Document ID: SEC-2014-2111-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Fixed Income Clearing Corp.
Posted Date: 2014-12-16T05:00Z

[Federal Register Volume 79, Number 241 (Tuesday, December 16, 2014)]
[Notices]
[Pages 74790-74794]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2014-29361]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-73805; File No. SR-FICC-2014-11]

Self-Regulatory Organizations; Fixed Income Clearing Corporation; 
Notice of Filing of Proposed Rule Change To Amend the Government 
Securities Division Rulebook and the Mortgage Backed Securities 
Clearing Rules In Order To Move the Time of Novation With Respect to 
Certain Trades, Include Rules To Reflect Existing Processes, and 
Clarify Certain Rules To Reflect Current Practices

December 10, 2014.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(the ``Act''),\1\ and Rule 19b-4,\2\ notice is hereby given that on 
December 2, 2014, 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 FICC. 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.
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I. Clearing Agency's Statement of the Terms of Substance of the 
Proposed Rule Change

    FICC is proposing to (1) move the time of novation for netting 
eligible transactions submitted to the Government Securities Division 
(``GSD'') in accordance with the GSD Rulebook (``GSD Rules'') and for 
SBO-Destined Trades \3\ submitted to the Mortgage-Backed Securities 
Division (``MBSD'') in accordance with the MBSD Clearing Rules (``MBSD 
Rules'') in order to provide members with additional legal certainty 
that FICC will be the legal counterparty with respect to their 
guaranteed trades for purposes of regulatory capital requirements, (2) 
include rules to reflect existing processes, and (3) clarify certain 
rules to reflect current practices.
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    \3\ The MBSD Rules define a ``SBO-Destined Trade'' as a to-be-
announced (``TBA'') transaction in the clearing system intended for 
TBA Netting in accordance with the provisions of the Rules. MBSD 
Rule 1, Definitions. In a TBA transaction, members agree on a sale 
price, quantity, and the characteristics of the securities being 
sold, but they do not specify which particular securities will be 
delivered on the settlement date.
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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, FICC 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. FICC 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
    FICC is proposing to move the time of novation applicable to 
certain transactions submitted to the GSD and MBSD to earlier in the 
clearing process in order to provide members with additional legal 
certainty that FICC will be their legal counterparty with respect to 
their guaranteed trades for purposes of members' regulatory capital 
requirements.
    Currently, GSD and MBSD guarantee the settlement of a trade upon 
comparison, which generally occurs when FICC issues initial ``output'' 
to GSD netting members or MBSD clearing members, as applicable, 
indicating that their trades have compared,\4\ provided that the trade 
meets the requirements of the GSD Rules or the MBSD Rules, as 
applicable.\5\ This means that FICC is responsible for settling the 
guaranteed trades, even if one of the members who submitted the trade 
becomes insolvent.
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    \4\ In the case of GSD locked-in trades, comparison occurs upon 
receipt of the trade data submitted to FICC from the locked-in trade 
source. GSD Rule 6C.
    \5\ See GSD Rule 11B and MBSD Rule 5.
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    Novation, which refers to the termination of delivery, receive and 
related payment obligations between the original parties to the 
contract and the replacement of such obligations with identical 
obligations between each party and FICC, currently does not occur until 
later in the clearing and settlement process than comparison. In GSD, 
novation currently occurs when subsequent ``netting output'' is issued 
to netting members (usually the day before settlement); in MBSD, 
novation currently occurs when subsequent ``pool netting output'' is 
issued to clearing members (usually the day before settlement).
    Because there is a legal distinction between the concept of 
``guarantee'' and ``novation'', and this legal distinction may have a 
bearing on how members calculate their capital requirement, FICC 
proposes to move the time of novation (i.e. the point that FICC becomes 
the legal counterparty) so that it occurs at the time of the trade 
guarantee.

[[Page 74791]]

Time of Novation--Proposed Changes
    FICC is proposing to revise the GSD Rules and MBSD Rules so that 
novation will occur at comparison for netting eligible transactions 
(for GSD) and SBO-Destined Trades (for MBSD). This means that, at the 
point of trade comparison, FICC will guarantee the settlement of the 
transactions (as it does today) and novate such transactions, becoming 
the legal counterparty to each submitting member with respect to such 
transactions.
    Under the proposal, in the GSD, all netting eligible transactions 
that compare in accordance with the GSD Rules will novate at the point 
of comparison.
    In the MBSD, only SBO-Destined Trades, all of which are included in 
the TBA Netting process and (pursuant to proposed Section 7 of Rule 8 
which is being added to reflect a current requirement and current 
practice) must be submitted to the Pool Netting process,\6\ will novate 
at the point of comparison. Other types of transactions, including 
Trade-for-Trade Transactions \7\ and Specified Pool Trades,\8\ will 
continue to be guaranteed at comparison, as they are today, but FICC 
will not novate such transactions at comparison. Instead, such 
transactions will be treated as they are today: (1) To the extent 
Trade-for-Trade Transactions are included in the Pool Netting 
process,\9\ FICC will novate such Transactions once the Pool Netting 
\10\ process is completed and (2) Specified Pool Trades, which are not 
included in the TBA Netting process nor the Pool Netting process, are 
not novated today (they settle outside of FICC between the submitting 
counterparties) and will continue to not be novated under the 
proposal.\11\
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    \6\ The MBSD conducts two separate netting processes to 
consolidate settlement obligations and reduce the number of 
securities and the amount of cash that must be exchanged to settle 
transactions. TBA Netting is the process used to net SBO-Destined 
Trades that have compared in accordance to the MBSD Rules. TBA 
Netting is conducted before particular securities (``pools'') are 
identified to the SBO-Destined Trades. Pool Netting, which occurs 
after MBSD clearing members allocate pools to transactions, is the 
process used to aggregate and match offsetting pool delivery 
obligations submitted by MBSD clearing members to satisfy their 
settlement obligations. MBSD Rules 6 and 7. An MBSD clearing member 
may submit a transaction to Pool Netting even if such transaction 
was not submitted for TBA Netting.
    \7\ The MBSD Rules define ``Trade-for-Trade Transaction'' as a 
TBA transaction submitted to FICC not intended for TBA Netting in 
accordance with the provisions of the Rules. MBSD Rule 1, 
Definitions.
    \8\ The MBSD Rules define ``Specified Pool Trades'' as a trade 
in which all required pool data, including the pool number to be 
delivered on the contractual settlement date, are agreed upon by the 
clearing member at the time of execution. MBSD Rule 1, Definitions.
    \9\ Trade-for-Trade Transactions that are not submitted to the 
Pool Netting process must be settled outside of FICC between the 
submitting counterparties.
    \10\ As noted in SR-FICC-2008-01, a clearing member that has a 
trade that was matched with a stipulation (``Stip Trade'') would not 
submit such trade for Pool Netting. Pool Netting creates delivery 
obligations based off the net position of clearing members without 
regard to the original counterparty relationship. With a Stip Trade, 
the buyer and seller will want to ensure the receipt or delivery, as 
applicable, is maintained between themselves to ensure that the 
other party adheres to the stipulated terms. Securities Exchange Act 
Release No. 34-66550 (March 9, 2012), 77 FR 15155 (March 14, 2014) 
(SR-FICC-2008-01). Therefore, as with the current process, FICC does 
not expect to novate Stip Trades.
    \11\ MBSD Rule 10.
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    In order to effectuate this change in the time of novation as 
described above, the proposed rule change adds language to the GSD 
Rules (new Section 8 of Rule 5) and MBSD Rules (new Section 13 of Rule 
5) that states that FICC will guarantee and now novate applicable 
transactions upon comparison, subject to the parameters set forth in 
the proposed rule change. Conforming changes are proposed to be made to 
GSD Rule 3A, GSD Rule 6B, GSD Rule 6C, GSD Rule 11, GSD Rule 14, GSD 
Rule 20, GSD Rule 21A, Rule 22B, MBSD Rule 6, MBSD Rule 8, MBSD Rule 
10, MBSD Rule 11 and MBSD Rule 17A. In addition, the definition of 
``novation'' in both Divisions' Rule 1 is clarified to reflect that 
delivery, receive and related payment obligations between members will 
be terminated and replaced with identical obligations to and from FICC 
at the point in time that the trade is compared in accordance with the 
applicable Rules.
    The proposed rule change also addresses the fact that in the MBSD 
today certain settlement obligations continue to be settled between the 
settlement counterparties and not vis-[agrave]-vis FICC; these are the 
obligations that were not included in the Pool Netting process pursuant 
to MBSD Rule 8 (Pool Netting). The present proposal does not change 
this existing process. However, because the present proposal introduces 
legal novation at comparison for certain MBSD transactions, the 
proposed rule changes (in Rule 5, Section 2) make clear that the 
settlement counterparties continue to settle with each other but do so 
on behalf of FICC for those transactions that are novated to FICC.
    The proposal to move the time of novation as noted above does not 
change FICC's risk. Because FICC currently guarantees eligible trades 
upon comparison, FICC already assumes responsibility for settling such 
trades at the point of comparison. Adding legal novation at the point 
of comparison does not increase FICC's obligations and therefore, does 
not require any changes to FICC's risk management processes. In 
addition, FICC is not proposing to change its operational processes.
Proposed Formalization of Existing Processes
    In addition, the proposed rule changes formalize the following 
existing processes:
     As noted above, Section 7 of MBSD Rule 8 is added to state 
that all SBOO Trades and SBON Trades (i.e., SBO-Destined Trades after 
such trades have gone through TBA Netting) must be submitted to Pool 
Netting.
     MBSD Rules 15 and 16 are revised to clarify that, upon the 
insolvency of a member's original counterparty to a compared trade, 
such member cannot unilaterally modify its obligations with respect to 
transactions originally entered with such counterparty. In the MBSD 
Rules, because certain trades are not novated and will continue to not 
be novated under this proposal, FICC proposes to make clear that upon a 
cease to act with respect to a member by FICC, the solvent member to a 
compared trade with the defaulting member may not unilaterally act with 
respect to such trade.
    These changes are not intended to change FICC's current operations 
or processes.
Proposed Clarification To Reflect Current Processes
    In addition, the proposed rule changes clarify certain Rules to 
reflect actual practices and requirements as follows:
     MBSD Rule 17 is revised to clarify that when FICC ceases 
to act for a member, FICC may dispose of such member's Trade-for-Trade 
Transactions based upon their generic terms. These changes are not 
intended to change FICC's current operations or processes.
Specific Proposed Changes
    With respect to the GSD Rules, the proposed changes are as follows:
     The term ``Interactive Submission Method'' is revised to 
correct a typographical error.
     For clean-up and clarification purposes, the term 
``Novation'' is revised to reflect that delivery, receive and related 
payment obligations between GSD netting members will be terminated and 
replaced with identical obligations to and from FICC at the point in 
time that the trade is compared in accordance to the GSD Rules.
     Rule 3A, Sections 2(i), 7(a), 7(d), 14(c), and 16(a) are 
revised to reflect

[[Page 74792]]

that trades submitted by Sponsored Members \12\ will novate to FICC at 
the time that such trades receive FICC's guaranty of settlement.
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    \12\ The term ``Sponsored Member'' means any Person that has 
been approved by the Corporation to be sponsored into membership by 
a Sponsoring member pursuant to Rule 3A. GSD Rule 1, Definitions.
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     Rule 5 is revised to include a new Section 8 entitled 
``Novation and Guaranty of Compared Trades'' which provides for the 
following: (1) Compared trades that meet the requirements of the GSD 
Rules and were entered into in good faith will novate to FICC and FICC 
will guarantee the settlement for each such compared trade; (2) if a 
compared trade becomes uncompared or cancelled, FICC's guaranty and 
novation of such trade will be reversed and cancelled; (3) if a 
compared trade is modified after novation and such modification does 
not cause the trade to become uncompared, then the modification will 
cause a corresponding modification to the deliver, receive and related 
payment obligations between the GSD netting members and FICC; (4) at 
the time that a compared trade becomes novated, such trade ceases to be 
bound by any bilateral agreement between the parties with respect to 
the deliver, receive and related payment obligations, however, if the 
trade becomes uncompared or is cancelled, such trade shall be governed 
by the bilateral agreement that governed the trade prior to the 
novation; and (5) if a right of substitution was established by the 
parties to a repurchase transaction, such right will continue and be 
recognized by FICC after novation.
     Rule 6B, Section 4 deletes the provision which states that 
an uncompared trade will cease to be guaranteed by FICC because this 
concept is now covered in Rule 5, Section 8.
     Rule 6C, Section 10 deletes the provision which states 
that a locked-in trade that becomes uncompared will cease to be 
guaranteed by FICC because this concept is now covered in Rule 5, 
Section 8.
     Rule 6C, Section 11 deletes the provision which states 
that a netting eligible auction purchase that becomes uncompared will 
cease to be guaranteed by FICC because this concept is now covered in 
Rule 5, Section 8.
     Rule 6C, Section 12 deletes the provision which states 
that a GCF Repo Transaction \13\ that becomes uncompared will cease to 
be guaranteed by FICC because this concept is now covered in Rule 5, 
Section 8.
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    \13\ Pursuant to the GSD Rules, the term ``GCF Repo 
Transaction'' means a Repo Transaction involving generic CUSIP 
numbers the data on which are submitted to FICC on a locked-in-trade 
basis pursuant to the provisions of Rule 6C, for netting and 
settlement by FICC pursuant to the provisions of Rule 20. GSD Rule 
1, Definitions.
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     Rule 11, Section 6 is revised to reflect that (1) novation 
occurs at comparison; and (2) at netting, the previously novated 
deliver, receive and related payment obligations between the netting 
members and FICC will be terminated and replaced by net deliver, 
receive and related payment obligations as listed in the report made 
available by FICC to the netting members.
     Rule 11B is revised to correct typographical errors.
     Rule 14, Section 3 is revised to reflect that (1) novation 
occurs at comparison; and (2) at netting, the previously novated 
deliver, receive and related payment obligations between the netting 
members and FICC created by Forward Trades will be terminated and 
replaced by net deliver, receive and related payment obligations as 
listed in the report made available by FICC to the netting members.
     Rule 20, Section 5 is revised to reflect that with respect 
to GCF Repo[supreg] transactions, novation will occur at comparison in 
accordance with Rule 5, Section 8.
     Rule 21A is revised to incorporate the concept of 
novation.
     Rule 22B included a sentence providing that upon FICC's 
default, trades that had compared would be deemed novated. Because the 
GSD Rules are being revised to reflect that novation occurs at 
comparison, this sentence is no longer necessary. As a result, it is 
being deleted in connection with this proposal.
    With respect to the MBSD Rules, the proposed changes are as 
follows:
     For clean-up and clarification purposes, the term 
``Novation'' is revised to reflect that delivery, receive and related 
payment obligations between MBSD clearing members will be terminated 
and replaced with identical obligations to and from FICC in accordance 
with the MBSD Rules.
     The term ``SBO Contra-Side Member'' is revised to correct 
a typographical error.
     The term ``SBO Net-Out Position'' is revised to clarify 
that the term is used in connection with offsetting purchase and sale 
SBO-Destined Trades that were originally between different clearing 
members (but, once novated at comparison, are between such members and 
FICC).
     The term ``SBO Net-Out Unit'' is being deleted because 
this term is not used in the MBSD Rules.
     The term ``SBO Netted Position'' is revised to clarify 
that the term is used in connection with offsetting purchase and sale 
SBO-Destined Trades that were originally between the same clearing 
members (but, once novated at comparison, are between such members and 
FICC).
     The term ``SBON Trade'' is revised to correct a 
typographical error.
     The term ``SBOO Trade'' is revised to correct a 
typographical error.
     Rule 5, Section 1 is revised to correct a typographical 
error.
     Rule 5, Section 2 is revised to reflect that (1) 
transactions that are not novated pursuant to this proposal (pursuant 
to new Section 13 of Rule 5 discussed below) and not netted and novated 
through the Pool Netting system will be settled directly between the 
Members; and (2) transactions novated pursuant to new Section 13 of 
Rule 5 and not thereafter netted through the Pool Netting system 
pursuant to Rule 8 will settle between Members on behalf of FICC.
     Rule 5, Section 12 is revised to correct a typographical 
error.
     Rule 5 includes a new Section 13 entitled ``Novation'' 
which states the following: (1) FICC will guarantee and novate SBO-
Destined Trades that meet the requirement of the MBSD Rules and have 
been entered into in good faith; (2) FICC will not novate SBO-Destined 
Trades that are partially compared; (3) to the extent a partially 
compared SBO-Destined Trade becomes fully compared, FICC will novate 
such trade; (4) if a trade becomes uncompared or cancelled, the 
guaranty and novation of such transaction shall be reversed; (5) at the 
time that an SBO-Destined Trade is novated to FICC, such trade shall 
cease to be bound by any bilateral agreement between the parties to the 
trade with respect to the deliver, receive and related payment 
obligations, however, if the trade becomes uncompared or is cancelled, 
such trade shall be governed by the bilateral agreement that governs 
such trade prior to the novation.
     Rule 6, Sections 1(a), (b) and (c) are revised to take 
into account the fact that SBO-Destined Trades are novated upon 
comparison and are, therefore, legally between MBSD Clearing Members 
and FICC after comparison.
     Rule 8, Section 6 is revised to take into account the fact 
that SBO-Destined Trades are novated upon comparison and are, 
therefore, legally between MBSD Clearing Members and FICC after 
comparison.
     Rule 8 includes a new Section 7 which is entitled 
``Obligations to Submit SBOO and SBON Trades to Pool Netting''. This 
Section reflects a current

[[Page 74793]]

requirement and current practice that clearing members are required to 
submit all SBOO trades and SBON trades (i.e., SBO-Destined Trades after 
such trades have gone through TBA Netting) for inclusion in the Pool 
Netting system.
     Rule 10, Section 2 is revised to clarify that clearing 
members are required to submit a notification of settlement for SBO 
Trades that are novated at comparison and processed through the TBA 
Netting system but that are not thereafter submitted to the Pool 
Netting system.
     Rule 11, Section 1 is revised to take into account the 
fact that SBO Trades are novated upon comparison and are, therefore, 
legally between MBSD Clearing Members and FICC after comparison.
     Rule 15 is revised to clarify the current process with 
respect to transactions submitted to and compared by FICC, whereby in 
the event a member's original counterparty goes insolvent, such member 
cannot unilaterally modify its obligations with respect to transactions 
originally entered with such counterparty.
     Rule 16 is revised to clarify the current process with 
respect to transactions submitted to and compared by FICC, whereby in 
the event a member's original counterparty goes insolvent, such member 
cannot unilaterally modify its obligations with respect to transactions 
originally entered with such counterparty.
     Rule 17, Section 2 is revised to clarify the current 
process, whereby when FICC ceases to act for a clearing member, such 
member's Trade-for-Trade Transactions \14\ may be disposed of based 
upon their generic terms such as agency, product, coupon rate and 
maturity. The other changes are typographical corrections.
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    \14\ Including ``stip'' trades and any other TBA transactions 
not intended for TBA Netting.
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     Rule 17A is revised to clarify that in the event of FICC's 
default, novation is deemed to have occurred with respect to all 
transactions at the time such transactions are compared, whether or not 
such transactions are SBO-Destined Trades that would otherwise have 
been novated at comparison. The other changes to this provision are 
grammatical corrections.
2. Statutory Basis
    The proposed rule changes are consistent with the requirements of 
Section 17A(b)(3)(F) of the Securities Exchange Act of 1934, as amended 
(the ``Act''), and the rules and regulations thereunder, because by 
moving novation for trades that enter GSD's Netting system and MBSD's 
TBA Netting system, they clarify FICC's responsibilities to its members 
and remove potential uncertainty that previously existed due to a 
mismatch between the time of guaranty and the time of novation. Such 
clarity facilitates the prompt and accurate clearance and settlement of 
securities transactions and assures the safeguarding of securities and 
funds which are in the custody or control of FICC or for which it is 
responsible.
    As noted above, FICC guarantees (and is therefore responsible for) 
the settlement of trades upon comparison. Nonetheless, currently FICC 
does not become the members' legal counterparty with respect to 
compared trades until the relevant netting output is issued to such 
members (usually the day before settlement). FICC understands that as 
members (or their advisors) analyze member netting rights with respect 
to transactions cleared through FICC for purposes of regulatory capital 
requirements, it is beneficial for members that FICC become the legal 
counterparty at the point its guarantee attaches.

B. Clearing Agency's Statement on Burden on Competition

    FICC does not believe that the proposed rule change will have any 
impact, or impose any burden, on competition that is not necessary or 
appropriate. The proposed changes will apply to eligible transactions 
that are submitted to GSD's Netting system and MBSD's TBA Netting 
system.

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 yet 
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 rule-comment@sec.gov. Please include File 
Number SR-FICC-2014-11 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-2014-11. 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 Web site (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 Web site viewing and 
copying 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 its 
Web site at http://www.dtcc.com/~/media/Files/Downloads/legal/rule-
filings/2014/ficc/SR-FICC-2014-11.pdf. All comments received will be 
posted without change; the Commission does not edit personal 
identifying information from submissions. You should submit only 
information that you wish to make available publicly. All submissions 
should refer to File Number SR-FICC-2014-11 and should be submitted on 
or before January 6, 2015.

[[Page 74794]]

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\15\
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    \15\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2014-29361 Filed 12-15-14; 8:45 am]
BILLING CODE 8011-01-P