respect to access to services 
offered by the clearing agency.'' \27\
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    \26\ 15 U.S.C. 78q-1(b)(3)(G).
    \27\ 15 U.S.C. 78q-1(b)(3)(H).
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    As described above, the proposed CCIT membership would subject CCIT 
members, and applicants that wish to become CCIT members, to comparable 
admission requirements \28\ and the same disciplinary requirements (and 
related due process procedures) as those applicable to Netting Members, 
and applicants that wish to become Netting Members. In establishing the 
proposed CCIT membership under similar admission and disciplinary 
requirements as FICC's existing requirements, the Commission believes 
that the proposed CCIT membership would establish an appropriate 
framework for the admission and disciplining of CCIT members, 
consistent with the requirements of Sections 17A(b)(3)(G) and 
17A(b)(3)(H) of the Act.\29\
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    \28\ There would be certain differences between the admission 
requirements applicable to CCIT members under proposed GSD Rule 3B 
and those applicable to Netting Members under GSD Rule 2A. See 
Notice, 82 FR at 15761.
    \29\ 15 U.S.C. 78q-1(b)(3)(G) and (H).
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C. Consistency With Rules 17Ad-22(e)(1), (4), and (18) Under the Act

    The Commission believes that the proposed rule change is consistent 
with Rule 17Ad-22(e)(1) under the Act.\30\ Rule 17Ad-22(e)(1) requires, 
in part, that FICC ``establish, implement, maintain and enforce written 
policies and procedures reasonably designed to . . . [p]rovide for a 
well-founded, clear, transparent and enforceable legal basis for each 
aspect of its activities.'' \31\ As described above, FICC proposes a 
number of changes that are unrelated to the proposed CCIT Service and 
designed to make the GSD Rules more clear, consistent, and current for 
members that rely on them. The Commission believes that these non-CCIT 
related changes could make FICC's policies and procedures in the GSD 
Rules more clear, consistent, and transparent for members that rely on 
them, and therefore believes that the proposed changes would help 
support FICC's rules being clear and transparent, consistent with Rule 
17Ad-22(e)(1), cited above.
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    \30\ 17 CFR 240.17Ad-22(e)(1).
    \31\ Id.
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    The Commission believes that the proposed rule change is consistent 
with Rule 17Ad-22(e)(4)(iii) under the Act.\32\ Rule 17Ad-22(e)(4)(iii) 
requires, in part, that FICC ``establish, implement, maintain and 
enforce written policies and procedures reasonably designed to . . . 
[e]ffectively identify, measure, monitor, and manage its credit 
exposures to participants and those arising from [FICC's] payment, 
clearing, and settlement processes, including by . . . maintaining . . 
. financial resources at the minimum to enable [FICC] to cover a wide 
range of stress scenarios. . . .'' \33\ As discussed above, the CCIT 
Service includes risk management tools, such as the perfected security 
interest and the CCIT MRA liquidity resource. The Commission believes 
that these risk management tools would help facilitate FICC's 
management of credit, market, and liquidity risk that would arise from 
becoming a central counterparty to the new repo positions coming in via 
the proposed CCIT Service. Accordingly, the Commission believes that 
the proposed changes to its policies and procedures in the GSD Rules 
are designed to help effectively manage FICC's exposure, including its 
credit exposure to participants, arising from its payment, clearing, 
and settlement processes for the proposed CCIT transactions by 
providing for financial resources to help cover a wide range of 
foreseeable stress scenarios, consistent with Rule 17Ad-22(e)(4)(iii), 
cited above.
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    \32\ 17 CFR 240.17Ad-22(e)(4)(iii).
    \33\ Id.
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    The Commission also believes that the proposal is consistent with 
Rule 17Ad-22(e)(18) under the Act.\34\ Rule 17Ad-22(e)(18) requires, in 
part, that FICC ``establish, implement, maintain and enforce written 
policies and procedures reasonably designed to . . . [e]stablish 
objective, risk-based, and publicly disclosed criteria for 
participation, which . . . require participants to have sufficient 
financial resources and robust operational capacity to meet obligations 
arising from participation in the clearing agency, and monitor 
compliance with such participation requirements on an ongoing basis.'' 
\35\
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    \34\ 17 CFR 240.17Ad-22(e)(18).
    \35\ Id.
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    In connection with the establishment of the proposed CCIT Service, 
FICC would include provisions in the GSD rules to incorporate 
membership standards, requiring, for example, ongoing financial 
responsibility and operational capacity requirements, as well as the 
requirements that would be applicable to Netting Members with respect 
to their participation in the proposed CCIT Service. The Commission 
believes that, by incorporating such requirements, FICC would establish 
in its policies and procedures objective, risk-based, and publicly 
disclosed criteria for participation in the CCIT Service, consistent 
with Rule 17Ad-22(e)(18).
    Similarly, in connection with the proposed non-CCIT related change 
to provide FICC with access to the books and records of a RIC Netting 
Member's controlling management, FICC would be authorized to review the 
financial information of the RIC. Because this would enable FICC to 
determine whether the RIC has sufficient financial resources and 
monitor compliance with FICC's financial requirements on an ongoing 
basis, the Commission believes this requirement is consistent with Rule 
17Ad-22(e)(18).

V. Conclusion

    On the basis of the foregoing, the Commission finds that the 
proposal is consistent with the requirements of the Act, in particular 
the requirements of Section 17A of the Act \36\ and the rules and 
regulations promulgated thereunder.
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    \36\ 15 U.S.C. 78q-1.
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    It is therefore ordered, pursuant to Section 19(b)(2) of the Act, 
that proposed rule change SR-FICC-2017-005 be and hereby is APPROVED as 
of the date of this order or the date of a

[[Page 21443]]

notice by the Commission authorizing FICC to implement FICC's advance 
notice proposal (SR-FICC-2017-803) that is consistent with this 
proposed rule change, whichever is later.\37\
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    \37\ In approving the proposed rule change, the Commission 
considered the proposals' impact on efficiency, competition, and 
capital formation. 15 U.S.C. 78c(f).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\38\
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    \38\ 17 CFR 200.30-3(a)(12).
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Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2017-09193 Filed 5-5-17; 8:45 am]
BILLING CODE 8011-01-P