[Federal Register Volume 85, Number 192 (Friday, October 2, 2020)]
[Notices]
[Pages 62348-62353]
[FR Doc No: 2020-21784]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-90033; File No. SR-FICC-2020-802]

Self-Regulatory Organizations; Fixed Income Clearing Corporation;
Notice of Filing of Amendment No. 2 and Notice of No Objection to
Advance Notice, as Modified by Amendment Nos. 1 and 2, to Introduce the
Margin Liquidity Adjustment Charge and Include a Bid-Ask Charge in the
VaR Charges

September 28, 2020.
    On July 30, 2020, Fixed Income Clearing Corporation (``FICC'')
filed with the Securities and Exchange Commission (``Commission'')
advance notice SR-FICC-2020-802 pursuant to Section 806(e)(1) of Title
VIII of the Dodd-Frank Wall Street Reform and Consumer Protection Act,
entitled Payment, Clearing and Settlement Supervision Act of 2010
(``Clearing Supervision Act''),\1\ and Rule 19b-4(n)(1)(i) \2\ under
the Securities Exchange Act of 1934 (``Exchange Act'') \3\ to add two
new charges to FICC's margin methodologies. On August 13, 2020, FICC
filed Amendment No. 1 to the advance notice, to make clarifications and
corrections to the advance notice.\4\ The advance notice, as modified
by Amendment No. 1, was published for public comment in the Federal
Register on September 4, 2020,\5\ and the Commission has received no
comments regarding the changes proposed in the advance notice as
modified by Amendment No. 1.\6\ On August 27, 2020, FICC filed
Amendment No. 2 to the advance notice to provide additional data for
the Commission to consider in analyzing the advance notice.\7\ The
advance notice, as modified by Amendment Nos. 1 and 2, is hereinafter
referred to as the ``Advance Notice.'' The Commission is publishing
this notice to solicit comments on Amendment No. 2 from interested
persons and, for the reasons discussed below, is hereby providing
notice of no objection to the Advance Notice.
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    \1\ 12 U.S.C. 5465(e)(1).
    \2\ 17 CFR 240.19b-4(n)(1)(i).
    \3\ 15 U.S.C. 78a et seq.
    \4\ Amendment No. 1 made clarifications and corrections to the
description of the advance notice and Exhibits 3 and 5 of the
filing.
    \5\ Securities Exchange Act Release No. 89718 (September 1,
2020), 85 FR 55341 (September 4, 2020) (File No. SR-FICC-2020-802)
(``Notice of Filing''). On July 30, 2020, FICC also filed a related
proposed rule change (SR-FICC-2020-009) with the Commission pursuant
to Section 19(b)(1) of the Exchange Act and Rule 19b-4 thereunder.
On August 13, 2020, FICC filed Amendment No. 1 to the proposed rule
change to make similar clarifications and corrections to the
proposed rule change. See 15 U.S.C. 78s(b)(1) and 17 CFR 240.19b-4
respectively. The proposed rule change, as amended by Amendment No.
1, was published in the Federal Register on August 20, 2020.
Securities Exchange Act Release No. 89560 (August 14, 2020), 85 FR
51503 (August 20, 2020). On August 27, 2020, FICC filed Amendment
No. 2 to the proposed rule change to provide similar additional data
for the Commission's consideration. The proposed rule change, as
amended by Amendment Nos. 1 and 2, is hereinafter referred to as the
``Proposed Rule Change.'' In the Proposed Rule Change, FICC seeks
approval of proposed changes to its rules necessary to implement the
Advance Notice. The comment period for the related Proposed Rule
Change filing closed on September 10, 2020, and the Commission
received no comments.
    \6\ As the proposals contained in the Advance Notice were also
filed as a proposed rule change, all public comments received on the
proposal are considered regardless of whether the comments are
submitted on the Proposed Rule Change or the Advance Notice.
    \7\ In Amendment No. 2, FICC updated Exhibit 3 to the advance
notice to include impact analysis data with respect to the proposals
in the advance notice. FICC filed Exhibit 3 as a confidential
exhibit to the advance notice pursuant to 17 CFR 240.24b-2.
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I. The Advance Notice

    First, the proposals in the Advance Notice would revise the FICC
Government Securities Division (``GSD'') Rulebook (``GSD Rules'') and
FICC Mortgage-Backed Securities Division (``MBSD'') Clearing Rules
(``MBSD Rules,'' and together with the GSD Rules, the ``Rules'') \8\ to
introduce the Margin Liquidity Adjustment Charge (``MLA Charge'') as an
additional margin component. Second, the proposals in the Advance
Notice would revise the Rules, GSD Methodology Document--GSD Initial
Market Risk Margin Model (``GSD QRM Methodology Document''), and MBSD
Methodology and Model

Operations Document--MBSD Quantitative Risk Model (``MBSD QRM
Methodology Document,'' and together with the GSD QRM Methodology
Document, the ``QRM Methodology Documents'') \9\ to add a bid-ask
spread risk charge (``Bid-Ask Spread Charge'') to the margin
calculations of GSD and MBSD.
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    \8\ Capitalized terms not defined herein are defined in the
Rules, available at https://www.dtcc.com/legal/rules-and-procedures.aspx.
    \9\ FICC filed the proposed changes to the QRM Methodology
Documents as confidential exhibits to the Advance Notice pursuant to
17 CFR 240.24b-2.
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A. Background

    FICC serves as a central counterparty (``CCP'') and provider of
significant clearance and settlement services for cash-settled U.S.
Treasury and agency securities and the non-private label mortgage-
backed securities markets.\10\ FICC is comprised of two divisions, GSD
and MBSD. GSD provides real-time trade matching, clearing, risk
management, and netting for trades in U.S. government debt issues,
including repurchase agreements. MBSD provides real-time automated
trade matching, trade confirmation, risk management, netting, and
electronic pool notification to the mortgage-backed securities market.
GSD and MBSD maintain separate Rulebooks, margin methodologies, and
members.
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    \10\ See Securities Exchange Act Release No. 69838 (June 24,
2013), 78 FR 39027 (June 28, 2013).
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    In its role as a CCP, a key tool that FICC uses to manage its
credit exposure to its respective GSD and MBSD members is by
determining and collecting an appropriate Required Fund Deposit (i.e.,
margin) for each member.\11\ The aggregate of all members' Required
Fund Deposits constitutes the respective GSD and MBSD Clearing Funds.
FICC would access the GSD or MBSD Clearing Fund should a defaulted
member's own Required Fund Deposit be insufficient to satisfy losses to
FICC caused by the liquidation of that member's portfolio.\12\
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    \11\ See GSD Rule 4 (Clearing Fund and Loss Allocation) and MBSD
Rule 4 (Clearing Fund and Loss Allocation), supra note 8.
    \12\ See id.
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    Each member's Required Fund Deposit consists of a number of
applicable components, which are calculated to address specific risks
that the member's portfolio presents to FICC.\13\ Generally, the
largest component of a member's Required Fund Deposit is the value-at-
risk (``VaR'') Charge, which is calculated using a risk-based margin
methodology that is intended to capture the risks related to the
movement of market prices associated with the securities in a member's
portfolio.\14\ The VaR Charge is designed to calculate the potential
losses on a portfolio over a three-day period of risk assumed necessary
to liquidate the portfolio, within a 99 percent confidence level.\15\
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    \13\ See id.
    \14\ See GSD Rule 1 (Definitions), MBSD Rule 1 (Definitions),
GSD Rule 4 (Clearing Fund and Loss Allocation), and MBSD Rule 4
(Clearing Fund and Loss Allocation), supra note 8.
    \15\ See Notice of Filing, supra note 5 at 55342. Unregistered
Investment Pool Clearing Members are subject to a VaR Charge with a
minimum target confidence level assumption of 99.5 percent. See MBSD
Rule 4, Section 2(c), supra note 8.
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    FICC states that it regularly assesses market and liquidity risks
as such risks relate to its margin methodologies to evaluate whether
margin levels are commensurate with the particular risk attributes of
each relevant product, portfolio, and market.\16\ FICC states that the
proposed MLA Charge and Bid-Ask Spread Charge are necessary for FICC's
margin methodologies to effectively account for risks associated with
certain types and attributes of member portfolios.\17\
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    \16\ See Notice of Filing, supra note 5 at 55342.
    \17\ See id.
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B. Margin Liquidity Adjustment Charge

    FICC's current margin methodologies do not account for the risk of
a potential increase in market impact costs that FICC could incur when
liquidating a defaulted member's portfolio that contains a
concentration of large positions, as compared to the overall market, in
either (i) a particular security or group of securities sharing a
similar risk profile, or (ii) in a particular transaction type (e.g.,
mortgage pool transactions).\18\ In a member default, liquidating such
large positions within a potentially compressed timeframe \19\ (i.e.,
in a fire sale) could have an impact on the underlying market,
resulting in price moves that increases FICC's risk of incurring
additional liquidation costs. Therefore, FICC designed the MLA Charge
to address this specific risk.\20\
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    \18\ See id.
    \19\ FICC's risk models assume the liquidation occurs over a
period of three business days. See Notice of Filing, supra note 5 at
55342-43.
    \20\ See id.
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    The MLA Charge would be based on comparing the market value of
member portfolio positions in specified asset groups \21\ to the
available trading volume of those asset groups in the market. If the
market value of a member's positions in a certain asset group is large
in comparison to the available trading volume of that asset group,\22\
then it is more likely that FICC would have to manage reduced
marketability and increased liquidation costs for those positions
during a member default scenario. Specifically, FICC's margin
methodology assumes for each asset group that a certain share of the
market can be liquidated without price impact.\23\ Aggregate positions
in an asset group which exceed this share are generally considered as
large and would therefore incur application of the MLA Charge to
anticipate and address those increased costs.
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    \21\ For GSD, the asset groups would include the following, each
of which share similar risk profiles: (a) U.S. Treasury securities,
which would be further categorized by maturity--those maturing in
(i) less than one year, (ii) equal to or more than one year and less
than two years, (iii) equal to or more than two years and less than
five years, (iv) equal to or more than five years and less than ten
years, and (v) equal to or more than ten years; (b) Treasury-
Inflation Protected Securities (``TIPS''), which would be further
categorized by maturity--those maturing in (i) less than two years,
(ii) equal to or more than two years and less than six years, (iii)
equal to or more than six years and less than eleven years, and (iv)
equal to or more than eleven years; (c) U.S. agency bonds; and (d)
mortgage pools transactions.
    For MBSD, to-be-announced (``TBA'') transactions, Specified Pool
Trades and Stipulated Trades would be included in one mortgage-
backed securities asset group. Notice of Filing, supra note 5 at
55343.
    \22\ FICC determines average daily trading volume by reviewing
publicly available data from the Securities Industry and Financial
Markets Association (``SIFMA''), at https://www.sifma.org/resources/archive/research/statistics.
    \23\ FICC would establish the particular share for each asset
group or subgroup based on empirical research which includes the
simulation of asset liquidation over different time horizons. See
Notice of Filing, supra note 5 at 55343.
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    To determine the market impact cost for each portfolio position in
certain asset groups (i.e., Treasuries maturing in less than one year
and TIPS for GSD, and in the mortgage-backed securities asset group for
MBSD), FICC would use the directional market impact cost, which is a
function of the position's net directional market value.\24\ To
determine the market impact cost for all other positions in a
portfolio, FICC would add together two components: (1) The directional
market impact cost, as described above, and (2) the basis cost, which
is based on the position's gross market value.\25\ FICC states that the
calculation of market impact cost for positions in Treasuries maturing
in less than one year, TIPS for GSD, and in the mortgage-backed
securities asset group for MBSD would not include basis cost

because basis risk is negligible for these types of positions.\26\ For
all asset groups, when determining the market impact costs, the net
directional market value and the gross market value of the positions
would be divided by the average daily volumes of the securities in each
asset group over a lookback period.\27\
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    \24\ The net directional market value of an asset group within a
portfolio is calculated as the absolute difference between the
market value of the long positions in that asset group, and the
market value of the short positions in that asset group. For
example, if the market value of the long positions is $100,000, and
the market value of the short positions is $150,000, the net
directional market value of the asset group is $50,000. See id.
    \25\ To determine the gross market value of the positions in
each asset group, FICC would sum the absolute value of each CUSIP in
the asset group. See id.
    \26\ See id.
    \27\ Supra note 22; see Notice of Filing, supra note 5 at 55343.
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    FICC would then compare the calculated market impact cost to a
portion of the VaR Charge that is allocated to positions in each asset
group.\28\ If the ratio of the calculated market impact cost to the
one-day VaR Charge is greater than a determined threshold, an MLA
Charge, as described below, would be applied to that asset group.
Correspondingly, if the ratio of these two amounts is equal to or less
than this threshold, an MLA Charge would not be applied to that asset
group. The threshold would be based on an estimate of the market impact
cost that is incorporated into the calculation of the one-day VaR
charge.\29\
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    \28\ As noted earlier, FICC's margin methodology uses a three-
day assumed period of risk. For purposes of this calculation, FICC
would use a portion of the VaR Charge that is based on a one-day
assumed period of risk (the ``one-day VaR Charge''). Any changes to
what FICC determines would be the appropriate portion of the VaR
Charge would be subject to FICC's model risk management governance
procedures set forth in the Clearing Agency Model Risk Management
Framework (``Model Risk Management Framework''). See Securities
Exchange Act Release Nos. 81485 (August 25, 2017), 82 FR 41433
(August 31, 2017) (File No. SR-FICC-2017-014); 84458 (October 19,
2018), 83 FR 53925 (October 25, 2018) (File No. SR-FICC-2018-010);
88911 (May 20, 2020), 85 FR 31828 (May 27, 2020) (File No. SR-FICC-
2020-004).
    \29\ FICC states that it would review the method for calculating
the thresholds from time to time, and any changes would be subject
to FICC's model risk management governance procedures set forth in
the Model Risk Management Framework. See id.
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    When applicable, an MLA Charge would be calculated as a proportion
of the product of (1) the amount by which the ratio of the calculated
market impact cost to a portion of the VaR Charge allocated to that
position exceeds the threshold, and (2) a portion of the VaR Charge
allocated to that asset group. For each portfolio, FICC would total the
MLA Charges for the positions in each asset group to determine a total
MLA Charge for the member. On a daily basis, FICC would calculate the
final MLA Charge for each member (if applicable), to be included as a
component of each member's Required Fund Deposit.
    In certain circumstances, FICC may be able to partially mitigate
the risks that the MLA Charge is designed to address by extending the
time period for liquidating a defaulted member's portfolio beyond the
three day period. Accordingly, the Advance Notice also describes a
method that FICC would use to reduce a member's total MLA Charge when
the volatility charge component of the member's margin increases beyond
a specified point. Specifically, FICC would reduce the member's MLA
Charge where the market impact cost of a particular portfolio,
calculated as part of determining the MLA Charge, would be large
relative to the one-day volatility charge for that portfolio (i.e., a
portion of the three-day assumed margin period of risk). When the ratio
of calculated market impact cost to the one-day volatility charge is
lower, FICC would not adjust the MLA Charge. However, as the ratio gets
higher, FICC would reduce the MLA Charge. FICC designed this reduction
mechanism to avoid assessing unnecessarily large MLA Charges.\30\
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    \30\ See Notice of Filing, supra note 5 at 55343-44.
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MLA Excess Amount for GSD Sponsored Members \31\
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    \31\ See GSD Rule 3A, supra note 8. Sponsored Membership at GSD
is a program that allows well-capitalized members to sponsor their
eligible clients into GSD membership. Sponsored membership at GSD
offers eligible clients the ability to lend cash or eligible
collateral via FICC-cleared delivery-versus-payment sale and
repurchase transactions. Sponsoring Members facilitate their
clients' GSD trading activity and act as processing agents on their
behalf for all operational functions including trade submission and
settlement with FICC. A Sponsored Member may be sponsored by one or
more Sponsoring Members.
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    For GSD, the calculation of the MLA Charge for a Sponsored Member
that clears through a single account sponsored by a Sponsoring Member
would be the same as described above. For a GSD Sponsored Member that
clears through multiple accounts sponsored by multiple Sponsoring
Members, in addition to calculating an MLA Charge for each account (as
described above), FICC would also calculate an MLA Charge for the
Sponsored Member's consolidated portfolio.
    If the MLA Charge of the consolidated portfolio is not higher than
the sum of all MLA Charges for each account of the Sponsored Member,
then the Sponsored Member would only be charged an MLA Charge for each
sponsored account, as applicable. However, if the MLA Charge of the
consolidated portfolio is higher than the sum of all MLA Charges for
each account of the Sponsored Member, the Sponsored Member would be
charged the amount of such difference (referred to as the ``MLA Excess
Amount''), in addition to the applicable MLA Charge.
    The MLA Excess Amount is designed to capture the additional market
impact cost that could be incurred when a Sponsored Member defaults,
and each of the Sponsoring Members liquidates positions associated with
that defaulted Sponsored Member. If large positions in the same asset
group are being liquidated by multiple Sponsoring Members, the market
impact cost to liquidate those positions could increase. The MLA Excess
Amount would address this additional market impact cost by capturing
any difference between the calculations of the MLA Charge for each
sponsored account and for the consolidated portfolio.

C. Bid-Ask Spread Charge

    The bid-ask spread refers to the difference between the observed
market price that a buyer is willing to pay for a security and the
observed market price at which a seller is willing to sell that
security. FICC faces the risk of potential bid-ask spread transaction
costs when liquidating the securities in a defaulted member's
portfolio. However, FICC's current margin methodologies do not account
for this risk of potential bid-ask spread transaction costs to FICC in
connection with liquidating a defaulted member's portfolio. Therefore,
FICC designed the Bid-Ask Spread Charge to address this deficiency in
its current margin methodologies.
    The Bid-Ask Spread Charge would be haircut-based and tailored to
different groups of assets that share similar bid-ask spread
characteristics.\32\ FICC would assign each asset group a specified
bid-ask spread haircut rate (measured in basis points (``bps'')) that
would be applied to the gross market value of the portfolio's positions
in that particular asset group. FICC would calculate the product of the
gross market value of the portfolio's positions in a particular asset
group and the applicable basis point charge to obtain the bid-ask
spread risk charge for these positions. FICC would total the applicable
bid-ask spread risk

charges for each asset class in a member's portfolio to calculate the
member's total Bid-Ask Spread Charge.
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    \32\ For GSD, the asset groups would include the following, each
of which share similar bid-ask spread risk profiles: (a) Mortgage
pools (``MBS''); (b) TIPS; (c) U.S. agency bonds; and (d) U.S.
Treasury securities, which would be further segmented into separate
classes based on maturities as follows: (i) Less than five years,
(ii) equal to or more than five years and less than ten years, and
(iii) equal to or more than ten years. Only the MBS asset group is
applicable to MBSD member portfolios.
    FICC would exclude Option Contracts in to-be-announced (``TBA'')
transactions from the Bid-Ask Spread Charge because, FICC states
that in the event of a member default, FICC would liquidate any
Option Contracts in TBAs in a member's portfolio at the intrinsic
value of the Option Contract and, therefore, does not face a
transaction cost related to the bid-ask spread. Notice of Filing,
supra note 5 at 55344.
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    FICC determined the proposed initial haircut rates on an analysis
of bid-ask spread transaction costs using (1) the results of FICC's
annual member default simulation and (2) market data sourced from a
third-party data vendor. FICC's proposed initial haircut rates are
listed in the table below:

------------------------------------------------------------------------
                                                                Haircut
                         Asset group                             (bps)
------------------------------------------------------------------------
MBS..........................................................        0.8
TIPS.........................................................        2.1
U.S. Agency bonds............................................        3.8
U.S. Treasuries (maturing < 5 years).........................        0.6
U.S. Treasuries (maturing 5-10 years)........................        0.7
U.S. Treasuries (maturing 10+ years).........................        0.7
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    FICC proposes to review the haircut rates annually. Based on
analyses of recent years' simulation exercises, FICC does not
anticipate that these haircut rates would change significantly year
over year. FICC may also adjust the haircut rates following its annual
model validation review, to the extent the results of that review
indicate the current haircut rates are not adequate to address the risk
presented by transaction costs from a bid-ask spread.\33\
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    \33\ All proposed changes to the haircuts would be subject to
FICC's model risk management governance procedures set forth in the
Model Risk Management Framework. See supra note 28.
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    Finally, FICC would make technical changes to the QRM Methodology
Documents to re-number the sections and tables, and update certain
section titles, as necessary to incorporate the MLA Charge and Bid-Ask
Spread Charge into those documents.

II. Solicitation of Comments

    Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the advance
notice is consistent with the Clearing Supervision 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-FICC-2020-802 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-FICC-2020-802. 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 advance notice that are filed with the
Commission, and all written communications relating to the advance
notice 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 filings will also be available for inspection
and copying at the principal office of FICC and FICC's website at
https://www.dtcc.com/legal.
    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-FICC-2020-802 and should be
submitted on or before October 19, 2020.

III. Discussion and Commission Findings

    Although the Clearing Supervision Act does not specify a standard
of review for an advance notice, the stated purpose of the Clearing
Supervision Act is instructive: to mitigate systemic risk in the
financial system and promote financial stability by, among other
things, promoting uniform risk management standards for SIFMUs and
strengthening the liquidity of SIFMUs.\34\
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    \34\ See 12 U.S.C. 5461(b).
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    Section 805(a)(2) of the Clearing Supervision Act authorizes the
Commission to prescribe regulations containing risk management
standards for the payment, clearing, and settlement activities of
designated clearing entities engaged in designated activities for which
the Commission is the supervisory agency.\35\ Section 805(b) of the
Clearing Supervision Act provides the following objectives and
principles for the Commission's risk management standards prescribed
under Section 805(a):\36\
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    \35\ 12 U.S.C. 5464(a)(2).
    \36\ 12 U.S.C. 5464(b).
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     to promote robust risk management;
     to promote safety and soundness;
     to reduce systemic risks; and
     to support the stability of the broader financial system.
    Section 805(c) provides, in addition, that the Commission's risk
management standards may address such areas as risk management and
default policies and procedures, among others areas.\37\
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    \37\ 12 U.S.C. 5464(c).
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    The Commission has adopted risk management standards under Section
805(a)(2) of the Clearing Supervision Act and Section 17A of the
Exchange Act (the ``Clearing Agency Rules'').\38\ The Clearing Agency
Rules require, among other things, each covered clearing agency to
establish, implement, maintain, and enforce written policies and
procedures that are reasonably designed to meet certain minimum
requirements for its operations and risk management practices on an
ongoing basis.\39\ As such, it is appropriate for the Commission to
review advance notices against the Clearing Agency Rules and the
objectives and principles of these risk management standards as
described in Section 805(b) of the Clearing Supervision Act. As
discussed below, the Commission believes the proposal in the Advance
Notice is consistent with the objectives and principles described in
Section 805(b) of the Clearing Supervision Act,\40\ and in the Clearing
Agency Rules, in particular Rules 17Ad-22(e)(4) and (e)(6).\41\
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    \38\ 17 CFR 240.17Ad-22. See Securities Exchange Act Release No.
68080 (October 22, 2012), 77 FR 66220 (November 2, 2012) (S7-08-11).
See also Securities Exchange Act Release No. 78961 (September 28,
2016), 81 FR 70786 (October 13, 2016) (S7-03-14) (``Covered Clearing
Agency Standards''). FICC is a ``covered clearing agency'' as
defined in Rule 17Ad-22(a)(5).
    \39\ 17 CFR 240.17Ad-22.
    \40\ 12 U.S.C. 5464(b).
    \41\ 17 CFR 240.17Ad-22(e)(4) and (e)(6).
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A. Consistency With Section 805(b) of the Clearing Supervision Act

    The Commission believes that the Advance Notice is consistent with
the stated objectives and principles of Section 805(b) of the Clearing
Supervision Act.
    The Commission believes that adopting FICC's proposed MLA Charge
and Bid-Ask Spread Charge would be consistent with the promotion of
robust

risk management at FICC. As described above in Section I.B., FICC's
current margin methodologies do not account for the potential increase
in market impact costs that FICC could incur when liquidating a
defaulted member's portfolio where the portfolio contains a
concentration of large positions in a particular security or group of
securities sharing a similar risk profile or in a particular
transaction type. Additionally, as described above in Section I.C.,
FICC's current margin methodologies do not account for the risk of
potential bid-ask spread transaction costs when liquidating the
securities in a defaulted member's portfolio. FICC proposes to address
these respective risks by adding the MLA Charge and Bid-Ask Spread
Charge to its margin methodologies.\42\
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    \42\ The Commission notes that the other clearing agencies it
regulates have charges to account for these types of risks in their
margin methodologies, and that addressing these types of risks has
received a great deal of industry focus in recent years.
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    Specifically, the MLA Charge should better enable FICC to manage
the risk of incurring costs associated with the decreased marketability
of a defaulted member's portfolio where the portfolio contains a large
position in securities sharing similar risk profiles, resulting in
potentially higher liquidation costs. To avoid excessive MLA Charges,
FICC has identified circumstances that would warrant reducing a
member's MLA Charge when FICC could otherwise partially mitigate the
relevant risks by extending the time period for liquidating a defaulted
member's portfolio beyond the three day period. The Commission views
this targeted reduction in the MLA Charge as a feature of the proposal
that demonstrates a robust approach towards managing the relevant risks
through appropriate (i.e., not simply ``larger'') margin requirements.
Additionally, since FICC's current margin methodologies do not account
for bid-ask spread transaction costs when liquidating a defaulted
member's portfolio, the Bid-Ask Spread Charge should enable FICC to
manage such risks. Accordingly, the Commission believes that adopting
the proposed MLA Charge and Bid-Ask Spread Charge would allow for
measurement and targeted mitigation of risks and costs not captured
elsewhere in FICC's current margin methodologies, and would therefore
provide for more comprehensive management of risks in a member default
scenario, consistent with the promotion of robust risk management.
    Further, the Commission believes that adopting FICC's proposed MLA
Charge and Bid-Ask Spread Charge would be consistent with promoting
safety and soundness at FICC. FICC designed the MLA Charge and Bid-Ask
Spread Charge to ensure that FICC collects margin amounts sufficient to
manage FICC's risk of incurring costs associated with liquidating
defaulted member portfolios. The proposed MLA Charge and Bid-Ask Spread
Charge would generally provide FICC with additional resources to manage
potential losses arising out of a member default. Such an increase in
available financial resources would decrease the likelihood that losses
arising out of a member default would exceed FICC's resources and
threaten the safety and soundness of FICC's ongoing operations.
Accordingly, the Commission believes that adding the proposed MLA
Charge and Bid-Ask Spread Charge to FICC's margin methodologies would
be consistent with promoting safety and soundness at FICC.
    Finally, the Commission believes that adopting FICC's proposed MLA
Charge and Bid-Ask Spread Charge would be consistent with reducing
systemic risks and supporting the stability of the broader financial
system. As discussed above, in a member default scenario, FICC would
access the GSD or MBSD Clearing Fund should the defaulted member's own
Required Fund Deposit be insufficient to satisfy losses to FICC caused
by the liquidation of that member's portfolio. FICC proposes to add the
MLA Charge and Bid-Ask Spread Charge to its margin methodologies to
better manage the potential costs of liquidating a defaulted member's
portfolio. FICC proposes to collect additional margin from members to
cover such costs. This, in turn, could reduce the possibility that FICC
would need to mutualize among the non-defaulting members a loss arising
out of the close-out process. Reducing the potential for loss
mutualization could, in turn, reduce the potential knock-on effects to
non-defaulting members, their customers, and the broader market arising
out of a member default. Further, the Commission notes that, to the
extent that the MLA Charge results in any reduction in members' large
positions in securities with similar risk profiles, it could reduce the
potential risk of adverse market impacts that can arise from
liquidating those large positions. However, the Commission also notes
that the proposal to reduce the MLA Charge when FICC could otherwise
partially mitigate the relevant risks would help ensure that FICC would
not impose the MLA Charge without an appropriate risk management basis.
Accordingly, the Commission believes that FICC's adoption of the
proposed MLA Charge and Bid-Ask Spread Charge would be consistent with
the reduction of systemic risk and supporting the stability of the
broader financial system.
    For the reasons stated above, the Commission believes the changes
proposed in the Advance Notice are consistent with Section 805(b) of
the Clearing Supervision Act.\43\
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    \43\ 12 U.S.C. 5464(b).
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B. Consistency With Rule 17Ad-22(e)(4)(i)

    Rule 17Ad-22(e)(4)(i) requires that FICC establish, implement,
maintain and enforce written policies and procedures reasonably
designed to effectively identify, measure, monitor, and manage its
credit exposures to participants and those arising from its payment,
clearing, and settlement processes, including by maintaining sufficient
financial resources to cover its credit exposure to each participant
fully with a high degree of confidence.\44\
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    \44\ 17 CFR 240.17Ad-22(e)(4)(i).
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    As described above in Section I.B., FICC's current margin
methodologies do not account for the risk of a potential increase in
market impact costs that FICC could incur when liquidating a defaulted
member's portfolio where the portfolio contains a large position in
securities sharing similar risk profiles. Additionally, as described
above, FICC's current margin methodologies do not account for the risk
of potential bid-ask spread transaction costs when liquidating the
securities in a defaulted member's portfolio. FICC proposes to address
such risks by adding the MLA Charge and Bid-Ask Spread Charge to its
margin methodologies. Adding these margin charges to FICC's margin
methodologies should better enable FICC to collect margin amounts
commensurate with the risk attributes of a broader range of its
members' portfolios than FICC's current margin methodologies.
Specifically, the MLA Charge should better enable FICC to manage the
risk of increased costs to FICC associated with the decreased
marketability of a defaulted member's portfolio where the portfolio
contains a large position in securities sharing similar risk profiles.
Additionally, since FICC's current margin methodologies do not account
for bid-ask spread transaction costs associated with liquidating a
defaulted member's portfolio, the Bid-Ask Spread Charge should enable
FICC to manage such risks and costs.

    The Commission believes that adding the MLA Charge and Bid-Ask
Spread Charge to its margin methodologies should enable FICC to more
effectively identify, measure, monitor, and manage its credit exposures
in connection with liquidating a defaulted member's portfolio that may
give rise to (1) decreased marketability due to large positions of
securities sharing similar risk profiles, and (2) bid-ask spread
transaction costs. Accordingly, the Commission believes that adding the
MLA Charge and Bid-Ask Spread Charge to FICC's margin methodologies
would be consistent with Rule 17Ad-22(e)(4)(i) because these new margin
charges should better enable FICC to maintain sufficient financial
resources to cover FICC's credit exposure to its members fully with a
high degree of confidence.\45\
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    \45\ Id.
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C. Consistency With Rules 17Ad-22(e)(6)(i) and (v)

    Rule 17Ad-22(e)(6)(i) requires that FICC 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, at a minimum, considers,
and produces margin levels commensurate with, the risks and particular
attributes of each relevant product, portfolio, and market.\46\ Rule
17Ad-22(e)(6)(v) requires that FICC 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, at a minimum, uses an appropriate method for
measuring credit exposure that accounts for relevant product risk
factors and portfolio effects across products.\47\
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    \46\ 17 CFR 240.17Ad-22(e)(6)(i).
    \47\ 17 CFR 240.17Ad-22(e)(6)(v).
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    As described above in Section I.B, FICC's current margin
methodologies do not account for the potential increase in market
impact costs when liquidating a defaulted member's portfolio where the
portfolio contains a large position in securities sharing similar risk
profiles. FICC proposes to address this risk by adding the MLA Charge
to its margin methodologies. To avoid excessive MLA Charges and ensure
margin requirements are commensurate with the relevant risks, FICC also
contemplates reducing a member's MLA Charge when FICC could otherwise
partially mitigate the relevant risks by extending the time period for
liquidating a defaulted member's portfolio beyond the three day period.
    Additionally, as described above in Section I.A and C, FICC's
current margin methodologies do not account for the risk of incurring
bid-ask spread transaction costs when liquidating the securities in a
defaulted member's portfolio. FICC proposes to address this risk by
adding the Bid-Ask Spread Charge to its margin methodologies. Adding
the MLA Charge and Bid-Ask Spread Charge to FICC's margin methodologies
should better enable FICC to collect margin amounts commensurate with
the risk attributes of its members' portfolios than FICC's current
margin methodologies. Specifically, the MLA Charge should better enable
FICC to manage the risk of increased costs to FICC associated with the
decreased marketability of a defaulted member's portfolio where the
portfolio contains a large position in securities sharing similar risk
profiles. Moreover, the proposal to reduce the MLA Charge when FICC
could otherwise partially mitigate the relevant risks demonstrates how
the proposal provides an appropriate method for measuring credit
exposure, in that it seeks to take into account the particular
circumstances related to a particular portfolio when determining the
MLA Charge. Additionally, since FICC's current margin methodologies do
not account for bid-ask spread transaction costs associated with
liquidating a defaulted member's portfolio, the Bid-Ask Spread Charge
should enable FICC to manage such risks.
    Accordingly, the Commission believes that adding the MLA Charge and
Bid-Ask Spread Charge to FICC's margin methodologies would be
consistent with Rules 17Ad-22(e)(6)(i) and (v) because these new margin
charges should better enable FICC to establish a risk-based margin
system that (1) considers and produces relevant margin levels
commensurate with the risks associated with liquidating member
portfolios in a default scenario, including decreased marketability of
a portfolio's securities due to large positions in securities sharing
similar risk profiles and bid-ask transaction costs, and (2) uses an
appropriate method for measuring credit exposure that accounts for such
risk factors and portfolio effects.\48\
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    \48\ 17 CFR 240.17Ad-22(e)(6)(i) and (v).
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IV. Conclusion

    It is therefore noticed, pursuant to Section 806(e)(1)(I) of the
Clearing Supervision Act, that the Commission does not object to
Advance Notice (SR-FICC-2020-802) and that FICC is authorized to
implement the proposed change as of the date of this notice or the date
of an order by the Commission approving Proposed Rule Change SR-FICC-
2020-009, whichever is later.

    By the Commission.
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2020-21784 Filed 10-1-20; 8:45 am]
BILLING CODE 8011-01-P