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2012-26407

2012-26407

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Vol. 77 Friday,No. 213 November 2, 2012Part II
Securities and Exchange Commission
17 CFR Part 240Clearing Agency Standards; Final Rule
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66220
Federal Register
/Vol. 77, No. 213/Friday, November 2, 2012/Rules and Regulations
1
See
15 U.S.C. 78q–1 and S. Rep. No. 94–75, at4 (1975) (the Senate Committee on Banking,Housing and Urban Affairs urging that ‘‘[t]heCommittee believes the banking and securityindustries must move quickly toward theestablishment of a fully integrated national systemfor the prompt and accurate processing andsettlement of securities transactions’’).
2
The Commission authorized five entities to clearcredit default swaps.
See
Exchange Act ReleaseNos. 60372 (July 23, 2009), 74 FR 37748 (July 29,2009), 61973 (Apr. 23, 2010), 75 FR 22656 (Apr. 29,2010) and 63389 (Nov. 29, 2010), 75 FR 75520 (Dec.3, 2010) (CDS clearing by ICE Clear EuropeLimited); 60373 (July 23, 2009), 74 FR 37740 (July29, 2009), 61975 (Apr. 23, 2010), 75 FR 22641 (Apr.29, 2010) and 63390 (Nov. 29, 2010), 75 FR 75518(Dec. 3, 2010) (CDS clearing by Eurex Clearing AG);59578 (Mar. 13, 2009), 74 FR 11781 (Mar. 19, 2009),61164 (Dec. 14, 2009), 74 FR 67258 (Dec. 18, 2009),61803 (Mar. 30, 2010), 75 FR 17181 (Apr. 5, 2010)and 63388 (Nov. 29, 2010), 75 FR 75522 (Dec. 3,2010) (CDS clearing by Chicago MercantileExchange, Inc.); 59527 (Mar. 6, 2009), 74 FR 10791(Mar. 12, 2009), 61119 (Dec. 4, 2009), 74 FR 65554(Dec. 10, 2009), 61662 (Mar. 5, 2010), 75 FR 11589(Mar. 11, 2010) and 63387 (Nov. 29, 2010), 75 FR75502 (Dec. 3, 2010) (CDS clearing by ICE Trust USLLC); 59164 (Dec. 24, 2008), 74 FR 139 (Jan. 2,2009) (temporary CDS clearing by LIFFE A&M and
SECURITIES AND EXCHANGECOMMISSION17 CFR Part 240
[Release No. 34–68080; File No. S7–08–11]RIN 3235 AL13
Clearing Agency Standards
AGENCY
:
Securities and ExchangeCommission.
ACTION
:
Final rule.
SUMMARY
:
The Securities and ExchangeCommission (‘‘SEC’’ or ‘‘Commission’’)is adopting a new rule in accordancewith the Securities Exchange Act of 1934 (‘‘Exchange Act’’), and the Dodd-Frank Wall Street Reform and ConsumerProtection Act of 2010 (‘‘Dodd-FrankAct’’). The new rule establishesminimum requirements regarding howregistered clearing agencies mustmaintain effective risk managementprocedures and controls as well as meetthe statutory requirements under theExchange Act on an ongoing basis.
DATES
:
Effective Date: 
 January 2, 2013.
FOR FURTHER INFORMATION CONTACT
:
 Jeffrey Mooney, Assistant Director;Katherine Martin, Senior SpecialCounsel; Doyle Horn, Special Counsel;Stephanie Park, Special Counsel; or Justin Byrne, Attorney-Advisor; Officeof Clearance and Settlement, Division of Trading and Markets, Securities andExchange Commission, 100 F Street NE.,Washington, DC 20549–7010 at (202)551–5710.
SUPPLEMENTARY INFORMATION
:
TheCommission is adopting rules for theoperation of a registered clearing agencythat identify minimum standardsdesigned to enhance the regulatoryframework for clearing agencysupervision.
Table of Contents
I. BackgroundA. Statutory Framework for the Regulationof Clearing Agencies1. Introduction2. Section 17A of the Exchange Act3. The Dodd-Frank Acta. Title VII of the Dodd-Frank Act b. Title VIII of the Dodd-Frank ActB. International ConsiderationsII. Overview of Proposal and GeneralComments Received on the ProposingRelease and Commission ResponseA. Summary of the Clearing AgencyStandards Proposing ReleaseB. General Comments Received on theProposing Release and the CommissionResponse1. Timing of Implementation2. Special Attention to Risk ManagementStandards3. Coordinated U.S. Domestic andInternational Standards4. Appropriate Distinctions BetweenClearing AgenciesIII. Description of Rule 17Ad–22A. Overview and ScopeB. Definitions—Rule 17Ad–22(a)C. Risk Management Requirements forCentral Counterparties: Rules 17Ad–22(b)(1)–(4)1. Rule 17Ad–22(b)(1): Measurement andManagement of Credit Exposures2. Rule 17Ad–22(b)(2): MarginRequirements3. Rule 17Ad–22(b)(3): Financial Resources4. Rule 17Ad–22(b)(4): Model ValidationD. Participant Access Standards for CentralCounterparties: Rules 17Ad–22(b)(5)–(7)1. Rule 17Ad–22(b)(5): Non-Dealer MemberAccess2. Rule 17Ad–22(b)(6): Portfolio Size andTransaction Volume ThresholdsRestrictions3. Rule 17Ad–22(b)(7): Net CapitalRestrictionsE. Record of Financial Resources andAnnual Audited Financial Statements:Rules 17Ad–22(c)(1)–(2)1. Rule 17Ad–22(c)(1): Record of FinancialResources for Central Counterparties2. Rule 17Ad–22(c)(2): Clearing AgencyAnnual Audited Financial StatementsF. Minimum Standards for ClearingAgencies: Rules 17Ad–22(d)(1)–(15)1. Rule 17Ad–22(d)(1): Transparent andEnforceable Rules and Procedures2. Rule 17Ad–22(d)(2): ParticipationRequirements3. Rule 17Ad–22(d)(3): Custody of Assetsand Investment Risk4. Rule 17Ad–22(d)(4): Identification andMitigation of Operational Risk5. Rule 17Ad–22(d)(5): Money SettlementRisks6. Rule 17Ad–22(d)(6): Cost-Effectiveness7. Rule 17Ad–22(d)(7): Links8. Rule 17Ad–22(d)(8): Governance9. Rule 17Ad–22(d)(9): Information onServices10. Rule 17Ad–22(d)(10): Immobilizationand Dematerialization of SecuritiesCertificates11. Rule 17Ad–22(d)(11): DefaultProcedures12. Rule 17Ad–22(d)(12): Timing of Settlement Finality13. Rule 17Ad–22(d)(13): Delivery VersusPayment14. Rule 17Ad–22(d)(14): Risk Controls ToAddress Participants’ Failure To Settle15. Rule 17Ad–22(d)(15): Physical DeliveryRisksIV. Paperwork Reduction ActA. Overview and Burden EstimateComparison To Proposing ReleaseB. Summary of Collection of Information,Use of Information and CommentsReceivedC. Total Initial and Annual Reporting andRecordkeeping BurdensD. Collection of Information Is MandatoryE. ConfidentialityV. Economic AnalysisA. OverviewB. BaselineC. Consideration of Costs, Benefits, and theEffect on Efficiency, Competition andCapital FormationVI. Regulatory Flexibility Act CertificationVII. Statutory Authority and Text of Rule17Ad–22
I. Background
A. Statutory Framework for theRegulation of Clearing Agencies
1. IntroductionCongress directed the Commission tofacilitate the establishment of a nationalsystem for the prompt and accurateclearance and settlement of securitiestransactions when it added Section 17Ato the Exchange Act as part of theSecurities Acts Amendments of 1975.
1
 The Commission’s ability to achieve thisgoal and its supervision of securitiesclearance and settlement systems is based upon the regulation of registeredclearing agencies. Over the years,clearing agencies registered with theCommission have become an essentialpart of the infrastructure of the U.S.securities markets. Clearing agencieshelp reduce the costs of securitiestrading and are required to be carefullystructured to manage and reducecounterparty risk.The Commission used this experiencewith regulating clearing agencies to helpaddress developments recently in theover-the-counter (‘‘OTC’’) derivativesmarkets. In December 2008, theCommission acted to facilitate thecentral clearing of credit default swaps(hereinafter referred to as ‘‘credit defaultswaps’’ or ‘‘CDS’’), the largest categoryof OTC security-based swaps, bypermitting certain entities thatperformed central counterparty (‘‘CCP’’)services to clear and settle credit defaultswaps on a temporary, conditional basis.
2
Consequently, some credit
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66221
Federal Register
/Vol. 77, No. 213/Friday, November 2, 2012/Rules and Regulations
LCH.Clearnet Ltd.) (collectively, ‘‘CDS ClearingExemption Orders’’). LIFFE A&M and LCH.ClearnetLtd. allowed their order to lapse without seekingrenewal.
3
See
15 U.S.C. 78q–1(b).
See also
Public Law111–203 §763(b) (adding subparagraph (g) toSection 17 of the Exchange Act).
4
See
17 CFR 240.17Ab2–1.
5
Specifically, Sections 17A(b)(3)(A)–(I) identifydeterminations that the Commission must makeabout the rules and structure of a clearing agencyprior to granting registration.
See
15 U.S.C. 78q–1(b)(3)(A)–(I). The staff of the Commission providedguidance on meeting the requirements of Section17A in its Announcement of Standards for theRegistration of Clearing Agencies.
See
Exchange ActRelease No. 16900 (June 17, 1980), 45 FR 41920(June 23, 1980).
6
See
15 U.S.C. 78q–1(d).
7
See
15 U.S.C. 78u.
8
See id.; see also
15 U.S.C. 78s(h).
9
The Dodd-Frank Wall Street Reform andConsumer Protection Act, Public Law 111–203, 124Stat. 1376 (2010).
10
See id.
11
See id.
secs. 701–774.
12
Section 712(d) of the Dodd-Frank Act providesthat the Commission and the CFTC, in consultationwith the Board of Governors of the Federal ReserveSystem, shall further define the terms ‘‘swap,’’‘‘security-based swap,’’ ‘‘swap dealer,’’ ‘‘security- based swap dealer,’’ ‘‘major swap participant,’’‘‘major security-based swap participant,’’ ‘‘eligiblecontract participant’’ and ‘‘security-based swapagreement.’’ The Commission and the CFTC jointlyadopted rules to further define the terms ‘‘swapdealer,’’ ‘‘security-based swap dealer,’’ ‘‘major swapparticipant,’’ ‘‘major security-based swapparticipant’’ and eligible contract participant.’’
Further Definition of ‘‘Swap Dealer,’’ ‘‘Security-Based Swap Dealer,’’ ‘‘Major Swap Participant,’’ ‘‘Major Security-Based Swap Participant’’ and ‘‘Eligible Contract Participant’’,
Securities ExchangeAct Release No. 34–66868 (Apr. 27, 2012).
13
See, e.g.,
Report of the Senate Committee,
supra
note 11, at 34 (stating that ‘‘[s]ome parts of the OTCmarket may not be suitable for clearing andexchange trading due to individual business needsof certain users. Those users should retain theability to engage in customized, uncleared contractswhile bringing in as much of the OTC market underthe centrally cleared and exchange-tradedframework as possible.’’).
14
See, e.g.,
Financial Stability Board,
Implementing OTC Derivatives Market Reforms
(Oct. 25, 2010),
15
As previously noted, the Dodd-Frank Act seeksto ensure that, wherever possible and appropriate,derivatives contracts formerly traded exclusively inthe OTC market be cleared.
See supra
note 11.
16
Section 3(a)(23)(A) of the Exchange Act definesthe term ‘‘clearing agency’’ to mean any person whoacts as an intermediary in making payments ordeliveries or both in connection with transactionsin securities or who provides facilities for thecomparison of data regarding the terms of settlement of securities transactions to reduce thenumber of settlements of securities transactions orthe allocation of securities settlementresponsibilities. Such term also means any person,such as a securities depository, who (i) acts as acustodian of securities in connection with a systemfor the central handling of securities whereby allsecurities of a particular class or series of any issuerdeposited within the system are treated as fungibleand may be transferred, loaned or pledged by bookkeeping entry without physical delivery of securities certificates, or (ii) otherwise permits orfacilitates the settlement of securities transactionsor the hypothecation or lending of securitieswithout physical delivery of securities certificates.15 U.S.C. 78c(a)(23)(A).
17
See id.
An entity that acts as a CCP forsecurities transactions is a clearing agency asdefined in the Exchange Act and is required toregister with the Commission.
18
See
Cecchetti, Gyntelberg and Hollanders,
Central Counterparties for Over-the-Counter Derivatives,
Bank for International SettlementQuarterly Review (Sept. 2009),
19
See id.
at 46;
see also
Bank for InternationalSettlements’ Committee on Payment and SettlementSystems and Technical Committee of theInternational Organization of SecuritiesCommissions,
Guidance on the Application of the2004 CPSS–IOSCO Recommendations for Central 
Continued
default swaps transactions werecentrally cleared prior to the enactmentof the Dodd-Frank Act.2. Section 17A of the Exchange ActSection 17A of the Exchange Act
3
andRule 17Ab2–1
4
require entities toregister with the Commission prior toperforming the functions of a clearingagency. Under the statute, theCommission is not permitted to grantregistration unless it determines that therules and operations of the clearingagency meet the standards set forth inSection 17A.
5
If the Commissionregisters a clearing agency, theCommission oversees the clearingagency to facilitate compliance with theExchange Act using various tools thatinclude, among other things, the rulefiling process for self-regulatoryorganizations (‘‘SROs’’) and on-siteexaminations by Commission staff.Section 17A(d) also gives theCommission authority to adopt rules forclearing agencies as necessary orappropriate in the public interest, forthe protection of investors, or otherwisein furtherance of the purposes of theExchange Act and prohibits a registeredclearing agency from engaging in anyactivity in contravention of these rulesand regulations.
6
Pursuant to Section21(a) of the Exchange Act, theCommission can invoke its enforcementpowers to initiate and conductinvestigations to determine violations of the federal securities laws, includingthose specifically applicable to clearingagencies.
7
In so doing, the Commissionmay institute civil actions seekinginjunctive and other equitable remediesand/or administrative proceedings to,among other things, suspend or revokeregistration, impose limitations upon aclearing agency’s activities, functions, oroperations, or impose other sanctions.
8
 3. The Dodd-Frank ActOn July 21, 2010, President BarackObama signed the Dodd-Frank Act intolaw.
9
The Dodd-Frank Act was enactedto, among other things, promote thefinancial stability of the United States by improving accountability andtransparency in the financial system.
10
 a. Title VII of the Dodd-Frank ActTitle VII of the Dodd-Frank Act(‘‘Title VII’’) provides the Commissionand the Commodity Futures TradingCommission (‘‘CFTC’’) with enhancedauthority to regulate certain OTCderivatives in response to the recentfinancial crisis.
11
The Dodd-Frank Act isintended to bolster the existingregulatory structure and provideregulatory tools to oversee the OTCderivatives market, which has grownexponentially in recent years and iscapable of affecting significant sectors of the U.S. economy. Title VII providesthat the CFTC will regulate ‘‘swaps,’’ theCommission will regulate ‘‘security- based swaps,’’ and the CFTC and theCommission will jointly regulate‘‘mixed swaps.’’
12
 Title VII was designed to providegreater certainty that, wherever possibleand appropriate, swap and security- based swap contracts formerly tradedexclusively in the OTC market arecentrally cleared.
13
The swap andsecurity-based swap marketstraditionally have been characterized byprivately negotiated transactionsentered into by two counterparties, inwhich each assumes the credit risk of the other counterparty.
14
Clearing of swaps and security-based swaps was atthe heart of Congressional reform of thederivatives markets in Title VII.
15
 Clearing agencies are broadly definedunder the Exchange Act and undertakea variety of functions.
16
One suchfunction is to act as a CCP, which is anentity that interposes itself between thecounterparties to a trade.
17
For example,when a security-based swap contract between two counterparties that aremembers of a CCP is executed andsubmitted for clearing, it is typicallyreplaced by two new contracts—separate contracts between the CCP andeach of the two original counterparties.At that point, the original parties to thetransaction are no longer counterpartiesto each other. Instead, each acquires theCCP as its counterparty, and the CCPassumes the counterparty credit risk of each of the original counterparties thatare members of the CCP.
18
Structuredand operated appropriately, CCPs mayimprove the management of counterparty risk and may provideadditional benefits such as multilateralnetting of trades.
19
The Dodd-Frank Act
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