ensure that the Commission's rules are consistent with other regulatory
regimes.\423\ Two commenters expressed related concerns that the
proposal could result in significantly weaker protections for security-
based swaps than exist in the OTC market or in the rules for cleared
swaps adopted by the CFTC.\424\ Of these, one commenter opposed the
Commission's approach of providing covered clearing agencies with
discretion to adopt policies and procedures regarding holding of margin
for security-based swaps.\425\ The commenter stated that the Commission
should instead adopt a mandatory threshold level of protection for
customer margin for security-based swaps that is consistent with the
protections afforded to swaps and that is appropriate to the breadth
and depth of the security-based swap market.\426\ Moreover, the same
commenter, along with two other commenters, recommended that the
Commission explicitly adopt the LSOC model as a framework for the
segregation and portability of customer positions,\427\ and two of the
three commenters also urged that the Commission's LSOC regime be
mandatory and uniform.\428\
---------------------------------------------------------------------------

    \423\ See id. at 4-5 (noting CFTC requirements); LCH at 5
(noting both CFTC requirements and requirements under EMIR);
Vanguard at 2 (noting CFTC requirements).
    \424\ See Fidelity at 1-4; Vanguard at 2.
    \425\ See Vanguard at 4.
    \426\ See id. (referencing the objectives and principles for the
risk management standards prescribed under 12 U.S.C. 5464(b)); see
also supra note 18.
    \427\ See Fidelity at 1-4; ICI at 4, 6; Vanguard at 2.
    \428\ See ICI at 4; Fidelity at 3-4.
---------------------------------------------------------------------------

    In addition, one commenter that urged the Commission to adopt a
specific LSOC mandate also expressed several other related comments.
The commenter expressed the need for covered clearing agencies to
provide individual segregation as an option for customers.\429\ The
commenter also recommended that both initial and variation margin be
passed on to the covered clearing agency, with all excess margin held
in a segregated account (the ``LSOC with excess'' model).\430\ The
commenter further expressed the belief that security-based swap dealers
and broker-dealers should not be authorized to rehypothecate or use
customer margin or excess margin in its

business.\431\ Finally, in conjunction with another commenter, this
commenter also submitted a second comment letter noting that, to
implement LSOC for security-based swap positions, the Commission would
need to undertake several initiatives in addition to revising Rule
17Ad-22(e)(14), including amending rules under SIPA, revising proposed
Rule 18a-4 under the Exchange Act, amending Rule 15c3-3 under the
Exchange Act, and permanently extending the relief provided in the
Portfolio Margining order.\432\
---------------------------------------------------------------------------

    \429\ See ICI at 12-13.
    \430\ See id. at 4-5.
    \431\ See id. at 5. Because the commenter's recommendation would
govern the activities of security-based swap dealers and broker-
dealers, the Commission notes that it is beyond the scope of Rule
17Ad-22.
    \432\ See AMG-ICI at 8-12. The commenter also noted that the
adoption of a sound and workable segregation regime is essential to
ensure that counterparties are protected in bankruptcy. See ICI at
11-12. The Commission agrees that the development of a covered
clearing agency's segregation and portability regime should consider
the operational and bankruptcy implications of such a regime. The
Commission also notes that the tools available to a covered clearing
agency considering such implications will necessarily depend on the
legal regime applicable to the covered clearing agency. The
commenter recommended that the Commission articulate in a proposal
the operational and bankruptcy implications of such a structure to
provide market participants the opportunity to comment on these
issues. See id. at 4. The Commission believes, however, that the
operational and bankruptcy implications will depend on the
particular tools that a covered clearing agency employs in its
segregation and portability regime and also on the legal regimes
within which the covered clearing agency operates. Because the
Commission is taking a principles-based approach in Rule 17Ad-22(e),
the Commission is not making such a proposal under Rule 17Ad-22(e).
---------------------------------------------------------------------------

    After careful consideration, the Commission declines to modify Rule
17Ad-22(e)(14) to explicitly prescribe or mandate the segregation and
portability frameworks described immediately above. The Commission
notes that Rule 17Ad-22(e)(14) provides covered clearing agencies with
flexibility, subject to their obligations and responsibilities as SROs
under the Exchange Act, to determine policies and procedures with
respect to the means of segregation and portability consistent with the
rule. Furthermore, in contrast with the views expressed by the
commenters above, the Commission believes that Rule 17Ad-22(e)(14)
already requires a mandatory threshold level of protection for customer
margin for security-based swaps similar to the threshold level of
protection for swaps because it requires policies and procedures
reasonably designed to both (i) enable the segregation and portability
of positions of a participant's customers and the collateral provided
to the covered clearing agency with respect to those positions, and
(ii) protect such positions and related collateral from the default or
insolvency of that participant.
    The Commission believes that prescribing the particular frameworks
identified by the commenters would be inconsistent with the
Commission's principles-based approach to Rule 17Ad-22(e).\433\
Although a tool or method like LSOC might be appropriate for a covered
clearing agency operating in certain domestic markets to meet the
requirements of Rule 17Ad-22(e)(14), in other markets other tools or
methods, such as an individual segregation method, may also provide the
threshold level of protection sought by the commenters while being
consistent with the rule. Moreover, in contrast to the markets for cash
and listed options in the United States, where the structure for
segregation and portability is primarily maintained at the broker-
dealer level,\434\ in the market for security-based swaps the
segregation and portability structure resides in CCPs, and those
entities have taken different approaches reflective of the needs of
their different structures, members, markets served, and products
cleared. For example, the Commission notes that one commenter
understood Rule 17Ad-22(e)(14) to permit a covered clearing agency to
employ either an LSOC model, consistent with the requirements set forth
by the CFTC, or an individual segregation model, consistent with
EMIR.\435\ Accordingly, the Commission does not believe, as requested
by the commenters, that the Commission should mandate LSOC on a uniform
basis across security-based swap and complex risk profile clearing
agencies.
---------------------------------------------------------------------------

    \433\ See supra Part II.A.4.
    \434\ Exchange Act Rule 15c3-3 requires broker-dealers that
maintain custody of customer securities and cash (a ``carrying
broker-dealer'') to take two primary steps to safeguard these
assets. The steps are designed to protect customers by segregating
their securities and cash from the broker-dealer's proprietary
business activities. If the broker-dealer fails financially, the
securities and cash should be readily available to be returned to
customers. In addition, if the failed broker-dealer is liquidated in
a formal proceeding under the Securities Investor Protection Act of
1970, the securities and cash would be isolated and readily
identifiable as ``customer property'' and, consequently, available
to be distributed to customers ahead of other creditors.
    The first step required by Rule 15c3-3 is that a carrying broker
must maintain physical possession or control of all fully paid and
excess margin securities of their customers. See 17 CFR 240.15c3-3.
Physical possession or control means the broker-dealer must hold
these securities in one of several locations specified in Rule 15c3-
3 and free of liens or any other interest that could be exercised by
a third party to secure an obligation of the broker-dealer.
Permissible locations include a bank, as defined in section 3(a)(6)
of the Exchange Act, and a clearing agency. As described herein,
holding jumbo/global positions in the record name and custody of a
clearing agency is a fundamental part of current U.S. market
structure in which many holders hold indirectly through ``street
name.''
    The second step is that a carrying broker-dealer must maintain a
reserve of cash or qualified securities in an account at a bank that
is at least equal in value to the net cash owed to customers,
including cash obtained from the use of customer securities. The
account must be titled ``Special Reserve Bank Account for the
Exclusive Benefit of Customers.'' The amount of net cash owed to
customers is computed pursuant to a formula set forth in Exhibit A
to Rule 15c3-3. Under the customer reserve formula, the broker-
dealer adds up customer credit items (e.g., cash in customer
securities accounts and cash obtained through the use of customer
margin securities) and then subtracts from that amount customer
debit items (e.g., margin loans). If credit items exceed debit
items, the net amount must be on deposit in the customer reserve
account in the form of cash and/or qualified securities. A broker-
dealer cannot make a withdrawal from the customer reserve account
until the next computation and then only if the computation shows
that the reserve requirement has decreased. The broker-dealer must
make a deposit into the customer reserve account if the computation
shows an increase in the reserve requirement. See 17 CFR 240.15c3-3.
    In addition, records of customer positions are subject to
broker-dealer recordkeeping rules. Exchange Act Rules 17a-3 and 17a-
4 require records be kept for certain periods of time, such as three
or six year periods depending upon the type of record. See 17 CFR
240.17a-3, 17a-4.
    See also 15 U.S.C. 78c-5 (providing for segregation with respect
to security-based swaps); Exchange Act Release No. 34-68071 (Oct.
18, 2012), 77 FR 70213, (Nov. 23, 2012) (proposing Rule 18a-4 under
the Exchange Act for segregation with respect to security-based
swaps). The Commission has also granted conditional relief under
Sections 3E(b), (d), and (e) of the Exchange Act to, among others,
clearing entities dually registered with the Commission and the CFTC
as registered clearing agencies and DCOs, respectively. See Exchange
Act Release No. 34-68433 (Dec. 14, 2012), 77 FR 75211 (Dec. 19,
2012).
    \435\ See LCH at 5.
---------------------------------------------------------------------------

    Notwithstanding its decision not to adopt an approach that
prescribes or mandates a specific portability and segregation
framework, the Commission notes that it has been mindful of the
existing structures for segregation and portability for security-based
swaps in the United States, and has granted relief intended to allow
investors to participate in the market for security-based swaps.
Notably, the Commission has issued an order granting conditional
exemptive relief from compliance with certain provisions of the
Exchange Act in connection with a program to commingle and portfolio
margin customer positions in cleared credit default swaps, which
include both swaps and security-based swaps, in a segregated account
established and maintained in accordance with Section 4d(f) of the
Commodity Exchange Act.\436\ In this regard, the Commission observes
that the individual segregation method is one tool that provides a

threshold level of protection to customers and may be a tool that a
covered clearing agency determines to employ consistent with the
requirements of Rule 17Ad-22(e)(14). The Commission also observes that
under the ``LSOC with excess'' model, customer margin is segregated
from clearing member margin, and therefore that framework, like LSOC
and individual segregation as previously described, is also a tool that
may also be relevant to a covered clearing agency's consideration of
how to implement a framework consistent with the requirements of Rule
17Ad-22(e)(14).
---------------------------------------------------------------------------

    \436\ See Exchange Act Release No. 34-68433 (Dec. 14, 2012), 77
FR 75211 (Dec. 19, 2012) (``Portfolio Margining order'').
---------------------------------------------------------------------------

    In addition, the Commission received two comments that asked the
Commission to clarify certain aspects of Rule 17Ad-22(e)(14). One
commenter noted that there could be tension between the competing goals
of (i) customer portability and (ii) the need for a covered clearing
agency to ensure the safety and soundness of itself and the
markets.\437\ The commenter urged the Commission to recognize the need
for a covered clearing agency to balance these competing priorities and
to avoid any interpretation of proposed Rule 17Ad-22(e)(14) that
prohibits a covered clearing agency from liquidating positions,
including customer positions, where liquidation is reasonably necessary
for the protection of the covered clearing agency.\438\ In response,
the Commission believes that efforts to enable portability at security-
based swap clearing agencies should be encouraged, but the Commission
also recognizes that non-defaulting clearing members should not be
required to take on customer positions to avoid putting the non-
defaulting clearing member at risk, exceeding the member's ability to
risk manage the customer's portfolio, or existing or creating
inconsistencies with the member's risk profile. If a customer's
positions cannot be ported, they will instead be liquidated. Therefore,
the Commission does not believe the comment is inconsistent with either
current practice or Rule 17Ad-22(e)(14), which does not prohibit the
liquidation of customer positions in the event porting would be
impracticable, contrary to the customer's preferences, or pose
increased risk to the markets or non-defaulting members.
---------------------------------------------------------------------------

    \437\ See OCC at 12.
    \438\ See id.
---------------------------------------------------------------------------

    A second commenter stated that the proposed rule is silent on the
issue of protections from fellow-customer risk (i.e., protecting the
positions and related collateral of a participant's customers from
losses associated with the positions of other customers of that
participant), and that Section 3E(e) of the Exchange Act prohibits
clearing agencies from using deposited property as belonging to any
person other than the swaps customer of the depositing broker, dealer,
or security-based swap dealer.\439\ The commenter recommended that the
Commission make explicit that a covered clearing agency's policies and
procedures must give effect to Section 3E(e) and that the covered
clearing agency should publicly disclose the manner in which its
procedures do so.\440\ In response, the Commission notes that Section
3E(e) of the Exchange Act already prohibits such activity and,
therefore any proposed rule change under Rule 19b-4 would need to be
consistent with Section 3E(e).
---------------------------------------------------------------------------

    \439\ See ISDA at 5.
    \440\ See id. at 5-6.
---------------------------------------------------------------------------

c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(14) as proposed. The
Commission is applying Rule 17Ad-22(e)(14) only to security-based swap
clearing agencies and complex risk profile clearing agencies because
existing rules for the cash securities and listed options markets
applicable to broker-dealers already promote segregation and
portability to protect customer positions and funds in those markets.
In proposing Rule 17Ad-22(e)(14), the Commission noted that it intended
to avoid requiring changes to the existing structure of cash securities
and listed options markets in the United States where registered
clearing agencies that provide CCP or CSD services play a central
role.\441\ This approach is consistent with the PFMI.
---------------------------------------------------------------------------

    \441\ See CCA Standards proposing release, supra note 5, at
29546.
---------------------------------------------------------------------------

    Transactions in the U.S. cash security and listed options markets
are characterized by the following features: (i) Customers of members
generally do not have an account at a clearing agency; \442\ (ii) the
clearing agency is not able to identify which participants' customers
beneficially own the street name positions registered in the record
name of the clearing agency (or its nominee); and (iii) the clearing
agency has no recourse to funds of customers of members. Therefore,
neither portability nor segregation occur as a practical matter at the
CCP level under the current market structure for cash securities and
listed options.\443\ Further, customer positions and funds in the cash
securities and listed options markets are protected under the
Securities Investor Protection Act of 1970 (``SIPA'').\444\
---------------------------------------------------------------------------

    \442\ A customer of a member also would not have an account at
the clearing agency where holding in record name (rather than
through street name ownership). This is the case even where such
record name owner-customer does not receive a paper security
certificate but holds in book-entry form through the direct
registration system, as direct registration system accounts are
maintained by a transfer agent and not by the clearing agency. See
Exchange Act Release No. 34-63320 (Nov. 16, 2010), 75 FR 71473,
71474 (Nov. 23, 2010) (discussing the ability of registered owners
to hold their assets on the records of transfer agents in book-entry
form through the direct registration system).
    \443\ See CCA Standards proposing release, supra note 5, at
29546.
    \444\ See 15 U.S.C. 78eee et seq. Pursuant to SIPA, when a
broker-dealer that is a member of the Securities Investor Protection
Corporation (``SIPC'') fails and customer assets are missing, SIPC
seeks to return customer cash and securities, and supplements the
distribution of the remaining customer assets at the broker-dealer
with SIPC reserve funds of up to $500,000 per customer, including a
maximum of $250,000 for cash claims.
---------------------------------------------------------------------------

    With respect to portability, the Commission notes the portability
requirement in Rule 17Ad-22(e)(14) would not apply only upon a member
default; instead, a covered clearing agency to which Rule 17Ad-
22(e)(14) applies generally should have policies and procedures that
facilitate porting in the normal course of business, such as when a
customer ends its relationship with a member to start a new
relationship with a different member, or as a result of other events,
such as a merger involving the member. Under Rule 17Ad-22(e)(14), a
security-based swap clearing agency or complex risk profile clearing
agency generally should structure its portability arrangements in a way
that makes it highly likely that the positions and collateral of a
defaulting member's customers could be effectively transferred to one
or more other members.
    Consistent with its response to the commenters discussed above, the
Commission recognizes that there may be a number of ways to address
compliance with Rule 17Ad-22(e)(14). Therefore, the Commission is
providing the following guidance that a covered clearing agency subject
to Rule 17Ad-22(e)(14) generally should consider in establishing and
maintaining policies and procedures for segregation and portability:
     Whether it has, at a minimum, segregation and portability
arrangements that effectively protect a participant's customers'
positions and related collateral from the default or insolvency of that
participant;
     if it additionally offers protection of such customer
positions and collateral against the concurrent default of the
participant and a fellow customer, whether it takes steps to ensure
that such protection is effective;

     whether it employs an account structure that enables it
readily to identify positions of a participant's customers and to
segregate related collateral, and whether it maintains customer
positions and collateral in individual customer accounts or in omnibus
customer accounts;
     whether it structures its portability arrangements in a
way that makes it highly likely that the positions and collateral of a
defaulting participant's customers will be transferred to one or more
other participants;
     whether it discloses its rules, policies, and procedures
relating to the segregation and portability of a participant's
customers' positions and related collateral, and, in particular,
whether it discloses whether customer collateral is protected on an
individual or omnibus basis; and
     whether it discloses any constraints, such as legal or
operational constraints, that may impair its ability to segregate or
port a participant's customers' positions and related collateral.
15. Rule 17Ad-22(e)(15): General Business Risk
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(15) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to identify, monitor, and manage its
general business risk and hold sufficient liquid net assets funded by
equity to cover potential general business losses so that the covered
clearing agency can continue operations and services as a going concern
if those losses materialize.\445\ Proposed Rule 17Ad-22(e)(15)(i) would
require a covered clearing agency to establish, implement, maintain and
enforce written policies and procedures reasonably designed to
determine the amount of liquid net assets funded by equity based upon
its general business risk profile and the length of time required to
achieve a recovery or orderly wind-down, as appropriate, of its
critical operations and services if such action is taken. Proposed Rule
17Ad-22(e)(15)(ii) would require a clearing agency to establish,
implement, maintain and enforce written policies and procedures
reasonably designed to provide for holding liquid net assets funded by
equity equal to the greater of either six months of its current
operating expenses or the amount determined by the board of directors
to be sufficient to ensure a recovery or orderly wind-down of critical
operations and services of the covered clearing agency, as contemplated
by the plans established under proposed Rule 17Ad-22(e)(3)(ii).
Additionally, proposed Rule 17Ad-22(e)(15)(ii) would require a covered
clearing agency to establish, implement, maintain and enforce written
policies and procedures reasonably designed to provide for monitoring
its business operations and reducing the likelihood of losses.\446\
Finally, proposed Rule 17Ad-22(e)(15)(iii) would require a covered
clearing agency to establish, implement, maintain and enforce written
policies and procedures reasonably designed to provide for maintaining
a viable plan, approved by the board of directors and updated at least
annually, for raising additional equity should its equity fall close to
or below the amount required by the proposed rule as discussed
above.\447\
---------------------------------------------------------------------------

    \445\ See CCA Standards proposing release, supra note 5, at
29547-48.
    \446\ See id. at 29548-49.
    \447\ See id. at 29549.
---------------------------------------------------------------------------

b. Comments Received
    Most commenters expressed general support for the Rule 17Ad-
22(e)(15), but a number of commenters also raised specific areas of
concern and encouraged the Commission to adopt specific, and in some
cases prescriptive, requirements under the rule. The Commission
addresses each of these comments in turn below.
i. General Comments
    One commenter expressed support for the proposed requirements for
clearing agencies to identify and monitor general business risk, manage
liquid assets, and maintain a viable plan for raising additional equity
when needed.\448\ The commenter believed that such requirements
contribute to avoiding disruptions in the operations of clearing
agencies, as well as the broader market. The commenter also expressed
support for the proposed rule's requirements to identify, monitor and
manage general business risk and to hold sufficient liquid assets in a
manner allowing for a recovery or orderly wind-down if necessary.\449\
A second commenter expressed support for the proposed requirement that
covered clearing agencies hold sufficient capital to cover potential
general business and operational losses and to enable continuation of
business operations and noted a belief that six months of operating
expenses is an appropriate base level of funding.\450\ A third
commenter generally endorsed the Commission's proposal to require a
covered clearing agency to maintain liquid net assets sufficient to
allow the covered clearing agency to continue to operate for no less
than six months.\451\ A fourth commenter also generally supported the
Commission's proposal.\452\ Finally, one commenter requested that the
Commission phase-in implementation of Rule 17Ad-22(e)(15),\453\ and
that comment is addressed in Part II.G above.
---------------------------------------------------------------------------

    \448\ See CFA Institute at 1-2.
    \449\ See id. at 10.
    \450\ See DTCC at 9.
    \451\ See OCC at 13.
    \452\ See CFA Institute at 10.
    \453\ See OCC at 15 (noting that it would be in a position to
comply with such requirement by no later than January 1, 2015).
---------------------------------------------------------------------------

ii. Application to Derivatives Clearing
    One commenter expressed concern that the proposed requirement would
be inadequate to address the potential for general business losses
incurred by a covered clearing agency that clears large quantities of
bespoke swap and derivative instruments, and therefore the commenter
urged the Commission to reassess whether clearing of bespoke
instruments is appropriate in light of the potential problems in
predicting the performance of such instruments during times of
stress.\454\ The Commission notes that the purpose of proposing Rule
17Ad-22(e) was not to reassess whether the clearing of bespoke
instruments is appropriate, but to focus on the regulatory framework
for the regulation of covered clearing agencies and address, among
other things, governance and financial risk management. Therefore, the
Commission believes that the comment is beyond the scope of this
rulemaking.
---------------------------------------------------------------------------

    \454\ See CFA Institute at 10.
---------------------------------------------------------------------------

iii. Liquid Net Assets
    The Commission received multiple comments related to the liquid net
assets required under Rule 17Ad-22(e)(15)(ii). One commenter stated
that, in addition to pre-funded capital and guaranty funds, it should
be clear, in advance, that clearing members (and not the FRB or
taxpayers) stand behind the organization should it run into financial
trouble.\455\ The Commission believes that Rule 17Ad-22(e), taken as a
whole, already contemplates and addresses the commenter's concern. As
previously noted, the rule requires policies and procedures reasonably
designed to promote in a comprehensive way the resiliency of a covered
clearing agency and, in particular, its ability to

withstand periods of market stress.\456\ The Commission notes as a
general matter that the liquid net assets described in the rule should
not be confused with the accounting term ``net liquid assets.'' For
purposes of Rule 17Ad-22(e)(15)(ii), a covered clearing agency
generally should consider liquid net assets to mean cash or highly
liquid securities. When liquid net assets are funded by equity, a
covered clearing agency generally should consider equity to mean common
stock, disclosed reserves, and other related earnings. In addition, the
Commission notes that Rule 17Ad-22(e)(3)(ii) separately requires
policies and procedures for plans for recovery or orderly wind-down.
---------------------------------------------------------------------------

    \455\ See SRC at 2; see also supra note 284 and accompanying
text.
    \456\ See supra notes 284-288 and accompanying text (discussing
similar position from commenter regarding Rule 27Ad-22(e)(5)).
---------------------------------------------------------------------------

    Two commenters urged the Commission not to take too narrow a view
of what sources of funding would be considered liquid net assets funded
by equity under the proposed rule.\457\ The first commenter believed
that in calculating its six-month liquid asset coverage, a CCP should
be allowed to include projected revenues of the CCP over the same six-
month period, subject to an appropriate haircut.\458\ The commenter
also requested that the Commission clarify that a buffer, such as a
contingent capital arrangement requiring clearing members to contribute
funds, should be considered an appropriate source of equity funding
under the rule.\459\ On these two issues, the Commission believes that
the commenter has identified policies and procedures that would not
satisfy Rule 17Ad-22(e)(15). Among other things, Rule 17Ad-
22(e)(15)(ii) requires policies and procedures for holding liquid net
assets funded by equity. If a covered clearing agency is relying on
projected revenues or on obtaining liquid net assets through contingent
arrangements, then the covered clearing agency is not holding liquid
net assets funded by equity. The focus of Rule 17Ad-22(e)(15)(ii) is
mitigating the risk that a covered clearing agency would be unable to
perform its obligations as a going concern; to minimize such
performance risk, the covered clearing agency must necessarily have
assets that are readily available, such as cash reserves or cash
equivalents. Projected revenues, like contingent funding mechanisms, do
not provide certainty that a covered clearing agency can continue to
perform its obligations when general business losses arise because the
assets may be unavailable to satisfy business losses.
---------------------------------------------------------------------------

    \457\ See DTCC at 10; OCC at 13.
    \458\ See OCC at 14.
    \459\ See id.
---------------------------------------------------------------------------

    The same commenter and a second commenter also urged the Commission
to clarify and broadly construe what constitutes equity capital to
include noncumulative perpetual preferred stock, which would be
permanently available.\460\ One of these commenters noted that such
preferred stock constitutes additional tier 1 capital under the BCBS
capital framework and expressed the belief that the elements of capital
that constitute tier 1 capital should be permitted to count as equity
under the proposed rule.\461\ In response, the Commission believes that
the question of whether a particular noncumulative preferred stock
would constitute equity capital would depend on the terms and
conditions of each instrument and therefore such instruments would need
to be assessed on a case-by-case basis. The Commission therefore
declines to adopt the position urged by the commenter.
---------------------------------------------------------------------------

    \460\ See DTCC at 10; OCC at 14.
    \461\ See DTCC at 10-11.
---------------------------------------------------------------------------

    The same commenter further expressed an expectation that liquid net
assets funded by equity would be calculated by comparing the clearing
agency's shareholders equity to proprietary cash and liquid marketable
securities and deducting unaffiliated third-party debt.\462\ The
commenter believed that it is appropriate for a covered clearing
agency, where it has significant shareholder equity, to be able to
liquefy that equity via intercompany funding so long as the requisite
amount of cash and/or liquid securities is held and maintained at the
covered clearing agency level. The commenter also emphasized the role
that holding company structures play in funding their affiliates,
noting that the holding company may have broader access to financial
markets to liquefy the equity base of their subsidiaries.\463\ The
commenter argued that such financing would provide a high level of
flexibility to meet a covered clearing agency's needs. In response to
the commenter, the Commission is unable to opine on these particular
calculations of the commenter's liquid net assets because the
determination of whether a particular liquid net asset calculation
meets the requirements of Rule 17Ad-22(e)(15)(ii) would need to be made
on a detailed, case-by-case basis. The Commission would need to
understand and evaluate, for example, the covered clearing agency's
particular capital structure, the types of securities being held, the
nature and extent of the covered clearing agency's debt holdings, the
structure and elements of the intercompany funding arrangement
described by the commenter, and the nature of the access that the
holding company has to the relevant markets for the purposes of
liquefying any subsidiary equity and how that access differs from that
of the covered clearing agency.
---------------------------------------------------------------------------

    \462\ See id. at 10.
    \463\ See id.
---------------------------------------------------------------------------

    In response to the commenter's position regarding the role that a
holding company structure may play in addressing the requirement of
Rule 17Ad-22(e)(15), the Commission reiterates prior statements made
above that the requirements of Rule 17Ad-22(e) apply to each covered
clearing agency registered with the Commission. Therefore, for example,
if a covered clearing agency's parent or holding company were to adopt
a company-wide framework addressing the issues covered in Rule 17Ad-
22(e)(15), the covered clearing agency nevertheless would itself need
to adopt or ratify those policies and procedures with respect to its
own business to meet the requirements of Rule 17Ad-22(e)(15).\464\ As
adopted, pursuant to Rule 17Ad-22(e)(15)(ii) each covered clearing
agency is required to establish, implement, maintain and enforce
written policies and procedures reasonably designed to provide for
holding liquid net assets funded by equity equal to the greater of
either six months of its current operating expenses or the amount
determined by the board of directors to be sufficient to ensure a
recovery or orderly wind-down of critical operations and services of
the covered clearing agency.
---------------------------------------------------------------------------

    \464\ See supra Part II.C.3.c.
---------------------------------------------------------------------------

iv. Viable Plan To Raise Additional Equity
    With respect to the requirement for a covered clearing agency's
policies and procedures to be reasonably designed to have a viable
plan, updated annually, for raising additional equity when the covered
clearing agency's equity falls below or close to the amount required by
the proposed rule, one commenter believed that the proposed rule should
require capital-raising to occur prior to a covered clearing agency
approaching the required equity threshold.\465\ Otherwise, the
commenter stated, the covered clearing agency may be unable to raise
the needed equity due to market conditions.\466\ In response, the

Commission notes that Rule 17Ad-22(e)(15)(iii), as proposed, addresses
the commenter's concern by requiring that the plan be viable when the
covered clearing agency's equity falls below or close to the amount
required by the proposed rule. However, the Commission is providing
further guidance below to clarify its position further.
---------------------------------------------------------------------------

    \465\ See CFA Institute at 10.
    \466\ See id.
---------------------------------------------------------------------------

    Another commenter expressed the belief that an annual review of the
plan for raising additional equity is unnecessary and that a biannual
review is sufficient, provided that the plan is reviewed sooner should
changes occur.\467\ The Commission continues to believe, however, that
an annual review is an appropriate interval to help ensure that each
covered clearing agency is mindful of changing market conditions. The
Commission believes that, in a two-year window between biannual
reviews, so much time passes that a covered clearing agency may find
that market conditions have changed so significantly that a once-viable
plan to raise additional equity is no longer viable. A yearly review
cycle helps ensure that the covered clearing agency remains aware of
changing market conditions, facilitating on an annual basis incremental
updates to the plan in response to said changing market conditions.
Further, the Commission believes that a covered clearing agency could
adopt policies and procedures that provide for more frequent review in
response to changing market conditions, and that such policies and
procedures would help a covered clearing agency better react to periods
of market stress. Therefore, the Commission has determined not to adopt
the commenter's suggested approach.
---------------------------------------------------------------------------

    \467\ See DTCC at 11.
---------------------------------------------------------------------------

c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(15) as proposed. Because
the Commission recognizes that there may be a number of ways to address
compliance with Rule 17Ad-22(e)(15), the Commission is providing the
following guidance that a covered clearing agency generally should
consider in establishing and maintaining policies and procedures that
address general business risk:
     Whether it has robust management and control systems to
identify, monitor, and manage general business risks, including losses
from poor execution of business strategy, negative cash flows, or
unexpected and excessively large operating expenses;
     whether it holds liquid net assets funded by equity (such
as common stock, disclosed reserves, or other retained earnings) so
that it can continue operations and services as a going concern if it
incurs general business losses;
     whether the amount of liquid net assets funded by equity
it holds is determined by its general business risk profile and the
length of time required to achieve a recovery or orderly wind-down, as
appropriate, of its critical operations and services if such action is
taken;
     whether it maintains a viable recovery or orderly wind-
down plan and holds sufficient liquid net assets funded by equity to
implement this plan that, at a minimum, are funded by equity equal to
at least six months of current operating expenses, in addition to
resources held to cover participant defaults or other risks addressed
by its financial resources;
     whether assets held to cover general business risk are of
high quality and sufficiently liquid to allow the covered clearing
agency to meet its current and projected operating expenses under a
range of scenarios, including in adverse market conditions; and
     whether it maintains a viable plan, approved by the board
of directors and updated no less than annually, for raising additional
equity should its equity fall close to or below the amount needed.
    With respect to Rule 17Ad-22(e)(15)(iii) and the policies and
procedures for maintaining a viable plan, the Commission believes that
a viable plan generally should enable the covered clearing agency to
hold sufficient liquid net assets to achieve recovery or orderly wind-
down. Therefore, the Commission believes that a covered clearing
agency's policies and procedures generally should define when a covered
clearing agency's equity falls close to the amount required by the
rule, so that the covered clearing agency has policies and procedures
that clearly define when the covered clearing agency should initiate
the plan to raise additional equity. In developing such policies and
procedures, a covered clearing agency generally should consider and
account for circumstances that may require a certain length of time
before any plan can be implemented. For example, before obtaining
shareholder approval to issue new shares, a covered clearing agency may
need to call a special meeting subject to a notice period.
    In addition, with respect to the plan under Rule 17Ad-
22(e)(15)(iii) being approved by the board of directors and updated at
least annually, the board of a covered clearing agency generally should
perform the approval not less than once every twelve months.
16. Rule 17Ad-22(e)(16): Custody and Investment Risks
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(16) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to safeguard its own and its
participants' assets and minimize the risk of loss and delay in access
to these assets. Proposed Rule 17Ad-22(e)(16) would also require a
covered clearing agency to establish, implement, maintain and enforce
written policies and procedures reasonably designed to invest such
assets in instruments with minimal credit, market, and liquidity risks.
b. Comments Received and Commission Response
    The Commission received one comment on proposed Rule 17Ad-
22(e)(16), which generally sought consideration of more prescriptive or
granular aspects to the Commission's approach.\468\ The commenter made
several points about the proposed rule. First, the commenter noted that
to mitigate the risks to participants from current CCP practices for
participant collateral, including commingling, rehypothetication or
title transfer arrangements, and investment practices, the Commission
should provide additional guidance regarding the specific protections a
covered clearing agency must employ to safeguard participants'
collateral and invest such collateral in instruments with minimal
credit, market, and liquidity risks.\469\ Moreover, the commenter
stated its belief that house collateral is inadequately segregated,
current investment practices expose members to unnecessary risk of
loss, and CCP investment policies and practices expose members to
interest rate and credit risk through investments in higher-risk and
longer-term instruments, putting member principal at risk.\470\
---------------------------------------------------------------------------

    \468\ See The Clearing House at 3, 11-12.
    \469\ See id. at 3, 11.
    \470\ See id. at 11.
---------------------------------------------------------------------------

    The commenter stated that, due to commingling and inadequate
traceability, participants' rights to the return of their collateral
upon the insolvency of a CCP are often uncertain and could be
impaired.\471\ The commenter also noted that some CCPs are permitted to
rehypothecate participant securities collateral or to secure their
investments using title

transfer arrangements, each of which exposes participants to potential
loss due to the unavailability of participant collateral (or its
liquidation value) in the CCP's insolvency.\472\
---------------------------------------------------------------------------

    \471\ See id.
    \472\ See id.
---------------------------------------------------------------------------

    For the purpose of minimizing investment risk and the risk of loss
of participant collateral, the commenter recommended that the
Commission confirm the applicability of the following protections with
respect to a covered clearing agency's treatment of participant
collateral:
     Limit a CCP's ability to encumber or impair participants'
rights in guaranty fund contributions and initial margin posted to the
CCP in support of proprietary positions.\473\
---------------------------------------------------------------------------

    \473\ See id. at 11-12.
---------------------------------------------------------------------------

     Specify standards for the establishment, designation, and
maintenance of accounts for the safekeeping of participant collateral,
and related requirements to ensure the treatment of such funds as
belonging to the relevant participants in the event of the insolvency
of the covered clearing agency and otherwise; \474\
---------------------------------------------------------------------------

    \474\ See id. at 12.
---------------------------------------------------------------------------

     Further specify the types of highly liquid investments
(and, as applicable, eligible counterparties and issuers), and related
concentration and weighted average maturity limits, applicable to the
investment of participant collateral, as well as the capital of the
covered clearing agency committed to the default waterfall; \475\
---------------------------------------------------------------------------

    \475\ See id.
---------------------------------------------------------------------------

     Prohibit the rehypothecation of non-cash collateral of
non-defaulting participants and limit such rehypothecation in the case
of a defaulting participant to circumstances where an immediate
liquidation of the non-cash collateral would lead to severe asset value
depreciation; \476\ and
---------------------------------------------------------------------------

    \476\ See id.
---------------------------------------------------------------------------

     Require to use pledged arrangements when taking
collateral, except where title transfer arrangements are necessitated
by applicable law.\477\
---------------------------------------------------------------------------

    \477\ See id.
---------------------------------------------------------------------------

    The commenter also recommended that the Commission specify a
covered clearing agency's disclosure obligations with respect to its
collateral investment activities, including the extent of reuse of
participant collateral, eligible counterparties for collateral
rehypothecation, the covered clearing agency or participant's rights to
the collateral posted to it and the covered clearing agency's
investment policies, balances, and concentrations.\478\
---------------------------------------------------------------------------

    \478\ See id.
---------------------------------------------------------------------------

    Much of the clarification and guidance sought by the commenter, in
the Commission's view, would entail the imposition of prescriptive and
granular requirements on covered clearing agencies with respect to
their custody and investment risks. Such ex ante requirements would be
inconsistent with the Commission's principles-based approach to Rule
17Ad-22(e).\479\ Although it is possible that the commenter's
suggestions could be appropriate in certain circumstances, the
Commission believes that these comments do not take into account the
variation among covered clearing agencies with respect to the different
markets served, products cleared, and risk management needs.
Nevertheless, the Commission believes that Rule 17Ad-22(e)(16) already
encompasses the commenter's suggestions, and that many covered clearing
agencies already employ and can continue to consider these suggestions
when designing or revising policies and procedures under the rule. The
Commission therefore believes that no modifications to Rule 17Ad-
22(e)(16) are necessary.
---------------------------------------------------------------------------

    \479\ See supra Part II.B.
---------------------------------------------------------------------------

c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(16) as proposed. Because
the Commission recognizes that there may be a number of ways to address
compliance with Rule 17Ad-22(e)(16), the Commission is providing the
following guidance that a covered clearing agency generally should
consider in establishing and maintaining policies and procedures that
address custody and investment risk:
     Whether it holds its own and its participants' assets at
supervised and regulated entities that have robust accounting
practices, safekeeping procedures, and internal controls that fully
protect these assets;
     whether it has prompt access to its assets and the assets
provided by participants, when required;
     whether it evaluates and understands its exposures to its
custodian banks, taking into account the full scope of its
relationships with each;
     whether its investment strategy is consistent with its
overall risk management strategy and fully disclosed to its
participants; and
     whether its investments are secured by, or claims on,
high-quality obligors, allowing for quick liquidation with little, if
any, adverse price effect.
    The Commission also notes that failure by a clearing agency to hold
assets in instruments with minimal credit, market, and liquidity risk
may limit the clearing agency's ability to access these assets
promptly. The Commission therefore believes that covered clearing
agencies, in seeking to satisfying the requirements of Rule 17Ad-
22(e)(16), generally should seek to minimize the risk of loss or delay
in access by holding assets that are highly liquid (e.g., cash, U.S.
Treasury securities, or securities issued by a U.S. government agency)
and by using only supervised and regulated entities such as banks to
act as custodians for the assets and to facilitate settlement. The
Commission further notes that the rule does not require that a covered
clearing agency invest its own and its participants' assets but that it
have policies and procedures for investing such assets in instruments
with minimal credit, market, and liquidity risks when it determines to
so invest.
17. Rule 17Ad-22(e)(17): Operational Risk Management
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(17) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to manage the covered clearing
agency's operational risk. In proposing Rule 17Ad-22(e)(17), the
Commission noted that operational risk involves, among other things,
the likelihood that deficiencies in information systems or internal
controls, human errors or misconduct, management failures, unauthorized
intrusions into corporate or production systems, or disruptions from
external events such as natural disasters, would adversely affect the
functioning of a clearing agency.\480\
---------------------------------------------------------------------------

    \480\ See CCA Standards proposing release, supra note 5, at
29551.
---------------------------------------------------------------------------

    Proposed Rule 17Ad-22(e)(17)(i) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to identify the plausible sources of
operational risk, both internal and external, and mitigate their impact
through the use of appropriate systems, policies, procedures, and
controls. Proposed Rule 17Ad-22(e)(17)(ii) would require a covered
clearing agency to establish, implement, maintain, and enforce written
policies and procedures reasonably designed to ensure that systems have
a high degree of security, resiliency, operational reliability, and
adequate, scalable capacity. Finally, proposed Rule 17Ad-22(e)(17)(iii)
would require a covered clearing agency to establish, implement,
maintain and enforce written policies and procedures reasonably
designed to provide for a

business continuity plan that addresses events posing a significant
risk of disrupting operations.\481\
---------------------------------------------------------------------------

    \481\ See id.
---------------------------------------------------------------------------

b. Comments Received and Commission Response
    The Commission received one comment that generally supported the
Commission's approach in Rule 17Ad-22(e)(17). The commenter expressed a
belief that most, if not all, businesses of the size and significance
of a covered clearing agency must commit to and undertake plans to
manage operations in the event of a disruption, including through the
adoption of a formal business continuity plan.\482\ The commenter also
argued that anything less risks major repercussions and the loss of
investor trust. In response, the Commission notes that Rule 17Ad-
22(e)(17) addresses the commenter's concerns by including requirements
for policies and procedures with respect to a business continuity plan.
---------------------------------------------------------------------------

    \482\ See CFA Institute at 11.
---------------------------------------------------------------------------

c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(17) with one
modification: Because the text in Rule 17Ad-22(e)(17)(ii) for
``establishing and maintaining policies and procedures reasonably
designed'' is duplicative of the requirement under Rule 17Ad-22(e) to
have policies and procedures reasonably designed to establish,
maintain, implement, and enforce the requirements thereunder, the
Commission is removing the duplicative text. In addition, the
Commission notes that Rule 17Ad-22(e)(17) includes similar provisions
to Rule 17Ad-22(d)(4), and that, like Rule 17Ad-22(d)(4), Rule 17Ad-
22(e)(17) concerns operational risks that stem from deficiencies in
internal controls, human errors, and management failures.\483\ The
Commission also notes that Rule 17Ad-22(e)(17) includes requirements
related to operational risk management in addition to the requirements
in Regulation SCI, previously discussed in Part I.A.4. The Commission
therefore notes that a covered clearing agency, in seeking to address
the requirements of Rule 17Ad-22(e)(17), generally should remain
mindful of related requirements under other Commission rules and
regulation.
---------------------------------------------------------------------------

    \483\ See CCA Standards proposing release, supra note 5, at
29551; see also infra Part IV.C.17 (also discussing the similar
provisions between Rules 17Ad-22(e)(17) and (d)(4)); Clearing Agency
Standards, supra note 5, at 66248 (discussing Rule 17Ad-22(d)(4)).
---------------------------------------------------------------------------

    Further, because the Commission recognizes that there may be a
number of ways to address compliance with Rule 17Ad-22(e)(17), the
Commission is providing the following guidance that a covered clearing
agency generally should consider in establishing and maintaining
policies and procedures that address operational risk:
     Whether it establishes a robust operational risk-
management framework with appropriate systems, policies, procedures,
and controls to identify, monitor, and manage operational risks;
     whether its board of directors clearly define the roles
and responsibilities for addressing operational risk and whether it
endorses the covered clearing agency's operational risk-management
framework;
     whether it clearly defines operational reliability
objectives and whether it has policies in place that are designed to
achieve its service-level objectives;
     whether the covered clearing agency ensures that it has
scalable capacity adequate to handle increasing stress volumes and to
achieve its service-level objectives;
     whether it has comprehensive physical and information
security policies that address all potential vulnerabilities and
threats;
     whether it has a business continuity plan that addresses
events posing a significant risk of disrupting operations, including
events that could cause a wide-scale or major disruption; and
     whether it identifies, monitors, and manages the risks
that key participants, other covered clearing agencies, and service and
utility providers might pose to its operations.
    With respect to ``adequate, scalable capacity'' under Rule 17Ad-
22(e)(17)(ii), the Commission believes that a covered clearing agency
generally should have operational systems that can be extended or
expanded based on its anticipated business needs. Further, the
Commission believes that, to help limit disruptions that may impede the
proper functioning of a covered clearing agency, covered clearing
agencies generally should review their operations for potential
weaknesses and develop appropriate systems, controls, and procedures to
address weaknesses the rule seeks to mitigate.
18. Rule 17Ad-22(e)(18): Access and Participation Requirements
    As proposed, Rule 17Ad-22(e)(18) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to establish objective, risk-based,
and publicly disclosed criteria for participation, which permit fair
and open access by direct and, where relevant, indirect participants
and other FMUs. Proposed Rule 17Ad-22(e)(18) also would require that a
covered clearing agency establish, implement, maintain and enforce
written policies and procedures reasonably designed to require
participants to have sufficient financial resources and robust
operational capacity to meet obligations arising from participation in
the clearing agency and to monitor compliance with participation
requirements on an ongoing basis.\484\
---------------------------------------------------------------------------

    \484\ See CCA Standards proposing release, supra note 5, at
29551-52.
---------------------------------------------------------------------------

    The Commission received one comment regarding Rule 17Ad-22(e)(18).
The commenter expressed support for the fair and open participation
requirements under the proposed rule, the public disclosure of such
participation criteria under the proposed rule, and the proposed
requirement that such criteria be risk-based.\485\
---------------------------------------------------------------------------

    \485\ See CFA Institute at 11.
---------------------------------------------------------------------------

    The Commission is adopting Rule 17Ad-22(e)(18) as proposed.
Moreover, because the Commission recognizes that there may be a number
of ways to address compliance with Rule 17Ad-22(e)(18), the Commission
is providing the following guidance that a covered clearing agency
generally should consider in establishing and maintaining policies and
procedures that address access and participation requirements:
     Whether it allows for fair and open access to its
services, including by direct and where relevant, indirect participants
and other covered clearing agencies, based on reasonable risk-related
participation requirements;
     whether its participation requirements are justified in
terms of the safety and efficiency of the covered clearing agency and
the markets it serves, are tailored to and commensurate with its
specific risks, and are publicly disclosed; and
     whether it monitors compliance with its participation
requirements on an ongoing basis and clearly defines and publicly
discloses procedures for facilitating the suspension and orderly exit
of a participant that breaches, or no longer meets, the participation
requirements.
    The Commission also notes that, in contrast to other requirements
in Rule 17Ad-22(e) where the term ``transparent'' is used in the
context of facilitating disclosure ``where appropriate,'' the
requirement here for policies and procedures reasonably

designed to establish ``publicly disclosed'' criteria for participation
would necessarily require that the relevant policies and procedures be
reasonably designed to provide for disclosure of such criteria for
participation. The Commission also notes that membership standards at
covered clearing agencies generally should seek to limit the potential
for member defaults and, as a result, losses to non-defaulting members
in the event of a member default. Using risk-based criteria helps to
protect investors by limiting the participants of a covered clearing
agency to those for which the covered clearing agency has assessed the
likelihood of default.
19. Rule 17Ad-22(e)(19): Tiered Participation Arrangements
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(19) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to identify, monitor, and manage the
material risks to the covered clearing agency arising from arrangements
in which firms that are indirect participants in the covered clearing
agency rely on the services provided by direct participants in the
covered clearing agency to access the covered clearing agency's
payment, clearing, or settlement facilities (hereinafter ``tiered
participation arrangements''). In addition, proposed Rule 17Ad-
22(e)(19) would require that a covered clearing agency establish,
implement, maintain and enforce written policies and procedures
reasonably designed to regularly review the material risks to the
covered clearing agency arising from such tiered participation
arrangements.\486\
---------------------------------------------------------------------------

    \486\ See CCA Standards proposing release, supra note 5, at
29553.
---------------------------------------------------------------------------

b. Comments Received and Commission Response
    The Commission received several comments regarding tiered
participation arrangements under Rule 17Ad-22(e)(19). One commenter
believed that regular reviews of tiered participation arrangements are
an important part of a covered clearing agency's ability to perform
prompt and accurate clearance and settlement, to protect investors, and
to safeguard securities and funds.\487\ However, some commenters
focused on particular aspects of the proposal in seeking to have the
Commission consider a specific approach or issue. Comments directed to
these particular substantive aspects of Rule 17Ad-22(e)(19) are
discussed below.
---------------------------------------------------------------------------

    \487\ See CFA Institute at 11-12.
---------------------------------------------------------------------------

i. Need for Due Diligence of Indirect Participants
    One commenter believed that the Commission did not provide
sufficient guidance regarding who would be indirect participants of a
covered clearing agency and, as a result, cannot ascertain whether it
is correctly reading the proposed rule.\488\ The commenter further
expressed the view that it is not appropriate for a covered clearing
agency to perform due diligence on the clients of its clearing members
for the following reasons:
---------------------------------------------------------------------------

    \488\ See LCH at 5.
---------------------------------------------------------------------------

     The covered clearing agency has no direct, contractual
relationship to these clients;
     Performing due diligence on what may be a very large
number of clients could be very burdensome for the covered clearing
agency; and
     Clients may object to due diligence inquiries from a
covered clearing agency and choose to move their business to another
CCP that is not required to perform such due diligence.\489\
---------------------------------------------------------------------------

    \489\ See id.
---------------------------------------------------------------------------

    Instead, the commenter expressed a view that a covered clearing
agency can reasonably rely on the due diligence that its clearing
members perform on their clients and should not have to perform its own
due diligence on these indirect participants.\490\
---------------------------------------------------------------------------

    \490\ See id.
---------------------------------------------------------------------------

    In response, the Commission first notes that the scope of Rule
17Ad-22(e)(19) does not only contemplate clients of clearing members.
Instead, the rule also contemplates situations where other parties may
enter into a contractual arrangement with a clearing member,
particularly arrangements that create credit exposures to the clearing
member, such as where a third party acts as guarantor to an obligation
on behalf of the clearing member, may be indirect participants in the
covered clearing agency. The Commission therefore believes that the
alternative approach suggested by the commenter above does not entirely
contemplate the scope of indirect participants addressed by the Rule
17Ad-22(e)(19).
    The Commission acknowledges that there are limits on the extent to
which a covered clearing agency can, in practice, observe or influence
a direct participant's commercial or contractual relationships, and
that these limits will, in turn, affect the appropriateness of a
covered clearing agency performing due diligence on its indirect
participants. However, a clearing agency will often have access to
information, including through the due diligence that a member performs
on its clients as well as information on transactions undertaken on
behalf of indirect participants. A clearing agency can also set direct
participation requirements that may include criteria relating to how
direct participants manage relationships with their customers in-so-far
as these criteria are relevant for the safe, efficient, and effective
operation of the clearing agency. Accordingly, a covered clearing
agency generally should have the ability to identify the types of risk
that could arise from tiered participation and should monitor
concentrations of such risk. Further, the Commission notes that some
direct and indirect participants of the covered clearing agency will be
registered with the Commission as, for example, a broker-dealer, and
therefore be subject to their own requirements for reporting and
financial responsibility,\491\ which a covered clearing agency could
use in developing policies and procedures for tiered participation
arrangements. In light of the availability of the tools described
above, the Commission does not believe that the commenter's suggestion
for a covered clearing agency to rely on due diligence performed by its
clearing members is an appropriate alternative for the purposes of
addressing the requirements a covered clearing agency must satisfy
under Rule 17Ad-22(e)(19).
---------------------------------------------------------------------------

    \491\ See, e.g., 17 CFR 240.15c3-1, 15.c3-3 (setting forth net
capital and customer protection requirements for broker-dealers); 17
CFR 240.17h-1T, 17h-2T (setting forth requirements that certain
broker-dealers maintain, preserve, and file a quarterly summary of
certain information regarding those affiliates, subsidiaries and
holding companies whose business activities are reasonably likely to
have a material impact on their own financial and operating
condition); 17 CFR 240.17a-3, 17a-4, 17a-5, 17a-11 (setting forth
requirements for broker-dealers to maintain books and records, file
periodic reports including quarterly and annual financial
statements, and report to the Commission and the appropriate SRO
regarding net capital, recordkeeping, and other operational
problems, within certain time periods).
---------------------------------------------------------------------------

ii. Need To Obtain Information From Clearing Members
    One commenter expressed concern that proposed Rule 17Ad-22(e)(19)
could be interpreted as requiring a covered clearing agency to obtain
information from its clearing members identifying with specificity each
of the customers attached to each cleared transaction and to routinely
monitor customer-level risk with respect to each such customer.\492\
The commenter acknowledged that covered clearing agencies should have
the ability to gather certain information from its

direct participants and that some circumstances may require clearing
agencies to monitor the systemic risk created by one or more
significant indirect participants, but the commenter believed it is
inappropriate for a covered clearing agency to routinely police the
systemic risks created by each indirect participant.\493\ In response,
the Commission notes that Rule 17Ad-22(e)(19) requires a covered
clearing agency to have policies and procedures governing risk
management that considers a clearing member's customer relationships,
but it does not require a covered clearing agency to actively risk
manage those customer relationships on behalf of each clearing member.
Instead, Rule 17Ad-22(e)(19) requires policies and procedures that
identify, monitor, and manage the material risks to the covered
clearing agency arising from tiered participation arrangements. Such
policies and procedures would require a covered clearing agency to
account for the range of risks stemming from each clearing member,
which necessarily includes risks resulting from the clearing member's
relationships with its customers, as previously described above. To
engage in effective risk management of a clearing member, the covered
clearing agency would need a complete picture of cleared transactions
attributed to each clearing member, but it may require less specific
information from the clearing member with respect to customers so long
as the information it does receive provides the covered clearing agency
with a comprehensive understanding of the material risks posed to the
covered clearing agency by each clearing member.\494\
---------------------------------------------------------------------------

    \492\ See OCC at 15.
    \493\ See id.
    \494\ See supra note 491 (describing examples of such
information that is available for certain participants that are
separately registered with the Commission).
---------------------------------------------------------------------------

iii. Recommendation for a Risk-Based Approach
    One commenter expressed the belief that covered clearing agencies
should use a risk-based approach when developing policies and
procedures to implement the requirement that a covered clearing agency
have policies and procedures reasonably designed to identify, monitor,
and manage the risks to the clearing agency arising from indirect
participants.\495\ The commenter expressed the belief that a covered
clearing agency should provide direct participants with information
relevant to their activities (both direct and indirect) that is
available to the clearing agency, thus enabling direct participants to
use such information to evaluate and manage its correspondent customer
relationships.\496\ The commenter also expressed a view that a covered
clearing agency should evaluate the risks presented to it by indirect
relationships in the context of a direct participant's overall risk
management policies and procedures.\497\ The commenter expressed the
belief that such policies will need to take into account the level of
information available to the covered clearing agency and that there
needs to be a distinction between the supervisory oversight of the
direct participant by its primary supervisor and the type of oversight
that a clearing agency can be expected to provide.
---------------------------------------------------------------------------

    \495\ See DTCC at 11.
    \496\ See id.
    \497\ See id.
---------------------------------------------------------------------------

    The Commission agrees that such a risk-based approach could be one
approach to achieving compliance with Rule 17Ad-22(e)(19), but believes
that each covered clearing agency should determine the appropriate
approach for determining compliance with Rule 17Ad-22(e)(19) in light
of the composition of its members and the products they clear, as well
as its risk management framework. Policies and procedures at a covered
clearing agency for managing risks from indirect participants will
necessarily be constrained to some degree by the lack of a direct
contractual agreement between the covered clearing agency itself and
the indirect participant. The Commission notes, however, that
evaluating and managing the risk from direct participants, pursuant to
Rule 17Ad-22(e)(19), would require policies and procedures consistent
with the Commission's statements in Parts II.C.19.b.i and ii above. As
noted there, the Commission acknowledges that direct and indirect
participants in a covered clearing agency may be regulated entities
themselves subject to reporting and other requirements that may help
facilitate the covered clearing agency's management of risk from tiered
participation arrangements.\498\
---------------------------------------------------------------------------

    \498\ See supra notes 491, 494, and accompanying text.
---------------------------------------------------------------------------

c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(19) as proposed. Because
the Commission recognizes that there may be a number of ways to address
compliance with Rule 17Ad-22(e)(19), the Commission is providing the
following guidance that a covered clearing agency generally should
consider in establishing and maintaining policies and procedures that
address tiered participation arrangements:
     Whether a covered clearing agency ensures that its rules,
procedures, and agreements allow it to gather sufficient information
about indirect participation to identify, monitor, and manage any
material risks to the covered clearing agency arising from such tiered
participation arrangements;
     whether it identifies material dependencies between direct
and indirect participants that might affect the covered clearing
agency;
     whether it identifies indirect participants responsible
for a significant proportion of transactions processed by the covered
clearing agency and indirect participants whose transaction volumes or
values are large relative to the capacity of the direct participants
through which they access the covered clearing agency to manage the
risks arising from these transactions; and
     whether it regularly reviews risks arising from tiered
participation arrangements and takes mitigation action when
appropriate.
    In addition to the guidance above, the Commission notes that, when
addressing its compliance with Rule 17Ad-22(e)(19), a covered clearing
agency could consider whether its rules, policies, procedures, and
agreements with direct participants allow it to gather basic
information about indirect participants to identify, monitor, and
manage any material risks to the covered clearing agency arising from
such tiered participation arrangements. This information should help
enable the covered clearing agency to identify (i) the proportion of
activity that direct participants conduct on behalf of indirect
participants, (ii) direct participants that act on behalf of a material
number of indirect participants, (iii) indirect participants with
significant volumes or values of transactions in the system, and (iv)
indirect participants whose transaction volumes or values are large
relative to those of the direct participants through which they access
the covered clearing agency. In this vein, a covered clearing agency
could consider an indirect participant's status as a designated market
maker or supplemental liquidity provider in identifying material risks
to the covered clearing agency. A covered clearing agency could also
consider different trading strategies or changes in trading strategies
used by indirect participants in identifying, monitoring, and managing
material risks to the covered clearing agency.
    The Commission also notes that Rule 17Ad-22(e)(19) is intended to
promote the ongoing management of risks associated with tiered
participation arrangements stemming from the

dependencies and risk exposures that such arrangements can create.
However, because proposed Rule 17Ad-22(e)(19) only addresses the
situation where indirect participants in the covered clearing agency
rely on direct participants, the Commission notes that Rule 17Ad-
22(e)(19) would not apply in the circumstance where a covered clearing
agency providing CSD services has members that are broker-dealers
maintaining accounts for retail customers.
20. Rule 17Ad-22(e)(20): Links
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(20) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to identify, monitor, and manage
risks related to any link with one or more other clearing agencies,
FMUs, or trading markets.\499\ In proposing the rule, the Commission
proposed to define ``link'' in Rule 17Ad-22(a)(10) to mean any set of
contractual and operational arrangements between a covered clearing
agency and one or more other clearing agencies, FMUs, or trading venues
that connect them directly or indirectly for the purposes of
participating in settlement, cross margining, expanding its services to
additional instruments and participants, or for any other purposes
material to their business.\500\
---------------------------------------------------------------------------

    \499\ See CCA Standards proposing release, supra note 5, at
29553.
    \500\ See id. at 29554. The Commission received no comments
regarding the definition of ``link'' and is adopting it with one
modification, as discussed in Part II.C.20.c. Because of other
modifications to Rule 17Ad-22(a), the definition of ``link'' is also
being moved to Rule 17Ad-22(a)(8). See infra Part VI.
---------------------------------------------------------------------------

b. Comments Received and Commission Response
    The Commission received no comments regarding the substance of the
proposed rule. One comment requested that the Commission phase-in
implementation of Rule 17Ad-22(e)(20),\501\ and that comment is
addressed in Part II.G below.
---------------------------------------------------------------------------

    \501\ See DTCC at 13-14 & n.46.
---------------------------------------------------------------------------

c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(20) as proposed.\502\
The Commission is adopting the definition of ``link'' with one
modification and moving it to Rule 17Ad-22(a)(8), as previously
discussed.\503\ Specifically, in the definition of ``link,'' the
Commission is replacing the word ``venues'' with ``markets'' to improve
consistency with Rule 17Ad-22(e)(20).\504\
---------------------------------------------------------------------------

    \502\ See Rule 17Ad-22(e)(20), infra Part VI.
    \503\ See supra note 500.
    \504\ See Rule 17Ad-22(a)(8), infra Part VI.
---------------------------------------------------------------------------

    Further, because the Commission recognizes that there may be a
number of ways to address compliance with Rule 17Ad-22(e)(20), the
Commission is providing the following guidance that a covered clearing
agency generally should consider in establishing and maintaining
policies and procedures that address links:
     Whether it identifies, monitors, and manages all potential
sources of risk arising from the link arrangement, before entering into
a link arrangement and on an ongoing basis once the link is
established;
     whether a link has a well-founded legal basis, in all
relevant jurisdictions, that support its design and provides adequate
protection to the covered clearing agencies involved in the link;
     whether linked CSDs measure, monitor, and manage the
credit and liquidity risk arising from each other;
     whether provisional transfers of securities between linked
CSDs are prohibited or, at a minimum, the retransfer of provisionally
transferred securities are prohibited prior to the transfer becoming
final.
     whether an investor CSD can only establish a link with an
issuer CSD if the arrangement provides a high level of protection for
the rights of the investor CSD's participants;
     whether an investor CSD that uses an intermediary to
operate a link with an issuer CSD measures, monitors, and manages the
additional risks arising from the use of the intermediary.
     before entering into a link with a CCP, whether it
identifies and manages the potential spill-over effects from the
default of the linked CCP; and
     when in a CCP link arrangement, whether it is able to
cover, at least on a daily basis, its current and potential future
exposures to the linked CCP and its participants, if any, fully with a
high degree of confidence without reducing the covered clearing
agency's ability to fulfill its obligations to its own participants at
any time.
    In addition, the Commission reiterates that the requirements for
policies and procedures for linkages must be addressed by each covered
clearing agency at the level of the covered clearing agency.\505\
Therefore, each covered clearing agency under Rule 17Ad-22(e) would
itself need to adopt or ratify policies and procedures for linkages
with respect to its own business, even if it is a member of a group or
under a holding company that has group-level policies and procedures.
---------------------------------------------------------------------------

    \505\ See supra Part II.B.3.c.
---------------------------------------------------------------------------

21. Rule 17Ad-22(e)(21): Efficiency and Effectiveness
    As proposed, Rule 17Ad-22(e)(21) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to ensure that it is efficient and
effective in meeting the requirements of its participants and the
markets it serves. Proposed Rule 17Ad-22(e)(21)(i) through (iv) would
require a covered clearing agency's management to regularly review the
efficiency and effectiveness of its (i) clearing and settlement
arrangements; (ii) operating structure, including risk management
policies, procedures, and systems; (iii) scope of products cleared,
settled, or recorded; and (iv) use of technology and communication
procedures.\506\
---------------------------------------------------------------------------

    \506\ See CCA Standards proposing release, supra note 5, at
29554.
---------------------------------------------------------------------------

    The Commission received one comment in support of the proposed
approach. The commenter expressed support for the requirement that a
covered clearing agency review its efficiency and effectiveness in
meeting the requirements of its participants and the markets it serves
and for the specific areas to be reviewed as set forth in proposed Rule
17Ad-22(e)(21).\507\
---------------------------------------------------------------------------

    \507\ See CFA Institute at 12.
---------------------------------------------------------------------------

    The Commission is adopting Rule 17Ad-22(e)(21) with one
modification: The Commission is removing reference to ``recorded''
products under Rule 17Ad-22(e)(21)(iii) because recording products is
not a function of covered clearing agencies. In addition, because the
Commission recognizes that there may be a number of ways to address
compliance with Rule 17Ad-22(e)(21), the Commission is providing the
following guidance that a covered clearing agency generally should
consider in establishing and maintaining policies and procedures that
address efficiency and effectiveness:
     Whether its design meets the needs of its participants and
the markets it serves, particularly with regard to choice of a
clearance and settlement arrangement, operating structure, scope of
products cleared, settled, or recorded, and use of technology and
procedures;
     whether it clearly defines goals and objectives that are
measurable and achievable, such as in the areas of minimum service
levels, risk-management expectations, and business priorities; and

     whether it establishes mechanisms for the regular review
of its efficiency and effectiveness.
22. Rule 17Ad-22(e)(22): Communication Procedures and Standards
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(22) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to ensure that it uses, or at a
minimum accommodates, relevant internationally accepted communication
procedures and standards in order to facilitate efficient payment,
clearing, and settlement.
b. Comments Received and Commission Response
    Two commenters expressed views regarding Rule 17Ad-22(e)(22). The
first commenter supported the Commission's proposed rules requiring the
use of internationally accepted communication procedures and standards.
The commenter expressed the belief that such a requirement will result
in more effective communication with direct and indirect participants
and will result in a more prompt and accurate process.\508\
---------------------------------------------------------------------------

    \508\ See CFA Institute at 12.
---------------------------------------------------------------------------

    The second commenter noted that users of its systems that process
transactions only in a particular market typically rely on long-
standing, highly automated communications methods and messaging formats
that are viewed as industry-standard, regardless of international
standards. The commenter urged that these users not be required to
retool their communication systems in such a market to comply with
international communication standards and that such a requirement may
impose substantial costs devoid of any material benefits. The commenter
noted that the proposed rule permits a covered clearing agency to
accommodate international standards as an equally appropriate means of
satisfying the requirement as is the exclusive use of a standard (e.g.,
a clearing agency providing such an accommodation can permit users who
wish to use international standards exclusively to do so, without
forcing those users who do not wish (and have no need to) use the
international standards to convert to them). Additionally, the
commenter read the proposed provision as intending to provide
sufficient flexibility to enable a covered clearing agency, when
evaluating systems upgrades or new services, to take into account
several factors to select the protocol that it deems most appropriate
for the circumstances.\509\
---------------------------------------------------------------------------

    \509\ See DTCC at 11-12.
---------------------------------------------------------------------------

    In response to the second commenter, the Commission notes that Rule
17Ad-22(e)(22) requires policies and procedures that at a minimum
accommodate international standards. A covered clearing agency that
does not rely on existing international standards as part of its own
communication protocols could comply with Rule 17Ad-22(e)(22) by having
policies and procedures that require its systems to be able to receive
communications from and transmit communications to a system that uses
the international standards. However, the Commission also believes that
accommodating international standards does not require implementing
international standards as the only or primary communication protocol,
particularly if other automated messaging formats exist that are widely
used and considered industry standard in the United States.
c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(22) as proposed.\510\
The Commission notes that the ability of participants to communicate
with a covered clearing agency in a timely, reliable, and accurate
manner is important to achieving prompt and accurate clearance and
settlement.
---------------------------------------------------------------------------

    \510\ Relevant internationally accepted communication procedures
and standards could include messaging standards such as SWIFT, FIX,
and FpML.
---------------------------------------------------------------------------

23. Rule 17Ad-22(e)(23): Disclosure of Rules, Key Procedures, and
Market Data
a. Proposed Rule
    As proposed, Rule 17Ad-22(e)(23) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to maintain clear and comprehensive
rules and procedures that provide for the specific disclosures
enumerated in the rule, as discussed below. Proposed Rule 17Ad-
22(e)(23)(i)-(iii) would require such policies and procedures to
specifically require a covered clearing agency to (i) publicly disclose
all relevant rules and material procedures, including key aspects of
its default rules and procedures; (ii) provide sufficient information
to enable participants to identify and evaluate the risks, fees, and
other material costs they incur by participating in the covered
clearing agency; and (iii) publicly disclose relevant basic data on
transaction volume and values.
    Proposed Rule 17Ad-22(e)(23)(iv) would require a covered clearing
agency to establish, implement, maintain and enforce written policies
and procedures reasonably designed to maintain clear and comprehensive
rules and procedures that provide for a comprehensive public disclosure
of its material rules, policies, and procedures regarding governance
arrangements and legal, financial, and operational risk management,
accurate in all material respects at the time of publication, including
(i) a general background of the covered clearing agency, including its
function and the market it serves, basic data and performance
statistics on its services and operations, such as basic volume and
value statistics by product type, average aggregate intraday exposures
to its participants, and statistics on the covered clearing agency's
operational reliability, and a description of its general organization,
legal and regulatory framework, and system design and operations; (ii)
a standard-by-standard summary narrative for each applicable standard
set forth in proposed Rules 17Ad-22(e)(1) through (22) with sufficient
detail and context to enable the reader to understand its approach to
controlling the risks and addressing the requirements in each standard;
(iii) a summary of material changes since the last update of the
disclosure; and (iv) an executive summary of the key points regarding
each.\511\ Proposed Rule 17Ad-22(e)(23)(v) would also require a covered
clearing agency to establish, implement, maintain and enforce written
policies and procedures reasonably designed to ensure the comprehensive
public disclosure required under proposed Rule 17Ad-22(e)(23)(iv) is
updated not less than every two years, or more frequently following
changes to its system or the environment in which it operates to the
extent necessary, to ensure statements previously provided remain
accurate in all material respects.\512\
---------------------------------------------------------------------------

    \511\ See id. at 29556.
    \512\ See id. at 29557.
---------------------------------------------------------------------------

b. Comments Received and Commission Response
    One commenter expressed support for the Commission's proposed
requirements regarding the disclosures set forth in proposed Rule 17Ad-
22(e)(23). The commenter expressed the belief that such disclosures are
necessary to enhance transparency and allow investors and other
participants to obtain the information necessary to evaluate covered
clearing agencies and also believes that such an approach may

add to market discipline.\513\ A second commenter expressed support for
strong and effective transparency requirements for covered clearing
agencies.\514\ However, a number of commenters requested that the
Commission consider amending the rule to incorporate more granular or
prescriptive guidance and requirements, with a particular focus on
achieving consistency with international standards and enhanced
disclosures regarding emergency actions by covered clearing agencies.
The Commission discusses these particular comments below.
---------------------------------------------------------------------------

    \513\ See CFA Institute at 13.
    \514\ See The Clearing House at 15.
---------------------------------------------------------------------------

i. Comprehensive Public Disclosure
    One commenter read the leading language in proposed Rule 17Ad-
22(e)(23)(iv) to imply a requirement to create a comprehensive document
that should address how the clearing agency's governance arrangements,
legal structure, approach to risk management, and financial
arrangements operate, as opposed to implying a separate obligation to
publicly disclose all such policies and procedures, irrespective of
whether they relate to internal operational policies or are otherwise
comprehended within the requirements of 17Ad-22(e)(23)(i).\515\ The
Commission believes that the commenter's interpretation of the leading
language in proposed Rule 17Ad-22(e)(23)(iv) is consistent with the
requirements of the rule.
---------------------------------------------------------------------------

    \515\ See DTCC at 13.
---------------------------------------------------------------------------

    In the CCA Standards proposing release, the Commission made several
statements regarding the requirements under Rule 17Ad-22(e)(23):
     With respect to the basic data and performance statistics
envisioned by the rule, the Commission identified, as relevant to the
requirement, statistics on the covered clearing agency's operational
reliability so that the relevant stakeholders and the general public
have data regarding, for example, performance targets for systems and
the actual performance thereof over specified periods, as well as
targets for recovery.
     With respect to the standard-by-standard summary
narrative, the Commission sought to elicit a summary discussion of the
covered clearing agency's implementation of policies and procedures
that would need to be established, implemented, maintained and enforced
by a covered clearing agency in response to proposed Rules 17Ad-
22(e)(1) through (22).
     With respect to material changes to the disclosure, the
Commission stated that it would expect a covered clearing agency to
consider its particular circumstances, such as, for example, changes in
the scope of services provided by the covered clearing agency, in
satisfying this requirement.\516\
---------------------------------------------------------------------------

    \516\ See CCA Standards proposing release, supra note 5, at
29557.
---------------------------------------------------------------------------

    The Commission further notes that the comprehensive public
disclosure is intended to elicit all material information that would
address compliance with each of the requirements in Rule 17Ad-22(e),
along with information such as its function and the markets it serves
and basic data and performance statistics. Moreover, in proposing Rule
17Ad-22(e)(23), the Commission also stated that two purposes of Rule
17Ad-22(e)(23) were to (i) provide participants with the information
necessary to, at a minimum, identify and evaluate the risks and costs
associated with the use of a covered clearing agency, thereby promoting
transparency and enhancing competition and market discipline, and (ii)
provide other stakeholders, including regulators and the public, with
information that facilitates informed oversight and decision-making
regarding each covered clearing agency.
    The Commission is modifying Rule 17Ad-22(e)(23)(iv) so that the
language more closely tracks the categories of requirements in Rule
17Ad-22(e) and the statements immediately above. The purpose of this
modification is to make clear that the comprehensive public disclosure
is intended to describe the material rules, policies and procedures of
the covered clearing agency related to compliance with Rule 17Ad-22(e),
rather than require a complete disclosure of all rules, policies, and
procedures. As adopted, the leading language of Rule 17Ad-22(e)(23)(iv)
will require policies and procedures providing for a comprehensive
public disclosure that describes the covered clearing agency's material
rules, policies, and procedures regarding its legal, governance, risk
management, and operating framework, accurate in all material respects
at the time of publication.
ii. Consistency With International Standards
    One commenter recommended that the Commission provide guidance that
it will interpret and administer Rule 17Ad-22(e)(23) as being
consistent with PFMI disclosure framework to ensure that clearing
participants have sufficient information to conduct diligence and
assess the risks of exposure to a covered clearing agency and to
maintain consistency with evolving international standards.\517\ In
response, and as previously noted, the Commission intends to interpret
and administer Rule 17Ad-22(e)(23) consistent with Section 17A of the
Exchange Act and, to the extent consistent with Section 17A, with
relevant international standards such as the PFMI and the PFMI
disclosure framework.\518\ Additionally, the Commission notes that a
covered clearing agency could consider the PFMI quantitative
disclosures to develop its policies and procedures in compliance with
Rule 17Ad-22(e)(23).\519\ The Commission believes that the PFMI, the
PFMI disclosure framework, and the PFMI quantitative disclosures can be
useful tools to help a covered clearing agency consider how to disclose
information to its participants, other relevant stakeholders, or the
public. However, the Commission also notes that publishing the PFMI
disclosure framework or the PFMI quantitative disclosures does not, in
and of itself, constitute compliance with Rule 17Ad-22(e)(23).\520\ As
previously discussed, Rule 17Ad-22(e)(23) requires that a covered
clearing agency (i) publicly disclose all relevant rules and material
procedures, including key aspects of its default rules and procedures;
(ii) provide sufficient information to enable participants to identify
and evaluate the risks, fees, and other material costs they incur by
participating in the covered clearing agency; and (iii) publicly
disclose relevant basic data on transaction volume and values. It also
requires, as discussed in Part II.C.23.b.i, a comprehensive public
disclosure consistent with Rule 17Ad-22(e)(23)(iv). The Commission
believes that covered clearing agencies may use a number of different
approaches to make disclosures under Rule 17Ad-22(e)(23), and the
Commission notes that policies and procedures for such disclosures must
be in compliance with Rule 17Ad-22(e)(23).
---------------------------------------------------------------------------

    \517\ See ISDA at 6; see also supra note 41 (providing a
citation for the PFMI disclosure framework).
    \518\ See supra Part I.A.5. (discussing the relevant
international standards).
    \519\ See supra note 41 (providing a citation for the PFMI
quantitative disclosures).
    \520\ A covered clearing agency independently prepares and
publishes these disclosure documents, and the Commission does not
review, opine on, or approve them.
---------------------------------------------------------------------------

iii. Disclosures Regarding Emergency Actions
    One commenter stated that, when taking emergency actions, CCPs must
consider the interests of members and

market stability in addition to those of CCP owners.\521\ The commenter
identified the following concerns:
---------------------------------------------------------------------------

    \521\ See The Clearing House, annex, at 24.
---------------------------------------------------------------------------

     Changes to CCP rules and procedures and other actions
taken during emergencies can affect the economic position of members,
imposing unexpected losses and liquidity demands, and can thus have
spillover effects in the broader market.\522\
---------------------------------------------------------------------------

    \522\ See id.
---------------------------------------------------------------------------

     Unchecked and unbounded discretion could permit a CCP to
alter the fundamental economic relationship between it and its members
without notice or a chance for members to evaluate the consequences of
such changes.\523\
---------------------------------------------------------------------------

    \523\ See id. at 25.
---------------------------------------------------------------------------

    In response, the Commission notes that the above comments are most
directly relevant to the Commission's discussion of crisis and
emergency decision-making with respect to Rule 17Ad-22(e)(2). The
Commission has previously addressed comments regarding crisis or
emergency decision-making in Part II.C.2.b.v.
iv. Disclosures Regarding Participant-Default Rules and Procedures
    One commenter recommended that the Commission make some
clarifications to the requirement in proposed Rule 17Ad-22(e)(23)(ii)
that a covered clearing agency provide sufficient detail to enable
participants to identify and evaluate the risks they incur by
participating in the covered clearing agency. Specifically, the
commenter recommended that the Commission require the covered clearing
agency to disclose (i) to its participants the policies and procedures
established by the covered clearing agency pursuant to proposed Rule
17Ad-22(e)(13), and (ii) to its participants and their customers, the
financial risks to which they would be subject in a scenario in which
the covered clearing agency's credit losses upon the default of one or
more participants exceed the resources designated to absorb such
losses.\524\ As discussed above in connection with the requirements for
the comprehensive public disclosure, the two purposes of proposing Rule
17Ad-22(e)(23) were to (i) provide participants with the information
necessary to, at a minimum, identify and evaluate the risks and costs
associated with the use of a covered clearing agency, and (ii) provide
other stakeholders, including regulators and the public, with
information that facilitates informed oversight and decision-making
regarding each covered clearing agency.\525\ Pursuant to Rule 17Ad-
22(e)(23)(iv), the comprehensive public disclosure is intended to
provide participants with the information necessary to, at a minimum,
identify and evaluate the risks and costs associated with the use of a
covered clearing agency. In addition, a covered clearing agency's
recovery and wind-down plans consistent with Rule 17Ad-22(e)(3) would
also provide further insight into the financial risks to which
participants and their customers may be subject in a scenario in which
the covered clearing agency's credit losses exceed the resources
designated to absorb such losses. Accordingly, the Commission believes
that the required public disclosure will encompass the information that
the commenter seeks.
---------------------------------------------------------------------------

    \524\ See The Clearing House at 7.
    \525\ See supra Part II.C.23.b.i.
---------------------------------------------------------------------------

    The same commenter also recommended that the Commission clarify
that a covered clearing agency may not, pursuant to emergency authority
or otherwise, modify its rules, policies, or procedures in a manner
that would materially increase a non-defaulting participant's exposure
to loss or the extent of the covered clearing agency's recourse to a
non-defaulting participant's assets, or redefine the economic terms of
outstanding cleared contracts, without a reasonable prior notice and
transition period prior to effectiveness.\526\ The commenter further
stated that a reasonable prior notice period for such a modification
would be one that is sufficient to enable a non-defaulting participant
to complete the process of withdrawal from participant status, in
accordance with the rules of the covered clearing agency, under
reasonable assumptions that take into account the demonstrated
liquidity of the relevant product or asset type.\527\ In addition, the
commenter stated that any such modification that takes place following
the occurrence of a default or series of defaults involving one or more
participants and prior to expiration of the covered clearing agency's
``cooling-off period'' should not take effect until after the
expiration of that period.\528\ For the commenter's purposes, the term
``cooling-off period'' referred to the period following the default of
one or more participants during which losses accrued by the covered
clearing agency may be satisfied by recourse to the clearing or
guaranty fund contributions of non-defaulting participants,
notwithstanding the intervening withdrawal from participant status of
one or more such participants.\529\ The commenter's recommendations
contemplated that cooling-off periods will continue to be specified in
the rules of a covered clearing agency, subject to Commission review.
According to the commenter, although appropriate cooling-off periods
may vary by product or asset type, the commenter believed that the
Commission should, in reviewing a covered clearing agency's rules,
ensure that its cooling-off period(s) are of sufficient duration
following a participant default (or the last in a series of
substantially contemporaneous participant defaults) to allow the
relevant market to return to stability under reasonable
assumptions.\530\ In response, the Commission notes that the above
comments are beyond the scope of Rule 17Ad-22(e)(23), which pertains to
disclosures, but instead are relevant to crisis and emergency decision-
making, which are discussed above in Part II.C.2.b.v.
---------------------------------------------------------------------------

    \526\ See The Clearing House at 7.
    \527\ See id. at 7 n.16.
    \528\ See id.
    \529\ See id.
    \530\ See id.
---------------------------------------------------------------------------

v. Additional Disclosures
    One commenter believed that, to enhance participants' ability to
evaluate their risks, the Commission should require a covered clearing
agency to provide their participants with additional, more specific
disclosures regarding its default rules and procedures, custody and
collateral investment activities, methodologies for determining initial
margin requirements and clearing or guaranty fund contributions, stress
testing methodologies, and the covered clearing agency's treatment of
participant initial margin and clearing or guaranty fund
contributions.\531\ The Commission notes that each of these topic areas
are addressed by requirements under Rule 17Ad-22(e),\532\ and therefore
these topic

areas are also the types of material information that would constitute
elements of the comprehensive public disclosure required under Rule
17Ad-22(e)(23)(iv).\533\
---------------------------------------------------------------------------

    \531\ See The Clearing House at 3, 15. The commenter further
stated that, based on current disclosure practices, members are
unable to effectively measure or manage their risk exposure to CCPs,
and that disclosure to a CCP's risk committee is generally
insufficient due to confidentiality restrictions, which prevents the
risk committee from being able to share relevant information with
their employer clearing member (and, further, not all clearing
members even have employees on the CCP's risk committee). See id.,
annex at 26, 27.
    \532\ See supra Parts II.C.4 (discussing requirements for
guaranty fund contributions, allocation of losses pursuant to the
default waterfall, and stress testing for credit risk under Rule
17Ad-22(e)(4)), II.C.5 (discussing requirements for collateral under
Rule 17Ad-22(e)(5)), II.C.6 (discussing requirements for margin
under Rule 17Ad-22(e)(6)), II.C.7 (discussing requirements for
stress testing for liquidity risk under Rule 17Ad-22(e)(7)), II.C.13
(discussing requirements for participant-default rules and
procedures under Rule 17Ad-22(e)(13)), and II.C.16 (discussing
requirements for custody and investment policies under Rule 17Ad-
22(e)(16)).
    \533\ See supra Part II.C.23.b.i.
---------------------------------------------------------------------------

    To facilitate sufficient disclosure, the commenter recommended that
the Commission adopt the recommendations developed by the FRB of New
York's Payments Risk Committee for participant due diligence of CCPs in
these and other areas.\534\ The commenter stated that obtaining
information in these areas is necessary for participants to adequately
identify and evaluate the risks they incur by participating in a CCP.
Like the PFMI disclosure framework and the PFMI quantitative
disclosures, the framework set forth by the FRB Payments Risk Committee
may be another useful tool to help a covered clearing agency consider
how best to disclose information to its participants, other relevant
stakeholders, or the public, but, as noted above, should not be viewed
as a substitute for compliance with Rule 17Ad-22(e)(23) and the
requirements of Section 17A of the Exchange Act. The Commission further
notes that the disclosure required by Rule 17Ad-22(e)(23) marks a
significant increase in the level and detail of disclosure that a
covered clearing agency will be required to provide to its participants
and the public, and that such disclosure will also encompass much of
the information covered in the framework established by the FRB
Payments Risk Committee. Therefore, the Commission declines to further
modify Rule 17Ad-22(e)(23).
---------------------------------------------------------------------------

    \534\ See The Clearing House at 15; see also Payments Risk
Committee, Recommendations for Supporting Participant Due Diligence
of Central Counterparties (Feb. 5, 2013).
---------------------------------------------------------------------------

    The commenter further stated that because a CCP's internal models
are not usually disclosed at a sufficient level of detail, participants
are often unable to predict initial margin requirements, clearing or
guaranty fund contributions, or possible loss allocations accurately
and, as a result, cannot anticipate exposures or hedge resulting
risks.\535\ The commenter also stated that participants typically do
not have sufficient insight into the stress framework and stress
scenarios that are intended to ensure sufficiency of total financial
resources and as such are unable to determine the CCP's ability to
withstand multiple participants' failures or market stress.\536\ As
noted above, the disclosure required by policies and procedures under
Rule 17Ad-22(e)(23) marks a significant increase in the level and
detail of disclosure that a covered clearing agency will be required to
provide to its participants and the public and addresses in significant
portion the commenter's concerns.
---------------------------------------------------------------------------

    \535\ See The Clearing House at 15.
    \536\ See id.
---------------------------------------------------------------------------

    In addition, to promote participants' ability to identify and
evaluate their risks, the commenter recommended that the Commission
clarify that a covered clearing agency must provide to its participants
each fiscal quarter, or at any time upon request, the following minimum
information:
     The methodologies for determining initial margin
requirements and clearing or guaranty fund contributions, at a level of
detail adequate to enable participants to replicate the covered
clearing agency's calculations; \537\
---------------------------------------------------------------------------

    \537\ See The Clearing House at 16.
---------------------------------------------------------------------------

     The methodologies for stress testing the adequacy of the
clearing or guaranty fund, including the assumptions and scenarios that
formed the basis of the stress test and the results of the stress test,
which shall include but not be limited to an analysis of the adequacy
of the defaulting participant's resources available to cover losses
arising from the liquidation, transfer or termination of the positions
in its portfolio; \538\ and
---------------------------------------------------------------------------

    \538\ See id. The commenter stated that stress frameworks
mandated by the Commission should form the baseline set of
assumptions/scenarios for a covered clearing agency, and those
frameworks should be based on sufficiently severe stressed
macroeconomic conditions to provide a consistent initial baseline
from which covered clearing agencies can begin to estimate the
extent of their need for loss-absorbing resources. These baseline
assumptions/scenarios should be bolstered by specific scenarios
unique to the particular asset class and should include
idiosyncratic stresses on basis and higher order risk exposures
embedded in the covered clearing agency's portfolio. See id. at 16
n.44.
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     The covered clearing agency's treatment and segregation of
participant initial margin and clearing or guaranty fund
contributions.\539\
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    \539\ See The Clearing House at 16.
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    In suggesting that such information be required to be disclosed,
the commenter suggested that members of CCPs should also be able to
accurately predict the fees, margin requirements and guaranty fund
contribution requirements associated with participation in the CCP and
changes to the member's portfolio or clearing activity.
    Where the above disclosure is not possible, the commenter stated
that the Commission should instead require a covered clearing agency to
develop computational solutions that provide its participants with the
ability to determine the costs, initial margin, clearing or guaranty
fund contributions, clearing or guaranty fund performance and loss
allocations associated with changes to each respective participant's
portfolio or hypothetical portfolio, participant defaults and other
relevant information.\540\ Mandating disclosure of this frequency and
granularity would be inconsistent with the principles-based approach
the Commission is taking in Rule 17Ad-22(e), and Rule 17Ad-22(e)(23)
addresses in significant portion the commenter's concerns.
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    \540\ See The Clearing House at 16.
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    The commenter also stated that CCPs should be required to provide
advance notice to members of any proposed changes to policies,
procedures, models, or other elements of the CCPs' operations that
could have a material adverse economic effect on members. According to
the commenter, such advance notice is necessary to protect members'
ability to manage their risk by withdrawal from the CCP if necessary,
and further CCPs should seek member input on any such changes through a
formal consultation process to the extent possible.\541\ The Commission
believes that the rule filing process under Section 19(b) of the
Exchange Act and Rule 19b-4 thereunder, as well as the process for
advance notices under Section 806(e) of the Clearing Supervision Act,
address this comment, including by providing the opportunity for member
input upon the proposed rule change.
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    \541\ See id.
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c. Final Rule
    The Commission is adopting Rule 17Ad-22(e)(23) with modifications.
First, the Commission is striking the language ``maintain clear and
comprehensive rules and procedures'' under Rule 17Ad-22(e)(23) because
Rule 17Ad-22(e) already requires that a covered clearing agency have
written policies and procedures reasonably designed to establish,
implement, maintain and enforce the requirements thereunder. Consistent
with this change, the Commission is also striking ``providing'' from
Rule 17Ad-22(e)(23)(iv). Second, the Commission is modifying paragraph
(iv) as described in Part II.C.23.b.i. Third, the Commission is also
modifying paragraph (iv)(D) to correct technical errors in the proposed
rule text so that it refers to the standards set forth in paragraphs
(e)(1) through (23) (rather than (e)(1) through (22)). The Commission
believes that providing a summary narrative for Rule 17Ad-22(e)(23) is
appropriate because Rule 17Ad-22(e)(23) requires policies and

procedures to (i) publicly disclose all relevant rules and material
procedures, including key aspects of its default rules and procedures;
(ii) provide sufficient information to enable participants to identify
and evaluate the risks, fees, and other material costs they incur by
participating in the covered clearing agency; and (iii) publicly
disclose relevant basic data on transaction volume and values, in
addition to requiring the standard-by-standard summary narrative
required by Rule 17Ad-22(e)(23)(iv)(D). A summary narrative for Rule
17Ad-22(e)(23) would allow for a better understanding of a covered
clearing agency's policies and procedures for compliance with this
rule.
    Further, because the Commission recognizes that there may be a
number of ways to address compliance with Rule 17Ad-22(e)(23), the
Commission is providing the following guidance that a covered clearing
agency generally should consider in establishing and maintaining
policies and procedures that address disclosure of rules, key
procedures, and market data:
     Whether it adopts clear and comprehensive rules and
procedures that are fully disclosed to participants;
     whether it discloses clear descriptions of the system's
design and operations, as well as its and participants' rights and
obligations, so that participants can assess the risks they would incur
by participating in the covered clearing agency;
     whether it provides all necessary and appropriate
documentation and training to facilitate participants' understanding of
the covered clearing agency's rules and procedures and the risks they
face from participating in the covered clearing agency;
     whether it publicly discloses its fees at the level of
individual service it offers as well as its policies on any available
discounts; and
     whether it completes regularly and discloses publicly
responses to the PFMI disclosure framework.
    In addition, the Commission notes that, as with public disclosures
contemplated in conjunction with Rule 17Ad-22(e)(23), a covered
clearing agency could comply with the proposed requirement by posting
the relevant documentation to its Web site.

D. Rule 17Ab2-2

1. Proposed Rule
    The Commission proposed Rule 17Ab2-2 to establish procedures for
the Commission to make determinations affecting covered clearing
agencies. Under the proposed rule, the Commission would make
determinations in three cases, as discussed below. In each case, under
proposed Rule 17Ab2-2(d), the Commission would publish notice of its
intention to consider such determinations, together with a brief
statement of the grounds under consideration, and provide at least a
30-day public comment period prior to any determination. The Commission
may provide the clearing agency subject to the proposed determination
opportunity for hearing regarding the proposed determination. Under
proposed Rule 17Ab2-2(e), notice of determinations in each case would
be given by prompt publication thereof, together with a statement of
written reasons supporting the determination. In proposing Rule 17Ab2-
2, the Commission noted that determinations could be made as part of
the registration process upon receiving an application for registration
as a clearing agency or at some point after registration, if the
Commission determines that a clearing agency does not meet the
definition of a covered clearing agency upon registration but does so
at a later date, as either market conditions or the characteristics of
the clearing agency itself change.\542\
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    \542\ See CCA Standards proposing release, supra note 5, at
29557-58.
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    As proposed, Rule 17Ab2-2 provides the Commission with procedures
for making determinations in the following three cases:
     Pursuant to Rule 17Ab2-2(a), the Commission may, if it
deems appropriate, upon application by any registered clearing agency
or member thereof or on its own initiative, determine whether a
registered clearing agency should be considered a covered clearing
agency. In determining whether a registered clearing agency should be
considered a covered clearing agency, the Commission may consider
characteristics such as the clearing of financial instruments that are
characterized by discrete jump-to-default price changes or that are
highly correlated with potential participant defaults or other such
factors as it deems appropriate in the circumstances.\543\
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    \543\ See id. at 29558.
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     Pursuant to Rule 17Ab2-2(b), the Commission may, if it
deems appropriate, upon application by any clearing agency or member
thereof, or on its own initiative, determine whether a covered clearing
agency meets the definition of ``systemically important in multiple
jurisdictions.'' In determining whether a covered clearing agency is
systemically important in multiple jurisdictions, the Commission may
consider (i) whether the covered clearing agency is a designated
clearing agency; (ii) whether the clearing agency has been determined
to be systemically important by one or more jurisdictions other than
the United States through a process that includes consideration of
whether the foreseeable effects of a failure or disruption of the
designated clearing agency could threaten the stability of each
relevant jurisdiction's financial system; \544\ or (iii) such other
factors as the Commission may deem appropriate in the circumstances.
The Commission also noted that analysis of other factors could include
whether foreign regulatory authorities have designated the covered
clearing agency as systemically important and whether any findings were
made in anticipation of that designation.\545\
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    \544\ The Commission notes that this provision of proposed Rule
17Ab2-2(b) parallels the definition of systemic importance in
Section 803(9) of the Clearing Supervision Act, which states that
systemic importance means a situation where the failure of or a
disruption to the functioning of an FMU could create, or increase,
the risk of significant liquidity or credit problems spreading among
financial institutions or markets and thereby threaten the stability
of the financial system of the United States. See 12 U.S.C. 5462(9).
    \545\ See CCA Standards proposing release, supra note 5, at
29558.
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     Pursuant to Rule 17Ab2-2(c), the Commission may, if it
deems appropriate, determine whether any of the activities of a
clearing agency providing CCP services, in addition to clearing
agencies registered with the Commission for the purpose of clearing
security-based swaps, have a more complex risk profile. In determining
whether a clearing agency's activity has a more complex risk profile,
the Commission may consider (i) characteristics such as the clearing of
financial instruments that are characterized by discrete jump-to-
default price changes or that are highly correlated with potential
participant defaults; or (ii) such other characteristics as it deems
appropriate in the circumstances. \546\
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    \546\ See id. at 29559.
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2. Comments Received and Commission Response
    The Commission received two comments that generally supported the
Commission's approach in Rule 17Ab2-2 \547\ However, a number of
commenters also raised concerns about particular procedural and
substantive aspects of the Rule 17Ab2-2, and the Commission discusses
each of these in turn below.
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    \547\ See CFA Institute at 5, 14; OSEC at 2.

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a. Determinations Regarding ``Covered Clearing Agency'' Status
Generally
    One commenter argued that Rule 17Ab2-2 lacks clear standards for
determining when and according to which standards a registered clearing
agency would be found to be a covered clearing agency, and further
stated that such determinations are based upon factors that may be