[Federal Register Volume 86, Number 212 (Friday, November 5, 2021)]
[Notices]
[Pages 61357-61369]
[FR Doc No: 2021-24170]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-93501; File No. S7-13-12]

Order Granting Conditional Exemptions Under the Securities
Exchange Act of 1934 in Connection With the Portfolio Margining of
Cleared Swaps and Security-Based Swaps That Are Credit Default Swaps

November 1, 2021.
AGENCY: Securities and Exchange Commission (``SEC'' or ``Commission'').

ACTION: Exemptive order.

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SUMMARY: The Commission is granting exemptive relief, subject to
certain conditions, from compliance with certain provisions of the
Securities Exchange Act of 1934 in connection with a program to
portfolio margin cleared swaps customer and affiliate positions in
cleared credit default swaps that are swaps and security-based swaps in
a segregated account established and maintained in accordance with
Section 4d(f) of the Commodity Exchange Act (in the case of a cleared
swaps customer) or a cleared swaps proprietary account (in the case of
an affiliate). This exemptive relief supersedes and replaces the

Commission's Order Granting Conditional Exemptions under the Securities
Exchange Act of 1934 in Connection with Portfolio Margining of Swaps
and Security-based Swaps issued in December 2012.

DATES: This order is effective November 1, 2021.

FOR FURTHER INFORMATION CONTACT: Michael A. Macchiaroli, Associate
Director, at<PHONE_NUMBER>; Thomas K. McGowan, Associate Director, at
(202) 551-5521; Randall W. Roy, Deputy Associate Director, at (202)
551-5522; Raymond Lombardo, Assistant Director, at<PHONE_NUMBER>; or
Sheila Dombal Swartz, Senior Special Counsel, at<PHONE_NUMBER>,
Division of Trading and Markets, Securities and Exchange Commission,
100 F Street NE, Washington, DC 20549-7010.

I. Introduction

    The Commission, by order, is granting conditional exemptive relief
to SEC-registered clearing agencies also registered with the Commodity
Futures Trading Commission (``CFTC'') as derivative clearing
organizations (``clearing agency/DCOs'') and SEC-registered broker-
dealers also registered with the CFTC as futures commission merchants
(``BD/FCMs''). This order (``2021 Final Order'') exempts these entities
from compliance with certain provisions of the Securities Exchange Act
of 1934 (``Exchange Act'') in connection with a program to portfolio
margin cleared swaps customer and affiliate positions in cleared
security-based swaps and swaps that are credit default swaps (``CDS'')
in a segregated account established and maintained in accordance with
Section 4d(f) of the Commodity Exchange Act (``CEA'') in the case of a
cleared swaps customer (``CFTC cleared swaps customer account'') or a
cleared swaps proprietary account in the case of an affiliate (``CFTC
cleared swaps proprietary account'') (each a ``CFTC cleared swaps
account''), and to calculate margin requirements on a portfolio basis.
    The 2021 Final Order supersedes and replaces the Commission's
December 2012 order providing similar relief (``2012 Order''), and
modifies certain of its conditions, as discussed in more detail
below.\1\ In particular, the 2021 Final Order eliminates conditions
(a)(1) and (a)(2) in the 2012 Order pertaining to the exemptions for
clearing agency/DCOs.\2\ The requirements to adhere to the 2012 Order's
conditions were designed to be triggered on the compliance date for the
final capital, margin, and segregation requirements for security-based
swap dealers (``SBSDs''): October 6, 2021. Conditions (a)(1) and (a)(2)
in the 2012 Order were intended to provide an option for security-based
swap customers to portfolio margin cleared security-based swaps and
swaps that are CDS (``cleared CDS'') in a security-based swap account
in accordance with Section 3E of the Exchange Act (``SEC SBS account'')
as an alternative to a CFTC cleared swaps account.\3\
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    \1\ Order Granting Conditional Exemptions under the Securities
Exchange Act of 1934 in Connection with Portfolio Margining of Swaps
and Security-based Swaps, Exchange Act Release No. 68433 (Dec. 12,
2012) 77 FR 75211 (Dec. 19, 2012).
    \2\ See 2012 Order, 77 FR 75219-20.
    \3\ The Commission has adopted capital, margin, and segregation
requirements under the Exchange Act for security-based swaps dealers
(``SBSDs''). See Capital, Margin, and Segregation Requirements for
Security-Based Swap Dealers and Major Security-Based Swap
Participants and Capital and Segregation Requirements for Broker-
Dealers, Exchange Act Release No. 86175 (June 21, 2019), 84 FR
43872, 43956-57 (Aug. 22, 2019) (``Capital, Margin, and Segregation
Adopting Release'').
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    The 2021 Final Order also modifies the conditions in paragraphs
(b)(1)(ii) and (2)(ii) of the 2012 Order requiring subordination
agreements. The modifications provide that the scope of the
subordination only extends to money, securities, or other property held
in the subordinating person's CFTC cleared customer or proprietary
account. The modifications also provide that the person need not
subordinate claims to money, securities, or other property held in the
subordinating person's CFTC cleared customer or proprietary account to
the claims of general creditors.
    In addition, the 2021 Final Order eliminates condition (b)(3) in
the 2012 Order, which required approval of a BD/FCM's margin
methodology by the Commission or Commission staff. Instead, under the
2021 Final Order, a BD/FCM must have an internal risk management
program that has been approved in advance by the Commission or the
Commission staff. Further, under the 2021 Final Order, the internal
risk management program must have certain standards drawn from the
letters the staff of the Division of Trading and Markets (``Division
staff'') issued to BD/FCMs to approve their margin methodologies
pursuant to the 2012 Order.\4\ These staff letters will be withdrawn.
The 2021 Final Order provides that any BD/FCM that received a staff
letter approving its margin methodology prior to the issuance of the
2021 Final Order is deemed to have an approved internal risk management
program for the purposes of the 2021 Final Order.
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    \4\ The staff letters are available at https://www.sec.gov/rules/exorders/exordersarchive/exorders2012.shtml.
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II. Background

A. 2012 Order

    On December 14, 2012, the Commission issued the 2012 Order to
provide relief so that clearing agency/DCOs and BD/FCMs could offer
customers portfolio margining of cleared CDS in a CFTC cleared swaps
account (``CDS portfolio margin program'').\5\ The 2012 Order exempts a
clearing agency/DCO from Sections 3E(b), 3E(d) and 3E(e) of the
Exchange Act and any rules thereunder, solely to perform the functions
of a clearing agency/DCO under the CDS portfolio margin program,
subject to five conditions.\6\ It further exempts a BD/FCM from
Sections 3E(b), 3E(d), 3E(e), and 15(c)(3) of the Exchange Act, and
Rule 15c3-3, as well as from any requirement to treat an affiliate (as
defined in association with the ``cleared swaps proprietary account''
definition in CFTC Rule 22.1) as a customer for purposes of Rules 8c-1
and 15c2-1, subject to six conditions.\7\ The conditions applicable to
clearing agency/DCOs and BD/FCMs were designed to: (1) Protect money,
securities, and property of security-based swap customers; (2) address
certain differences in the statutory requirements of the Exchange Act
and

the CEA; and (3) promote appropriate risk management and disclosure.\8\
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    \5\ The CFTC also issued a companion exemptive order on January
13, 2013 permitting ICE Clear Credit and its BD/FCM clearing members
to provide for the portfolio margining of cleared swaps and
security-based swaps that are CDS. See CFTC, Order, Treatment of
Funds Held in Connection with Clearing by ICE Clear Credit of Credit
Default Swaps (Jan. 13, 2013) (``2013 CFTC Portfolio Margin
Order''), available at<EMAIL_ADDRESS>See also CFTC, Order, Treatment of
Funds Held in Connection with Clearing by ICE Clear Europe of Credit
Default Swaps (Apr. 9, 2013), available at<EMAIL_ADDRESS>    \6\ See 2012 Order, 77 FR 75215-16 (discussing five clearing
agency/DCO conditions).
    \7\ See 2012 Order, 77 FR 75213-14 (discussing these sections of
the Exchange Act and the rules), 75216-19 (discussing the
conditions), and 75220-21 (setting forth the conditions). See also
Order Granting Exemptions from Sections 8 and 15(a)(1) of the
Securities Exchange Act of 1934 and Rules 3b-13(b)(2), 8c-1, 10b-10,
15a-1(c), 15a-1(d) and 15c2-1 Thereunder in Connection with the
Revision of the Definition of ``Security'' to Encompass Security-
Based Swaps and Determining the Expiration Date for a Temporary
Exemption from Section 29(b) of the Securities Exchange Act of 1934
in Connection with Registration of Security-Based Swap Dealers and
Major Security-Based Swap Participants, Exchange Act Release No.
90308 (Nov. 2, 2020), 85 FR 70667 (Nov. 5, 2020) (providing
exemptions from certain rules including Rules 8c-1 and 15c-1 in
connection with the revision of the Exchange Act definition of
``security'' to encompass security-based swaps).
    \8\ See 2012 Order, 77 FR 75214. The 2012 Order also sought
comment on all aspects of the exemptions it provided. 77 FR 75219.
Letters responding to this request for comment are available at
https://www.sec.gov/comments/s7-13-12/s71312.shtml.
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B. Division Staff Letters

    On March 8, 2013, the Division staff issued temporary conditional
approval letters to seven BD/FCMs pursuant to condition (b)(3) in the
2012 Order \9\ permitting them to participate in the CDS portfolio
margin program, subject to certain conditions (the ``March 8, 2013
letters'').\10\ The conditions included a requirement to collect
initial margin based on a multiplier of the clearing agency/DCO margin
requirement or to take a 100% capital charge for the difference.
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    \9\ See 2012 Order, 77 FR 75220 (providing that BD/FCM must
require minimum margin levels with respect to any customer
transaction in a program to commingle and portfolio margin CDS at
least equal to the amount determined using a margin methodology
established and maintained by the BD/FCM that has been approved by
the Commission or the Commission staff).
    \10\ The March 8, 2013 letters and other staff letters to the
BD/FCMs discussed in this 2021 Final Order are available at: https://www.sec.gov/rules/exorders/exordersarchive/exorders2012.shtml.
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    On June 7, 2013, the Division staff issued updated temporary
conditional letters to the seven BD/FCMs that received the March 8,
2013 letters, and to one additional BD/FCM, setting forth revised
conditions for participation in the CDS portfolio margin program (``the
June 7, 2013 letters''). The relief given by the June 7, 2013 letters
was conditioned on the BD/FCMs implementing a margin regime and
establishing minimum risk management standards by December 7, 2013. On
December 6, 2013, the Division staff issued letters to the BD/FCMs
extending the December 7, 2013 date to January 31, 2014. On January 31,
2014, the Division staff issued letters to the eight BD/FCMs
permanently approving their margin methodologies, subject to the
conditions in the June 7, 2013 letters (``January 31, 2014 letters'').
Subsequent to the issuance of the January 31, 2014 letters, the
Division staff approved the margin methodologies of two additional BD/
FCMs, subject to the conditions in the June 7, 2013 letters.\11\ All
the letters referenced above will be withdrawn. The 2021 Final Order
requires that the BD/FCMs have an approved internal risk management
program. Pursuant to the 2021 Final Order, all BD/FCMs that received a
letter approving their margin methodologies will be deemed to have an
approved internal risk management program.
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    \11\ The Division staff also issued an additional letter
relating to the transfer of a CDS portfolio margin program using the
same internal risk model and same internal risk management system
from one broker-dealer affiliate to another. The June 7, 2013
letters and subsequent staff letters are collectively referred to
below as the ``BD/FCM staff letters.''
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C. Previous Request for Comment

    In October 2020, the Commission published a proposed order that
would modify conditions in the 2012 Order and supersede and replace the
2012 Order (``2020 Proposed Order'').\12\ The Commission received
comments on the 2020 Proposed Order.\13\ Commenters generally supported
the Commission's approach and offered some suggested modifications.\14\
One commenter stated market participants have confidence in the current
structure, including the 2012 Order, which has allowed increased
innovation in the cleared CDS products and increased voluntary clearing
of security-based swaps.\15\ Further, commenters supported the
Commission's approach of seeking to preserve the status quo while
making changes to further enhance the efficient operation of the
cleared CDS market.\16\ The comments and the Commission's response to
them are discussed in detail below.
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    \12\ See Proposed Order Granting Conditional Exemptions Under
the Securities Exchange Act of 1934 in Connection With the Portfolio
Margining of Swaps and Security-Based Swaps That Are Credit Default
Swaps, Exchange Act Release No. 90276 (Oct. 28, 2020), 85 FR 70657
(Nov. 5, 2020).
    \13\ The comments are available at https://www.sec.gov/comments/s7-13-12/s71312.htm.
    \14\ See Letter from Chris Edmonds, Global Head of Clearing and
Risk, Intercontinental Exchange, Inc. (Dec. 7, 2020) (``ICE
Letter''); Letter from Allison Lurton, General Counsel and Chief
Legal Officer, Futures Industry Association (Dec. 7, 2020) (``FIA
Letter''); Letter from Jason Silverstein, Esq., Managing Director
and Associate General Counsel, SIFMA Asset Management Group,
Jennifer W. Han, Managing Director & Counsel, Regulatory Affairs,
Managed Funds Association (Dec. 7, 2020) (``SIFMA AMG/MFA Letter'');
and Letter from Sarah Bessin, Associate General Counsel, Investment
Company Institute (Dec. 7, 2020) (``ICI Letter'').
    \15\ ICE Letter.
    \16\ FIA Letter; SIFMA AMG/MFA Letter.
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III. Discussion

    Since the issuance of the 2012 Order, the SEC staff has monitored
the operations of the BD/FCMs participating in the CDS portfolio margin
program as well as the market for cleared CDS. The Commission is
issuing this 2021 Final Order with modified conditions in light of: (1)
The experience gained from this monitoring; and (2) comment letters
addressing portfolio margining received in response to the 2012 Order,
the 2020 Proposed Order, and in the context of the SEC's recently
finalized rulemaking adopting capital, margin and segregation
requirements for SBSDs.\17\ This 2021 Final Order also is in response
to the CFTC initiating mandatory clearing of certain swaps, including
broad-based index CDS.\18\ The following discussion describes the
conditions of the 2021 Final Order--many of which are largely
consistent with conditions in the 2012 Order. Modifications to the
conditions in the 2012 Order are discussed below.
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    \17\ The comment letters received with respect to this
rulemaking are available at https://www.sec.gov/comments/s7-08-12/s70812.shtml.
    \18\ See, e.g., CFTC Announces that Mandatory Clearing Begins
Today, CFTC Press Release No. 6529-13 (Mar. 11, 2013) (announcing
that swap dealers, major swap participants and private funds active
in the swaps market are required to begin clearing certain index
CDS); CFTC Announces that Mandatory Clearing for Category 2 Entities
Begins Today, CFTC Press Release No. 6607-13 (June 13, 2013)
(announcing the second phase of required clearing for certain CDS
and interest rate swaps).
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A. Conditions for Clearing Agency/DCOs

1. Elimination of Conditions Relating To Expanding the CDS Portfolio
Margin Program to Securities Accounts
    The conditions in paragraphs (a)(1) and (a)(2) of the 2012 Order
were intended to provide customers the option to portfolio margin
cleared CDS in an SEC SBS account once the SEC's margin and segregation
rules for SBSDs are in place.\19\ In particular, paragraph (a)(1)
required that the clearing agency/DCO, by the later of six months after
the adoption date of the final margin and segregation rules for
security-based swaps or the compliance date of such rules, to take all
necessary action within its control to obtain any relief needed to
permit its BD/FCM clearing members to maintain customer money,
securities, and property received by the BD/FCM to margin, guarantee,
or secure customer positions in cleared CDS in an SEC SBS account for
the purpose of the CDS portfolio margin program. Paragraph (a)(2)
required the clearing agency/DCO, within the same timeframe, to take
all necessary action within its control, to establish rules and
operational practices to permit its BD/FCM clearing members to maintain
customer money, securities, and property received by the BD/FCM to
margin, guarantee, or secure customer positions in cleared CDS in an
SEC SBS account for the purpose of the CDS portfolio margin program.
Thus, the requirements to adhere to conditions in paragraphs (a)(1) and
(2) of the 2012 Order were triggered on the compliance date for the
final capital, margin, and segregation requirements for SBSDs: October
6, 2021.
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    \19\ See 2012 Order, 77 FR 75215-16 (discussing the conditions)
and 75219-20 (setting forth the conditions).

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    In the 2012 Order, the Commission stated that it was important to
ultimately provide market participants with the ability to select an
account structure to manage their individual risks by taking into
account the different regulatory provisions that may apply to different
account types and any costs incurred.\20\ Market participants have been
clearing CDS under the CDS portfolio margin program since the initial
BD/FCM staff letters were issued in 2013. The CDS portfolio margining
program has allowed greater efficiencies in clearing, allowing the
offset of positions and the ability to margin cleared CDS in a single
account. Portfolio margining facilitates margin requirements that
better reflect the overall risks presented by a CDS portfolio, which
may result in decreased margin costs. Because of these greater
efficiencies and potential cost reductions available under the current
CDS portfolio margin program in a CFTC cleared swaps account, market
participants have not expressed a desire to portfolio margin cleared
CDS in an SEC SBS account. This lack of market interest in a securities
account alternative also is consistent with: (1) The comments of ICE
Clear Credit in 2011 that it received no indication in its discussions
with market participants that they desired a securities account option
with respect to its petition for rulemaking to portfolio margin cleared
CDS; and (2) the Division staff's experience in monitoring the CDS
portfolio margin program. In the 2020 Proposed Order, therefore, the
Commission preliminarily believed that it may be appropriate to
eliminate the SEC SBS account conditions.\21\
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    \20\ See 77 FR 75216.
    \21\ See 2020 Proposed Order, 85 FR 70659-60.
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    Commenters supported the Commission's proposal in the 2020 Proposed
Order to eliminate the clearing agency/DCO conditions relating to
expanding the CDS portfolio margin program to SEC SBS accounts and
generally agreed there is a lack of market interest in a securities
account alternative.\22\ One commenter stated that the current cleared
CDS portfolio margining structure is operating effectively and
efficiently and that there has been no expressed interest by market
participants to undertake the material additional costs and risky
operational changes to expand the portfolio margining to SEC SBS
accounts.\23\ This commenter also stated that requiring a securities
account alternative would lead to material modifications to existing
systems and create unnecessary duplicative processes.\24\ Another
commenter stated that the program has been effective in accommodating
the portfolio margining needs of market participants who must react
quickly to dynamic market conditions, risk management and hedging
requirements, and evolving portfolio compositions.\25\ This commenter
stated that it is critical the Commission remain cognizant of the
significant time and expense BD/FCMs, their customers, and the
clearinghouses have already invested towards creating a safe and
attractive model for the clearing of all CDS.\26\ Finally, one
commenter in supporting the elimination of the securities account
alternative stated that regulated funds typically do not engage in
portfolio margining in a securities account or a security-based swap
account.\27\
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    \22\ See ICE Letter; FIA Letter; SIFMA AMG/MFA Letter; ICI
Letter.
    \23\ ICE Letter.
    \24\ ICE Letter.
    \25\ FIA Letter.
    \26\ FIA Letter.
    \27\ ICI Letter.
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    Portfolio margining cleared CDS in an SEC SBS account also would
provide greater efficiencies and cost reductions. However, the
Commission is eliminating these conditions because of the success of
the current CDS portfolio margin program, the confirmed lack of market
interest in a securities account alternative, and the comments
supporting their elimination.\28\ Their removal, however, will not
prohibit a clearing agency/DCO from offering an SEC SBS account option
in the future, if market conditions change and the demand arises,
subject to applicable regulatory approvals and relief.
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    \28\ See 2021 Final Order, ] (a).
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    Further, in connection with the elimination of conditions related
to the SEC SBS account alternative, commenters asked the Commission to
clarify whether single-name CDS may always be cleared through a CFTC
cleared swaps account subject to the margin and risk management regime
in the 2020 Proposed Order.\29\ One commenter stated that it is not
aware of any clearing agency/DCO that offers a securities account
option. Consequently, this commenter stated that the cleared swaps
account is the only currently available option to clear single-name
CDS.\30\ In response to these comments, single-name CDS that are held
in a CFTC cleared swaps account and not part of a CDS portfolio margin
program (i.e., an account at a BD/FCM that holds at all times only
single-name CDS positions) would be outside the scope of this 2021
Final Order. The exemptive relief in 2021 Final Order is conditioned on
the requirement that cleared CDS that are security-based swaps and
included in a CFTC cleared swaps account must be part of a CDS
portfolio margin program. Clearing solely single-name CDS in a cleared
CFTC swaps account without the inclusion of cleared swaps that are CDS
at any point in time would not be considered a CDS portfolio margin
program. For example, a CFTC cleared swaps account that is part of a
CDS portfolio margin program that holds at various times both single-
name and index CDS positions is subject to the conditions of this 2021
Final Order. Consequently, the 2021 Final Order only applies to cleared
CDS, including single-name and index CDS, that are part of a CDS
portfolio margin program. Finally, in response to the comment that a
cleared swaps account is the only currently available option to clear
single-name CDS, under the Commission's new segregation rules for
security-based swap activities, a clearing agency/DCO could offer an
SEC SBS account option to market participants to clear single-name CDS
that are not part of a CDS portfolio margin program.\31\
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    \29\ FIA Letter; SIFMA AMG/MFA Letter.
    \30\ SIFMA AMG/MFA Letter.
    \31\ See paragraph (p) of Rule 15c3-3 (segregation requirements
for security-based swaps). 17 CFR 240.15c3-3(p).
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2. Conditions
    The three clearing agency/DCO conditions in the 2020 Proposed Order
are largely consistent with the conditions in paragraphs (a)(3), (4),
and (5) of the 2012 Order, respectively.\32\ One commenter supported
retaining these conditions and stated they largely maintain the well
understood status quo with the 2012 Order.\33\ This commenter also
stated that the existing portfolio margining structure for cleared CDS
instruments has operated safely, effectively and efficiently and,
accordingly, it is in agreement with the Commission's efforts to uphold
the current model.\34\ The Commission agrees with the commenter and is
adopting the three clearing agency/DCO conditions as proposed in the
2020 Proposed Order.\35\
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    \32\ See 2020 Proposed Order, 85 FR 70660 (discussing the
conditions) and 70665 (setting forth the conditions); see also 2012
Order, 77 FR 75216 (discussing the conditions) and 75220 (setting
forth the conditions).
    \33\ ICE Letter.
    \34\ ICE Letter.
    \35\ See 2021 Final Order, ]] (a)(1), (2), and (3). The
Commission made some technical changes to the DCO/clearing agency
conditions in the 2021 Final Order to account for the elimination of
conditions (a)(1) and (2) from the 2012 Order. These changes include
re-numbering the remaining clearing agency/DCO conditions and moving
the definition of ``BD/FCM'' from condition (a)(1) in the 2012 Order
(which would be eliminated) to condition (a)(1) in the proposed
order (which parallels condition (a)(3) in the 2012 Order). Finally,
the Commission is replacing the term ``shall'' in two places with
the term ``will'' and ``must,'' respectively. No comments were
received on these changes and the Commission is adopting them as
proposed in the 2020 Proposed Order.

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    The first condition requires the clearing agency/DCO to obtain any
other relief needed to permit a BD/FCM to maintain cleared swaps
customer or affiliate money, securities, and property received to
margin, guarantee, or secure cleared swaps customer or affiliate
positions in cleared CDS in a CFTC cleared swaps customer account or a
CFTC cleared swaps proprietary account, respectively, for the purpose
of clearing such cleared swaps customer or affiliate positions under
the CDS portfolio margin program.\36\ This condition is designed to
help ensure that the exemption applies only in circumstances where the
regulatory framework under the CEA and the CFTC's rules is applicable.
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    \36\ See 2021 Final Order, ] (a)(1). The 2021 Final Order also
eliminates use of the generic term ``customer'' in the 2012 Order
and instead use the more specific terms ``cleared swaps customer,''
``affiliate,'' ``security-based swap customer,'' and ``securities
customer''. In addition, the 2021 Final Order adds specific language
to clarify that cleared CDS positions of cleared swaps customers are
held in CFTC cleared swaps customer accounts and affiliate positions
are held in CFTC cleared swaps proprietary accounts. These changes
reflect the different treatment each type of person and account
would receive under the CEA and rules thereunder, and applicable
bankruptcy laws. No comments were received on these changes and the
Commission is adopting them as proposed in the 2020 Proposed Order.
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    The second clearing agency/DCO condition requires the organization
to have appropriate rules and operational practices to permit a BD/FCM
to maintain cleared swaps customer or affiliate money, securities, and
property received to margin, guarantee, or secure cleared swaps
customer or affiliate positions in cleared CDS in a CFTC cleared swaps
customer account or a cleared swaps proprietary account, respectively,
for the purpose of clearing such cleared swaps customer or affiliate
positions under the CDS portfolio margin program.\37\ This condition
also is designed to help ensure the exemption applies only in
circumstances where the regulatory framework under the CEA and the
CFTC's rules is applicable.
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    \37\ See 2021 Final Order, ] (a)(2).
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    The third clearing agency/DCO condition requires the organization
to have rules mandating that each cleared swaps customer and affiliate
of the BD/FCM participating in the CDS portfolio margin program must be
an ``eligible contract participant'' as defined in Section 1a(18) of
the CEA.\38\ Given that Congress determined it is appropriate to
include these limitations in the Dodd-Frank Act with respect to
eligible contract participants, it is appropriate to limit the
exemptions in the 2021 Final Order to cleared CDS entered into with
eligible contract participants.\39\
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    \38\ See 2021 Final Order, ] (a)(3). The 2012 Order provided
that each ``customer'' must be an eligible contract participant. 77
FR 75220.
    \39\ The Dodd-Frank Act limits the swaps and security-based
swaps transactions that may be entered into by parties that are not
eligible contract participants. For example, under Section 6(l) of
the Exchange Act, only an eligible contract participant may enter
into security-based swaps that are not effected on a national
securities exchange. 15 U.S.C. 78f(l). In addition, security-based
swaps that are not registered pursuant to the Securities Act of 1933
(``Securities Act'') can only be sold to eligible contract
participants. 15 U.S.C. 77e(e). Section 5(e) of the Securities Act
specifically provides that it shall be unlawful to for any person,
directly or indirectly, to make use of any means or instruments of
transportation or communication in interstate commerce or of the
mails to offer to sell, offer to buy or purchase or sell a security-
based swap to any person who is not an eligible contract
participant, unless the transaction is registered under the
Securities Act. Id. See also 2020 Proposed Order, 85 FR 70660.
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B. Conditions for BD/FCMs

    The first, second, fourth, fifth, and sixth BD/FCM conditions in
the 2020 Proposed Order were generally consistent with the conditions
in paragraphs (b)(1), (2), (4), (5) and (6) of the 2012 Order,
respectively.\40\ As discussed below, the Commission is adopting them
in the 2021 Final Order substantially as proposed in the 2020 Proposed
Order.\41\
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    \40\ See 2020 Proposed Order at 85 FR 70660-64 (discussing the
conditions) and 70665-66 (setting forth the conditions); see also
2012 Order, 77 FR 75216-19 (discussing the conditions) and 75220-21
(setting forth the conditions). The Commission made some technical
and stylistic changes to these conditions, including replacing the
term ``shall'' with ``must'' and capitalizing the first letter in
each of the conditions (and their subparagraphs). Finally, the
Commission inserted the phrase ``Section 8 of the Exchange Act and''
before ``Exchange Act Rules 8c-1 and 15c2-1'' in paragraph (b) of
the 2020 Proposed Order to be consistent with the other rule
references in the order, which refer to the relevant statute. No
comments were received on these changes and the Commission is
adopting them as proposed in the 2020 Proposed Order.
    \41\ See 2021 Final Order, ]] (b)(1), (2), (4), (5), and (6).
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    The first BD/FCM condition consists of two requirements and applies
with respect to transactions involving persons that are not affiliates
of the BD/FCM (i.e., cleared swaps customers).\42\ The Commission
received no comments on the first requirement and is adopting it as
proposed in the 2020 Proposed Order.\43\ Under this requirement, the
BD/FCM must maintain cleared swaps customer money, securities, and
property received to margin, guarantee or secure cleared swaps customer
positions consisting of cleared CDS in a CFTC cleared swaps customer
account established and maintained for the purpose of the CDS portfolio
margin program. This condition is designed to help ensure that--in the
absence of the security-based swap and securities customer protections
afforded by the securities laws--collateral in the account is subject
to the protections afforded by an alternative regulatory scheme (i.e.,
the CEA and the CFTC's rules). The intent is to avoid having the assets
in the account fall into a regulatory gap in which neither the federal
securities laws nor the federal commodity futures laws apply. The
condition also is designed to limit the relief to accounts that are
established and maintained specifically for the purpose of the CDS
portfolio margin program.
---------------------------------------------------------------------------

    \42\ See 2021 Final Order, ] (b)(1).
    \43\ See 2021 Final Order, ] (b)(1)(i); see also 2020 Proposed
Order, 85 FR 70660.
---------------------------------------------------------------------------

    As discussed below, the Commission received comments on the second
requirement in the 2020 Proposed Order and, in response, is modifying
it.\44\ Under this requirement in the 2020 Proposed Order, the BD/FCM
needed to enter into a non-conforming subordination agreement with each
non-affiliated cleared swaps customer that covers the customer's money,
securities, or property held in a CFTC cleared swaps customer
account.\45\ As proposed, the non-conforming subordination agreement
needed to contain: (1) A specific acknowledgment by the cleared swaps
customer that money, securities or property held in a CFTC cleared
swaps customer account will not receive customer treatment under the
Exchange Act or Securities Investor Protection Act of 1970 (``SIPA'')
or be treated as ``customer property'' as defined in 11 U.S.C. 741 in a
liquidation of the BD/FCM (``stockbroker liquidation''), and that such
money, securities or property will be subject to any applicable
protections under Subchapter IV of Chapter 7 of Title 11 of the United
States Code and rules and regulations thereunder (``commodity broker
liquidation provisions''); and (2) an affirmation by the cleared swaps
customer that claims to ``customer property'' as defined in SIPA or 11
U.S.C. 741 against the BD/FCM will be subordinated to the claims of
securities

customers and security-based swap customers.
---------------------------------------------------------------------------

    \44\ See 2020 Proposed Order, 85 FR 70660-61 (discussing the
condition) and 70666 (setting forth the condition).
    \45\ Id.
---------------------------------------------------------------------------

    The 2012 Order required an affirmation by the customer that all of
its claims with respect to money, securities, or property held in the
CDS portfolio margin account against the BD/FCM will be subordinated to
the claims of other securities customers and security-based swap
customers not participating in the CDS portfolio margin program.\46\ To
better clarify that the cleared swaps customer is not subordinating
claims to general creditors, the Commission modified condition
(b)(1)(ii) of the 2012 Order, as stated above, in the 2020 Proposed
Order, to provide that the cleared swaps customer must affirm that
claims to ``customer property'' as defined in SIPA or the stockbroker
liquidation provisions against the BD/FCM will be subordinated to the
claims of securities customers and security-based swap customers. This
modification was designed to more narrowly tailor the subordination to
the portion of the debtor BD/FCM's estate that comprises ``customer
property'' under SIPA and the stockbroker liquidation schemes.\47\ In
other words, the intent was that the subordination not extend to the
general estate.
---------------------------------------------------------------------------

    \46\ See 2012 Order, 77 FR 75220.
    \47\ See 2020 Proposed Order, 85 FR 70661.
---------------------------------------------------------------------------

    This condition in the 2020 Proposed Order was designed to remove
portfolio margin cleared swaps customers from the definitions of
``customer'' under Rule 15c3-3, SIPA, and the stockbroker liquidation
provisions with respect to securities or cash held in CFTC cleared
swaps customer accounts that otherwise would be subject to the
segregation requirements of Rule 15c3-3 and the bankruptcy protections
afforded by SIPA and the stockbroker liquidation provisions.\48\ The
objective was to avoid a situation where the portfolio margin cleared
swaps customers would be entitled to a ratable share of ``customer
property'' and other protections afforded by SIPA or the stockbroker
liquidation provisions even though their assets were held in CFTC
cleared swaps customer accounts that were not subject to the
segregation requirements of Rule 15c3-3. Assets held in a CFTC cleared
swaps customer account instead would be afforded the protections of the
rules of the CFTC governing the treatment of customer margin held by
BD/FCMS and DCOs as well as the protections of the CEA and commodity
broker liquidation provisions. The modified condition in the 2020
Proposed Order was not intended to undermine these protections. The
condition also was not intended to require portfolio margin cleared
swaps customers to subordinate their claims, in the event that their
claims as cleared swaps customers are not fully satisfied by the
distribution of assets held in CFTC cleared swaps customer accounts, to
assets that may be included in the debtor's general estate.
---------------------------------------------------------------------------

    \48\ See 85 FR 70661.
---------------------------------------------------------------------------

    Commenters generally supported the Commission's proposed
modification to the affirmation language to provide that a cleared
swaps customer must affirm that claims to ``customer property'' as
defined in SIPA or the stockbroker liquidation provisions against the
BD/FCM will be subordinated to the claims of securities customers and
security-based swap customers. One commenter, in supporting the
modification, stated that there is no policy basis to disadvantage
cleared swap customers as compared to other general creditors of a BD/
FCM and, therefore, their claims to ``customer property'' should not be
subordinated to claims of general creditors, but only to the claims of
securities customers and security-based swap customers.\49\ Two
commenters supported the modifications but suggested that the
Commission further tailor the language to ensure that it only requires
the subordination of a customer's claims for assets subject to a
portfolio margining arrangement and not to other claims the customer
may have against the BD/FCM, such as, for example, separate claims the
customer may have as a securities customer in relation to a securities
account.\50\
---------------------------------------------------------------------------

    \49\ ICI Letter.
    \50\ FIA Letter; SIFMA AMG/MFA Letter. These commenters
suggested that the affirmation language read: ``as well as an
affirmation by the cleared swaps customer that solely with respect
to the distribution of ``customer property'' as defined in SIPA or
11 U.S.C. 741 and, for the avoidance of doubt, without prejudice to
its entitlement to ``customer property'' as defined in 11 U.S.C.
761, its claims against the BD/FCM for such money, securities or
property will be subordinated to the claims of securities customers
and security-based swap customers.''
---------------------------------------------------------------------------

    The Commission agrees with these commenters that the subordination
requirement can be further tailored to provide greater clarity that the
subordination agreement is limited to money, securities or other
property of the subordinating customer held in a CFTC cleared swaps
customer account. If the subordinating customer has a separate
securities account at the BD/FCM, the customer need not subordinate
claims to cash or securities held in that account. To provide greater
clarity on this point, the Commission is modifying the text of the
subordination requirement in the 2021 Final Order. In particular, the
requirement provides that cleared CDS swaps customer must agree that
claims to ``customer property'' as defined in SIPA or the stockbroker
liquidation provisions against the BD/FCM with respect to the money,
securities, or property identified in paragraph (b)(1)(i) of the 2021
Final Order (i.e., in the CFTC cleared swaps customer account) will be
subordinated to the claims of securities customers and security-based
swap customers.\51\ Thus, the language of the subordination requirement
explicitly links to money, securities or other property of the
subordinating customer held in a CFTC cleared swaps customer account.
---------------------------------------------------------------------------

    \51\ See 2021 Final Order, ] (b)(1)(ii). In the second sentence
of paragraph (b)(1)(ii) of the 2021 Final Order, the word ``such''
was replaced with ``the'' and the phrase ``identified in paragraph
(b)(1)(i) of this order'' was inserted immediately following the
phrase ``money, securities or property''.
---------------------------------------------------------------------------

    In connection with the proposed clarifications to the subordination
requirement, several commenters requested that Commission confirm that
current cleared swap customers would not need to amend their existing
agreements to provide revised affirmations reflecting the new language
prescribed by the 2020 Proposed Order.\52\ Commenters suggested that
the Commission clarify that affirmations provided pursuant to the 2012
Order were intended to, and should be read to, provide for
subordination of claims solely to securities customers and security-
based swap customers and not to general creditors.\53\ One commenter
stated the revised language should be required to be included in
affirmations only on a going-forward basis for new cleared swap
customers.\54\ Another commenter stated that reviews and changes to
existing documentation would be a costly and complex exercise since the
documentation may form part of other clearing arrangements, and would
be onerous to both BD/FCMs and their customers.\55\ Another commenter
stated that requiring re-documentation would place a significant burden
on its member firms.\56\ Commenters suggested that the Commission
permit firms to notify customers of the clarification through
disclosures or negative consents rather than re-documenting existing
agreements.\57\ Finally, one commenter requested that for BD/FCMs whose
existing subordination arrangements are in compliance with the
conditions under the 2020 Proposed Order but for reference to the 2012
Order, that the

Commission clarify that no further documentation or amendments would be
required in respect to such arrangements.\58\
---------------------------------------------------------------------------

    \52\ FIA Letter; ICI Letter; SIFMA AMG/MFA Letter.
    \53\ ICI Letter.
    \54\ ICI Letter; FIA Letter.
    \55\ FIA Letter.
    \56\ SIFMA AMG/MFA Letter.
    \57\ FIA Letter; SIFMA AMG/MFA Letter.
    \58\ SIFMA AMG/MFA Letter.
---------------------------------------------------------------------------

    In response to the comments regarding whether a BD/FCM would be
required to re-document existing agreements, based on the description
provided by commenters of varying documentation processes and clearing
arrangements among firms, BD/FCMs that have entered into non-conforming
subordination agreements and other documentation with counterparties
under the 2012 Order will need to determine if their existing
documentation is sufficient to meet the conditions of the 2021 Final
Order or if any amendments of, or other clarifications to, existing
agreements is warranted. It is important that the subordination
agreement of a customer be limited so that it does not extend to the
general estate or to securities and cash held in a separate securities
account. In response to comments regarding the intent of the
modifications to the subordination language, the intent of the
modifications in the 2021 Final Order to the subordination requirements
in the 2012 Order is to better clarify that a cleared swaps customer is
not subordinating claims to general creditors. This clarification will
preserve protections for customers that are not intended to be impacted
or diminished by the subordination requirement in the 2021 Final Order.
In addition, in response to the comment relating to BD/FCMs whose
existing subordination arrangements meet the conditions under the 2020
Proposed Order but for reference to the 2012 Order, no further
documentation or amendments would be required with respect to these
existing subordination agreements that reference the 2012 Order if the
agreements are in compliance with the conditions of the 2021 Final
Order.
    In response to comments that re-documentation of existing
arrangements will increase costs and burdens on firms, BD/FCMs must
individually determine if their current documentation meets the
conditions of the 2021 Final Order. Accordingly, costs and burdens will
depend on whether existing documentation is sufficient to meet the
conditions of the 2021 Final Order. To the extent a BD/FCM must re-
document existing arrangements, the Commission believes such costs and
burdens associated with re-documentation are necessary to protect
investors. As discussed above, the conditions of the 2021 Final Order
are designed to preserve customer protection by limiting the scope of
the subordination agreement. Finally, in response to a comment, BD/FCMs
that enter into subordination agreements with new cleared swaps
customers must ensure that the affirmation required by the 2021 Final
Order is executed if they wish to take advantage of the conditional
exemption provided by the 2021 Final Order.
    As stated above, BD/FCMs that have entered into non-conforming
subordination agreements and other documentation with counterparties
under the 2012 Order will need to determine if their existing
documentation is sufficient to meet the conditions of the 2021 Final
Order or if any amendments of, or other clarifications to, existing
agreements is warranted. The Commission recognizes that these
determinations and any subsequent amendments or other clarifications to
existing arrangements may take additional time to implement.
Consequently, the Commission is, by order, extending the time for a BD/
FCM to meet the conditions in paragraph (b)(1)(ii) of the 2021 Final
Order until February 1, 2022, at which time BD/FCMs must satisfy all
applicable conditions of the 2021 Final Order to continue to avail
themselves of the conditional exemption.
    The second BD/FCM condition in the Final 2020 Order applies with
respect to transactions involving affiliates of the BD/FCM and consists
of three requirements. The Commission did not receive any comments on
the first requirement and is adopting it as proposed.\59\ Under the
this requirement, the BD/FCM must maintain money, securities, and
property of affiliates received to margin, guarantee, or secure
positions consisting of cleared CDS in a ``cleared swaps proprietary
account'' as defined in CFTC Rule 22.1 for the purpose of clearing such
positions under the CDS portfolio margin program.\60\ The purpose of
this requirement is that under the CFTC regulatory framework certain
affiliates are not treated as cleared swaps customers and their assets
are held in proprietary accounts as distinct from CFTC cleared swaps
customer accounts.\61\
---------------------------------------------------------------------------

    \59\ See 2021 Final Order, ] (b)(2); see also 2020 Proposed
Order, 85 FR 70661.
    \60\ See 2021 Final Order, ] (b)(2)(i).
    \61\ See 17 CFR 22.1. The Commission believes that this
condition is appropriate because affiliates of a BD/FCM that are not
otherwise excluded from the definition of ``customer'' in Exchange
Act Rules 8c-1 and 15c2-1 are customers whose securities positions
cannot be commingled with the broker-dealer's own proprietary
securities positions and therefore could not be held in a cleared
swaps account.
---------------------------------------------------------------------------

    The comments discussed above with respect to the scope of the
subordination agreement apply to the second requirement, which the
Commission is modifying consistent with changes to the customer
subordination requirement discussed above. Under this requirement, the
BD/FCM must enter into a non-conforming subordination agreement with an
affiliate.\62\ The non-conforming subordination agreement must contain:
(1) A specific acknowledgment by the affiliate that the money,
securities or property identified in paragraph (b)(2)(i) of the 2021
Final Order (i.e., in the cleared swaps proprietary account) will not
receive customer treatment under the Exchange Act or SIPA or be treated
as customer property in a stockbroker liquidation of the BD/FCM, and
that such money, securities or property will be held in a proprietary
account in accordance with the CFTC requirements and will be subject to
any applicable protections under the commodity broker liquidation
provisions; and (2) an affirmation by the affiliate that claims to
``customer property'' as defined in SIPA or 11 U.S.C. 741 against the
BD/FCM with respect to the money, securities, or property identified in
paragraph (b)(2)(i) of the 2021 Final Order will be subordinated to the
claims of securities customers and security-based swap customers.
---------------------------------------------------------------------------

    \62\ See 2021 Final Order, ] (b)(2)(ii).
---------------------------------------------------------------------------

    As discussed above, these modifications provide greater clarity
that the scope of the subordination only extends to money, securities,
or other property held in the subordinating person's CFTC cleared
customer or proprietary account. The modifications also provide greater
clarity that the person need not subordinate claims to money,
securities, or other property held in the subordinating person's CFTC
cleared customer or proprietary account to the claims of general
creditors.
    This requirement is designed to help ensure that affiliates clearly
understand that any customer protection treatment otherwise available
with respect to securities transactions under the Exchange Act, SIPA,
or the stockbroker liquidation provisions will not be available and the
account would be treated as a proprietary account (and not a CFTC
cleared swaps customer account) under the CEA. Consistent with the
condition above with respect to cleared swaps customers that are not
affiliates, this condition is intended to remove affiliates from the
definitions of ``customer'' under Rule 15c3-3, SIPA,

and the stockbroker liquidation provisions with respect to securities
or cash held in cleared swaps proprietary accounts that otherwise would
be subject to the segregation requirements of Rule 15c3-3 and the
bankruptcy protections afforded by SIPA and the stockbroker liquidation
provisions.
    The Commission did not receive any comments with respect to the
third requirement of the second condition and is adopting it with a
conforming modification.\63\ As proposed, this condition required that
the BD/FCM obtain from the affiliate an opinion of counsel that the
affiliate is legally authorized to subordinate all of its claims
against the BD/FCM to those of securities customers and security-based
swap customers.\64\ Consistent with the changes discussed above with
respect to the scope of the subordination, the Commission modified this
condition so that it requires the BD/FCM obtain from the affiliate an
opinion of counsel that the affiliate is legally authorized to enter
into the subordination agreement required by paragraph (b)(2)(ii) of
the order. This conforms the condition to the modifications discussed
above with respect to the scope of the subordination. This condition is
designed to help ensure that affiliates of the BD/FCM do not place any
assets in the proprietary account that the affiliate is not legally
authorized to subordinate. Finally, consistent with the changes
discussed above with respect to the scope of the subordination, the
Commission is, by order, extending the time for a BD/FCM to meet the
conditions in paragraph (b)(2)(ii) of the 2021 Final Order until
February 1, 2022, at which time BD/FCMs must satisfy all applicable
conditions of the 2021 Final Order to continue to avail themselves of
the conditional exemption.
---------------------------------------------------------------------------

    \63\ See 2021 Final Order, ] (b)(2)(iii); see also 2020 Proposed
Order, 85 FR 70661-62.
    \64\ See 2020 Proposed Order, 85 FR 70661-62. The 2012 Order
required that the BD/FCM obtain from the affiliate an opinion of
counsel that the affiliate is legally authorized to subordinate all
of its claims against the BD/FCM to those of customers. See 2012
Order, 77 FR 75220.
---------------------------------------------------------------------------

    The condition in paragraph (b)(3) of the 2012 Order provides that
the BD/FCM must require minimum margin levels with respect to any
customer transaction in the CDS portfolio margin program at least equal
to the amount determined using a margin methodology established and
maintained by the BD/FCM that has been approved by the Commission or
the Commission staff.\65\ A commenter responding to the issuance of the
2012 Order supported the requirement for a BD/FCM to assess the credit
risk of counterparties based on the BD/FCM's own risk management
standards, but argued that requiring a unique margin model beyond the
BD/FCM's own credit risk assessment is unwarranted.\66\ This commenter
also stated that this condition ``deters'' efficiency, capital
formation, and competition.\67\ Another commenter responding to the
issuance of the 2012 Order argued that the condition undermines a
fundamental benefit of central clearing: The ability of market
participants to rely on clearing agency/DCO margin requirements.\68\
This commenter believes that this condition reduces transparency and
the ability to anticipate and verify margin calls, and that it
discourages entities from entering the cleared CDS market.\69\
---------------------------------------------------------------------------

    \65\ See 2012 Order, 77 FR 75220.
    \66\ See Letter from Stuart J. Kaswell, Executive Vice President
& Managing Director, General Counsel, Managed Funds Association;
Carl B. Wilkerson, Vice President & Chief Counsel, Securities &
Litigation, American Council of Life Insurers; and
Ji[rcaron][iacute] Krol, Director of Government and Regulatory
Affairs, Alternative Investment Management Association (Dec. 27,
2013) (``MFA/ACLI/AIMA 12/27/2013 Letter'') (comment to the 2012
Order), available at https://www.sec.gov/comments/s7-13-12/s71312.shtml; see also Letter from Stuart J. Kaswell, Executive Vice
President & Managing Director, General Counsel, Managed Funds
Association; Carl B. Wilkerson, Vice President & Chief Counsel,
Securities & Litigation, American Council of Life Insurers; and
Ji[rcaron][iacute] Krol, Director of Government and Regulatory
Affairs, Alternative Investment Management Association (May 10,
2013) (comment to the 2012 Order), available at https://www.sec.gov/comments/s7-13-12/s71312.shtml. See also 2020 Proposed Order, 85 FR
70662.
    \67\ MFA/ACLI/AIMA 12/27/2013 Letter. See also 2020 Proposed
Order, 85 FR 70662.
    \68\ See Letter from Adam C. Cooper, Senior Managing Director
and Chief Legal Officer, Citadel LLC (Feb. 2, 2016) (``Citadel 2/2/
16 Letter'') (comment to the 2012 Order), available at https://www.sec.gov/comments/s7-13-12/s71312.shtml. See also 2020 Proposed
Order, 85 FR 70662.
    \69\ Citadel 2/2/16 Letter; Letter from Laura Harper Powell,
Associate General Counsel, Managed Funds Association, and Adam
Jacobs-Dean, Managing Director, Global Head of Markets Regulation,
Alternative Investment Management Association (Nov. 19, 2018)
(comment to the Commission's capital, margin, and segregation
rulemaking for SBSDs), available at https://www.sec.gov/comments/s7-08-12/s70812.shtml. See also 2020 Proposed Order, 85 FR 70662.
---------------------------------------------------------------------------

    In the context of the SEC's capital, margin and segregation
rulemaking for SBSDs, another commenter expressed concern that the
conditions in the 2012 Order have proven too restrictive to support a
robust market for cleared CDS.\70\ More specifically, this commenter
recommended that both the CFTC and SEC recognize a harmonized portfolio
margin approach for cleared CDS that defers to the clearing agency/DCO
margin methodologies.\71\ Finally, a commenter expressed concern that
the margin requirements imposed by the Commission have delayed
voluntary buy-side clearing of single-name CDS, with resulting adverse
effects on trading volume and liquidity.\72\
---------------------------------------------------------------------------

    \70\ See Letter from Walt L. Lukken, President and Chief
Executive Office, Futures Industry Association (Nov. 29, 2018)
(``FIA 11/29/18 Letter'') (comment to the Commission's capital,
margin, and segregation rulemaking for SBSDs), available at https://www.sec.gov/comments/s7-08-12/s70812.shtml. See also 2020 Proposed
Order, 85 FR 70662.
    \71\ Letter from Walt L. Lukken, President and Chief Executive
Office, Futures Industry Association (Nov. 19, 2018) (comment to the
Commission's capital, margin, and segregation rulemaking for SBSDs),
available at https://www.sec.gov/comments/s7-08-12/s70812.shtml; FIA
11/29/18 Letter. See also 2020 Proposed Order, 85 FR 70662.
    \72\ See Letter from Stuart J. Kaswell, Executive Vice President
& Managing Director, General Counsel, Managed Funds Association (May
18, 2017) (comment to the Commission's capital, margin, and
segregation rulemaking for SBSDs), available at https://www.sec.gov/comments/s7-08-12/s70812.shtml. See also 2020 Proposed Order, 85 FR
70662.
---------------------------------------------------------------------------

    The vast majority of the BD/FCM clearing members of ICE Clear
Credit have obtained approval of their margin methodologies from
Commission staff.\73\ Furthermore, each BD/FCM that has received
approval of its margin methodology already had existing margin models
in place prior to applying to the Commission. Therefore, the firms
needed to make some adjustments to their models in order to meet the
minimum qualitative and quantitative standards set forth in the BD/FCM
staff letters, but did not need to develop new margin models. To date,
all BD/FCMs that have submitted applications to Commission staff to
approve their internal margin methodologies have received approval.
---------------------------------------------------------------------------

    \73\ See ICC membership, available at https://www.theice.com/clear-credit/participants. Based on Division staff experience in
monitoring the CDS portfolio margin program, the vast majority of
positions are being cleared through ICE Clear Credit, and to a
lesser extent, ICE Clear Europe.
---------------------------------------------------------------------------

    In response to these comments, the Commission believes that it can
promote the prudent operation of the BD/FCMs through a process of
approving their internal risk management programs (rather than their
internal margin methodologies), as discussed below. This may increase
transparency for market participants in terms of being able to
anticipate margin requirements generated by their cleared CDS
portfolios, as the clearing agency/DCO margin methodology will generate
the regulatory margin requirement across all the BD/FCMs. Accordingly,
the Commission proposed modifying the condition in paragraph (b)(3) of
the 2012 Order to eliminate the requirement that the Commission or
Commission staff approve the BD/FCM's margin methodology.\74\ Instead,
the Proposed

2020 Order would have required the BD/FCM to adopt an internal risk
management program that is reasonably designed to identify, measure,
and manage the risks arising from its participation in the CDS
portfolio margin program that has been approved in advance by the
Commission or the Commission staff and that meets the standards
described below (``internal risk management program'').
---------------------------------------------------------------------------

    \74\ See 2020 Proposed Order, 85 FR 70662.
---------------------------------------------------------------------------

    An internal risk management program would facilitate the
identification, measurement, and management of a broader range of risks
than those covered by the clearing agency/DCO margin methodology and,
consequently, help ensure that the BD/FCMs operate in a prudent manner
with respect to the CDS portfolio margin program. Further, an internal
risk management program entails a more comprehensive set of measures to
mitigate risk than a margin methodology.\75\ Consequently, based on the
Commission staff's experience gained in monitoring the CDS portfolio
margin program, approving a firm's internal risk management program
(rather than its internal margin methodology) may foster a more robust
approach to managing risk by BD/FCMs. This approach to managing risk
also would promote consistency with the Commission's final capital
rules for SBSDs, which include risk management requirements, as well as
with the regulatory approach adopted by the CFTC with respect to the
portfolio margining of cleared CDS.\76\ The requirement to have an
internal risk management program also is a condition in the BD/FCM
staff letters and all the firms operating under the 2012 Order have
implemented such programs.
---------------------------------------------------------------------------

    \75\ See, e.g., 17 CFR 240.15c3-1e(d)(1) (``The VaR model used
to calculate market and credit risk for a position must be
integrated into the daily internal risk management system of the
broker or dealer[.]'').
    \76\ See Capital, Margin, and Segregation Adopting Release, 84
FR 43905 (``The Commission proposed that nonbank SBSDs be required
to comply with Rule 15c3-4 to promote the establishment of effective
risk management control systems by these firms.''); and 2013 CFTC
Portfolio Margin Order (requiring participants to ``take appropriate
measures to identify, measure, and monitor financial risk associated
with carrying the Security-Based CDS in a cleared swaps account and
implement risk management procedures to address those financial
risks'').
---------------------------------------------------------------------------

    The requirement that a BD/FCM independently measure risk by
developing and using its own internal model is not designed to impose a
margin collection requirement (or capital charge) or diminish the role
of the clearing agency/DCO margin methodology. Rather, it is intended
to require the BD/FCM to independently measure the potential future
credit risk to cleared swaps customers and affiliates participating in
the CDS portfolio margin program under a different stress scenario in
order to better understand risks and address them as the firm deems
appropriate (e.g., through risk limits, threshold triggers, house
margin, heightened monitoring, or other controls).
    Commenters generally supported the Commission's proposed standards
for an internal risk management program.\77\ Two commenters requested
that the Commission permit BD/FCMs to rely on the clearing agency/DCO's
margin methodology, which is subject to supervision by the CFTC and
Commission, unless one of its supervisors has a reasonable basis for
concluding that the methodology underestimates the risk or is otherwise
inconsistent with the internal risk management program.\78\ This
alternative, however, would not cover the broader range of risks
included in an internal risk management program. Prudent firms
establish and maintain integrated internal risk management programs
that include policies and procedures designed to help ensure an
awareness of, and accountability for, the risks taken throughout the
firm and to develop tools to address those risks. For example, there
may be idiosyncratic risk factors with respect to a cleared swaps
customer, an affiliate, or the BD/FCM's financial condition that are
not covered by the margin methodology of the clearing agency/DCO.\79\
For these reasons, relying solely on a clearing agency/DCO's margin
methodology, as requested by commenters, would not be an adequate
alternative to implementing a broader risk management program in terms
of managing the risk of cleared CDS in a portfolio margin account.
---------------------------------------------------------------------------

    \77\ FIA Letter; SIFMA AMG/MFA Letter.
    \78\ FIA Letter; SIFMA AMG/MFA Letter.
    \79\ See 2020 Proposed Order, 85 FR 70662.
---------------------------------------------------------------------------

    For the foregoing reasons, the Commission is adopting the risk
management condition as proposed in the 2020 Proposed Order.\80\ In
doing so, the Commission is eliminating the condition in the 2012 Order
that the BD/FCM must require minimum margin levels with respect to any
customer transaction in the CDS portfolio margin program at least equal
to the amount determined using a margin methodology established and
maintained by the BD/FCM that has been approved by the Commission or
the Commission staff.\81\ A BD/FCM seeking approval of its internal
risk management program will need to submit sufficient information for
the Commission or Commission staff to be able to make a determination
whether its program meets the required standards described below.\82\
In reviewing this information, the Commission or the Commission staff
will be guided by these standards.\83\ If a BD/FCM's internal risk
management program is approved for purposes of the 2021 Final Order,
the program will be subject to ongoing supervision and monitoring by
the Commission.\84\
---------------------------------------------------------------------------

    \80\ See 2021 Final Order, ] (b)(3). The 2021 Final Order
contains a provision finding that the BD/FCMs that have received
previous approval of their internal margin methodology from the
Division staff are deemed to have approved internal risk management
programs for purposes of paragraph (b)(3) of the order. These BD/
FCMs will no longer be required to have minimum margin levels with
respect to any customer transaction in a CDS portfolio margin
program at least equal to the amount determined using a margin
methodology approved by the Commission or the Commission staff, as
required by the 2012 Order. They must instead comply with the
internal risk management program standards under condition (b)(3) of
the 2021 Final Order. One commenter supported this approach. FIA
Letter.
    \81\ Nothing in the 2021 Final Order precludes a BD/FCM from
setting higher ``house'' margin requirements for some or all of its
customers. See 17 CFR 39.13(g)(8).
    \82\ See generally 17 CFR 240.15c3-1e(a)(1). A BD/FCM must
submit information only to the extent it is relevant to the
portfolio margining of cleared CDS. The BD/FCM may seek confidential
treatment for information submitted as part of such application. The
Commission may approve a BD/FCM's internal risk management program
that meets the standards of paragraph (c) of the 2021 Final Order
through an order. The Commission staff may also approve a BD/FCM's
internal risk management program that meets the standards of
paragraph (c) of the 2021 Final Order through the same process used
to issue the BD/FCM staff letters pursuant to the 2012 Order.
    \83\ See supra note 81.
    \84\ See 2021 Final Order, ] (c)(1)(ii)(D).
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    The Commission proposed three sets of standards for the internal
risk management program in the 2020 Proposed Order.\85\ The Commission
did not receive any comments on the standards and is adopting them as
proposed in the 2020 Proposed Order.
---------------------------------------------------------------------------

    \85\ See 2020 Proposed Order, 85 FR 70663-64.
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    The first standard is that the BD/FCM must calculate a future
credit exposure for each cleared swaps customer and affiliate
(sometimes each a ``counterparty'') using a proprietary methodology
that meets specified minimum quantitative and qualitative model
standards (``internal risk model'').\86\ The quantitative standards are
that the internal risk model:
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    \86\ See 2021 Final Order, ] (c)(1).
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     Estimates a potential future exposure over a minimum 10-
day horizon and 99% confidence level and captures all material risk
factors, including but not limited to general movements in credit
spread term structure, basis risk between index and single name
positions, and interest rate risk;

     Includes a concentration/liquidity requirement; and
     Includes a jump-to-default requirement for the sale of CDS
protection equal to the largest loss of a single name exposure assuming
a conservative recovery rate that may not exceed 40%.
    The qualitative standards are that:
     The internal risk model must be adequately documented and
the model documentation must provide a description of the model
assumptions, data inputs, parameters, and methodologies employed to
measure risk;
     The internal risk model must be subject to an annual model
review by a model group that is independent of the business function;
     The internal risk model must be subject to at least
quarterly backtesting by counterparty or account; and
     The BD/FCM must provide written notice to the Commission
or Commission staff prior to implementing any material change to its
internal risk model.
    These quantitative and qualitative requirements generally are
consistent with the quantitative and qualitative requirements for
internal risk models under Appendix E to Rule 15c3-1 and under new Rule
18a-1. These rules permit certain broker-dealers and SBSDs,
respectively, to compute capital charges using internal models.\87\ For
example, the standards in the proposed order generally would require
that the model cover a 10-day horizon, 99% confidence level, and
material risks, and that the BD/FCM backtest the model and subject it
to review.\88\
---------------------------------------------------------------------------

    \87\ See 17 CFR 240.15c3-1e and 18a-1.
    \88\ See 17 CFR 15c3-1e(d).
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    The second standard for the internal risk management program is
that it must have the following minimum risk management elements:
     The BD/FCM must have standards to measure and manage risk
exposure arising from counterparties' CDS portfolios that are
independent of any central counterparty margin methodology;
     The BD/FCM must have an internal credit risk rating model
that assesses the credit risk of each individual counterparty;
     The BD/FCM's monitoring of credit risk must include the
prudent setting of an exposure limit for each individual counterparty,
and the exposure limit must be reviewed if the counterparty's credit
risk profile changes and at least quarterly;
     The BD/FCM must have the ability to limit or reduce the
exposure to a counterparty through the collection of additional margin;
     The BD/FCM must have documented procedures to value
positions conservatively in view of current market prices and the
amount that might be realized upon liquidation; and
     The BD/FCM must have well-defined procedures and systems
in place for the daily collection and payment of initial and variation
margin.\89\
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    \89\ See 2021 Final Order, ] (c)(2).
---------------------------------------------------------------------------

    The standards requirement is a condition in the BD/FCM staff
letters. These risk management standards are designed to require a BD/
FCM to take prudent steps to protect the firm from losses that can
result from failing to account for and control risk with respect to its
CDS portfolio margin program. Requiring a BD/FCM to incorporate these
proposed standards is designed to promote the establishment of
effective internal risk management programs to address the risks of
portfolio margining cleared CDS.
    The third standard for the internal risk management program is that
the BD/FCM must report to the Commission and FINRA staffs on a monthly
basis within 5 business days after month end or as otherwise requested
details of its top 25 counterparties' portfolios as measured by net
credit exposure as well as the top 25 counterparties' portfolios as
measured by gross notional amount.\90\ This requirement is a condition
in the BD/FCM staff letters. Based on Commission staff's experience
with the BD/FCM staff letter requirements, this monthly reporting
requirement is appropriate as it will assist Commission staff in
monitoring the risk to the BD/FCM arising from its portfolio margining
of cleared CDS. Understanding the magnitude of this risk will assist
the Commission staff in evaluating the appropriateness of a given
firm's internal risk management program in terms of its procedures and
controls to mitigate risk.
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    \90\ See 2021 Final Order, ] (c)(3).
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    The 2021 Final Order does not include other conditions in the BD/
FCM staff letters, including the capital concentration charge. Based on
Commission staff experience monitoring the BD/FCMs participating in the
CDS portfolio margin program, the Commission believes that the capital
concentration charge and other conditions in the BD/FCM staff letters
are not necessary in light of the requirement to have a reasonably
designed internal risk management program. A reasonably designed
internal risk management program will provide a BD/FCM the tools to
better understand the risks that arise from its portfolio margining of
cleared CDS and address them as the firm deems appropriate (e.g.,
through risk limits, threshold triggers, house margin, heightened
monitoring, or other controls). Therefore, the Commission is not
incorporating these conditions into the 2021 Final Order.
    The Commission did not receive any comments on the fourth BD/FCM
condition in the 2020 Proposed Order and is adopting it as
proposed.\91\ This condition requires that the BD/FCM be in compliance
with applicable laws and regulations relating to risk management,
capital, and liquidity, and be in compliance with applicable clearing
agency/DCO rules and CFTC requirements (including margin, segregation,
and related books and records provisions) with respect to CFTC cleared
swaps customer accounts and cleared swaps proprietary accounts subject
to the CDS portfolio margin program.\92\ The purpose of this condition
is to help ensure that the exemption is available only when the BD/FCM
is in compliance with applicable regulatory requirements. The
Commission received no comments on this condition and is adopting it as
proposed in the 2020 Proposed Order.\93\
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    \91\ See 2020 Proposed Order, 85 FR 70664.
    \92\ See 2021 Final Order, ] (b)(4).
    \93\ See 2020 Proposed Order, 85 FR 70664.
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    The Commission did not receive any comments on the fifth BD/FCM
condition in the 2020 Proposed Order and is adopting it as
proposed.\94\ This condition requires that each cleared swaps customer
and affiliate of the BD/FCM participating in the CDS portfolio margin
program be an ``eligible contract participant.'' \95\ As with the third
condition in the 2021 Final Order for clearing agency/DCOs, it would be
appropriate to limit this exemption to cleared CDS entered into with
eligible contract participants. Eligible contract participants should
have the expertise or resources to effectively determine the risks
associated with engaging in these types of transactions.
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    \94\ See 2020 Proposed Order, 85 FR 70664.
    \95\ See 2021 Final Order, ] (b)(5). The 2012 Order required
that each customer of the BD/FCM participating in a program to
commingle and portfolio margin CDS be an ``eligible contract
participant'' as defined in Section 1a(18) of the CEA. 77 FR 75220.
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    The Commission did not receive any comments on the sixth BD/FCM
condition in the 2020 Proposed Order and is adopting it as
proposed.\96\ This condition requires that, before receiving

any money, securities, or property of a cleared swaps customer or
affiliate to margin, guarantee, or secure positions consisting of
cleared CDS, the BD/FCM must furnish to the cleared swaps customer or
affiliate a disclosure document containing: (1) A statement indicating
that the cleared swaps customer's or affiliate's money, securities, and
property will be held in a CFTC cleared swaps account, and that the
cleared swaps customer or affiliate has elected to seek protections
under the commodity broker liquidation provisions with respect to such
money, securities, and property; and (2) a statement that the broker-
dealer segregation requirements of Sections 15(c)(3) and 3E of the
Exchange Act and the rules thereunder, and any customer protections
under SIPA and the stockbroker liquidation provisions, will not apply
to such cleared swaps customer or affiliate money, securities, and
property.\97\ The disclosure document must be provided to the cleared
swaps customer or affiliate at or prior to the time that the cleared
swaps customer or affiliate opens the CFTC cleared swaps account and,
in all cases, prior to the BD/FCM receiving any money, securities or
property into the CFTC cleared swaps account of the cleared swaps
customer or affiliate. This condition is designed to provide market
participants that elect to participate in the CDS portfolio margin
program with important disclosures regarding the legal framework that
will govern their transactions.
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    \96\ See 2020 Proposed Order, 85 FR 70664.
    \97\ See 2021 Final Order, ] (b)(6).
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    For the reasons discussed above, the Commission finds it
appropriate in the public interest and consistent with the protection
of investors to exempt clearing agency/DCOs and BD/FCMs from compliance
with certain provisions of the Exchange Act in connection with a
program to portfolio margin cleared swaps customer and affiliate
positions in cleared CDS that are swaps and security-based swaps in a
segregated account established and maintained in accordance with
Section 4d(f) of the CEA (in the case of a cleared swaps customer) or a
cleared swaps proprietary account (in the case of an affiliate).

IV. Conclusion

    Pursuant to Sections 3E(c)(2) \98\ and 36 \99\ of the Exchange Act:
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    \98\ 15 U.S.C. 78c-5(c)(2). Section 3E(c)(2) of the Exchange Act
provides that the Commission may, notwithstanding Section 3E(b) of
the Exchange Act, by rule, regulation, or order prescribe terms and
conditions under which any money, securities, or property of a
customer with respect to cleared security-based swaps may be
commingled and deposited with any other money, securities, or
property received by the broker-dealer or SBSD and required by the
Commission to be separately accounted for and treated and dealt with
as belonging to the security-based swap customer of the broker-
dealer or SBSD.
    \99\ 15 U.S.C. 78mm. Section 36 of the Exchange Act authorizes
the Commission to conditionally or unconditionally exempt, by rule,
regulation, or order any person, security, or transaction (or any
class or classes of persons, securities, or transactions) from any
provision of the Exchange Act or any rule or regulation thereunder,
to the extent such exemption is necessary or appropriate in the
public interest, and is consistent with the protection of investors.
---------------------------------------------------------------------------

    It is hereby ordered that any broker-dealer also registered as a
futures commission merchant that has received approval of its margin
methodology by the Commission or Commission staff prior to the date of
this order is deemed to have an internal risk management program that
has been approved by the Commission or the Commission staff as required
by paragraph (b)(3) of this order. It is hereby further ordered that
the following exemptions from Exchange Act requirements will apply:
    (a) Exemption for dually-registered clearing agencies/derivatives
clearing organizations.
    A clearing agency registered pursuant to Section 17A of the
Exchange Act and registered as a derivatives clearing organization
pursuant to Section 5b of the CEA (a ``clearing agency/DCO'') will be
exempt from Sections 3E(b), (d), and (e) of the Exchange Act and any
rules thereunder, solely to perform the functions of a clearing agency
for credit default swaps (``CDS'') under a program to commingle and
portfolio margin cleared CDS for cleared swaps customer and affiliate
positions, subject to the following conditions:
    (1) The clearing agency/DCO has obtained any other relief needed to
permit its clearing members that are registered under Section 15(b) of
the Exchange Act (other than paragraph (11) thereof) and also
registered as a futures commission merchant pursuant to Section
4f(a)(1) of the CEA (a ``BD/FCM'') (at the BD/FCM's election), to
maintain cleared swaps customer or affiliate money, securities, and
property received by the BD/FCM to margin, guarantee, or secure cleared
swaps customer or affiliate positions in cleared CDS, which include
both swaps and security-based swaps, in a segregated account
established and maintained in accordance with Section 4d(f) of the CEA
and rules thereunder (in the case of a cleared swaps customer) or a
cleared swaps proprietary account (in the case of an affiliate) for the
purpose of clearing (as a clearing member of the clearing agency/DCO)
such cleared swaps customer or affiliate positions under a program to
commingle and portfolio margin CDS.
    (2) The clearing agency/DCO has appropriate rules and operational
practices to permit a BD/FCM that is a clearing member (at the BD/FCM's
election) to maintain cleared swaps customer or affiliate money,
securities, and property received by the BD/FCM to margin, guarantee,
or secure cleared swaps customer or affiliate positions in cleared CDS,
which include both swaps and security-based swaps, in a segregated
account established and maintained in accordance with Section 4d(f) of
the CEA and rules thereunder (in the case of a cleared swaps customer)
or a cleared swaps proprietary account (in the case of an affiliate)
for the purpose of clearing (as a clearing member of the clearing
agency/DCO) such cleared swaps customer or affiliate positions under a
program to commingle and portfolio margin CDS.
    (3) The rules of the clearing agency/DCO require that each cleared
swaps customer and affiliate of the BD/FCM participating in a program
to commingle and portfolio margin CDS must be an ``eligible contract
participant'' as defined in Section 1a(18) of the CEA.
    (b) Exemption for certain BD/FCMs that elect to offer a program to
commingle and portfolio margin cleared swaps customer and affiliate
positions in cleared CDS. Solely to perform the functions of a BD/FCM
for cleared CDS, with respect to any cleared swaps customer or
affiliate money, securities, and property received by the BD/FCM to
margin, guarantee, or secure cleared swaps customer or affiliate
positions in security-based swaps included in a segregated account
established and maintained in accordance with Section 4d(f) of the CEA
and rules thereunder (in the case of a cleared swaps customer) or a
cleared swaps proprietary account (in the case of an affiliate) under a
program to commingle and portfolio margin cleared swaps customer or
affiliate positions in CDS, a BD/FCM will be exempt from Exchange Act
Sections 3E(b), (d), and (e), and Section 15(c)(3) and Rule 15c3-3
thereunder and any requirement to treat an affiliate (as defined in
association with the definition of ``cleared swaps proprietary
account'' pursuant to CFTC

Rule 22.1) as a customer for purposes of Section 8 of the Exchange Act
and Exchange Act Rules 8c-1 and 15c2-1 thereunder, subject to the
following conditions:
    (1) With respect to cleared swaps customers that are not affiliates
of the BD/FCM,
    (i) The BD/FCM must maintain cleared swaps customer money,
securities, and property received to margin, guarantee or secure
cleared swaps customer positions consisting of cleared CDS, which
include both swaps and security-based swaps, in a segregated account
established and maintained in accordance with Section 4d(f) of the CEA
and rules thereunder for the purpose of clearing (as a clearing member
or through a clearing member of a clearing agency/DCO operating
pursuant to the exemption in paragraph (a) above) such cleared swaps
customer positions under a program to commingle and portfolio margin
CDS; and
    (ii) The BD/FCM must enter into a non-conforming subordination
agreement with each cleared swaps customer by no later than February 1,
2022. The agreement must contain a specific acknowledgment by the
cleared swaps customer that the money, securities or property
identified in paragraph (b)(1)(i) of this order will not receive
customer treatment under the Exchange Act or SIPA or be treated as
``customer property'' as defined in 11 U.S.C. 741 in a liquidation of
the BD/FCM and that such money, securities or property will be subject
to any applicable protections under Subchapter IV of Chapter 7 of Title
11 of the United States Code and rules and regulations thereunder; as
well as an affirmation by the cleared swaps customer that claims to
``customer property'' as defined in SIPA or 11 U.S.C. 741 against the
BD/FCM with respect to the money, securities, or property identified in
paragraph (b)(1)(i) of this order will be subordinated to the claims of
securities customers and security-based swap customers.
    (2) With respect to affiliates of the BD/FCM,
    (i) The BD/FCM maintains money, securities, and property of
affiliates received to margin, guarantee, or secure positions
consisting of cleared CDS, which include both swaps and security-based
swaps, in a cleared swaps proprietary account for the purpose of
clearing (as a clearing member of a clearing agency/DCO operating
pursuant to the exemption in paragraph (a) above) such positions under
a program to commingle and portfolio margin CDS;
    (ii) The BD/FCM enters into a non-conforming subordination
agreement with each affiliate by no later than February 1, 2022. The
agreement must contain a specific acknowledgment by the affiliate that
the money, securities or property identified in paragraph (b)(2)(i) of
this order will not receive customer treatment under the Exchange Act
or SIPA or be treated as ``customer property'' as defined in 11 U.S.C.
741 in a liquidation of the BD/FCM, and that such money, securities or
property will be held in a proprietary account in accordance with the
CFTC requirements and will be subject to any applicable protections
under Subchapter IV of Chapter 7 of Title 11 of the United States Code
and rules and regulations thereunder; as well as an affirmation by the
affiliate that claims to ``customer property'' as defined in SIPA or 11
U.S.C. 741 against the BD/FCM with respect the money, securities, or
property identified in paragraph (b)(2)(i) of this order will be
subordinated to the claims of securities customers and security-based
swap customers; and
    (iii) The BD/FCM obtains from the affiliate an opinion of counsel
that the affiliate is legally authorized to enter into the
subordination agreement required by paragraph (b)(2)(ii) of this order.
    (3) The BD/FCM has adopted an internal risk management program that
is reasonably designed to identify, measure, and manage the risks
arising from its program to allow cleared swaps customers and
affiliates to commingle and portfolio margin CDS that has been approved
in advance by the Commission or the Commission staff and meets the
standards in paragraph (c) of this order.
    (4) The BD/FCM must be in compliance with applicable laws and
regulations relating to risk management, capital, and liquidity, and
must be in compliance with applicable clearing agency/DCO rules and
CFTC requirements (including segregation and related books and records
provisions) for accounts established and maintained in accordance with
Section 4d(f) of the CEA and rules thereunder (in the case of cleared
swaps customers) and for cleared swaps proprietary accounts (in the
case of affiliates), and subject to a program to commingle and
portfolio margin CDS.
    (5) Each cleared swaps customer and affiliate of the BD/FCM
participating in a program to commingle and portfolio margin CDS is an
``eligible contract participant'' as defined in Section 1a(18) of the
CEA.
    (6) Before receiving any money, securities, or property of a
cleared swaps customer or affiliate to margin, guarantee, or secure
positions consisting of cleared CDS, which include both swaps and
security-based swaps, under a program to commingle and portfolio margin
CDS, the BD/FCM must furnish to the cleared swaps customer or affiliate
a disclosure document containing the following information:
    (i) A statement indicating that the cleared swaps customer's or
affiliate's money, securities, and property will be held in an account
maintained in accordance with the segregation requirements of Section
4d(f) of the CEA (in the case of a cleared swaps customer) or a cleared
swaps proprietary account (in the case of an affiliate), and that the
cleared swaps customer or affiliate has elected to seek protections
under Subchapter IV of Chapter 7 of Title 11 of the United States Code
and the rules and regulations thereunder with respect to such money,
securities, and property; and
    (ii) A statement that the broker-dealer segregation requirements of
Section 15(c)(3) and Section 3E of the Exchange Act and the rules
thereunder, and any customer protections under SIPA and the stockbroker
liquidation provisions, will not apply to such cleared swaps customer
or affiliate money, securities, and property.
    (c) Standards for internal risk management program. The internal
risk management program required pursuant to paragraph (b)(3) of this
order must have the following standards in place:
    (1) Internal Risk Model. The BD/FCM must calculate a future credit
exposure for each cleared swaps customer and affiliate (each a
``counterparty'') using its own proprietary methodology (``internal
risk model'') subject to the following minimum quantitative and
qualitative model standards:
    (i) Quantitative Requirements. (A) The internal risk model must
estimate a potential future exposure over a minimum 10-day horizon and
99% confidence level and capture all material risk factors, including
but not limited to general movements in credit spread term structure,
basis risk between index and single name positions, and interest rate
risk;
    (B) The internal risk model must include a concentration/liquidity
requirement; and
    (C) The internal risk model must include a jump-to-default
requirement for the sale of CDS protection equal to the largest loss of
a single name exposure assuming a conservative recovery rate that may
not exceed 40%.
    (ii) Qualitative Requirements. (A) The internal risk model must be
adequately documented and the documentation must provide a description
of the model

assumptions, data inputs, parameters, and methodologies employed to
measure risk;
    (B) The internal risk model must be subject to an annual model
review by a model group that is independent of the business function;
    (C) The internal risk model must be subject to at least quarterly
backtesting by counterparty or account; and
    (D) The BD/FCM must provide written notice to the Commission or
Commission staff prior to implementing any material change to its
internal risk model.
    (2) Minimum Risk Management System Standards. (A) The BD/FCM must
maintain risk management system standards to measure and manage risk
exposure arising from counterparties' CDS portfolios that are
independent of any central counterparty margin methodology;
    (B) The BD/FCM must have an internal credit risk rating model that
assesses the credit risk of each individual counterparty;
    (C) The BD/FCM's monitoring of credit risk must include the prudent
setting of an exposure limit for each individual counterparty and the
exposure limit must be reviewed if the counterparty's credit risk
profile changes and at least quarterly;
    (D) The BD/FCM must have the ability to limit or reduce the
exposure to a counterparty through the collection of additional margin;
    (E) The BD/FCM must have documented procedures to value positions
conservatively in view of current market prices and the amount that
might be realized upon liquidation; and
    (F) The BD/FCM must have well-defined procedures and systems in
place for the daily collection and payment of initial and variation
margin.
    (3) Monthly Reporting. The BD/FCM must report to the Commission and
FINRA staffs on a monthly basis within 5 business days after month end
or as otherwise requested details of its top 25 counterparties'
portfolios as measured by net credit exposure as well as the top 25
counterparties' portfolios as measured by gross notional amount.

    By the Commission.
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2021-24170 Filed 11-4-21; 8:45 am]
BILLING CODE 8011-01-P