[Federal Register Volume 85, Number 249 (Tuesday, December 29, 2020)]
[Notices]
[Pages 85788-85802]
[FR Doc No: 2020-28662]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-90763; File No. SR-OCC-2020-016]

Self-Regulatory Organizations; The Options Clearing Corporation;
Notice of Filing of Proposed Rule Change Concerning The Options
Clearing Corporation's System for Theoretical Analysis and Numerical
Simulation (``STANS'') Methodology Documentation

December 21, 2020.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'' or ``Exchange Act''),\1\ and Rule 19b-4 thereunder,\2\ notice
is hereby given that on December 9, 2020, the Options Clearing
Corporation (``OCC'') filed with the Securities and Exchange Commission
(``Commission'') the proposed rule change as described in Items I, II,
and III below, which Items have been prepared by OCC. The Commission is
publishing this notice to solicit comments on the proposed rule change
from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Clearing Agency's Statement of the Terms of Substance of the
Proposed Rule Change

    This proposed rule change by OCC would adopt a new document
describing OCC's System for Theoretical Analysis and Numerical
Simulation (``STANS''), which OCC uses to calculate daily and intra-day
margin requirements for its Clearing Members (such document being the
``STANS Methodology Description''). OCC also proposes to make
conforming and other non-substantive changes to its Margin Policy.
    The proposed STANS Methodology Description is submitted without
marking in confidential Exhibit 5A to SR-OCC-2020-016 because this
document is being submitted in its entirety as new rule text. The
proposed changes to OCC's current rule text related to the STANS
methodology, known as the Margins Methodology, are contained in
confidential Exhibit 5B to SR-OCC-2020-016. Material proposed to be
added to the current rule text is

marked by underlining and material proposed to be deleted is marked by
strikethrough text. The proposed changes to the Margin Policy are
contained in confidential Exhibit 5C to SR-OCC-2020-016.\3\ Material
proposed to be added to the Margin Policy is marked by underlining and
material proposed to be deleted is marked by strikethrough text. The
proposed rule change does not require any changes to the text of OCC's
By-Laws or Rules. All terms with initial capitalization that are not
otherwise defined herein have the same meaning as set forth in OCC's
By-Laws and Rules.\4\
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    \3\ OCC has filed a proposed rule change with the Commission to
adopt a new Third-Party Risk Management Framework (``TPRMF''), which
would replace the Counterparty Credit Risk Management Policy and
provide an overview of OCC's approach to third-party risk
management. That proposed rule change also includes conforming
changes to OCC's Margin Policy. See Securities Exchange Act Release
No. 90406 (November 12, 2020), 85 FR 73582 (November 18, 2020) (SR-
OCC-2020-014). The proposed changes to the Margin Policy currently
pending Commission review in SR-OCC-2020-014 are marked in double
underlining and double strikethrough text.
    \4\ OCC's By-Laws and Rules can be found on OCC's public
website: https://www.theocc.com/Company-Information/Documents-and-Archives/By-Laws-and-Rules.
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II. Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change

    In its filing with the Commission, OCC included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. OCC has prepared summaries, set forth in sections (A),
(B), and (C) below, of the most significant aspects of these
statements.

(A) Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change

(1) Purpose
Background
    The STANS methodology is OCC's proprietary risk management system
for calculating Clearing Member margin requirements.\5\ In general,
STANS utilizes large-scale Monte Carlo simulations to forecast price
and volatility movements in determining a Clearing Member's margin
requirement.\6\ The STANS margin requirement is calculated at the
portfolio level of Clearing Member accounts with positions in
marginable securities. The STANS margin requirement consists of an
estimate of a 99% expected shortfall (``ES'') \7\ over a two-day time
horizon with additional charges for model risk, stress tests,
liquidation costs, and various add-ons. The STANS methodology is used
to measure the exposure of portfolios of options, futures, and cash
instruments cleared by OCC.\8\
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    \5\ See Securities Exchange Act Release No. 53322 (February 15,
2006), 71 FR 9403 (February 23, 2006) (SR-OCC-2004-20).
    \6\ See OCC Rule 601.
    \7\ The ES component is established as the estimated average of
potential losses higher than the value-at-risk (``VaR'') threshold.
VaR refers to a statistical technique that is used in risk
management to measure the potential risk of loss for a given set of
assets over a particular time horizon.
    \8\ Pursuant to OCC Rule 601(e)(1), OCC also calculates initial
margin requirements for segregated futures accounts on a gross basis
using the Standard Portfolio Analysis of Risk Margin Calculation
System (``SPAN''). SPAN is separate from STANS and is therefore not
described in the STANS Methodology Description.
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    OCC maintains technical documentation that describes in detail how
the various quantitative components of STANS were developed and
operate, including the various parameters and assumptions contained
within those components \9\ and the mathematical theories underlying
the selection of those quantitative methods (``Model Whitepapers'').
The Model Whitepapers are currently synthesized in a single document,
the Margins Methodology, describing how STANS operates from end to end.
The Margins Methodology includes material aspects of OCC's risk-based
margin system, which OCC must establish as a covered clearing agency
under the Exchange Act and the rules promulgated thereunder, and which
must be reasonably designed to, in part ``(i) [produce] margin levels
commensurate with [the] risks and particular attributes of each
relevant product, portfolio, and market; (ii) [mark] participant
positions to market and [collect] margin, including variation margin or
equivalent charges if relevant, at least daily . . . ; (iii)
[calculate] margin sufficient to cover its potential future exposure to
participants in the interval between the last margin collection and the
close out of positions following a participant default; (iv) [use]
reliable sources of timely price data and [use] procedures and sound
valuation models for addressing circumstances in which pricing data are
not readily available or reliable; [and] (v) [use] an appropriate
method for measuring credit exposure that accounts for relevant product
risk factors and portfolio effects across products . . .'' \10\ The
Margins Methodology also includes information that would not be
considered material aspects of OCC's methodology, such as internal
procedural and administrative details, or details that could be
reasonably and fairly implied by OCC's existing rules or other
information contained in the document.
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    \9\ See Securities Exchange Act Release No. 82473 (January 9,
2018), 83 FR 2271 (January 16, 2018) (SR-OCC-2017-011), which
describes how OCC periodically reviews the parameters and
assumptions used by STANS pursuant to its Model Risk Management
Policy and in accordance with 17 CFR 240.17Ad-22(e)(6).
    \10\ 17 CFR 240.17Ad-22(e)(6).
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    Over time, OCC has filed sections of the Margins Methodology with
the Commission as proposed rule changes under Section 19(b)(1) of the
Exchange Act and Rule 19b-4 thereunder to effect changes to individual
components of STANS.\11\ Thus, those chapters of the Margins
Methodology have become codified as OCC rule text under Section
19(b)(1) of the Exchange Act and Rule 19b-4. However, OCC now proposes
to adopt a new STANS Methodology Description, which would replace the
Margins Methodology document and codify the STANS methodology in its
entirety under Section 19(b)(1) of the Exchange Act and Rule 19b-4.
After adoption of the STANS Methodology Description, OCC would no
longer maintain the Margins Methodology, neither as an OCC rule nor as
an internal document.
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    \11\ See Securities Exchange Act Release No. 74966 (May 14,
2015), 80 FR 29784 (May 22, 2015) (SR- OCC-2015-010); Securities
Exchange Act Release No. 76128 (December 28, 2015), 81 FR 135
(January 4, 2016) (SR-OCC-2015-016); Securities Exchange Act Release
No. 79818 (January 18, 2017), 82 FR 8455 (January 25, 2017) (SR-OCC-
2017-001); Securities Exchange Act Release No. 82161 (November 28,
2017), 82 FR 57306 (December 4, 2017) (SR-OCC-2017-022); Securities
Exchange Act Release No. 84524 (November 2, 2018), 83 FR 55918
(November 8, 2018) (SR-OCC-2018-014); Securities Exchange Act
Release No. 85440 (March 28, 2019), 84 FR 13082 (April 3, 2019) (SR-
OCC-2019-002); Securities Exchange Act Release No. 85755 (April 30,
2019), 87 FR 19815 (May 6, 2019) (SR-OCC-2019-004); Securities
Exchange Act Release No. 86296 (July 3, 2019), 84 FR 32816 (July 9,
2019) (SR-OCC-2019-005); Securities Exchange Act Release No. 87387
(October 23, 2019), 84 FR 57890 (October 29, 2019) (SR-OCC-2019-
010); Securities Exchange Act Release No. 89392 (July 24, 2020), 85
FR 45938 (July 30,2020) (SR-OCC-2020-007); Securities Exchange Act
Release No. 90139 (October 8, 2020), 85 FR 65886 (October 16, 2020)
(SR-OCC-2020-012).
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    In connection with this proposed rule change, OCC would also retire
as rule text any chapters of the Margins Methodology previously filed
with the Commission, as the proposed STANS Methodology Description is
intended to cover the material aspects of the STANS methodology. Those
chapters of the Margins Methodology that OCC has previously filed under
Section 19(b)(1) of the Exchange Act and Rule 19b-4 \12\ would be
superseded in their entireties by new corresponding sections in the

STANS Methodology Description, as described in further detail herein.
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    \12\ Id.
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    The current text of the Margins Methodology includes various
details that would no longer be OCC rule text following the adoption of
the proposed STANS Methodology Description. While the details that OCC
proposes to remove are described in further detail herein,
thematically, they consist of the following:
     Details on OCC's historical modeling practices and
potential future enhancements, which do not describe how a model
currently functions;
     Details on the exact set of current products applied to
each STANS component, which will change from time to time as OCC-
cleared products are listed and delisted;
     Various configuration choices made by OCC, such as data
sources, model parameters, and model performance monitoring, that are
not inherent to model selection or design and that do not materially
impact a model's results, which OCC may from time to time determine it
should modify based on current market conditions and business
practices;
     Extensive, detailed testing results and explanatory
rationale supporting a model;
     Recitations of standard mathematical and economic
theories/techniques that are well-known in quantitative finance,
readily found in public sources, and do not include OCC-specific
modifications or applications;
     Redundant descriptions of a model component appearing in
multiple chapters;
     Details on OCC's implementation of a model in its internal
technology systems and application of model results in operational
procedures that are not inherent to a model and that OCC could change
from time to time without affecting a model's results; and
     Manual margin adjustments and add-ons OCC employs pursuant
to OCC rules, policies, and/or procedures outside the STANS
methodology.
    The proposed STANS Methodology Description is intended to be a
comprehensive description of STANS that is made available to Clearing
Members and enable an informed reader to understand OCC's modeling
choices and the interconnectedness of STANS model components in
producing OCC margin requirements. Therefore, OCC believes the details
summarized above and described herein are extraneous to this purpose.
Rather, OCC believes these types of details are more appropriately
covered--to the extent these details are specific to an OCC model--in
other OCC rules and policies, Model Whitepapers, or other internal OCC
documentation.
    OCC also believes, as described in Item II.A.2 below, these details
do not need to maintained as OCC ``rules'' as defined by Section
19(b)(1) of the Exchange Act and Rule 19b-4.\13\ These internal
procedural and administrative details used by OCC's model developers
and model validators would: (1) Be reasonably and fairly implied by the
proposed STANS Methodology Description, OCC's Margin Policy,\14\ OCC's
Model Risk Management Policy,\15\ and other OCC rules; and/or (2)
otherwise not be deemed to be material aspects of OCC's margin setting-
related operations. While OCC would not maintain these details in the
STANS Methodology Description, OCC would continue to maintain and
update these details when necessary in the Model Whitepapers and other
internal OCC documentation, where these details are also currently
found.\16\
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    \13\ Section 19(b)(1) of the Exchange Act requires a self-
regulatory organization (``SRO'') such as OCC to file with the
Commission any proposed rule or any proposed change in, addition to,
or deletion from the rules of such SRO. See 15 U.S.C. 78s(b)(1).
Section 3(a)(27) of the Exchange Act defines ``rules of a clearing
agency'' to mean its (1) constitution, (2) articles of
incorporation, (3) bylaws, (4) rules, (5) instruments corresponding
to the foregoing and (6) such ``stated policies, practices and
interpretations'' (``SPPI'') as the Commission may determine by
rule. See 15 U.S.C. 78c(a)(27). Exchange Act Rule 19b-4(a)(6)
defines the term ``SPPI'' to include (i) any material aspect of the
operation of the facilities of an SRO and (ii) statements made
generally available to membership of, to all participants in, or to
persons having or seeking access to facilities of an SRO that
establishes or changes certain standards, limits, or guidelines. See
17 CFR 240.19b-4(a)(6). Rule 19b-4(c) provides, however, that an
SPPI may not be deemed to be a proposed rule change if it is: (i)
Reasonably and fairly implied by an existing rule of the SRO or (ii)
concerned solely with the administration of the SRO and is not an
SPPI with respect to the meaning, administration, or enforcement of
an existing rule the SRO. See 17 CFR 240.19b-4(c).
    \14\ See Securities Exchange Act Release No. 82355 (December 19,
2017), 82 FR 61058 (December 26, 2017) (SR-OCC-2017-007).
    \15\ See Securities Exchange Act Release No. 82473 (January 9,
2018), 83 FR 2271 (January 16, 2018) (SR-OCC-2017-011).
    \16\ OCC's Model Risk Management Policy establishes detailed
standards for Model Whitepapers and governance to adopt or make
changes to a Model Whitepaper. See id.
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STANS Methodology Description
    The proposed STANS Methodology Description would describe the
material aspects of OCC's margin methodology. Specifically, the STANS
Methodology Description would include (i) an executive summary; (ii)
descriptions of the quantitative model components of STANS; and (iii)
``model utilities'' intended to enhance the quality of model results.
Each of these sections is described in further detail below.\17\
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    \17\ The proposed STANS Methodology Description would also
include the following non-substantive sections: (i) A table of
contents; (ii) a list of references to academic and technical
documents, both public and internal to OCC; and (iii) a table of
defined terms used in the STANS Methodology Description.
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Executive Summary
    The STANS Methodology Description would provide an executive
summary of STANS. This executive summary would describe how the purpose
of STANS is to determine margin requirements for OCC's Clearing Members
(as described below), and in doing so meet various risk management
goals and regulatory requirements for OCC. The executive summary would
then describe the types of positions and collateral modeled through
STANS, which include (i) valued securities and stock loans; (ii)
equity, index, and futures options; (iii) Flexible Exchange (``FLEX'')
options; (iv) equity and index futures; (v) volatility futures; and
(vi) commodity futures. The executive summary would then provide an
overview of the STANS methodology, which includes (i) econometric
calibration; (ii) copula estimation and Monte Carlo simulation; (iii)
volatility forecasting; (iv) theoretical underlying price generation;
(v) theoretical derivatives price generation; and (vi) aggregation and
margin calculation. These components are described in further detail
below. The executive summary would then describe OCC's model monitoring
activities, which include (i) daily backtesting and (ii) ongoing
parameter monitoring pursuant to monitoring plans established by OCC's
Model Risk Working Group (``MRWG'').\18\ The executive summary would
then describe that STANS relies on price feeds of real-time market data
to generate theoretical values in calculating margin requirements, and
how OCC staff may use price editing techniques to improve the quality
of pricing data for input into STANS.\19\ Lastly, the executive summary
would briefly outline the organization of the sections of the STANS
Methodology Description that substantively describe the core components
of the STANS methodology

and the related data processing utilities used by STANS.
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    \18\ OCC's Margin Policy and Model Risk Management Policy
provide more detail on OCC's model monitoring activities. See supra
notes 14 and 15.
    \19\ OCC's Collateral Risk Management Policy and Margin Policy
provide more detail on the function of OCC's Pricing & Margins
department. See Securities Exchange Act Release No. 82009 (November
3, 2017), 82 FR 52079 (November 9, 2017) (SR-OCC-2017-008) and supra
note 14.
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    The proposed text of this executive summary would replace current
OCC rule text from the Margins Methodology's introductory section. The
current text, in addition to summarizing the STANS methodology as would
the proposed text described above, includes descriptions of the
following:
     OCC's historical modeling practices: OCC does not believe
this historical information is needed to understand how the model
functions.
     Redundant details of the STANS methodology also found in
the main body of both the Margins Methodology and the proposed STANS
Methodology Description: This information, would already be detailed in
the main body of the STANS Methodology Description, and OCC does not
believe repeating it here is needed to understand how STANS functions.
     A ``documentation guide'' describing what information can
be found within various sections of the Margins Methodology: OCC does
not believe this documentation guide is needed to understand how STANS
functions, or to understand the organization of the proposed STANS
Methodology Description.
    For the reasons stated above, OCC proposes to delete this rule text
in its entirety without adding new, corresponding rule text in the
STANS Methodology Description.
STANS Methodology Components
    The STANS Methodology Description would next describe the
components of OCC's risk-based margin methodology, which OCC uses to
cover the credit exposures presented by Clearing Members in accordance
with Rule 17Ad-22(e)(6). In particular, the STANS Methodology
Description would describe the (i) calibration of various parameters
and price data inputs used by OCC's econometric and pricing models to
create risk factors; (ii) construction of a copula from the risk
factors that identifies correlations among simulated changes in the
various risk factors; (iii) application of the simulated risk factor
changes and correlations to actual data through Monte Carlo simulations
that estimate 10,000 possible scenarios for each risk factor, then
estimation of theoretical prices for securities, derivatives, and
futures using these theoretical scenarios; and (iv) application of the
theoretical prices to actual Clearing Member positions to calculate
margin requirements.
i. Model and Econometric Calibration
    The STANS Methodology Description would describe how the
quantitative models used by STANS incorporate various historical price
data and econometric parameter inputs, which are used to estimate and
simulate the risk for an associated product. These inputs consist of
(i) returns on equity securities; (ii) implied volatilities; (iii)
energy and commodity futures; (iv) treasury securities; (v) variance
futures; and (vi) volatility futures. In total, there are currently
approximately 40,000 of these inputs. The exact number of inputs is
subject to change based on the types of products that OCC clears and
OCC's research on what risk factors correlate with prices changes in
these products. Historical price data comes from OCC's Pricing &
Margins department, which obtains the data from external vendors and
then validates it for use within STANS.\20\ STANS uses several models,
described below, to calibrate this historical data and then transform
the historical data into theoretical values that, along with
specialized volatility forecast and marginal distribution parameters
constructed by other OCC models described below, are used to construct
a copula, described in the next step.
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    \20\ See supra note 14.
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Equity Returns
    STANS uses returns on equity securities that are based on current
market prices. STANS first calibrates this data by simply creating a
time series of logarithmic returns based on the closing, and in some
cases opening, prices. This transformation does not require a separate
model. The data is used to create econometric parameters and for
pricing as described further below.
Implied Volatility
    STANS uses implied volatility risk factors to measure the expected
future volatility of an option's underlying security at expiration,
which is reflected in the current option premium in the market. To
address variations in implied volatility, OCC models a volatility
surface for options by incorporating into the econometric models
underlying STANS certain risk factors called ``pivot points.'' These
pivot points are chosen such that their combination allows STANS to
identify changes in the level, skew, convexity, and term structure of
the implied volatility surface. STANS generates a value for each of the
nine pivot points for each eligible underlying asset and for each
business day in the historical data period. To calibrate this data, for
each of the nine pivot points STANS performs a kernel smoothing
technique \21\ on the historical data. Application of these pivot
points enables STANS to simulate implied volatility scenarios, which
are then used to create the specialized volatility forecast and
marginal distribution parameters described below, and in the pricing of
options through OCC's option pricing models described further
below.\22\
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    \21\ ``Kernel smoothing'' is a statistical process by which data
points are better fitted to an expected function using weighted
averages and a ``smoothing parameter.''
    \22\ See Securities Exchange Act Release No. 76128 and
Securities Exchange Act Release No. 84524 for more information on
the function and application of the implied volatility model.
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    The proposed text would replace current OCC rule text from the
Margins Methodology's section on implied volatility. The current rule
text also includes other information related to the implied volatility
model. Specifically, the current rule text includes descriptions of the
following:
     Products eligible for implied volatility scenarios
modeling in STANS: OCC does not believe the exact list of products to
which this model is applied is needed to understand how the model
functions, and this list may change from time to time as OCC-cleared
products are listed and delisted.
     Data sources used by STANS to perform the kernel smoothing
technique: These data sources are configuration choices made by OCC
that are not inherent to the model's selection or design and that OCC
could change from time to time without affecting the model's results.
     Rationale for the assumptions underlying implied
volatility modeling of longer-tenor options: OCC does not believe that
the justification for these model assumptions is needed to understand
how the model currently functions.
     Historical background on OCC's decision to incorporate
implied volatility modeling into STANS: OCC does not believe that this
historical information is needed to understand how the model currently
functions.
     Model testing and validation results for the implied
volatility model: OCC does not believe that the internal testing and
validation performed to verify the model is fit for use is needed to
understand how the model currently functions.
    OCC believes that this information is more appropriately covered in
the Implied Volatility Scenarios Model Whitepaper and other internal
OCC documentation rather than in OCC's

rules for the reasons listed above. Therefore, OCC proposes to delete
this rule text in its entirety without adding new, corresponding rule
text in the STANS Methodology Description.
Treasury Securities
    STANS prices treasury securities \23\ using a Nelson-Siegel
framework,\24\ a commonly used polynomial model for constructing the
term structure of an interest rate and modeling changes in a yield
curve.\25\ STANS constructs a theoretical yield curve using current and
historical settlement prices for treasury securities.
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    \23\ While OCC does not clear treasury securities or derivatives
on such products, OCC permits Clearing Members to deposit treasury
securities as margin collateral.
    \24\ See Nelson, C.R. and Siegel, A.F., ``Parsimonious Modeling
of Yield Curves,'' 60 The J. of Bus. 4, 473-489 (1987) (describing
the Nelson-Siegel model).
    \25\ In addition to pricing treasury securities, STANS uses a
Nelson-Siegel framework to simulate potential changes in interest
rates. Refer to the below description of the interest rate curve
model utility.
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    STANS calibrates this data by transforming the market prices into a
time series of unobservable factors that represents the yield curve.
STANS fits these Nelson-Siegel parameters using observed bond prices.
In simulation, STANS creates ``shocks'' on theoretical Nelson-Siegel
parameters \26\ to create theoretical interest rate curves, which are
in turn used to price treasury securities.
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    \26\ STANS also introduces extra ``noise'' into the bond prices
to account for the bonds' idiosyncratic behaviors and prevent the
resulting treasury securities price movements from being perfectly
correlated.
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    The proposed text would replace current OCC rule text from the
Margins Methodology's section on U.S. Treasury bills and fixed rate
notes, bonds, and strips. The current rule text also includes other
information related to the treasury securities and interest rate model.
Specifically, the current rule text includes the following:
     Summary and introduction sections that describe OCC's need
to model treasury securities and interest rates and provide an overview
of the U.S. Treasury securities market: OCC does not believe these
background descriptions of the macroeconomic environment, found in
public sources, are needed to understand how the model currently
functions.
     Restatements of mathematical definitions and equations
describing the relationship between the forward and yield curves, and
the payoff function for bonds used to describe all interest rate
curves: This information, while relevant to understanding how the model
functions, is foundational information commonly understood in
quantitative finance and readily found in public academic sources. To
the extent the text does not describe OCC's application of these
theories, OCC does not believe this information needs to be maintained
in OCC's rules.
     Details on how OCC implemented the model in its technology
systems: These implementation details relate to OCC's internal
administration of its technology systems and are not needed to
understand how the model currently functions. Because these details are
not inherent to the model's selection or design, OCC could also change
them from time to time without affecting the model's results.
     Redundant description of the copula constructed by STANS:
This information, described further below, would already be detailed in
the STANS Methodology Description section related to the construction
of a copula, and OCC does not believe repeating it here is needed to
understand how the model currently functions.
    OCC believes that this information is more appropriately covered in
the Nominal Treasury Securities Model Whitepaper and other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
Generic Futures
    Relying on current futures prices and time series of spot prices as
inputs, STANS uses a generic futures model to price linear derivatives
with limited term structures. Using basic economic assumptions that the
relationship of spot prices to forward prices does not allow for
arbitrage and that futures prices equal forward prices, or that any
deviations from this are adequately addressed through costs implicit in
carrying such positions,\27\ the model estimates and applies
theoretical discount factors to the futures prices. These discount
factors are based on a ratio of estimated spot prices on the underlying
securities to the futures prices.
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    \27\ As described previously, pursuant to OCC's Model Risk
Management Policy OCC periodically reviews all parameters and
assumptions used in STANS and they are subject to change.
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Variance Futures
    STANS uses a specialized factor model to price variance futures,
which uses historical data for both variance futures products and the
Standard and Poor's 500 Index (``SPX''). This model relies on basic
assumptions that the short-term volatility of variance futures prices
tends to revert towards a mean (i.e., volatility remains relatively
close to an average value), but the long-term volatility is itself
stochastic. Using these assumptions, STANS fits current values of the
volatility and volatility mean reversion level, in addition to
parameters describing the dynamics, to the current term structure of
variance futures prices. Modeling variance futures prices based on
these assumptions allows the theoretical prices to move in a realistic
fashion.
    The model is first calibrated with historical data on variance
futures prices and their recent dynamics. It then simulates prices for
variance futures using two sets of random variables: (i) SPX returns;
and (ii) changes in the long-term volatility level, represented by
normal random numbers that STANS generates daily for use only with
variance futures and that have no correlation with other theoretical
numbers generated by STANS. Both random variables are used to simulate
scenarios for prices of the variance futures tenors.
Synthetic Futures
    Using logarithmic daily returns of active futures and various other
securities, STANS uses a ``synthetic futures'' model to estimate prices
of certain products such as volatility index-based futures (e.g., VIX
futures). In general, the synthetic futures model creates an artificial
(or ``synthetic'') time series of price innovations for actual futures
contracts with approximately the same tenor as the actively-traded
futures.\28\ This synthetic time series then serves as a uniform
substitute for a time series of daily settlement prices for the actual
futures contracts, which persists over many expiration cycles and thus
can be used as a basis for econometric analysis. STANS performs this
analysis by fitting the synthetic time series with associated
volatility forecast and marginal distribution parameters, which are
described below.
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    \28\ See Securities Exchange Act Release No. 85440 for further
information on OCC's synthetic futures model as applied to
volatility index-based products. OCC notes that the synthetic
futures model can also be used for other futures products, such as
interest rate futures. See e.g., Securities Exchange Act Release No.
89392 and Securities Exchange Act Release No. 90139.
---------------------------------------------------------------------------

    The traded futures contracts are then mapped to the simulated
return scenarios of the corresponding synthetic contracts to produce
theoretical prices. The first synthetic contract in the series contains
returns of the front contract on any given day. STANS switches the

front contract of the series to the next one out on the day following
the expiration date of the front contract. While the synthetic time
series contain returns from different contracts, a return on any given
date is constructed from prices of the same contract. Using a synthetic
time series allows STANS to better approximate correlations between
futures contracts of different tenors by creating more price data
points and their margin offsets. These synthetic time series are mapped
to the underlying futures product they are intended to represent.
    The proposed text would replace current OCC rule text from the
Margins Methodology's section on synthetic futures. The current rule
text also includes other information related to the synthetic futures
model. Specifically, the current rule text includes descriptions of the
following:
     Rationale for making changes to the model in 2019 \29\ and
other historical information: OCC does not believe that this rationale
and historical information is needed to understand how the model
currently functions.
---------------------------------------------------------------------------

    \29\ See id.
---------------------------------------------------------------------------

     Equations for standard GARCH provided for introductory
purposes: A description of OCC's GARCH model, described further below,
would already be detailed in the STANS Methodology Description section
related to GARCH parameters, and OCC does not believe repeating it here
is needed to understand how the model functions. Furthermore, the GARCH
equations as implemented in STANS are modified from the standard GARCH
equations provided here, and OCC believes this text could create
confusion around the exact GARCH equations used in STANS.\30\
---------------------------------------------------------------------------

    \30\ See infra note 36.
---------------------------------------------------------------------------

    OCC believes that this information is more appropriately covered in
the Synthetic Futures Model Whitepaper and other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
GARCH and NRIG Parameters
    STANS utilizes econometric parameters related to volatility
forecasts and marginal distributions, and calibrates these parameters
using ten-year histories of the data inputs described above. For both
volatility forecasts and marginal distributions, STANS utilizes a
generalized autoregressive conditional heteroskedasticity (``GARCH'')
model. GARCH is a common statistical model for, in a time series of
data, comparing the variance of one point in the time series to the
previous point in the series rather than an arithmetic average of all
the points in the series. This is particularly useful when the value of
volatility at one point in a time series is known to be correlated with
the volatility at previous points in the series. STANS estimates these
GARCH parameters through a maximum likelihood estimation method. By
fitting these GARCH parameters to a time series of risk factor
innovations, STANS is able to remove the effects of volatility from--or
``devolatilize''--the risk factor time series so that the copula
described below can estimate the correlations among the risk factors
irrespective of their individual volatilities.
    To model volatility forecast parameters, STANS fits the time series
of implied volatility pivot points (described above) into a Student's
t-distribution, a continuous probability distribution that is commonly
used to estimate the mean of a population with a relatively small
sample size and unknown standard deviation. To determine the
appropriate degrees of freedom for a particular distribution, STANS
applies an Anderson-Darling test.
    To model marginal distribution parameters, STANS utilizes a normal
reciprocal inverse Gaussian (``NRIG'') distribution, a special case of
the generalized hyperbolic distribution.\31\ The returns \32\ of each
risk factor used in STANS are assumed to exhibit returns in the shape
of a symmetric NRIG distribution.\33\ Consequently, STANS calibrates
NRIG parameters that are designed to describe the shape of every risk
factor individually.
---------------------------------------------------------------------------

    \31\ The generalized hyperbolic distribution is a special type
of continuous probability distribution. See Barndorff-Nielsen, O.,
``Exponentially decreasing distributions for the logarithm of
particle size,'' 353 Proc. of the Royal Soc'y of London. Series A,
Mathematical and Physical Sci. 1674, 401-419 (1977) (explaining the
generalized hyperbolic distribution).
    \32\ ``Return'' refers generally to changes in a risk factor's
value over a time interval. Returns could take the form of simple
differences, log returns, or other forms.
    \33\ Except for (i) Chicago Volatility Index (``VIX'') futures,
which are assumed to follow an asymmetric NRIG distribution, and
(ii) implied volatility, which is assumed to follow a Student's t-
distribution.
---------------------------------------------------------------------------

    As described previously, STANS constructs these GARCH and NRIG
parameters from the historical price data and econometric parameter
inputs that are first calibrated by the models described above. These
historical price data and econometric parameters, and the resulting
GARCH and NRIG parameters, are the foundational data elements used by
the copula and pricing models described in the proceeding steps.
    The STANS Methodology Description would also describe the controls
that may be placed on the GJR-GARCH parameters after their initial
calibration. GARCH volatility forecasting models can be very reactive
in certain market environments. As a result, OCC may implement
parameter controls for risk factors and classes of risk factors, which
are subject to periodic review and approval by the MRWG.
    The proposed text would replace current OCC rule text from the
Margins Methodology's section on GARCH forecasts. OCC notes that the
current rule text describes the standard NRIG cumulative distribution
function that is widely available in public academic texts. The
proposed rule text would describe the same function in a re-
parameterized form that is proprietary to OCC. While the two forms are
mathematically equivalent, the re-parameterized form is used in the
Econometric Model for Risk Factors in STANS Model Whitepaper and the
proposed text would therefore be made consistent with the Model
Whitepaper. The proposed rule text would also include a citation to an
academic paper describing the rationale for the re-parameterization.
    The current rule text also includes other information related to
OCC's GARCH model. Specifically, the current rule text includes
descriptions of the following:
     Introductory language describing the standard Glosten-
Jagannathan-Runkle GARCH model and the use of a Student's t-
distribution: This information, while relevant to understanding how the
model functions, is foundational information commonly understood in
quantitative finance and readily found in public academic sources. To
the extent this text does not describe OCC's application of GARCH and
the Student's t-distribution, OCC does not believe this information
needs to be maintained in OCC's rules.
     Details on variance forecasting (i.e., considering how
securities volatility tends to clusters during certain periods) as
rationale for model selection: OCC believes this information is
extraneous to understanding how the GARCH model currently functions in
STANS.
     Variance forecasting as applied to the One-Day and Two-Day
Scenarios model utility: This information, described further below,
would already be detailed in the STANS Methodology Description section
related to the One-Day and Two-Day Scenarios model

utility, and OCC does not believe repeating it here is needed to
understand how the model utility currently functions.
     Mathematical rationale for the cumulative distribution
function,\34\ inverse cumulative distribution function, and degrees of
freedom for the Student's t-distribution used by the GARCH model for
implied volatility risk factors: OCC believes this information is
extraneous to understanding how the GARCH model currently functions in
STANS. This information is also foundational information commonly
understood in quantitative finance and readily found in public academic
literature. To the extent this text does not describe OCC's application
of these functions and the Student's t-distribution, OCC does not
believe this information needs to be maintained in OCC's rules.
---------------------------------------------------------------------------

    \34\ In probability theory, the cumulative distribution function
of a random variable is the probability that the variable will be
less than or equal to a set value.
---------------------------------------------------------------------------

     Explanatory mathematical formulas for variance forecasting
of implied volatility risk factors and a likelihood function \35\ and
equations related to the Anderson-Darling test,\36\ including the
Student's t cumulative distribution function for integer values of n:
These details relate to implementation of the GARCH model in OCC's
internal technology systems, are not inherent to the model's selection
or design, and are not needed to understand how the model currently
functions.
---------------------------------------------------------------------------

    \35\ A likelihood function is a tool used to measure the
goodness of fit of a statistical model to sample data.
    \36\ The Anderson-Darling test is a statistical test of whether
a given sample of data is drawn from a population of data with a
specific probability distribution.
---------------------------------------------------------------------------

     Expressions for the Gamma and Beta functions: \37\ This
information, while relevant to understanding how the model functions,
is foundational information commonly understood in quantitative finance
and readily found in public academic literature. To the extent the text
does not describe OCC's application of Gamma and Beta functions in the
model, OCC does not believe this information needs to be maintained in
OCC's rules.
---------------------------------------------------------------------------

    \37\ Gamma and Beta functions, respectively, are related one and
two-variable functions that serve as foundations for various
mathematical applications.
---------------------------------------------------------------------------

    OCC believes that this information is more appropriately covered in
the underlying GARCH Model Whitepaper and other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
ii. Copula Construction
    The STANS Methodology Description would describe how a copula is
used to quantify the joint behavior and dependence structure of the
risk factors used by STANS. A copula is a mathematical construct used
in probability theory to calculate the cumulative distribution of a set
of random variables. The fitted copula can then be used by STANS to
perform Monte Carlo simulations of theoretical prices for underlying
securities and associated derivatives, which will be used in the
aggregation step during which margin requirements are calculated.
    To estimate the copula, STANS first transforms two years of
historical data for the risk factors produced by the models described
above into a data set described by the Student's t-distribution with
four degrees for freedom.\38\ STANS then performs a singular value
decomposition of this data set to obtain the eigenvector decomposition
\39\ of the correlation matrix. This means the resulting fitted copula
is a Student's t copula with four degrees of freedom.
---------------------------------------------------------------------------

    \38\ Based on OCC's research, four degrees of freedom is in the
conservative end of a range of degrees of freedom that are generally
suitable fits for univariate distributions and is therefore
appropriate for use in constructing the copula.
    \39\ In the context of linear transformations, an Eigenvector is
a value that does not change direction when the transformation is
applied to it, but rather changes in scale based on the application
of a scalar factor, called an Eigenvalue. Eigenvectors and
Eigenvalues are used to analyze the characteristics of linear
transformations, including correlation/covariance matrices, and
generate random variables with the equivalent correlation.
---------------------------------------------------------------------------

    Before the copula is estimated, STANS performs an ``alignment''
step on the time series to identify and separately process risk factors
with incomplete data sets that lack sufficient data to estimate the
copula. Specifically, for pricing data/models for underlyings OCC
extracts data on the previous two years (i.e., 500 business days) and
ensures (i) the data has no more than 100 missing returns as compared
to baseline dates and (ii) the five latest returns are not missing as
compared to baseline dates. If a risk factor's data set does not meet
each of these three criteria, it is subject to a conditional or default
simulation, described below.
    To simulate price movements, STANS draws random samples from the
multivariate Student's t-distribution described by the copula. These
random draws are abstract values that correspond to correlated,
uniform, normalized shocks in the risk factors. STANS then
reincorporates the individual volatility and marginal distribution of
the risk factors to create appropriate return scenarios. STANS next
applies these theoretical returns to current market prices to generate
potential price scenarios for underlying securities. STANS essentially
performs the reverse of the function that was performed to fit the
econometrics of the risk factors.
    The proposed text would replace current OCC rule text from the
Margins Methodology's section on the Student-t Copula model. The
current rule text also includes other information related to the
construction and simulation of a copula in STANS. Specifically, the
current rule text includes a mathematical justification for using a
copula generally, and introductory text describing the general
properties of a Student's t copula. OCC believes this information is
extraneous to understanding how the Student-t Copula model currently
functions in STANS. This information is also foundational information
commonly understood in quantitative finance and readily found in public
academic literature. To the extent this text does not describe OCC's
application of a mathematical copula, OCC does not believe this
information needs to be maintained in OCC's rules. Instead, OCC
believes that this information is more appropriately covered in the
underlying Student-t Copula Model Whitepaper and other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
Conditional and Default Simulations
    For risk factors with data sets that have only recently become
available, or that have experienced drastic changes in their return
characteristics, and do not meet one or more of the criteria in the
alignment step, there may be too small of a sample size to reliably
estimate correlations among the data. In such cases, these risk factors
are excluded from the copula simulation in STANS and OCC applies
conditional or default simulation.
    OCC applies a conditional simulation when it believes that a risk
factor that has been identified during the alignment step does not meet
the data quality criteria but has an appreciable correlation with
another risk factor that has a more robust dataset. OCC uses that more
robust risk factor's data as a proxy for the identified risk factor.
The identified risk factor is assumed to

exhibit simulated results that follow an NRIG distribution of specified
mean, variance, and shape parameters, and any variation from the proxy
data is assumed to be purely idiosyncratic. Pursuant to OCC's Margin
Policy, OCC periodically reviews whether applying a conditional
simulation to a particular risk factor continues to be appropriate.
    OCC applies a default simulation when it does not believe an
identified risk factor has any obvious proxy and has no view on its
prospective volatility, or when a risk factor is identified by STANS
during nightly margin processing and OCC has not already selected it to
undergo a conditional simulation. In a default simulation, movements in
the risk factor are assumed to be entirely idiosyncratic and have a
volatility that is typical of highly volatile stocks.
    The proposed text would replace current OCC rule text from the
Margins Methodology's section on default, derived, and conditional
factors. The current rule text also includes other information related
to conditional and default simulations. Specifically, the current rule
text includes the following:
     Introductory text restating the use of time series in
STANS: This information would already be described elsewhere in the
STANS Methodology Description where applicable, and OCC does not
believe repeating it here is needed to understand how the model
functions.
     A description of ``derived scenarios,'' a special case of
conditional simulations related to exchange rate risk factors: This
special case is applied pursuant to internal OCC procedures, and occurs
outside of the STANS methodology. Therefore, OCC does not believe this
information is needed to understand how the model currently functions.
     A description of the how OCC operationally applies
conditional simulations: These operational details relate to OCC's
application of the model's results in operational procedures and are
not inherent to the model's selection or design, and that OCC could
change from time to time without affecting the model's results.
     Details on how OCC implemented default scenarios in its
internal technology systems: These implementation details relate to
OCC's internal administration of its technology systems and are not
inherent to the model's selection or design, and that OCC could change
from time-to-time without affecting the model's results.
    OCC believes that this information is more appropriately covered in
the Student-t Copula Model Whitepaper or other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
iii. Implied Volatility Smoothing and Options Pricing
    The STANS Methodology Description would next describe how STANS
utilizes the inputs and outputs described above to (i) perform implied
volatility smoothing, (ii) price European and American options, (iii)
price Asian FLEX options, and (iv) price Cliquet options.
Implied Volatility Smoothing
    STANS employs an Implied Volatility Smoothing model to estimate
fair prices of listed option contracts based on their bid and ask price
quotes. This model supports pricing of the following types of options:
(i) European and American options on equity products with a dividend
yield or with discrete cash dividends; (ii) European and American
options on futures on equity indices, currencies, and commodities;
(iii) options on volatility indices for which volatility futures trade
(e.g., VIX options \40\); (iv) forward start options; and (v) Asian
FLEX options.
---------------------------------------------------------------------------

    \40\ VIX options are treated as options on VIX futures and thus
represent a type of option on futures that is also supported by the
implied volatility smoothing.
---------------------------------------------------------------------------

    The model is essentially an advanced data filtering and pre-
processing technique to improve data quality to support option pricing
during the calibration and simulation phases of the STANS methodology.
It makes use of the same theory that underpins OCC's Vanilla Options
model, described below. The most important stages of the Implied
Volatility Smoothing model are: (i) A preprocessing procedure, to
filter out ``bad'' price quotes; (ii) an implied forward price
calculation using prices from near-the-money options on the same
securities at all tenors or expiration dates; (iii) the smoothing, in
which prices are generated for all plain vanilla listed options at all
strikes by using corresponding bid and ask price quotes and forward
prices (from step two); and (iv) construction of a volatility surface
based on linear interpolation of total variance among the smoothed
prices and performing any necessary post-processing. When applied to
prices estimated by the option pricing models described below, the
model functions to (i) makes data points comprising the volatility
surface more consistent with the actual bid-ask spreads found in
current market prices and (ii) correct data that would create arbitrage
opportunities by not having monotonicity and convexity with respect to
the strike and/or not satisfying put-call parity.\41\
---------------------------------------------------------------------------

    \41\ See Securities Exchange Act Release No. 86296 for further
information on the smoothing algorithm used in STANS.
---------------------------------------------------------------------------

    The proposed text would replace current OCC rule text from the
Margins Methodology's section on the Implied Volatility Smoothing
model. The current rule text also includes other information related to
the model. Specifically, the current rule text includes the following:
     A description of the use of target prices based on model
parameters: This represents configuration choices made by OCC that are
not inherent to the model's selection or design and that do not
materially impact the model's results, which OCC may from time to time
determine it should modify based on current market conditions and
business practices.
     Economic rationale for various features of the model: OCC
does not believe that this economic rationale is needed to understand
how the model currently functions.
     A discussion of the model's performance in deriving
theoretical spot prices from underlying futures and indices, and
specific ``if/then'' conditions the model applies to bid and ask prices
to filter out poor quality data based on certain control parameters:
These data filtering parameters are configuration choices made by OCC
that are not inherent to the model's selection or design and that do
not materially impact the model's results, which OCC may from time to
time determine it should modify based on current market conditions and
business practices.
     Mathematical rationale for the method by which the
smoothing algorithm calculates implied forward prices: OCC does not
believe that the rationale for the model's configuration is needed to
understand how the model currently functions.
     A detailed description of the Vega-weighted least squares
calculation performed during the first round of optimization to produce
arbitrage-free options prices for European options: This information,
while relevant to understanding how the model functions, is
foundational information commonly understood in quantitative finance
and readily found in public academic sources. To the extent the text
does not describe OCC's application of a Vega-weighted least squares
calculation, OCC does not believe this

information needs to be maintained in OCC's rules.
     Operational details on (1) how the model's results are
applied to other models for pricing European and American options,
options on futures, and long-dated \42\ volatilities; (2) price
smoothing for contracts that are otherwise missing smoothed prices for
various reasons, FLEX options, and over-the-counter options; and (3)
detailed steps for a linear interpolation/extrapolation used to
construct a volatility surface from smoothed volatilities: These
details relate to configuration choices made by OCC to applying a model
overlay in certain cases where there is insufficient data, that are not
inherent to the model's selection or design, and that do not materially
impact the model's results, which OCC may from time to time determine
it should modify based on current market conditions and business
practices.
---------------------------------------------------------------------------

    \42\ In the context of volatility smoothing, ``long-dated''
refers to expirations beyond the listed expiration date of standard
exchange-traded options.
---------------------------------------------------------------------------

    OCC believes that this information is more appropriately covered in
the Implied Volatility Smoothing Model Whitepaper and other internal
OCC documentation rather than in OCC's rules for the reasons listed
above. Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
European and American Options
    The Vanilla Options model is used by STANS to price European and
American options. This model is comprised of several modules that (i)
calculate theoretical option prices, (ii) calculate risk sensitivities
of the option prices with respect to the market variables (the
``Greeks''), and (iii) calculate implied volatilities from option
prices. The model prices European options using a modified Black-
Scholes formula and American options using a Leisen-Reimer binomial
tree.\43\
---------------------------------------------------------------------------

    \43\ See Securities Exchange Act Release No. 86296 for further
information on OCC's Vanilla Options model, which prices American
and European options and generic futures.
---------------------------------------------------------------------------

    The proposed text would replace current OCC rule text from the
Margins Methodology's section on the Vanilla Options model. The current
rule text includes other information related to the model.
Specifically, the current rule text includes the following:
     Rationale and testing to support the number of steps used
in the Leisen-Reimer binomial tree: OCC does not believe the rationale
to support this model choice is needed to understand how the model
currently functions.
     Equations describing the calculation of various ``Greeks''
(i.e., Gamma, Vega, Theta, and Rho), restatements of standard Black's
formulas, and a restatement of the standard Leisen-Reimer binomial
tree: This information, while relevant to understanding how the model
functions, is foundational information commonly understood in
quantitative finance and readily found in public academic literature.
To the extent the text does not describe OCC's application of the
``Greeks,'' Black's formulas, and the Leisen-Reimer binomial tree, OCC
does not believe this information needs to be maintained in OCC's
rules.
     A list of control parameters of the Newton-Raphson method
used to calculate implied volatilities for vanilla options: These
control parameters are configuration choices made by OCC that are not
inherent to the model's selection or design and that do not materially
impact the model's results, which OCC may from time to time determine
it should modify based on current market conditions and business
practices.
    OCC believes that this information is more appropriately covered in
the Vanilla Options Model Whitepaper and other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
Asian FLEX Options
    Like European options, Asian FLEX options are priced based on a
Black-Scholes formula.\44\ Asian FLEX options are modeled with
assumptions that volatility, interest rates and cost of carry remain
constant across an option's tenor. Furthermore, implied volatility is
determined from ``terminal'' option (i.e., the last option in a series)
volatilities, which are obtained from prices of available regular
options expiring at the same tenor or, in their absence, by
interpolating terminal volatilities of existing tenor regular options
using an internal calculator developed by OCC.
---------------------------------------------------------------------------

    \44\ See Securities Exchange Act Release No. 74966 for further
information on how STANS models Asian-style options.
---------------------------------------------------------------------------

Cliquet Options
    STANS also prices Cliquet options using a Black-Scholes model. Like
Asian FLEX options, Cliquet options are modeled with assumptions that
volatility, interest rates, and cost of carry remain constant across an
option's tenor. STANS calculates options premiums based on the premiums
of the individual forward starting options that comprise the Cliquet
option. This valuation is then repeated for each ``reset period'' of
the Cliquet option.
Forward Start Options
    STANS can also be used to price forward start options. Forward
start options are options for which the strike price in dollars is
unknown prior to the determination date of the strike shortly before
expiration.\45\ Forward start option values depend on the same input
model parameters as vanilla options and on the determination date of
the strike. Using the Black-Scholes framework, the pricing problem of a
forward-start option prior to strike determination can be transformed
into the valuation of a plain vanilla option at determination time,
after which the option can be priced using a standard application of
Black's formula.
---------------------------------------------------------------------------

    \45\ Instead, forward start options trade with strikes defined
as a fraction [alpha], known prior to expiration, of the underlying
closing price on the determination date.
---------------------------------------------------------------------------

iv. Aggregation
    The STANS Methodology Description would next describe how STANS
applies the theoretical derivatives prices to actual positions in
Clearing Members' accounts to calculate margin requirements. This is
accomplished by aggregating (i) a base margin charge, which consists of
an ES calculation with the addition of Extreme Value Theory (``EVT'')
loss modeling and a stress test component; (ii) an error compensation
charge; (iii) a liquidation cost charge; (iv) a positive risk reversal
charge; and (v) various add-on charges that are applied based on
accounting principles.
Base Margin Charge
    STANS first calculates the base margin charge. This is accomplished
by identifying the positions present in a Clearing Member's
account,\46\ multiplying the values of those positions to each of the
10,000 theoretical values calculated in the above step, then adding the
products' values together to obtain possible 10,000 net asset values
(``NAVs'') for the account. The account's actual NAV is then subtracted
from each of these 10,000 possible NAVs to obtain 10,000 possible
Profit and Loss (``P&L'') statements. STANS then constructs a VaR line
separating the 100 most extreme negative projected P&L

statements over a two-day horizon from the remaining 9,900 simulated
outcomes, representing the worst 1% of the projected scenarios, and
calculates the average of these 100 values to obtain a single ES value
for the account. This is called the empirical ES because STANS uses
actual historical prices in calibrating the simulation, which
represents the historical dependence among the various risk factors.
---------------------------------------------------------------------------

    \46\ The netting/offsetting of a Clearing Member's positions
within an account pursuant to OCC's rules occurs outside STANS
before the position data is brought into STANS for this step.
---------------------------------------------------------------------------

    In addition to calculating the empirical ES, STANS applies EVT to
parametrically fit the largest losses and parametrically calculate ES.
EVT is based on a tenet of probability theory that the distribution of
extremes of a univariate random variable converge to a Generalized
Pareto distribution.\47\ The parametric EVT estimator can use a larger
tail sample than the empirical estimator, which, for ES at the 99th
percentile, is limited to 100 (i.e., 1% of 10,000) points. Empirical ES
is used when there is indication that the tail is not well fit by EVT.
---------------------------------------------------------------------------

    \47\ A Generalized Pareto distribution is a type of continuous
probability distribution that can be used to model the distribution
of the tail of another underlying distribution.
---------------------------------------------------------------------------

    STANS next applies a stress test component to its base charge. This
component includes additional calculations related to (i)
concentration, which is intended to consider extreme idiosyncratic
moves in concentrated positions and to counteract ``survivor bias'' in
historical equity returns data (i.e., that historical data typically
does not incorporate certain extreme movements in a firm's stock
prices, such as when a firm declares bankruptcy or is subject to a rich
takeover); and (ii) dependence, in which the ES calculations described
above are performed twice again, once assuming perfect correlation
among the various risk factors and once assuming no correlation among
the various risk factors. After performing these concentration and
dependence calculations, STANS takes the higher of the two factors and
combines it with the empirical ES to create a more conservative margin
requirement for the account.
    The proposed text would replace current OCC rule text from the
Margins Methodology's chapter on the base charge, stress-test add-on
charge, and total margin charge. The current rule text also includes a
summary section summarizing historical changes OCC has made to the
manner in which STANS calculates a total margin charge. OCC does not
believe this information is needed to understand how STANS currently
functions. OCC further believes that this information is more
appropriately covered in the Portfolio Risk Measures Model Whitepaper
or other internal OCC documentation rather than in OCC's rules for this
reason. Therefore, OCC proposes to delete this rule text in its
entirety without adding new, corresponding rule text in the STANS
Methodology Description.
Error Compensation
    An inherent property of ES calculations is the existence of
estimation error. To compensate for the potential risk that a STANS ES
calculation includes such an error on the positive (lower loss) side,
the ES value based on the simulated results is shifted through a
compensation term to a more conservative level. Mathematically, the
error compensator shifts ES to the left by 1.2 standard deviations of
the loss tail, covering the 70% quantile of estimation error. The
extent to which this alters the calculated ES in absolute varies based
on the distribution's kurtosis (i.e., the shift is more significant for
distributions with fatter tails).
Liquidation Cost Charge
    The default of a Clearing Member requires OCC to close-out that
Clearing Member's positions, which results in OCC incurring costs.
Closing out positions in a defaulted portfolio may also entail selling
long positions at the current bid price and covering short positions at
the current ask price, which could create additional costs based on the
bid-ask spread. To account for these costs, STANS calculates a daily
liquidation cost charge based on a liquidation cost grid, calibrated
with data from historical stressed periods, and applies this calculated
cost as an add-on charge. In general, the Liquidation Charge model
calculates two risk-based liquidation costs for a portfolio, Vega \48\
liquidation cost (``Vega LC'') and Delta liquidation cost (``Delta
LC''), using ``Liquidation Grids.'' More specifically, the model
consists of: (1) The decomposition of the defaulter's portfolio into
sub-portfolios by underlying security; (2) the creation and calibration
of Liquidation Grids used to determine liquidation costs; (3) the
calculation of the Vega LC (including a minimum Vega LC charge) for
options products; (4) the calculation of Delta LCs for both options and
Delta-one products; (5) the calculation of Vega and Delta concentration
factors; and (6) the calculation of volatility correlations for Vega
LCs.\49\ STANS applies both Vega and Delta LCs to options products, but
only applies a Delta charge to Delta-one \50\ products such as futures
contracts, Treasury securities, and equity securities.
---------------------------------------------------------------------------

    \48\ The Delta and Vega of an option represent the sensitivity
of the option price with respect to the price and volatility of the
underlying security, respectively.
    \49\ See Securities Exchange Act Release No. 85755 for more
detail on the liquidation cost model used by STANS.
    \50\ ``Delta one products'' refer to products for which a change
in the value of the underlying asset results in a change of the
same, or nearly the same, proportion in the value of the product.
---------------------------------------------------------------------------

    The proposed text would replace current OCC rule text from the
Margins Methodology's section on the Liquidation Charge model. The
current rule text also includes other information related to the model.
Specifically, the current rule text includes the following:
     Background historical information on adoption of the
model: OCC does not believe this historical information is needed to
understand how the model currently functions.
     Classifications OCC applies to an underlying equity
security based on the security's liquidity level to determine which
liquidation grid is most appropriate: These details represent
configuration choices made by OCC that are not inherent to the model's
selection or design and that do not materially impact the model's
results, which OCC may from time to time determine it should modify
based on current market conditions and business practices.
     Intermediate equations used to define variables for
calculating Vega LC: OCC does not believe these intermediate,
explanatory equations are needed to understand how the model currently
functions.
     Descriptions of the parameters used to calibrate
liquidation grids: These calibration parameters represent configuration
choices made by OCC that are not inherent to the model's selection or
design and that do not materially impact the model's results, which OCC
may from time to time determine it should modify based on current
market conditions and business practices.
    OCC believes that this information is more appropriately covered in
the underlying Liquidation Charge Model Whitepaper and other internal
OCC documentation rather than in OCC's rules for the reasons listed
above. Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
Positive Risk Reversal
    As an additional conservative measure, STANS applies a ``positive

risk reversal'' charge to ensure that the total calculated margin
requirement is at least equal to the estimated liquidation cost, even
in the event a position is liquidated at the current market price (or a
more favorable price). STANS incorporates the positive risk reversal
charge by simply applying a minimum margin requirement to a position
that is equal to the estimated liquidation cost charge.
Various Add-On Charges
    In addition to the charges described above, OCC may, pursuant to
its rules, elect to apply additional charges to a Clearing Member's
margin requirements for various reasons; e.g., based on the Clearing
Member's Watch Level status or to account for rebates, adjustments and
add-ons related to stock loan positions.\51\ These additional charges
occur outside of STANS and are outside the scope of the STANS
Methodology Description.
---------------------------------------------------------------------------

    \51\ See Securities Exchange Act Release No. 82355, which states
that OCC's Margin Policy establishes the application of add-on
charges.
---------------------------------------------------------------------------

    The proposed text would replace current OCC rule text from a
section in the Margins Methodology's base charge, stress-test add-on
charge, and total margin charge chapter covering add-on charges. The
current rule text notes that OCC may apply various add-on charges to
its margin requirements outside the STANS methodology, which could
include additional margin charges related to (i) cross-margin accounts,
established by OCC Rule 704; (ii) placement on a heightened Watch Level
based on OCC's credit risk surveillance, established by OCC's
Counterparty Credit Risk Management Policy; \52\ (iii) interest
payments and adjustments to stock loan positions, established by OCC
Rule 601, Interpretation & Policy .05; (iv) customer positions subject
to certain margin requirements promulgated by the U.S. Commodity
Futures Trading Commission, established by OCC Rule 601, Interpretation
& Policy .07; (v) concentration risk for equity securities exceeding an
average daily trading volume threshold, established by OCC's Collateral
Risk Management Policy; \53\ and (vi) OCC's extended trading hours
program, established generally by OCC's Margin Policy and specified in
OCC's Extended Trading Hours Set-Up and Monitoring Procedure.\54\
---------------------------------------------------------------------------

    \52\ See Securities Exchange Act Release No. 81949 (October 26,
2017), 82 FR 50719 (November 1, 2017) (SR-OCC-2017-009) for more
information on OCC's Watch Level framework. OCC has filed a proposed
rule change with the Commission to adopt a new TPRMF, which would
replace the Counterparty Credit Risk Management Policy and provide
an overview of OCC's overall approach to third-party risk
management. See supra note 3.
    \53\ See Securities Exchange Act Release No. 82009, which
describes OCC's Collateral Risk Management Policy.
    \54\ The specific margin add-on charges OCC may apply are
subject to change in accordance with internal governance established
by OCC's Margin Policy and supporting procedures.
---------------------------------------------------------------------------

    As outlined above, these add-on charges are applied pursuant to
other OCC rules, policies, and/or procedures, and are established
outside of the STANS methodology. Therefore, OCC believes that they are
more appropriately covered in the underlying OCC rules, policies, and
procedures that establish them, and, accordingly, proposes to delete
this text in its entirety without adding new, corresponding rule text
in the STANS Methodology Description.
Model Utilities
    The STANS Methodology Description would next describe several
``model utilities'' that are applied at various points in the STANS
methodology, to incorporate various market and operational factors that
affect options pricing and thereby produce model results which more
accurately reflect current and potential market conditions.
i. Dividends
    The STANS Methodology Description would describe how STANS
incorporates expected cash dividends on a stock into options
pricing.\55\ STANS obtains daily information on general dividend yields
and discrete dividends from pricing vendors, then applies a dividend
growth rate to this information to forecast dividends (typically) 16
quarters into the future.
---------------------------------------------------------------------------

    \55\ OCC considers the potential effects of stock dividends
outside of STANS.
---------------------------------------------------------------------------

    STANS accounts for the possibility that cash dividends may be paid
on stocks, which would affect their pricing, through a dividend utility
that interacts with the pricing models in STANS. Daily, STANS retrieves
from an external vendor data on forecasted cash dividends and yield
curves associated with the issuance of those dividends. STANS uses this
data to forecast when a security may go ex-dividend, and accordingly
incorporates this into pricing the associated equity security. STANS
also accounts for the possibility that an option may be exercised early
to obtain a cash dividend on the underlying security. Using the same
external dividend data, STANS calculates when an option would likely be
exercised early to receive the dividend and prices it accordingly.
ii. Interest Rate Curve
    This model utility calculates the yield curve using (i) overnight,
one-week, one-month, two-month, and three-month cash deposit interest
rates; (ii) Eurodollar interest rate futures with three-month to two-
year tenors; and (iii) interest rate swaps with three-year to 30-year
tenors. The model utility calculates a discount factor from a given
date to any future date along the curve. This discount factor is used
as an input to pricing models to generate theoretical prices for
instruments based on these rates.
iii. Overnight and Daily Returns
    STANS calculates margin requirements on a daily basis, using prices
from that day's market close. However, some positions may expire or be
exercised during a business day and before the following day's margin
settlement. Since OCC clears derivatives that are settled on both
opening and closing prices, both types of events affect derivatives
prices and their corresponding margin requirements. Therefore, the
STANS Methodology Description would describe how STANS obtains relevant
risk factors for both the most recent opening price and the most recent
closing price. STANS includes within the copula it constructs,
described previously, a joint distribution of both overnight and daily
returns on relevant risk factors.
    The proposed text would replace current OCC rule text from the
Margins Methodology's section on overnight and daily innovations. The
current rule text also includes other information on the overnight and
daily returns model utility. Specifically, the current rule text
includes the following:
     Details on how OCC implemented the model utility in its
technology systems: These implementation details relate to OCC's
internal administration of its technology systems and are not needed to
understand how the model currently functions. Because these details are
not inherent to the model's selection or design, OCC could also change
them from time to time without affecting the model's results.
     Redundant detail related to the copula constructed by
STANS: These details, described above, would be described in the STANS
Methodology Description's section on the Student-t Copula model, and
OCC does not believe repeating it here is needed to understand how the
model utility currently functions.
    OCC believes that this information is more appropriately covered in
the Daily and Overnight Theoretical Price

Scenario Simulation Model Whitepaper or other internal OCC
documentation rather than in OCC's rules for the reasons listed above.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
iv. One-Day and Two-Day Scenarios
    As noted previously, OCC has established margin levels to cover the
costs of liquidating positions over a two-day margin period of risk.
Furthermore, and as described above, during this interval expiring OCC-
cleared or cross-margined positions may experience final settlement
based on either the opening or closing price of the underlying
security. Therefore, the STANS Methodology Description would describe
how STANS calculates for each underlying price scenario simulated
prices at four different points in time: (i) Opening price on day one;
(ii) closing price on day one; (iii) opening price on day two; and (iv)
closing price on day two. STANS must account for these additional
prices to avoid under-margining portfolios with both expiring and non-
expiring positions in a risk group, and to reflect the prices of
underlying securities and associated derivatives that are forecasted to
go ex-dividend or ex-coupon on T+1 or T+2 (where T represents the
activity date). To calculate the two additional prices that may be
observed over the two-day margin period of risk, STANS applies a
randomly generated permutation to the return scenarios. The second-day
return scenarios and securities that go ex-dividend on T+2 are then
applied scenario-by-scenario to the first-day results in the same
fashion.
v. Portfolio Specific Haircuts
    Some Clearing Members have deposited securities as margin
collateral that are also used in STANS as risk factors, and therefore
potential price movements in these securities are factored into margin
requirement calculations. However, a Clearing Member may want--or be
required--to withdraw or deposit such margin collateral intraday. This
would change the concentration of the Clearing Member's collateral
types and would also change the sensitivity of how the Clearing
Member's portfolio responds to such changes. To account for these
changes in concentration and sensitivity, the STANS Methodology
description would describe how STANS utilizes a Portfolio Specific
Haircuts model. This model provides haircut values for withdrawals or
deposits of collateral, which are then applied to the previous day's
collateral values to arrive at the impact of the collateral movements
on the margin requirement. These haircuts represent the sensitivity of
that Clearing Member account's risk profile to its position in the
collateral security being withdrawn or deposited. These haircuts are
designed to provide an estimate of the resulting change in margin
requirements if the entire margin calculation were re-run following the
withdrawal or deposit. A different haircut is associated with each
combination of Clearing Member account and security posted as margin
collateral.
Margins Methodology Chapters Not Found in STANS Methodology Description
    The current rule text from the Margins Methodology describes that
STANS uses historical and current prices for listed tenors of energy
and other commodity futures to simulate prices of energy and other
commodity futures using two variants of a two-factor Schwartz and
Smith's model: \56\ One variant to incorporate the effects of
seasonality \57\ for pricing futures related to nonseasonal commodities
such as crude oil and the other variant to incorporate the effects of
seasonality and is used to price futures related to seasonal
commodities such as natural gas, heating oil, gasoline, electricity,
and petrochemicals. The products for which OCC previously used this
model to calculate margin requirements are no longer listed, and
therefore OCC has decommissioned this associated pricing model.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
---------------------------------------------------------------------------

    \56\ The Schwartz and Smith's model is a two-factor model of
commodity prices that allows for mean reversion in short-term prices
and uncertainty in the long-term equilibrium level to which prices
revert. See Schwartz, E. and Smith, E., ``Short-Term Variations and
Long-Term Dynamics in Commodity Prices,'' 46 Mgmt. Sci. 7, 893-911
(2000) (describing the Schwartz and Smith's model).
    \57\ Seasonality is a characteristic of futures products that
exhibit regular and predictable price changes that recur every
calendar year.
---------------------------------------------------------------------------

    The current text from the Margins Methodology also includes
information on a model used to price European-style binary options. The
products for which OCC used this model to calculate margin requirements
are no longer listed, and OCC decommissioned the model. The current
text also includes information on OCC's use of the Vanilla Options
model to calculate margin requirements for Currency Options and Foreign
Index Futures, both of which are products OCC no longer clears.
Therefore, OCC proposes to delete this rule text in its entirety
without adding new, corresponding rule text in the STANS Methodology
Description.
    The current rule text from the Margins Methodology also includes
information on certain processes OCC uses to operationalize the STANS
methodology in its systems. Specifically, these processes are (i) daily
calibration and transfer, which describes implementation of the
processes to daily obtain pricing data and calibrate pricing models;
(ii) Monte Carlo marginals, which describes implementation of the
processes that create price scenarios for underlying risk factors from
either copula draws or (in the absence of a copula) conditional or
default simulations; (iii) Monte Carlo theoreticals, which describes
implementation of the processes that calculate theoretical values for
futures and options; and (iv) monthly copula estimation and simulation,
which describes implementation of the processes that generate copula
scenarios for underlying risk factors based on calibrated parameters.
    These chapters describe implementation details related to OCC's
internal administration of its technology systems and are not needed to
understand how the STANS models currently function. Because these
details are not inherent to model selection or design, OCC could also
change them from time to time without affecting model results. OCC
believes that this information is more appropriately covered in the
underlying Model Whitepapers and other internal OCC documentation
rather than in OCC's rules for this reason. Therefore, OCC proposes to
delete this rule text in its entirety without adding new, corresponding
rule text in the STANS Methodology Description.
Margin Policy
    Lastly, OCC would make conforming changes to its Margin Policy to
reflect the adoption of the STANS Methodology Description and the
retirement of the Margins Methodology. OCC would also make other non-
substantive changes to the Margin Policy to correct typographical
errors, update references to other related internal OCC policies and
procedures, and conform the policy to OCC's current internal policy
template. The proposed changes are intended to promote the accuracy and
clarity of OCC's Margin Policy and would not impact OCC's margin
setting practices or processes.

(2) Statutory Basis
    OCC believes that the proposed rule change is consistent with
Section 17A of the Act \58\ and the rules thereunder applicable to OCC.
Section 17A(b)(3)(F) of Act \59\ requires, among other things, that the
rules of a clearing agency be designed to promote the prompt and
accurate clearance and settlement of securities transactions and
derivative agreements, contracts, and transactions. The purpose of the
proposed rule change is to adopt a STANS Methodology Description
document to clearly and concisely describe the material aspects of
OCC's quantitative methodology for calculating Clearing Member margin
requirements. OCC uses the margin it collects to limit its credit
exposures to participants and to protect other Clearing Members from
losses that may arise as a result of a default and ensure that OCC is
able to continue the prompt and accurate clearance and settlement of
its cleared products. As a result, OCC believes the proposed STANS
Methodology Description is designed to promote the prompt and accurate
clearance and settlement of securities transactions and derivative
agreements, contracts, and transactions in accordance with Section
17A(b)(3)(F) of the Act.\60\
---------------------------------------------------------------------------

    \58\ 15 U.S.C. 78q-1.
    \59\ 15 U.S.C. 78q-1(b)(3)(F).
    \60\ Id.
---------------------------------------------------------------------------

    Rule 17Ad-22(b)(1) \61\ requires that a registered clearing agency
that performs central counterparty services establish, implement,
maintain and enforce written policies and procedures reasonably
designed to measure its credit exposures to its participants at least
once a day and limit its exposures to potential losses from defaults by
its participants under normal market conditions so that the operations
of the clearing agency would not be disrupted and non-defaulting
participants would not be exposed to losses that they cannot anticipate
or control. As described above, the proposed STANS Methodology
Description described herein details the risk-based margin methodology
by which OCC measures its credit exposures to its participants on a
daily basis and determines margin requirements based on such
calculations. OCC believes that the proposed STANS Methodology
Description would result in a more transparent and clearly
understandable description of the methodology used to measure and
mitigate credit exposures to OCC's Clearing Members, and that the
proposed rule change is therefore designed to ensure that OCC sets
margin requirements that would serve to limit OCC's exposures to
potential losses from defaults by its participants under normal market
conditions so that the operations of OCC would not be disrupted, and
non-defaulting participants would not be exposed to losses that they
cannot anticipate or control. Accordingly, OCC believes the proposed
rule change is consistent with Rule 17Ad-22(b)(1).\62\
---------------------------------------------------------------------------

    \61\ 17 CFR 240.17Ad-22(b)(1).
    \62\ Id.
---------------------------------------------------------------------------

    Rule 17Ad-22(b)(2) \63\ further requires, in part, that a
registered clearing agency that performs central counterparty services
establish, implement, maintain and enforce written policies and
procedures reasonably designed to use margin requirements to limit its
credit exposures to participants under normal market conditions and use
risk-based models and parameters to set margin requirements. The STANS
Methodology Description is intended to better describe how the STANS
methodology is designed to limit OCC's credit exposures to participants
under normal market conditions in a manner consistent with Rule 17Ad-
22(b)(2).\64\
---------------------------------------------------------------------------

    \63\ 17 CFR 240.17Ad-22(b)(2).
    \64\ Id.
---------------------------------------------------------------------------

    Rules 17Ad-22(e)(6)(i), (iii), and (v) \65\ further require that a
covered clearing agency establish, implement, maintain and enforce
written policies and procedures reasonably designed to cover its credit
exposures to its participants by establishing a risk-based margin
system that, among other things: (1) Considers, and produces margin
levels commensurate with, the risks and particular attributes of each
relevant product, portfolio, and market; (2) calculates margin
sufficient to cover its potential future exposure to participants in
the interval between the last margin collection and the close out of
positions following a participant default; and (3) uses an appropriate
method for measuring credit exposure that accounts for relevant product
risk factors and portfolio effects across products. As described in
detail above, OCC believes that the proposed STANS Methodology
Description would result in a clearer, more transparent document
describing OCC's risk-based margin system that, among other things: (1)
Considers, and produces margin levels commensurate with, the risks and
particular attributes of each relevant product, portfolio, and market;
(2) calculates margin sufficient to cover its potential future exposure
to participants in the interval between the last margin collection and
the close out of positions following a participant default; and (3)
uses an appropriate method for measuring credit exposure that accounts
for relevant product risk factors and portfolio effects across
products. OCC therefore believes the proposed STANS Methodology
Description is reasonably designed to consider and produce margin
levels commensurate with the risks and particular attributes of
products cleared by OCC, calculate margin sufficient to cover its
potential future exposure to participants in the interval between the
last margin collection and the close out of positions following a
participant default, and apply an appropriate method for measuring
credit exposure that accounts for risk factors and portfolio effects of
products cleared by OCC in a manner consistent with Rules 17Ad-
22(e)(6)(i), (iii), and (v).\66\
---------------------------------------------------------------------------

    \65\ 17 CFR 240.17Ad-22(e)(6)(i), (iii), and (v).
    \66\ Id.
---------------------------------------------------------------------------

    Rule 17Ad-22(e)(23) \67\ further requires, in part, that a covered
clearing agency establish, implement, maintain, and enforce written
policies and procedures reasonably designed to 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. The STANS Methodology Description is designed
to provide Clearing Members with greater transparency into the STANS
Methodology than the current rule text of the Margins Methodology,
which OCC does not make generally available to participants and
includes various details that, as described herein, OCC does not
believe constitute material aspects of the STANS methodology. In
addition, OCC has organized and written the STANS Methodology
Description in a way that would more clearly identify for Clearing
Members the material aspects of the STANS methodology. Specifically,
OCC has organized the STANS Methodology Description in a way that
enables a reader to better understand how the various quantitative
model components of STANS function in concert to produce OCC margin
requirements, rather than organizing the document in a way that would
serve OCC's internal purposes but not facilitate comprehension of the
STANS methodology by a third party. Furthermore, by including in the
STANS Methodology Description only the OCC rule text covering the
material, quantitative aspects of the STANS methodology, and either not
describing extraneous or immaterial aspects of the STANS methodology in
the STANS Methodology Description or referring

the reader to other OCC or external sources where appropriate,\68\ the
proposed STANS Methodology Description would more clearly identify for
an informed reader how the STANS methodology's quantitative model
components form OCC's basis for calculating margin requirements, and
what aspects of the STANS methodology OCC may adjust in the course of
its business pursuant to its other rules and internal policies and
procedures. OCC believes that this additional clarity, transparency,
and enhanced readability regarding the material quantitative model
components of the STANS methodology promote the requirements of Rule
17Ad-22(e)(23).
---------------------------------------------------------------------------

    \67\ 17 CFR 240.17Ad-22(e)(23).
    \68\ For example, the STANS Methodology Description would refer
to other OCC rules to establish manual, non-modeled margin
components or adjustments made by OCC, and would refer to public
academic sources for descriptions of common mathematical theories
and methods that do not represent OCC-specific applications or
modifications of those theories and methods.
---------------------------------------------------------------------------

    Finally, Section 19(b)(1) of the Act and Rule 19b-4 thereunder set
forth the requirements for SRO proposed rule changes, including the
regulatory filing requirements for ``stated policies, practices and
interpretations.'' \69\ OCC proposes to retire its existing Margins
Methodology, which was, in part, previously filed as an OCC ``rule''
with the Commission, as the STANS Methodology Description would
supersede the Margins Methodology in its entirety. Under the proposal,
the material aspects of the STANS methodology would be contained in the
proposed STANS Methodology Description described herein.
---------------------------------------------------------------------------

    \69\ See supra note 13.
---------------------------------------------------------------------------

    As described in detail herein, various details in the current
Margins Methodology would no longer be OCC rule text following adoption
of the STANS Methodology Description. These internal procedural and
administrative details used by OCC's model developers and model
validators would: (1) Be reasonably and fairly implied by the proposed
STANS Methodology Description, OCC's Margin Policy,\70\ OCC's Model
Risk Management Policy,\71\ and other OCC rules; and/or (2) otherwise
not be deemed to be material aspects of OCC's risk-based margin system.
Specifically, OCC believes the details it proposes to remove from OCC's
rule text are consistent with Section 19(b)(1) of the Act and Rule 19b-
4 thereunder for the following reasons:
---------------------------------------------------------------------------

    \70\ See Securities Exchange Act Release No. 82355 (December 19,
2017), 82 FR 61058 (December 26, 2017) (SR-OCC-2017-007).
    \71\ See Securities Exchange Act Release No. 82473 (January 9,
2018), 83 FR 2271 (January 16, 2018) (SR-OCC-2017-011).
---------------------------------------------------------------------------

     To the extent the current rule text includes details on
OCC's historical modeling practices and potential future enhancements,
OCC does not believe such text constitutes an SPPI of OCC because it
does not describe OCC's current practices;
     To the extent the current rule text includes details on
the exact set of current products applied to each STANS component,
which will change from time to time as OCC-cleared products are listed
and delisted, OCC believes such text is reasonably and fairly implied
by the proposed rule text establishing the scope of instruments for
which the STANS methodology calculates margin requirements;
     To the extent the current rule text includes details on
various configuration choices made by OCC, such as data sources, model
parameters, and model performance monitoring, that are not inherent to
model selection or design and that do not materially impact a model's
results, which OCC may from time to time determine it should modify
based on current market conditions and business practices, OCC does not
believe such text constitutes an SPPI because it does not describe a
material aspect of the operation of the facilities of OCC;
     To the extent the current rule text includes details on
testing results and explanatory rationale supporting a model, OCC does
not believe such text constitutes an SPPI because it does not describe
an OCC policy, practice, or interpretation;
     To the extent the current rule text includes recitations
of standard mathematical and economic theories/techniques that are
well-known in quantitative finance, readily found in public sources,
and do not include OCC-specific modifications or applications, OCC
believes such text is reasonably and fairly implied by the rule text
establishing the theories/techniques selected by OCC if OCC has not
applied such theories/techniques in a modified or idiosyncratic manner;
     To the extent the current rule text includes redundant
descriptions of a model component appearing in multiple chapters, the
rule text has been consolidated to describe the model component in the
single location;
     To the extent the current rule text includes details on
OCC's implementation of a model in its internal technology systems and
application of model results in operational procedures that are not
inherent to a model and that OCC could change them from time to time
without affecting a model's results, OCC does not believe such text
constitutes an SPPI because (1) it does not describe a material aspect
of the operation of the facilities of OCC and (2) it is reasonably and
fairly implied that the calculations described in the STANS Methodology
Description must be implemented in some manner through internal OCC's
systems and processes. For example, current chapters of the Margins
Methodology describe the processes run by internal OCC systems to
execute the calculations described in the proposed STANS Methodology
Description. These chapters do not describe material aspects of OCC's
models or methodology. Rather, these chapters describe, for example,
the timing and sequencing of various processes and the code libraries
maintained by OCC to support the STANS methodology. Changes in such
processes would not be considered changes to OCC's models/methodology
and would not materially impact OCC's margin requirements. Moreover,
Clearing Members and market participants can reasonably and fairly
infer that OCC maintains such systems and processes to effectuate the
daily calculation of margin requirements using the models and
methodology described herein; and
     To the extent the current rule text includes manual margin
adjustments and add-ons OCC employs pursuant to OCC rules, policies,
and/or procedures outside the STANS methodology, OCC does not believe
such text constitutes an SPPI because it is reasonably and fairly
implied by other existing rules of OCC.
    Accordingly, OCC believes the proposed changes would be consistent
with the requirements of Section 19(b)(1) of the Act and Rule 19b-4
thereunder.\72\
---------------------------------------------------------------------------

    \72\ See 15 U.S.C. 78s(b)(1) and 17 CFR 240.19b-4.
---------------------------------------------------------------------------

(B) Clearing Agency's Statement on Burden on Competition

    Section 17A(b)(3)(I) of the Act requires that the rules of a
clearing agency do not impose any burden on competition not necessary
or appropriate in furtherance of the purposes of Act.\73\ OCC does not
believe that the proposed rule change would impact or impose any burden
on competition. The proposed STANS Methodology Description describes
OCC's STANS margin setting methodology that currently applies to all
Clearing Members. Therefore, the proposal has no impact on Clearing
Members, and OCC does not believe that the proposed rule change would

unfairly inhibit access to OCC's services or disadvantage or favor any
particular user in relationship to another user. In addition, the
proposal currently applies uniformly to all Clearing Members in
establishing their margin requirements.
---------------------------------------------------------------------------

    \73\ 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------

    For the foregoing reasons, OCC believes that the proposed rule
change is in the public interest, would be consistent with the
requirements of the Act applicable to clearing agencies, and would not
impact or impose a burden on competition.

(C) Clearing Agency's Statement on Comments on the Proposed Rule Change
Received From Members, Participants or Others

    Written comments were not and are not intended to be solicited with
respect to the proposed rule change and none have been received.

III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action

    Within 45 days of the date of publication of this notice in the
Federal Register or within such longer period up to 90 days (i) as the
Commission may designate if it finds such longer period to be
appropriate and publishes its reasons for so finding or (ii) as to
which the self- regulatory organization consents, the Commission will:
    (A) By order approve or disapprove the proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Exchange Act. Comments may be submitted
by any of the following methods:

Electronic Comments

     Use the Commission's internet comment form (http://www.sec.gov/rules/sro.shtml); or
     Send an email to<EMAIL_ADDRESS>Please include
File Number SR-OCC-2020-016 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-OCC-2020-016. This file
number should be included on the subject line if email is used. To help
the Commission process and review your comments more efficiently,
please use only one method. The Commission will post all comments on
the Commission's internet website (http://www.sec.gov/rules/sro.shtml).
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission, and all written communications relating to the proposed
rule change between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for website viewing and printing in
the Commission's Public Reference Room, 100 F Street NE, Washington, DC
20549, on official business days between the hours of 10:00 a.m. and
3:00 p.m. Copies of such filing also will be available for inspection
and copying at the principal office of OCC and on OCC's website at
https://www.theocc.com/Company-Information/Documents-and-Archives/By-Laws-and-Rules#rule-filings.
    All comments received will be posted without change. Persons
submitting comments are cautioned that we do not redact or edit
personal identifying information from comment submissions. You should
submit only information that you wish to make available publicly.
    All submissions should refer to File Number SR-OCC-2020-016 and
should be submitted on or before January 19, 2021.
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    \74\ 17 CFR 200.30-3(a)(12).

    For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\74\
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-28662 Filed 12-28-20; 8:45 am]
BILLING CODE 8011-01-P