Document ID: SEC-2013-0495-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Financial Industry Regulatory Authority, Inc.
Posted Date: 2013-03-14T04:00Z

[Federal Register Volume 78, Number 50 (Thursday, March 14, 2013)]
[Notices]
[Pages 16341-16344]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2013-05894]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-69089; File No. SR-FINRA-2013-017]

Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing and Order Granting Accelerated 
Approval of Proposed Rule Change Relating to FINRA Rule 4240 (Margin 
Requirements for Credit Default Swaps)

March 8, 2013.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'' or ``Exchange Act'') \1\ and Rule 19b-4 thereunder,\2\ notice 
is hereby given that on March 8, 2013, Financial Industry Regulatory 
Authority, Inc. (``FINRA'') filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') the proposed rule change as 
described in Items I and II below, which Items substantially have been 
prepared by FINRA. The Commission is publishing this notice to solicit 
comments on the proposed rule change from interested persons and to 
approve the proposed rule change on an accelerated basis.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    FINRA is proposing to amend FINRA Rule 4240 to permit a member to 
require, with respect to credit default swaps that are security-based 
swaps (``CDS'') held in an account subject to an approved portfolio 
margining program, the amount of margin determined by the member's 
portfolio margin methodology, subject to specified requirements. In 
addition, the proposed rule change makes other revisions to FINRA Rule 
4240 to clarify and update the rule.
    The text of the proposed rule change is available on FINRA's Web 
site at http://www.finra.org, at the principal office of FINRA and at 
the Commission's Public Reference Room.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA 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 V below. FINRA has prepared summaries, set forth in sections A, B, 
and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
Portfolio Margining
    On July 21, 2010, President Barack Obama signed the Dodd-Frank Wall 
Street Reform and Consumer Protection Act (``Dodd-Frank Act'') into 
law.\3\ Title VII of the Dodd-Frank Act (``Title VII'') establishes a 
regulatory regime applicable to the over-the-counter derivatives 
markets. Title VII provides the SEC and the CFTC with tools to oversee 
these markets.\4\ Under the comprehensive framework established in 
Title VII, the SEC is given regulatory authority over security-based 
swaps, and the CFTC is given regulatory authority over swaps.\5\ The 
Dodd-Frank

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Act contemplates certain self-regulatory organization responsibilities 
in this area as well.\6\ Section 713(a) of the Dodd-Frank Act amended 
the Exchange Act to generally permit a broker-dealer that is also 
registered as a futures commission merchant (``FCM'') under the CEA to 
hold cash and securities in a portfolio margining account that is 
carried as a futures account, pursuant to a portfolio margining program 
that is approved by the CFTC. Reciprocally, Section 713(b) of the Dodd-
Frank Act amended the CEA to generally permit an FCM that is also 
registered as a broker-dealer to hold futures contracts and options on 
futures contracts (as well as money, securities or other property 
received from a customer to margin, guarantee or secure such contracts, 
or accruing to a customer as a result of such contracts) in a portfolio 
margining account that is carried as a securities account pursuant to a 
portfolio margining program that is approved by the SEC.
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    \3\ Public Law 111-203, 124 Stat. 1376 (2010).
    \4\ Subtitle A of Title VII creates and relates to the 
regulatory regime for swaps, while Subtitle B of Title VII creates 
and relates to the regulatory regime for security-based swaps.
    \5\ See Section 3(a)(68) of the Exchange Act, 15 U.S.C. 
78c(a)(68) (as added by Section 761(a)(6) of the Dodd-Frank Act) and 
Section 1a(47) of the Commodity Exchange Act (``CEA''), 7 U.S.C. 
1a(47) (as added by Section 721(a) of the Dodd-Frank Act) for the 
definitions of security-based swap and swap, respectively. See also 
Exchange Act Release No. 67453 (July 18, 2012), 77 FR 48207 (August 
13, 2012) (Joint Final Rule with the CFTC: Further Definition of 
``Swap,'' ``Security-Based Swap,'' and ``Security-Based Swap 
Agreement;'' Mixed Swaps; Security-Based Swap Agreement 
Recordkeeping), further defining the terms swap and security-based 
swap.
    \6\ See, e.g., Sections 712 and 763 of the Dodd-Frank Act.
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    The SEC and the CFTC have recently acted to grant specific 
exemptions to facilitate portfolio margining of swaps and security-
based swaps.\7\ To help facilitate portfolio margining pursuant to this 
regulatory relief, FINRA proposes to amend FINRA Rule 4240, which 
implements an interim pilot program (the ``Interim Pilot Program'') 
with respect to margin requirements for certain transactions in CDS.\8\ 
Specifically, proposed new FINRA Rule 4240(c)(3) provides that, in lieu 
of the requirements set forth in paragraphs (c)(1) and (c)(2) of the 
rule,\9\ a member may require, with respect to CDS held in an account 
subject to an approved portfolio margining program, the amount of 
margin determined by the member's portfolio margin methodology, 
provided that, prior to margining CDS on a portfolio margin basis, the 
member shall notify FINRA in advance in writing of its intent to 
operate under the portfolio margin program.
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    \7\ See Exchange Act Release No. 68433 (Order Granting 
Conditional Exemptions Under the Securities Exchange Act of 1934 in 
Connection With Portfolio Margining of Swaps and Security-Based 
Swaps) (December 14, 2012), 77 FR 75211 (Dec. 19, 2012); see also 
CFTC Order, Treatment of Funds Held in Connection with Clearing by 
ICE Clear Credit of Credit Default Swaps (January 14, 2013) 
available at: http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/icecreditclearorder011413.pdf.
    \8\ On July 13, 2012, FINRA extended the implementation of the 
Interim Pilot Program to July 17, 2013. See Exchange Act Release No. 
67449 (July 17, 2012), 77 FR 43128 (July 23, 2012) (Notice of Filing 
and Immediate Effectiveness of Proposed Rule Change; File No. SR-
FINRA-2012-035).
    \9\ FINRA Rule 4240(c)(1) addresses transactions in CDS that 
make use of the central counterparty clearing facilities of a 
clearing agency using a margin methodology the use of which has been 
approved by FINRA as announced in a Regulatory Notice. FINRA Rule 
4240(c)(2) addresses transactions making use of facilities that do 
not use such a methodology, or that settle over-the-counter.
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Additional Amendments to FINRA Rule 4240
    FINRA proposes to amend the margin requirements set forth in 
paragraph (c)(2) and Supplementary Material .01 \10\ of FINRA Rule 4240 
to clarify that, in addition to requiring the applicable minimum margin 
(``initial margin''), a member must collect daily from each customer or 
broker-dealer counterparty an amount at least equal to the member's 
current exposure, as defined in Exchange Act Rule 15c3-1e(c)(4) 
(provided, however, that members not otherwise subject to Exchange Act 
Rule 15c3-1e are not required to take into account paragraph 
(c)(4)(v)(G) of such Rule),\11\ arising from the daily mark to market 
of the CDS (``variation margin''). FINRA notes that collection of 
variation margin has been implicitly required by the administration of 
Rule 4240; the amendments would be designed to make this variation 
margin requirement clear.
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    \10\ Supplementary Material .01 of FINRA Rule 4240 sets forth 
the rule's specific margin requirements.
    \11\ FINRA is similarly revising the reference to Exchange Act 
Rule 15c3-1e(c)(4) in paragraph (e) of Rule 4240. Specifically, as 
revised, the reference would read ``SEA Rule 15c3-1e(c)(4) 
(provided, however, that members not otherwise subject to SEA Rule 
15c3-1e are not required to take into account paragraph (c)(4)(v)(G) 
of such Rule).'' Under Exchange Act Rule 15c3-1e(c)(4)(v)(G), a 
broker-dealer, when calculating maximum potential exposure and 
current exposure to a counterparty, is permitted to take into 
account the fair market value of collateral pledged and held 
provided, in part, that the Commission has approved the broker's or 
dealer's use of a VaR model to calculate deductions for market risk 
for the type of collateral in accordance with Exchange Act Rule 
15c3-1e. FINRA believes that the proposed rule change is a useful 
clarification for members that do not operate pursuant to Exchange 
Act Rule 15c3-1e other than, for purposes of Rule 4240, to utilize 
the specified definitions under Exchange Act Rule 15c3-1e(c)(4).
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    FINRA proposes to amend the reference to ``largest maximum possible 
loss'' in paragraph (d)(8) of the rule by adding the phrase ``(that is, 
the notional amount of the CDS less the estimated recovery given 
default).'' FINRA believes that the proposed language, by providing 
members a reference point for computing the largest maximum possible 
loss pursuant to the rule, lessens the potential burdens from higher 
capital charges that could result absent the proposed language.
    FINRA proposes to clarify the first sentence of paragraph (a) of 
the rule and the first sentence of paragraph (c)(1) by removing the 
references to ``matching transactions'' and making other conforming 
edits so as to streamline the rule language. Also in the first sentence 
of paragraph (a), FINRA proposes to amend the phrase ``transactions in 
[CDS] executed by a member'' to read ``transactions in [CDS] held in an 
account at a member'' so as to clarify the rule's scope and conform 
with the remainder of the rule.
    Finally, FINRA proposes to amend paragraphs (c)(2) and (e) \12\ and 
Supplementary Material .01 of Rule 4240 by adding the phrase ``Unless 
otherwise permitted by FINRA in writing.'' FINRA anticipates that 
members may need more flexibility to prepare for and respond to 
regulatory requirements pursuant to the Dodd-Frank Act in connection 
with CDS. Accordingly, FINRA believes that this language will make the 
rule's administration more flexible and efficient, and facilitate the 
transition to such new requirements, by enabling FINRA staff to, for 
example, permit members, where appropriate, to take capital charges in 
lieu of collecting the margin required by the rule.
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    \12\ FINRA Rule 4240(e) addresses requirements with respect to 
concentrations.
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    The proposed rule change will become effective upon approval by the 
SEC. FINRA has requested the Commission to find good cause pursuant to 
Section 19(b)(2) of the Act \13\ for approving the proposed rule change 
prior to the 30th day after its publication in the Federal Register.
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    \13\ 15 U.S.C. 78s(b)(2).
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2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\14\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. FINRA believes that the proposed rule change will 
further the purposes of the Act by permitting a member to require, with 
respect to CDS held in an account subject to an approved portfolio 
margining program, the amount of margin determined by the

[[Page 16343]]

member's portfolio margin methodology, subject to specified 
requirements. The proposed rule change will clarify and update 
provisions of FINRA Rule 4240 with respect to margin requirements for 
CDS. These changes will facilitate members' compliance with the Act and 
help to stabilize the financial markets by requiring margin 
commensurate to the risks of the portfolio.
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    \14\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    FINRA does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act. FINRA believes that the 
proposed rule change with respect to FINRA Rule 4240(c)(3) would reduce 
burdens on all members with customers using margin on multiple products 
by permitting a member to require, with respect to CDS held in an 
account subject to an approved portfolio margining program, the amount 
of margin determined by the member's portfolio margin methodology, 
subject to specified requirements. With respect to the additional 
proposed amendments to FINRA Rule 4240, FINRA believes the proposed 
rule change will, by streamlining and clarifying the rule, facilitate 
the rule's orderly administration, thereby reducing burdens on members.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    Written comments were neither solicited nor received.

III. Commission's Findings

    After careful consideration of the proposed rule change, the 
Commission finds that the proposed rule change is consistent with the 
requirements of the Act.\15\ In particular, the Commission finds that 
the proposed rule change is consistent with Section 15A(b)(6) of the 
Exchange Act, which requires, among other things, that the rules of a 
national securities association be designed to prevent fraudulent and 
manipulative acts and practices, to promote just and equitable 
principles of trade, to remove impediments to and perfect the mechanism 
of a free and open market and a national market system, and, in 
general, to protect investors and the public interest.
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    \15\ In approving this proposed rule change, the Commission has 
considered the proposed rule's impact on efficiency, competition, 
and capital formation. See 15 U.S.C. 78c(f).
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    The Commission finds that the proposed rule change will further the 
purposes of the Exchange Act by permitting a FINRA member to require 
from a CDS customer, with respect to CDS held in an account subject to 
an approved portfolio margining program, the amount of margin 
determined by the member's portfolio margin methodology, subject to 
specified requirements. More specifically, the proposed rule change 
will facilitate portfolio margining treatment for customer-related 
positions in cleared CDS that are security-based swaps for FINRA member 
firms under an approved portfolio margining program. Currently, the 
only portfolio margining program approved by the Commission, under 
which FINRA member firms may operate, is the program established by the 
conditional exemptive relief granted by the Commission, on December 14, 
2012.\16\ The Commission's Order provides for conditional exemptive 
relief from certain provisions of the Exchange Act to allow any dually-
registered clearing agency/derivatives clearing organization and its 
members that are broker-dealer/FCMs to, among other things, (1) hold 
customer assets used to margin, secure, or guarantee customer positions 
consisting of cleared CDS, which include both swaps and security-based 
swaps, in a commingled customer account subject to Section 4d(f) of the 
CEA; and (2) calculate margin for this commingled customer account on a 
portfolio margin basis. Absent such relief, CDS that are swaps would be 
required to be held in a Section 4d(f) account under the CEA, while CDS 
that are security-based swaps would be required to be held separately 
in a securities account governed by the Commission's customer 
protection requirements.
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    \16\ See supra note 7.
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    The proposed rule change also will clarify and update provisions of 
FINRA Rule 4240 with respect to margin requirements for CDS. These 
changes will facilitate FINRA member firms' compliance with the 
Exchange Act and help to stabilize the financial markets by requiring 
margin commensurate to the risks of the portfolio.
    The Commission does not believe that the proposed rule change will 
result in any burden on competition that is not necessary or 
appropriate in furtherance of the purposes of the Act. The proposed 
rule change with respect to FINRA Rule 4240(c)(3) will reduce burdens 
on FINRA member firms by permitting them to operate under an approved 
portfolio margining program if the firm notifies FINRA in advance in 
writing. Under such a portfolio margining arrangement, FINRA member 
firms may be able to maintain reduced levels of margin that are 
commensurate with the risks of the portfolio based on correlations in a 
member's cleared CDS positions consisting of both swaps and security-
based swaps. With respect to the additional proposed amendments to 
FINRA Rule 4240, the proposed rule change will, by streamlining and 
clarifying the rule, facilitate Rule 4240's orderly administration, 
thereby reducing burdens on FINRA member firms.

IV. Accelerated Approval

    The Commission finds good cause, pursuant to Rule 19(b)(2) \17\ of 
the Act, for approving the proposed rule change prior to the 30th day 
after the date of publication in the Federal Register. On March 11, 
2013, the CFTC's mandatory clearing requirement for certain index CDS 
will begin to take effect.\18\ The proposed rule change facilitates 
portfolio margining programs for CDS that are required to be cleared 
beginning on March 11, 2013, under the CFTC's clearing mandate, by 
permitting a FINRA member, under FINRA Rule 4240, to require from a CDS 
customer, with respect to CDS that are security-based swaps held in an 
account subject to an approved portfolio margining program, the amount 
of margin determined by the member's portfolio margin methodology, 
subject to specified requirements.\19\ Because a CDS customer, subject 
to the CFTC's clearing mandate,\20\ would need to commingle swaps and 
security-based swaps in a single account to receive portfolio margin 
benefits, the Commission believes that accelerated approval of the 
proposed rule change is necessary to prevent the potential disruption 
of customer portfolio CDS activities. In addition, accelerated approval 
will help ensure that FINRA member firms may participate in an approved 
portfolio margining program without unnecessary delay. Accordingly, the 
Commission finds that good cause exists to approve the proposed rule 
change on an accelerated basis.
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    \17\ 15 U.S.C. 78s(b)(2).
    \18\ CFTC, ``Clearing Requirement Determination under Section 
2(h) of the CEA'', 77 FR 74284 (December 13, 2012), which is a final 
rule establishing the first mandatory clearing compliance date of 
March 11, 2013, for certain classes of CDS and interest rate swaps.
    \19\ Id.; see also supra note 7.
    \20\ See supra note 30.

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V. 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-comments@sec.gov. Please include 
File Number SR-FINRA-2013-017 on the subject line.

Paper Comments

     Send paper comments in triplicate to Elizabeth M. Murphy, 
Secretary, Securities and Exchange Commission, 100 F Street NE., 
Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2013-017. 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 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 10 
a.m. and 3 p.m. Copies of such filing also will be available for 
inspection and copying at the principal office of FINRA. 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-FINRA-2013-017 and should be 
submitted on or before April 4, 2013.

VI. Conclusion

    It is therefore ordered, pursuant to Section 19(b)(2) \21\ of the 
Act, that the proposed rule change (SR-FINRA-2013-017) be and hereby is 
approved on an accelerated basis.
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    \21\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\22\
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    \22\ See 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2013-05894 Filed 3-13-13; 8:45 am]
BILLING CODE 8011-01-P