Notice2021-28250
Self-Regulatory Organizations; National Securities Clearing Corporation; Notice of Filing of Proposed Rule Change To Enhance Capital Requirements and Make Other Changes
Primary source
Metadata and text below are from the Federal Register, a public-domain U.S. government work. Always verify the official published version before relying on it for any legal matter.
Published
December 29, 2021
Issuing agencies
Securities and Exchange Commission
Full Text
<html>
<head>
<title>Federal Register, Volume 86 Issue 247 (Wednesday, December 29, 2021)</title>
</head>
<body><pre>
[Federal Register Volume 86, Number 247 (Wednesday, December 29, 2021)]
[Notices]
[Pages 74185-74198]
From the Federal Register Online via the Government Publishing Office [<a href="http://www.gpo.gov">www.gpo.gov</a>]
[FR Doc No: 2021-28250]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-93856; File No. SR-NSCC-2021-016]
Self-Regulatory Organizations; National Securities Clearing
Corporation; Notice of Filing of Proposed Rule Change To Enhance
Capital Requirements and Make Other Changes
December 22, 2021.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Exchange Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby
given that on December 13, 2021, National Securities Clearing
Corporation (``NSCC'') 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 the
clearing agency. The Commission is publishing this notice to solicit
comments on the proposed rule change from interested persons.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------
I. Clearing Agency's Statement of the Terms of Substance of the
Proposed Rule Change
The proposed rule change consists of amendments to the Rules &
Procedures (``Rules'') of NSCC in order to (i) enhance NSCC's capital
requirements for Members and Limited Members (collectively,
``members''), (ii) redefine NSCC's Watch List and eliminate NSCC's
enhanced surveillance list, and (iii) make certain other clarifying,
technical and supplementary changes in the Rules, including
definitional updates, to accomplish items (i) and (ii), as described in
greater detail below.\3\
---------------------------------------------------------------------------
\3\ Capitalized terms not defined herein are defined in the
Rules, available at http://www.dtcc.com/~/media/Files/Downloads/
legal/rules/nscc_rules.pdf.
---------------------------------------------------------------------------
II. Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change
In its filing with the Commission, the clearing agency 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. The clearing agency has prepared summaries,
set forth in sections A, B, and C below, of the most significant
aspects of such statements.
(A) Clearing Agency's Statement of the Purpose of, and Statutory Basis
for, the Proposed Rule Change
1. Purpose
The purpose of this proposed rule change is to (i) enhance NSCC's
capital requirements for Members and Limited Members (collectively,
``members''), (ii) redefine NSCC's Watch List and eliminate NSCC's
enhanced surveillance list, and (iii) make certain other clarifying,
technical and supplementary changes in the Rules, including
definitional updates, to accomplish items (i) and (ii).
(i) Background
Central counterparties (``CCPs'') play a key role in financial
markets by mitigating counterparty credit risk on transactions of their
participants. CCPs achieve this by providing guaranties to participants
and, as a consequence, are typically exposed to credit risks that could
lead to default losses.
As a CCP, NSCC is exposed to the credit risks of its members. The
credit risks borne by NSCC are mitigated, in part, by the capital
maintained by members, which serves as a loss-absorbing buffer.
In accordance with Section 17A(b)(4)(B) of the Exchange Act,\4\ a
registered clearing agency such as NSCC may, among other things, deny
participation to, or condition the participation of, any person on such
person meeting such standards of financial responsibility prescribed by
the rules of the registered clearing agency.
---------------------------------------------------------------------------
\4\ 15 U.S.C. 78q-1(b)(4)(B).
---------------------------------------------------------------------------
In furtherance of this authority, NSCC requires applicants and
members to meet the relevant financial responsibility standards
prescribed by the Rules. These financial responsibility standards
generally require members to have and maintain certain levels of
capital, as more particularly described in the Rules and below.
NSCC's capital requirements for its members have not been updated
in over 20 years. Since that time, there have been significant changes
to the financial markets that warrant NSCC revisiting its capital
requirements. For example, the regulatory environment within which NSCC
and its members operate has undergone various changes. The
[[Page 74186]]
implementation of the Basel III standards,\5\ the designation of many
banks as systemically important by the Financial Stability Board,\6\ as
well as the designation of NSCC as a systemically important financial
market utility (``SIFMU'') by the Financial Stability Oversight
Council,\7\ have significantly increased the regulatory requirements,
including capital requirements, of many financial institutions and
CCPs. Similarly, the Covered Clearing Agency Standards (``CCAS'')
adopted by the Commission have raised the regulatory standards
applicable to CCPs such as NSCC.\8\
---------------------------------------------------------------------------
\5\ Basel Committee on Banking Supervision, The Basel Framework,
available at <a href="https://www.bis.org/basel_framework/index.htm?export=pdf">https://www.bis.org/basel_framework/index.htm?export=pdf</a> (``Basel III Standards'').
\6\ See Financial Stability Board, 2021 list of global
systemically important banks, available at <a href="https://www.fsb.org/wp-content/uploads/P231121.pdf">https://www.fsb.org/wp-content/uploads/P231121.pdf</a>.
\7\ See U.S. Department of the Treasury, Designations, Financial
Market Utility Designations, available at <a href="https://home.treasury.gov/policy-issues/financial-markets-financial-institutions-and-fiscal-service/fsoc/designations">https://home.treasury.gov/policy-issues/financial-markets-financial-institutions-and-fiscal-service/fsoc/designations</a>.
\8\ 17 CFR 240.17Ad-22(e).
---------------------------------------------------------------------------
There also have been significant membership changes over the past
20 years. Numerous mergers, acquisitions, and new market entrants have
created a diverse NSCC membership that has expanded the credit-risk
profiles that NSCC must manage. For example, NSCC has seen an increase
in less capitalized market participants focusing on niche parts of the
market with innovative new business models.
Additionally, trading activity and market volatility, each of which
present risk to NSCC, ballooned over the years.\9\ While NSCC does
collect margin from its members to help address these types of risk, it
is imperative that NSCC ensure that its members have sufficient capital
to sustain unexpected and/or sustained increases in margin
requirements. Although the above factors do not directly require NSCC
to increase capital requirements for its membership (e.g., there is no
specific regulation or formula that prescribes a set capital
requirement for members of a CCP such as NSCC), the overarching and
collective focus of the regulatory changes noted above, in light of the
many heightened risks to the financial industry, has been to increase
the stability of the financial markets in order to reduce systemic
risk. As a self-regulatory organization, a SIFMU, and being exposed to
the new and increased risks over the past 20 years, NSCC has a
responsibility to do the same. Enhancing its capital requirements helps
meet that responsibility and improve NSCC's credit risk management.
Enhanced capital requirements also help mitigate other risks posed
directly or indirectly by members such as legal risk, operational risk
and cyber risk, as better capitalized members have greater financial
resources in order to mitigate the effects of these and other risks.
---------------------------------------------------------------------------
\9\ See, e.g., DTCC Annual Reports, available at <a href="https://www.dtcc.com/about/annual-report">https://www.dtcc.com/about/annual-report</a>. NSCC is a wholly owned subsidiary
of The Depository Trust & Clearing Corporation (``DTCC''). The DTCC
Annual Reports highlight and track NSCC clearing activity year-over-
year. See also CBOE Volatility Index (i.e., the VIX) available at
<a href="https://www.cboe.com/tradable_products/vix/">https://www.cboe.com/tradable_products/vix/</a>. The VIX is designed to
measure market volatility, highlights a rollercoaster of volatility
over the past 14 years, including historic and near-historic peaks.
---------------------------------------------------------------------------
As for setting the specific capital requirements proposed, again,
there is no regulation or formula that requires or calculates a
specific amount (i.e., there is no magic number). Instead, NSCC
considered several factors, including inflation and the capital
requirements of other Financial Market Infrastructures, both in the
U.S. and abroad, to which the proposed requirements align.\10\ NSCC
also gave much weight to the historical development of the proposal,
which involved member outreach and feedback as far back as 2013.
---------------------------------------------------------------------------
\10\ See The Options Clearing Corporation, OCC Rules, Rule
301(a), available at <a href="https://www.theocc.com/Company-Information/Documents-and-Archives/By-Laws-and-Rules">https://www.theocc.com/Company-Information/Documents-and-Archives/By-Laws-and-Rules</a> (requiring broker-dealers
to have initial net capital of not less than $2,500,000); Chicago
Mercantile Exchange Inc., CME Rulebook, Rule 970.A.1, available at
<a href="https://www.cmegroup.com/rulebook/CME/I/9/9.pdf">https://www.cmegroup.com/rulebook/CME/I/9/9.pdf</a> (requiring clearing
members to maintain capital of at least $5 million, with banks
required to maintain minimum tier 1 capital of at least $5 billion);
LCH SA, LCH SA Clearing Rule Book, Section 2.3.2, available at
<a href="https://www.lch.com/resources/rulebooks/lch-sa">https://www.lch.com/resources/rulebooks/lch-sa</a> (requiring, with
respect to securities clearing, capital of at least EUR 10 million
for self-clearing members and at least EUR 25 million for members
clearing for others, subject to partial satisfaction by a letter of
credit) (1 EUR = $0.8150 as of December 31, 2020; see <a href="https://www.fiscal.treasury.gov/reports-statements/treasury-reporting-rates-exchange/current.html">https://www.fiscal.treasury.gov/reports-statements/treasury-reporting-rates-exchange/current.html</a> (last visited January 14, 2021)).
---------------------------------------------------------------------------
In 2013, NSCC considered increasing its minimal capital
requirements for members that self-clear and those that clear for
others to much higher, fixed amounts than what are proposed here.
However, some members expressed concerns that the amounts were too high
and rigid, and would present undue burden on less capitalized firms. As
such, NSCC then considered lowering the amounts considerably, such that
the amounts would more directly reflect inflation but with an
adjustment factor related to volume activity. In response, though,
members expressed concern over the volume adjustment, which NSCC also
determined to be too challenging and costly to implement, and too
complex to monitor for both NSCC and members. Ultimately, NSCC settled
on the current proposal, which it believes strikes the right balance
between continuing to provide access for less capitalized firms and the
need to mitigate risk to NSCC and its members, as described in more
detail below.
NSCC also proposes to redefine the Watch List, which is a list of
members that are deemed by NSCC to pose a heightened risk to it and its
members based on credit ratings and other factors. As part of the
redefinition of the Watch List, NSCC proposes to eliminate the separate
enhanced surveillance list and implement a new Watch List that consists
of a relatively smaller group of members that exhibit heightened credit
risk, as described in more detail below.
Finally, NSCC proposes to make certain other clarification changes
in the Rules.
(ii) Current NSCC Capital Requirements
The Rules currently specify capital requirements for members based
on their membership type and type of entity. The current NSCC capital
requirements for members are set forth in Addendum B (Qualifications
and Standards of Financial Responsibility, Operational Capability and
Business History),\11\ as supplemented by Addendum O (Admission of Non-
U.S. Entities as Direct NSCC Members) \12\ in the case of non-U.S.
entities.
---------------------------------------------------------------------------
\11\ Addendum B (Qualifications and Standards of Financial
Responsibility, Operational Capability and Business History), supra
note 3.
\12\ Addendum O (Admission of Non-U.S. Entities as Direct NSCC
Members), supra note 3.
---------------------------------------------------------------------------
Addendum B (Qualifications and Standards of Financial Responsibility,
Operational Capability and Business History)
Addendum B is divided into 12 sections, one for each NSCC
membership type. Each section of Addendum B sets forth the
qualifications, financial responsibility, operational capability and
business history requirements applicable to the relevant membership
type.
An applicant for a membership type is required to meet the
qualifications, financial responsibility, operational capability and
business history requirements applicable to the relevant membership
type, which may vary based on the applicant's type of entity (e.g., a
broker-dealer vs. a bank or trust company). In particular, financial
responsibility requirements for a membership type, which generally
require the applicant to maintain a certain level of capital, may vary
based on an applicant's type of entity and the
[[Page 74187]]
relevant capital measure for such type of entity.
As relevant to NSCC's proposal to enhance its capital requirements
for members:
Section 1
Section 1 of Addendum B sets forth the qualifications, financial
responsibility, operational capability and business history
requirements applicable to Members. The financial responsibility
requirements in Section 1 consist of the following capital
requirements:
Section 1.B.1 of Addendum B provides that a Registered Broker-
Dealer applying to be a Member must have excess net capital (i.e.,
capital in excess of the minimum net capital required by the Commission
or such higher minimum capital required by its designated examining
authority) in the amount of $500,000 if the Registered Broker-Dealer
does not clear for others or $1 million if the Registered Broker-Dealer
clears for others.
An applicant that is a Municipal Securities Brokers' Brokers (as
defined in Rule 15c3-1(a)(8) under the Exchange Act) \13\ is subject to
a lower excess net capital requirement of $100,000.
---------------------------------------------------------------------------
\13\ 17 CFR 240.15c3-1(a)(8).
---------------------------------------------------------------------------
Section 1.B.2 of Addendum B provides that a bank applying to be a
Member must (i) have at least $50 million in equity capital (as defined
on the Consolidated Report of Condition and Income (``Call Report''))
or (ii) have furnished to NSCC a guarantee of its parent bank holding
company respecting the payment of any and all obligations of the bank
applicant, and such parent bank holding company must have total
consolidated capital of at least $50 million.
In the case of a trust company applying to be a Member that is not
a bank but is a member of the Federal Reserve System or is an
institution insured under the Federal Deposit Insurance Act, the trust
company must have consolidated capital of at least $10 million and that
is adequate to the scope and character of the business conducted by
such trust company.
Section 1.B.3 of Addendum B provides that an entity applying to be
a Member other than a Registered Broker-Dealer, bank or trust company
is required to satisfy such minimum standards of financial
responsibility as determined by NSCC.
Section 2
Section 2 of Addendum B sets forth the qualifications, financial
responsibility, operational capability and business history
requirements applicable to Mutual Fund/Insurance Services Members. The
financial responsibility requirements in Section 2 consist of the
following capital requirements:
Section 2.B.1 of Addendum B provides that a Registered Broker-
Dealer applying to be a Mutual Fund/Insurance Services Member must have
excess net capital in the amount of $50,000.
Section 2.B.2 of Addendum B provides that a bank or trust company
applying to be a Mutual Fund/Insurance Services Member must (i) have a
Tier 1 Risk Based Capital (``RBC'') ratio of 6% or greater or (ii) with
respect to trust companies which do not calculate a Tier 1 RBC ratio,
have at least $2 million in equity capital.
Section 2.B.3 of Addendum B provides that an Insurance Company
applying to be a Mutual Fund/Insurance Services Member must have an RBC
ratio, as derived from annual statutory financial statements filed by
it with its supervisory or regulatory entity (or, between filings of
such annual statutory financial statements, an RBC ratio derived in a
similar manner from then-current financial data), of 250% or greater.
Section 2.B.4 of Addendum B provides that an entity applying to be
a Mutual Fund/Insurance Services Member other than a Registered Broker-
Dealer, bank or trust company or Insurance Company is required to
satisfy such minimum standards of financial responsibility as
determined by NSCC.
Section 3
Section 3 of Addendum B sets forth the qualifications, financial
responsibility, operational capability and business history
requirements applicable to Fund Members. The financial responsibility
requirements in Section 3 consist of the following capital
requirements:
Section 3.B.1 of Addendum B provides that a Registered Broker-
Dealer applying to be a Fund Member must have excess net capital in the
amount of $50,000.
Section 3.B.2 of Addendum B provides that a bank or trust company
applying to be a Fund Member must (i) have a Tier 1 RBC ratio of 6% or
greater or (ii) with respect to trust companies which do not calculate
a Tier 1 RBC ratio, have at least $2 million in equity capital.
Section 3.B.3 of Addendum B provides that an investment company
applying to be a Fund Member must have at least $100,000 in assets
under management.
Section 3.B.4 of Addendum B provides that an investment adviser
applying to be a Fund Member must have at least $25,000,000 in assets
under management and $100,000 in total net worth.
Section 3.B.5 of Addendum B provides that an Insurance Company
applying to be a Fund Member must have an RBC ratio, as derived from
annual statutory financial statements filed by it with its supervisory
or regulatory entity (or, between filings of such annual statutory
financial statements, an RBC ratio derived in a similar manner from
then-current financial data), of 250% or greater.
Section 3.B.6 of Addendum B provides that an entity applying to be
a Fund Member other than a Registered Broker-Dealer, bank or trust
company, investment company, investment adviser or Insurance Company is
required to satisfy such minimum standards of financial responsibility
as determined by NSCC.
Section 4
Section 4 of Addendum B sets forth the qualifications, financial
responsibility, operational capability and business history
requirements applicable to Insurance Carrier/Retirement Services
Members. The financial responsibility requirements in Section 4 consist
of the following capital requirement:
Section 4.B of Addendum B provides that an Insurance Company
applying to be an Insurance Carrier/Retirement Services Member must
have an RBC ratio, as derived from annual statutory financial
statements filed by it with its supervisory or regulatory entity (or,
between filings of such annual statutory financial statements, an RBC
ratio derived in a similar manner from then-current financial data), of
250% or greater.
Section 7
Section 7 of Addendum B sets forth the qualifications, financial
responsibility and operational capability requirements applicable to
Settling Bank Only Members. The financial responsibility requirements
in Section 7 consist of the following capital requirement:
Section 7.B of Addendum B provides that a bank or trust company
applying to be a Settling Bank Only Member is required to satisfy such
minimum standards of financial responsibility as determined by NSCC.
[[Page 74188]]
Addendum O (Admission of Non-U.S. Entities as Direct NSCC Members)
Addendum O (Admission of Non-U.S. Entities as Direct NSCC Members)
provides that an entity that is organized in a country other than the
United States and that is not otherwise subject to U.S. federal or
state regulation (a ``non-U.S. entity'') is eligible to become a
Member, Mutual Fund/Insurance Services Member, Fund Member or Insurance
Carrier/Retirement Services Member, subject to certain conditions.
One of the conditions for a non-U.S. entity to be admitted as a
Member, Mutual Fund/Insurance Services Member, Fund Member or Insurance
Carrier/Retirement Services Member is that the entity must provide
NSCC, for financial monitoring purposes, audited financial statements
prepared in accordance with either U.S. generally accepted accounting
principles (``U.S. GAAP'') or other generally accepted accounting
principles that are satisfactory to NSCC.
In order to address the risk presented by the acceptance of
financial statements not prepared in accordance with U.S. GAAP,
Addendum O provides that the minimum financial requirements applicable
to a non-U.S. entity will be subject to a specified premium, as
follows:
i. For financial statements prepared in accordance with
International Financial Reporting Standards, the U.K. Companies Act of
1985 (``U.K. GAAP''), or Canadian generally accepted accounting
principles--a premium of 1\1/2\ times the minimum financial
requirements;
ii. for financial statements prepared in accordance with a European
Union country's generally accepted accounting principles, other than
U.K. GAAP--a premium of 5 times the minimum financial requirements; and
iii. for financial statements prepared in accordance with any other
type of generally accepted accounting principles--a premium of 7 times
the minimum financial requirements.
Accordingly, a non-U.S. entity that does not prepare its financial
statements in accordance with U.S. GAAP is required to meet financial
requirements between 1\1/2\ to 7 times the minimum financial
requirements that would otherwise be applicable to the non-U.S entity.
Given that, as noted above, the financial responsibility requirements
generally require a member to have a certain level of capital, Addendum
O has the effect of requiring a non-U.S. entity that does not prepare
its financial statements in accordance with U.S. GAAP to have capital
between 1\1/2\ to 7 times the otherwise-applicable capital requirement.
(iii) Current NSCC Watch List and Enhanced Surveillance List
NSCC's Watch List is a list of members that are deemed by NSCC to
pose a heightened risk to it and its members based on credit ratings
and other factors.\14\
---------------------------------------------------------------------------
\14\ See Rule 1 (Definitions and Descriptions), supra note 3.
---------------------------------------------------------------------------
Specifically, the Watch List is the list of Members with credit
ratings derived from NSCC's Credit Risk Rating Matrix (``CRRM'') \15\
of 5, 6 or 7, as well as members that, based on NSCC's consideration of
relevant factors, including those set forth in Section 4(d) of Rule 2B
(Ongoing Membership Requirements and Monitoring),\16\ are deemed by
NSCC to pose a heightened risk to it and its members.
---------------------------------------------------------------------------
\15\ NSCC's CRRM is a matrix of credit ratings of Members
specified in Section 4 of Rule 2B. The CRRM is developed by NSCC to
evaluate the credit risk Members pose to NSCC and its Members and is
based on factors determined to be relevant by NSCC from time to
time, which factors are designed to collectively reflect the
financial and operational condition of a Member. These factors
include (i) quantitative factors, such as capital, assets, earnings,
and liquidity, and (ii) qualitative factors, such as management
quality, market position/environment, and capital and liquidity risk
management. See Rule 1 (Definitions and Descriptions), supra note 3.
\16\ Rule 2B (Ongoing Membership Requirements and Monitoring),
Section 4 (Ongoing Monitoring), supra note 3.
---------------------------------------------------------------------------
In addition to the Watch List, NSCC also maintains a separate list
of members subject to enhanced surveillance in accordance with the
provisions of Rule 2B, as discussed below. The enhanced surveillance
list is a list of members for which NSCC has heightened credit
concerns, which may include members that are already, or may soon be,
on the Watch List. As described below, a member is subject to the same
potential consequences from being subject to enhanced surveillance or
being placed on the Watch List.
Rule 2B (Ongoing Membership Requirements and Monitoring)
Rule 2B (Ongoing Membership Requirements and Monitoring) specifies
the ongoing membership requirements and monitoring applicable to
members.\17\
---------------------------------------------------------------------------
\17\ Rule 2B (Ongoing Membership Requirements and Monitoring),
supra note 3.
---------------------------------------------------------------------------
Section 2.B.(e) of Rule 2B provides that NSCC may review the
financial responsibility and operational capability of a Member and
otherwise require from the Member additional reporting of its financial
or operational condition in order to make a determination as to whether
such Member should be placed on the Watch List and/or be subject to
enhanced surveillance by NSCC consistent with the provisions of Section
4 of Rule 2B.
Section 4(b) of Rule 2B provides that a Member that is (1) a U.S.
bank or trust company that files a Call Report, (2) a U.S. broker-
dealer that files the Financial and Operational Combined Uniform Single
Report (``FOCUS Report'') or the equivalent with its regulator, or (3)
a non-U.S. bank or trust company that has audited financial data that
is publicly available, will be assigned a credit rating by NSCC in
accordance with the CRRM. A Member's credit rating is reassessed each
time the Member provides NSCC with requested information pursuant to
Section 2.B.(e) of Rule 2B or as may be otherwise required under the
Rules.
Section 4(b) further provides that because the factors used as part
of the CRRM may not identify all risks that a Member assigned a credit
rating by NSCC may present to NSCC, NSCC may, in its discretion,
override such Member's credit rating derived from the CRRM to downgrade
the Member. This downgrading may result in the Member being placed on
the Watch List and/or it may subject the Member to enhanced
surveillance based on relevant factors.
Section 4(c) of Rule 2B provides that Members not assigned a credit
rating by NSCC and Limited Members monitored and reviewed by NSCC on an
ongoing and periodic basis will not be assigned a credit rating by the
CRRM but may be placed on the Watch List and/or may be subject to
enhanced surveillance based on relevant factors.
Section 4(d) of Rule 2B provides that the factors to be considered
by NSCC in determining whether a member is placed on the Watch List
and/or subject to enhanced surveillance include (i) news reports and/or
regulatory observations that raise reasonable concerns relating to the
member, (ii) reasonable concerns around the member's liquidity
arrangements, (iii) material changes to the member's organizational
structure, (iv) reasonable concerns about the member's financial
stability due to particular facts and circumstances, such as material
litigation or other legal and/or regulatory risks, (v) failure of the
member to demonstrate satisfactory financial condition or operational
capability or if NSCC has a reasonable concern regarding the member's
ability to maintain applicable membership standards, and (vi) failure
of the member to provide information required by NSCC to assess risk
exposure posed by the member's activity.
[[Page 74189]]
Section 4(e) of Rule 2B provides that NSCC may require a member
that has been placed on the Watch List to make and maintain a deposit
to the Clearing Fund over and above the amount determined in accordance
with Procedure XV (Clearing Fund Formula and Other Matters) (which
additional deposit shall constitute a portion of the member's Required
Fund Deposit) or such higher amount as NSCC may deem necessary for the
protection of it or other members.
Section 4(f) of Rule 2B provides that a member being subject to
enhanced surveillance or being placed on the Watch List (1) will result
in a more thorough monitoring of the member's financial condition and/
or operational capability, including on-site visits or additional due
diligence information requests, and (2) may be required make more
frequent financial disclosures to NSCC. Members and Limited Members
that are placed on the Watch List or subject to enhanced surveillance
are also reported to NSCC's management committees and regularly
reviewed by NSCC senior management.
(iv) Proposed Rule Changes
A. Changes To Enhance NSCC's Capital Requirements
As noted earlier, as a CCP, NSCC is exposed to the credit risks of
its members. The credit risks borne by NSCC are mitigated, in part, by
the capital maintained by members, which serves as a loss-absorbing
buffer.
NSCC's financial responsibility standards for members generally
require members to have and maintain certain levels of capital.
As described in more detail below, NSCC proposes to enhance its
capital requirements for members as follows:
Members
U.S. Broker-Dealers
NSCC proposes increasing minimum excess net capital (``Excess Net
Capital'') requirements for Members that are U.S. broker-dealers using
a tiered approach.\18\ These increases would be between 2 and 10 times
the current minimum Excess Net Capital requirements applicable to
Members that are U.S. broker-dealers, depending on whether the Member
self-clears or clears for others and its VaR Tier, as described below.
As described below, NSCC proposes to use, in general terms,
calculations from its value-at-risk (``VaR'') model and associated
Member charges as a measure of market risk in order to categorize
Members into those that pose relatively minimal risk exposure, moderate
risk exposure, or higher risk exposure to NSCC.
---------------------------------------------------------------------------
\18\ As part of the proposal, NSCC proposes to add the defined
term ``Excess Net Capital'' to the list of defined terms in Rule 1.
Excess Net Capital would be defined as a broker-dealer's excess net
capital, calculated in accordance with such broker-dealer's
regulatory and/or statutory requirements.
---------------------------------------------------------------------------
Unlike the current capital requirements applicable to Registered
Broker-Dealers, the proposed enhanced capital requirements for U.S.
broker-dealers would result in those Members whose NSCC activity poses
greater risk to NSCC being required to have and maintain greater levels
of Excess Net Capital in line with the increased risk.
As is the case with the current capital requirements applicable to
Registered Broker-Dealers, the enhanced capital requirements for U.S.
broker-dealers would depend on whether a Member self-clears or clears
for others. A broker-dealer that clears transactions for others has the
potential to present different and greater risks to NSCC than a broker-
dealer that clears transactions only for itself, and it is therefore
appropriate for such broker-dealer to be subject to heightened capital
requirements versus a broker-dealer that clears transactions only for
itself.
As described in more detail below, the proposed minimum Excess Net
Capital increases will help ensure NSCC's ongoing compliance with
regulatory requirements and expectations related to credit risk, such
as those addressed in CCAS Rules 17Ad-22(e)(4)(i) and (e)(18).\19\
---------------------------------------------------------------------------
\19\ 17 CFR 240.17Ad-22(e)(4)(i) and (e)(18).
---------------------------------------------------------------------------
Under the proposal, a Member that is a U.S. broker-dealer must have
and maintain at all times minimum Excess Net Capital as follows:
----------------------------------------------------------------------------------------------------------------
Value-at-risk tier
Clearing status (``VaR tier'') Minimum excess net capital
----------------------------------------------------------------------------------------------------------------
Self-Clearing.................................. <$100,000 $1 million Excess Net Capital
$100,000-$500,000 2.5 million Excess Net Capital
>$500,000 5 million Excess Net Capital
Clears for Others.............................. <$100,000 2.5 million Excess Net Capital
$100,000-$500,000 5 million Excess Net Capital
>$500,000 10 million Excess Net Capital
----------------------------------------------------------------------------------------------------------------
The VaR Tier in the table above is based on the daily volatility
component of a Member's Net Unsettled Positions calculated as of the
start of each Business Day pursuant to Procedure XV of the Rules \20\
as part of the Member's daily Required Fund Deposit. As part of the
tiered approach, a Member's daily volatility component may exceed its
then-current VaR Tier four times over a rolling 12-month period. Upon
the fifth instance of the Member's daily volatility component exceeding
its then-current VaR Tier, the Member would be moved to the next-
greatest VaR Tier, unless the Member's daily volatility component also
exceeded such next-greatest VaR Tier five times during the preceding
12-month period, in which case the Member would be moved to the
greatest VaR Tier.
---------------------------------------------------------------------------
\20\ Procedure XV (Clearing Fund Formula and Other Matters),
supra note 3.
---------------------------------------------------------------------------
Upon moving to a greater VaR Tier, a Member would then have 60
calendar days from the date of the move to meet the higher required
minimum Excess Net Capital for such VaR Tier. If a Member fails to meet
its higher required minimum Excess Net Capital within 60 calendar days
and maintain it for so long as such higher required minimum Excess Net
Capital applies, NSCC may take any and all action against the Member
pursuant to the Rules.
Upon moving to a greater VaR Tier, a Member would remain in that
greater VaR Tier for no less than one continuous year from the date of
the move before being eligible to move to a lesser VaR Tier. This does
not in any way preclude a Member from moving to an even greater VaR
Tier (if any) in accordance with the requirements of this proposal.
NSCC believes that allowing a Member's daily volatility component
to exceed its then-current VaR Tier four times over a rolling 12-month
period before the Excess Net Capital requirement would increase
provides some flexibility for Members in the
[[Page 74190]]
event of occasional unexpected market volatility while also protecting
NSCC from the risks of such increased daily volatility. NSCC has
determined that giving a Member 60 calendar days from the date of its
move to a higher VaR Tier to meet its higher required minimum Excess
Net Capital appropriately balances the financial and other costs
associated with requiring the Member to satisfy the higher required
minimum Excess Net Capital with the increased risks posed by the
Member's increased daily volatility. The 60-calendar day period also
recognizes the practical limitations for a Member to be able to
immediately increase its capital level, given that raising additional
capital may require time for the Member to identify additional sources
of capital such as outside investors, negotiate the terms of that
capital, and execute any required legal documentation.
A Member would move to a lesser VaR Tier (if any) when (i) the
Member has remained in its then-current VaR Tier for no less than one
continuous year, (ii) the Member's daily volatility component did not
exceed such lesser VaR Tier on five instances or more over the
preceding 12-month period and (iii) if at any time the Member's daily
volatility component did exceed such lesser VaR Tier on five instances
or more over a rolling 12-month period, the Member has remained in its
then-current VaR Tier for no less than one continuous year from the
date of each such instance.
For example, if a Member's daily volatility component exceeds the
lesser VaR Tier for the fifth time over a rolling 12-month period on
February 1, 2021, then the Member would remain in its then-current VaR
Tier until at least January 31, 2022. If the same Member's daily
volatility component then exceeds the lesser VaR Tier for the sixth
time over a rolling 12-month period on February 15, 2021, then the
Member would remain in its then-current VaR Tier until at least
February 14, 2022. This does not in any way preclude a Member from
moving to an even greater VaR Tier (if any) in accordance with the
requirements of this proposal.
Newly admitted Members would be placed into the applicable middle
VaR Tier in the table above unless NSCC determines, based on
information provided by or concerning the Member, that the Member's
anticipated VaR Tier for its anticipated trading activity would be the
greatest VaR Tier, in which case the Member would be placed into the
greatest VaR Tier. Any such determination would be promptly
communicated to, and discussed with, the Member. A newly admitted
Member would remain in its initial VaR Tier until it moves to a
different VaR Tier in accordance with the requirements of this
proposal.
Based on its historical experience with the daily volatility
components of newly admitted Members, including such Members' own
projected trading activity,\21\ NSCC believes that it would be
appropriate to place newly admitted Members into the applicable middle
VaR Tier in the table above for the first 12 months of membership
unless NSCC has determined that the Member's anticipated VaR Tier based
on its anticipated trading activity would be the greatest VaR Tier.
---------------------------------------------------------------------------
\21\ For example, if the proposed VaR Tiers had been in effect
for the past two years (but newly admitted Members were not
automatically placed in at least the middle VaR Tier), only one U.S.
broker-dealer applicant would have belonged in the lowest VaR Tier
at admittance, but that firm then had trading activity that placed
it in the middle VaR Tier in the first month and the highest VaR
Tier in the second month of membership. See Internal Tiering
Analysis, included as a Confidential Exhibit 3 to the filing.
---------------------------------------------------------------------------
NSCC proposes to move the existing capital requirements for Members
that are Municipal Securities Brokers' Brokers or Municipal Securities
Brokers' Broker sponsored account applicants to the end of Section
1.B.1 of Addendum B with some clarifying changes to improve the
accessibility and transparency of these capital requirements, without
substantive effect.
U.S. Banks and Trust Companies
NSCC proposes to (1) change the measure of capital requirements for
U.S. banks and trust companies from equity capital to common equity
tier 1 capital (``CET1 Capital''),\22\ (2) raise the minimum capital
requirements for U.S. banks and trust companies, and (3) require U.S.
banks and trust companies to be well capitalized (``Well Capitalized'')
as defined in the capital adequacy rules and regulations of the Federal
Deposit Insurance Corporation (``FDIC'').\23\
---------------------------------------------------------------------------
\22\ Under the proposal, CET1 Capital would be defined as an
entity's common equity tier 1 capital, calculated in accordance with
such entity's regulatory and/or statutory requirements.
\23\ See 12 CFR 324.403(b)(1).
---------------------------------------------------------------------------
NSCC proposes to change the measure of capital requirements for
U.S. banks and trust companies from equity capital to CET1 Capital and
raise the minimum capital requirements for U.S. banks and trust
companies in order to align NSCC's capital requirements with banking
regulators' changes to regulatory capital requirements over the past
several years, which have standardized and harmonized the calculation
and measurement of bank capital and leverage throughout the world.\24\
Consistent with these changes by banking regulators, NSCC believes that
the appropriate capital measure for Members that are U.S. banks and
trust companies should be CET1 Capital and that NSCC's capital
requirements for Members should be enhanced in light of these increased
regulatory capital requirements.
---------------------------------------------------------------------------
\24\ Compare, e.g., 12 CFR 324.20(b) (FDIC's definition of CET1
Capital), and Regulation (EU) No 575/2013 of the European Parliament
and of the Council of 26 June 2013 on prudential requirements for
credit institutions and investment firms and amending Regulation
(EU) No 648/2012, Article 26, available at <a href="https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A32013R0575">https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A32013R0575</a> (European
Union's definition of CET1 Capital), with Basel Committee on Banking
Supervision, Basel III Standards, CAP10.6, supra note 5 (Basel III
Standards' definition of CET1 Capital).
---------------------------------------------------------------------------
In addition, requiring U.S. banks and trust companies to be Well
Capitalized ensures that Members are well capitalized while also
allowing adjusted capital to be relative to either the risk-weighted
assets or average total assets of the bank or trust company. NSCC
proposes to have the definition of Well Capitalized expressly tied to
the FDIC's definition of ``well capitalized'' to ensure that the
proposed requirement that U.S. banks and trust companies be Well
Capitalized will keep pace with future changes to banking regulators'
regulatory capital requirements.
Under the proposal, a Member that is a U.S. bank or a U.S. trust
company that is a bank must (1) have and maintain at all times at least
$500 million in CET1 Capital and be Well Capitalized at all times or
(2) have furnished to NSCC a guarantee of its parent bank holding
company respecting the payment of any and all obligations of the
Member, and such parent bank holding company must have and maintain at
all times CET1 Capital of at least $500 million and be Well Capitalized
at all times.
NSCC does not propose to change the existing capital requirements
applicable to a Member that is a U.S. trust company that is not a bank,
although NSCC is proposing to make some clarifying and conforming
language changes to improve the accessibility and transparency of these
capital requirements, without substantive effect.
NSCC treats U.S. trust companies that are banks and non-banks
differently because they present different risks based on the attendant
risks of their business activities, with trust companies engaging in
banking activities (e.g., receiving deposits and making loans) being
subject to greater risks than trust companies that limit their
activities to trust activities (e.g., acting as a trustee,
[[Page 74191]]
other fiduciary or transfer agent/registrar).
Non-U.S. Broker-Dealers and Banks
NSCC proposes to impose a minimum capital requirement of $25
million in total equity capital for Members that are non-U.S. broker-
dealers.
NSCC proposes to require a Member that is a non-U.S. bank
(including a U.S. branch or agency) to (1) (A) have and maintain at all
times at least $500 million in CET1 Capital and comply at all times
with the minimum capital requirements (including, but not limited to,
any capital conservation buffer, countercyclical buffer, and any D-SIB
or G-SIB buffer, if applicable) and capital ratios required by its home
country regulator, or, if greater, with such minimum capital
requirements or capital ratios standards promulgated by the Basel
Committee on Banking Supervision,\25\ (B) provide an attestation for
itself, its parent bank and its parent bank holding company (as
applicable) detailing the minimum capital requirements (including, but
not limited to, any capital conservation buffer, countercyclical
buffer, and any D-SIB or G-SIB buffer, if applicable) and capital
ratios required by their home country regulator, (C) provide, no less
than annually and upon request by NSCC, an attestation for the Member,
its parent bank and its parent bank holding company (as applicable)
detailing the minimum capital requirements (including, but not limited
to, any capital conservation buffer, countercyclical buffer, and any D-
SIB or G-SIB buffer, if applicable) and capital ratios required by
their home country regulator and (D) notify NSCC: (i) Within two
Business Days of any of their capital requirements (including, but not
limited to, any capital conservation buffer, countercyclical buffer,
and any D-SIB or G-SIB buffer, if applicable) or capital ratios falling
below any minimum required by their home country regulator; and (ii)
within 15 calendar days of any such minimum capital requirement or
capital ratio changing; or (2) (A) have furnished to NSCC a guarantee
of its parent bank holding company respecting the payment of any and
all obligations of the Member, (B) have such parent bank holding
company maintain at all times CET1 Capital of at least $500 million and
comply at all times with the minimum capital requirements (including,
but not limited to, any capital conservation buffer, countercyclical
buffer, and any D-SIB or G-SIB buffer, if applicable) and capital
ratios required by its home country regulator, or, if greater, with
such minimum capital requirements or capital ratios standards
promulgated by the Basel Committee on Banking Supervision,\26\ (C)
provide an attestation for itself, its parent bank and its parent bank
holding company (as applicable) detailing the minimum capital
requirements (including, but not limited to, any capital conservation
buffer, countercyclical buffer, and any D-SIB or G-SIB buffer, if
applicable) and capital ratios required by their home country
regulator, (D) provide, no less than annually and upon request by NSCC,
an attestation for the Member, its parent bank and its parent bank
holding company (as applicable) detailing the minimum capital
requirements (including, but not limited to, any capital conservation
buffer, countercyclical buffer, and any D-SIB or G-SIB buffer, if
applicable) and capital ratios required by their home country regulator
and (E) notify NSCC: (i) Within two Business Days of any of their
capital requirements (including, but not limited to, any capital
conservation buffer, countercyclical buffer, and any D-SIB or G-SIB
buffer, if applicable) or capital ratios falling below any minimum
required by their home country regulator, and (ii) within 15 calendar
days of any such minimum capital requirement or capital ratio changing.
---------------------------------------------------------------------------
\25\ See Basel Committee on Banking Supervision, Basel III
Standards, supra note 5.
\26\ See id.
---------------------------------------------------------------------------
As described above, pursuant to Addendum O (Admission of Non-U.S.
Entities as Direct NSCC Members),\27\ the current minimum capital
requirements for a Member, Mutual Fund/Insurance Services Member, Fund
Member or Insurance Carrier/Retirement Services Member that does not
prepare its financial statements in accordance with U.S. GAAP is
subject to a multiplier that requires such member to have capital
between 1\1/2\ to 7 times the otherwise-applicable capital requirement.
---------------------------------------------------------------------------
\27\ Addendum O applies to all entities that are organized in a
country other than the U.S. and that are not otherwise subject to
U.S. federal or state regulation (``non-U.S. entities''), other than
insurance companies.
---------------------------------------------------------------------------
The multiplier was designed to account for the less transparent
nature of accounting standards other than U.S. GAAP. However,
accounting standards have converged over the years (namely
International Financial Reporting Standards (``IFRS'') and U.S.
GAAP).\28\ As such, NSCC believes the multiplier is no longer necessary
and its retirement would be a welcomed simplification for both NSCC and
its members.
---------------------------------------------------------------------------
\28\ The convergence between IFRS and U.S. GAAP began with the
2002 Norwalk Agreement. (Available at <a href="https://www.ifrs.org/content/dam/ifrs/around-the-world/mous/norwalk-agreement-2002.pdf">https://www.ifrs.org/content/dam/ifrs/around-the-world/mous/norwalk-agreement-2002.pdf</a>.) Under
that agreement, the Financial Accounting Standards Board (``FASB'')
and the International Accounting Standards Board (``IASB'') signed a
memorandum of understanding on the convergence of accounting
standards. Between 2010 and 2013, FASB and IASB published several
quarterly progress reports on their work to improve and achieve
convergence of U.S. GAAP and IFRS. In 2013, the International
Financial Reporting Standards Foundation established the Accounting
Standards Advisory Forum (``ASAF'') to improve cooperation among
worldwide standard setters and advise the IASB as it developed IFRS.
(See <a href="https://www.ifrs.org/groups/accounting-standards-advisory-forum/">https://www.ifrs.org/groups/accounting-standards-advisory-forum/</a>.) FASB was selected as one of the ASAF's twelve members.
FASB's membership on the ASAF helps represent U.S. interests in the
IASB's standard-setting process and continues the process of
improving and converging U.S. GAAP and IFRS. In February 2013, the
Journal of Accountancy published its view of the success of the
convergence project citing converged or partially converged
standards, including business combinations, discontinued operations,
fair value measurement, and share-base payments. (Available at
<a href="https://www.journalofaccountancy.com/issues/2013/feb/20126984.html">https://www.journalofaccountancy.com/issues/2013/feb/20126984.html</a>.)
Subsequent to the publication, IASB and FASB converge on revenue
recognition. While IASB and FASB have not achieved full convergence,
NSCC believes the accounting rules are sufficiently aligned such
that the multiplier is no longer required.
---------------------------------------------------------------------------
Accordingly, NSCC proposes to delete the language in Addendum O
providing that the minimum capital requirements for a Member, Mutual
Fund/Insurance Services Member, Fund Member or Insurance Carrier/
Retirement Services Member that does not prepare its financial
statements in accordance with U.S. GAAP is subject to a multiplier that
requires such members to have capital between 1\1/2\ to 7 times the
otherwise-applicable capital requirement. Instead, a Member, Mutual
Fund/Insurance Services Member, Fund Member or Insurance Carrier/
Retirement Services Member would be required to meet the minimum
capital requirements provided in Addendum B for the applicable
membership.
As described above, NSCC also proposes that non-U.S. banks be
compliant with the minimum capital requirements and capital ratios in
their home jurisdiction. Given the difficulty in knowing and monitoring
compliance with various regulatory minimums for various jurisdictions,
these Members would be required to provide NSCC with periodic
attestations relating to the minimum capital requirements and capital
ratios for their home jurisdiction.
NSCC also proposes to make some clarifying language changes to
Addendum O to replace references to undefined capitalized terms and
improve the accessibility of Addendum O, without substantive effect.
[[Page 74192]]
Other Types of Members
NSCC also proposes that (1) a Member that is (A) a national
securities exchange registered under the Exchange Act and/or (B) a non-
U.S. securities exchange or multilateral trading facility, must have
and maintain at all times at least $100 million in equity capital, (2)
a Member that is a broker-dealer that is acting as an Index Receipt
Agent must have and maintain at all times minimum Excess Net Capital of
$100 million, and (3) for a type of applicant or Member that is not
otherwise addressed above, (A) such applicant or Member must maintain
compliance with its home country regulator's minimum financial
requirements at all times and (B) NSCC may, based on information
provided by or concerning an applicant or Member, also assign minimum
financial requirements to such applicant or Member based on how closely
it resembles another membership type and its risk profile. Any such
assigned minimum financial requirements would be promptly communicated
to, and discussed with, the applicant or Member.
In the case of Index Receipt Agents, the higher capital requirement
for this subset of Members is being proposed in order to reflect the
systemic risk presented by the potential failure of an Index Receipt
Agent. The failure of an Index Receipt Agent could present systemic
risk because such failure could potentially result in disruptions at
the exchange-traded funds (``ETFs'') for which the Index Receipt Agent
acts. As a result of this systemic risk, Members acting as Index
Receipt Agents require a moderately sized capital base to support this
business function. Similarly, NSCC proposes to create a standard
capital requirement for Members that are securities exchanges due to
the systemic importance of these Members and the need to hold these
Members to a consistent, high standard to ensure that they have
sufficient capital to fulfill their systemically important role.
Limited Members
NSCC proposes that a Mutual Fund/Insurance Services Member, Fund
Member or Settling Bank Only Member that is a U.S. bank or trust
company that, in accordance with such entity's regulatory and/or
statutory requirements, calculates a Tier 1 RBC Ratio must have at all
times a Tier 1 RBC Ratio equal to or greater than the Tier 1 RBC Ratio
that would be required for such entity to be Well Capitalized. As
discussed above, NSCC proposes to have the definition of Well
Capitalized expressly tied to the FDIC's definition of ``well
capitalized'' to ensure that the proposed requirement that U.S. banks
and trust companies be Well Capitalized will keep pace with future
changes to banking regulators' regulatory capital requirements.
Similarly, NSCC proposes to add a new defined term of ``Tier 1 RBC
Ratio'' to Rule 1 in order to replace a reference to an undefined term
in the Rules with its intended meaning. Under the proposal, Tier 1 RBC
Ratio would be defined as the ratio of an entity's tier 1 capital to
its total-risk weighted assets, calculated in accordance with such
entity's regulatory and/or statutory requirements.
NSCC proposes to clarify existing language providing that a Mutual
Fund/Insurance Services Member or Fund Member that is a U.S. trust
company that does not calculate a Tier 1 RBC Ratio must have at least
$2 million in equity capital, without substantive effect. Relatedly,
NSCC proposes to revise the definition of ``RBC Ratio,'' which is used
in the capital requirements for Mutual Fund/Insurance Services Members,
Fund Members and Insurance Carrier/Retirement Services Members, in the
list of defined terms in Rule 1 for clarity in order to replace a
reference to an undefined capitalized term with its intended meaning
and to remove unnecessary limitations on the types of entities and
legal requirements to which the term RBC Ratio applies.
For a Limited Member that is a non-U.S. entity not described in the
section of Addendum B that applies to such type of Limited Member, such
entity would be required to satisfy such minimum standards of financial
responsibility as determined in accordance with such section of
Addendum B.
Other Proposed Changes to Addendum B
Introduction and General Changes
NSCC proposes to make it clear throughout Addendum B that following
an applicant's admission to membership it is required to continue
meeting the qualifications, financial responsibility, operational
capability and business history requirements as applicable to its
membership type.\29\ Specifically, NSCC proposes to include references
throughout Addendum B clarifying that such requirements apply to both
applicants and members. NSCC also proposes to revise a sentence in the
introduction and Sections 1.B, 2.B, 3.B and 4.B of Addendum B to
correct language limited to applicant financial responsibility
requirements.
---------------------------------------------------------------------------
\29\ See Rule 2B (Ongoing Membership Requirements and
Monitoring), Section 1 (Requirements), supra note 3.
---------------------------------------------------------------------------
NSCC also proposes to add the word ``requirements'' in one place in
the introduction to improve readability.
NSCC proposes to clarify, without substantive effect, the existing
language in Sections 2.B and 3.B of Addendum B that if a member is not
of a type otherwise addressed in such section, it will be required to
satisfy such minimum standards of financial responsibility as
determined by NSCC. Any such assigned minimum financial requirements
would be promptly communicated to, and discussed with, the member.
NSCC also proposes to add a sentence to the end of Sections 5.B and
6.B of Addendum B that any assigned minimum standards of financial
responsibility for Municipal Comparison Only Members and Data Services
Only Members, respectively, would be promptly communicated to, and
discussed with, such members.
At the end of Sections 1.B, 2.B and 3.B of Addendum B, NSCC
proposes to make explicit that, notwithstanding anything to the
contrary in such section, an applicant or member must maintain
compliance with its home country regulator's minimum financial
requirements at all times.
Section 1
NSCC is proposing to revise the headings in Section 1.B referring
to a Member's type of entity to read ``U.S. Broker-Dealers,'' ``U.S.
Banks and Trust Companies,'' ``Non-U.S. Broker-Dealers and Banks,''
``Securities Exchanges,'' ``Index Receipt Agents'' and ``Others,'' in
conformity with the above-described changes to Member financial
responsibility requirements.
Section 2
NSCC proposes to clarify and simplify the language describing the
capital requirement for a Mutual Fund/Insurance Services Member that is
a Registered Broker-Dealer or an Insurance Company, without substantive
effect.
NSCC proposes to revise the heading ``Banks and trust companies''
in Section 2.B to read ``U.S. Banks and Trust Companies'' in conformity
with the same change made in Section 1.B.
Section 3
NSCC proposes to clarify and simplify the language describing the
capital requirement for a Fund Member that is a Registered Broker-
Dealer, investment company, investment adviser or
[[Page 74193]]
Insurance Company, without substantive effect.
NSCC proposes to revise the heading ``Banks or trust companies'' in
Section 3.B to read ``U.S. Banks and Trust Companies'' in conformity
with the same changes made in Sections 1.B and 2.B.
Section 4
NSCC proposes to clarify and simplify the language describing the
capital requirement for an Insurance Carrier/Retirement Services
Member, without substantive effect.
Sections 5 through 12
As noted above, NSCC proposes to make it clear in Sections 5
through 12 of Addendum B that following an applicant's admission to
membership it is required to continue meeting the qualifications,
financial responsibility, operational capability and business history
requirements as applicable to its membership type.
B. Changes to NSCC's Watch List and Enhanced Surveillance List
NSCC proposes to redefine the Watch List and eliminate the separate
enhanced surveillance list and instead implement a new Watch List that
consists of a relatively smaller group of members that pose heightened
risk to NSCC and its members.
NSCC believes that the current system of having both a Watch List
and an enhanced surveillance list (which include some of the same
members) has confused various NSCC stakeholders, while the proposed
approach, as NSCC understands from its experience, would be more
consistent with industry practices and understanding of a ``Watch
List.''
The new Watch List would include Members with a CRRM rating of 6 or
7, as well as members that are deemed by NSCC to pose a heightened risk
to it and its members. The separate enhanced surveillance list would be
merged into the new Watch List and references to the separate enhanced
surveillance list would be deleted from the Rules.
In sum, the new Watch List would consist of members on the existing
enhanced surveillance list, Members with a CRRM rating of 6 or 7, and
any other members that are deemed by NSCC to pose a heightened risk to
it and its members.
The proposed change will mean that Members with a CRRM rating of 5
would no longer automatically be included on the Watch List. Members
with a CRRM rating of 5 represent the largest single CRRM rating
category, but NSCC does not believe all such Members present heightened
credit concerns.\30\ Nevertheless, NSCC would continue to have the
authority to place a Member on the new Watch List if it is deemed to
pose a heightened risk to NSCC and its Members and/or to downgrade the
CRRM rating of a Member.
---------------------------------------------------------------------------
\30\ The majority of Members with a CRRM rating of 5 are either
rated ``investment grade'' by external rating agencies or, in the
absence of external ratings, NSCC believes are equivalent to
investment grade, as many of these Members are primary dealers and
large foreign banks. A firm with a rating of ``investment grade'' is
understood to be better able to make its payment obligations
compared to a firm with a lesser rating, such as a rating of
``speculative.'' As such, among the total population, firms with
investment grade ratings are generally considered good credit risk
along a credit risk scale.
---------------------------------------------------------------------------
NSCC also proposes to clarify in Section 4(f) of Rule 2B that
members on the Watch List are reported to NSCC's management committees
and regularly reviewed by NSCC's senior management.
C. Certain Other Clarification Changes
In connection with the above-described changes to the Rules to
enhance NSCC's capital requirements for members and redefine the Watch
List and eliminate the enhanced surveillance list, NSCC proposes to
make certain other clarification changes in order to improve the
accessibility and transparency of the Rules, as follows:
NSCC proposes to revise Section 4(g) of Rule 2B to clarify the
relationship between NSCC and a parent bank holding company of a Member
that has guaranteed the obligations of the Member in accordance with
Addendum B, and to delete the unnecessary word ``affiliated'' when
referring to a material banking subsidiary of such parent bank holding
company.
NSCC proposes to clarify Rule 7, Section 4 \31\ to state that a
Member desiring to become an Index Receipt Agent shall first submit an
application to be reviewed by NSCC.
---------------------------------------------------------------------------
\31\ Rule 7 (Comparison and Trade Recording Operation), Section
4 (Index Receipt Agent), supra note 3.
---------------------------------------------------------------------------
NSCC also proposes to revise Section 1 of Rule 46 \32\ to clarify
the relationship between NSCC and a parent bank holding company of a
Member that has guaranteed the obligations of the Member in accordance
with Addendum B.
---------------------------------------------------------------------------
\32\ Rule 46 (Restrictions on Access to Services), Section 1,
supra note 3.
---------------------------------------------------------------------------
Member Outreach
Beginning in June 2019, NSCC conducted outreach to various Members
in order to provide them with advance notice of the proposed
enhancements to NSCC's capital requirements, the proposed redefinition
of the Watch List, and the proposed elimination of the enhanced
surveillance list. NSCC has been in communication with all Members
whose current capital levels are either below the proposed minimum
capital requirements or only slightly above the proposed requirements.
Any such Members have been informed of the new requirement that would
be in effect 12 months after approval of the proposed changes.
Following approval, NSCC again would contact any Members that are
either below or only slightly above the new minimum requirement to
remind them of their new capital requirement and the 12-month grace
period in which to come into compliance with the new requirement.
NSCC has received some written feedback from Members on the
proposed enhancements to NSCC's capital requirements for certain
Members, which are discussed in Item 4 below. The Commission will be
notified of any additional written comments received.
NSCC has not conducted outreach to members providing them with
advance notice of the proposed clarification changes to the Rules.
Implementation Timeframe
Pending Commission approval, NSCC would implement the proposed
changes to enhance its capital requirements for members one year after
the Commission's approval of this proposed rule change. During that
one-year period, NSCC would periodically provide Members with estimates
of their capital requirements, based on the approved changes, with more
outreach expected for Members impacted by the changes. NSCC would
inform a Member that is a U.S. broker-dealer (``BD Member'') if it
exceeded its then-current VaR Tier, which may lead to the BD Member
moving into a higher VaR Tier and, thus, being subject to a higher
capital requirement. Same as the proposed, ongoing practice post-
implementation, NSCC would provide the Member with a grace period of 60
days from the date of implementation to comply with the higher
requirement.
The deferred implementation for all members and the estimated
capital requirements for Members are designed to give members the
opportunity to assess the impact of their enhanced capital requirements
on their business profile and make any changes that they deem necessary
to lower their capital requirement. All members would be advised of the
implementation date of these proposed changes through issuance of an
NSCC Important Notice,
[[Page 74194]]
posted to its website. NSCC also would inform firms applying for
participation of the new capital requirements. Members and applicants
should note that the methodology/processes used to set their initial
capital requirements would be the same at implementation of the
proposed changes as it would be on an ongoing basis.
NSCC expects to implement the proposed changes to redefine the
Watch List and eliminate the enhanced surveillance list, as well as the
clarification changes to the Rules, within 90 days of Commission
approval. All members would be advised of such implementation through
issuance of an NSCC Important Notice, posted to its website.
2. Statutory Basis
NSCC believes that the proposed rule change is consistent with the
requirements of the Exchange Act, and the rules and regulations
thereunder applicable to a registered clearing agency. Specifically,
NSCC believes that the proposed rule change is consistent with Section
17A(b)(3)(F) of the Exchange Act \33\ and Rules 17Ad-22(b)(7),
(e)(4)(i), (e)(18) and (e)(19),\34\ each as promulgated under the
Exchange Act, for the reasons described below.
---------------------------------------------------------------------------
\33\ 15 U.S.C. 78q-1(b)(3)(F).
\34\ 17 CFR 240.17Ad-22(b)(7), (e)(4)(i), (e)(18) and (e)(19).
---------------------------------------------------------------------------
Section 17A(b)(3)(F) of the Exchange Act requires, in part, that
the Rules be designed to promote the prompt and accurate clearance and
settlement of securities transactions.\35\ As described above, the
proposed rule changes would (1) enhance NSCC's capital requirements for
members, (2) redefine the Watch List and eliminate the enhanced
surveillance list, and (3) make clarification changes to the Rules.
NSCC believes that enhancing its capital requirements for members,
including continuing to recognize and account for varying Members and
memberships, would help ensure that members maintain sufficient capital
to absorb losses arising out of their clearance and settlement
activities at NSCC and otherwise, and would help NSCC more effectively
manage and mitigate the credit risks posed by its members, which would
in turn help NSCC be better able to withstand such credit risks and
continue to meet its clearance and settlement obligations to its
members. Similarly, NSCC believes that redefining the Watch List and
eliminating the enhanced surveillance list, as described above, would
help NSCC better allocate its resources for monitoring the credit risks
posed by its members, which would in turn help NSCC more effectively
manage and mitigate such credit risks so that NSCC is better able to
withstand such credit risks and continue to meet its clearance and
settlement obligations to its members. NSCC believes that making
clarification changes to the Rules would help ensure that the Rules
remain clear and accurate, which would in turn help facilitate members'
understanding of the Rules and provide members with increased
predictability and certainty regarding their rights and obligations
with respect to NSCC's clearance and settlement activities. Therefore,
NSCC believes that these proposed rule changes would promote the prompt
and accurate clearance and settlement of securities transactions,
consistent with Section 17A(b)(3)(F) of the Exchange Act.
---------------------------------------------------------------------------
\35\ 15 U.S.C. 78q-1(b)(3)(F).
---------------------------------------------------------------------------
Rule 17Ad-22(b)(7) under the Exchange Act requires, in part, that
NSCC establish, implement, maintain and enforce written policies and
procedures reasonably designed to provide a person that maintains net
capital equal to or greater than $50 million with the ability to obtain
membership at NSCC, provided that NSCC may provide for a higher net
capital requirement as a condition for membership if it demonstrates to
the Commission that such a requirement is necessary to mitigate risks
that could not otherwise be effectively managed by other measures.\36\
As described above, NSCC proposes to enhance its capital requirements
for members. NSCC believes that these proposed rule changes, while
referencing capital measures other than net capital, would help ensure
that members maintain sufficient capital to absorb losses arising out
of their clearance and settlement activities at NSCC and otherwise, and
would help NSCC more effectively manage and mitigate the credit risks
posed by its members while providing fair and open access to membership
at NSCC. NSCC believes that the proposed changes would utilize capital
measures that are appropriately matched to the regulatory and other
capital requirements applicable to the types of entities that apply for
and have membership at NSCC, which would in turn help facilitate
members' understanding of and compliance with NSCC's enhanced capital
requirements. NSCC also believes that these other capital measures are
more appropriate measures of the capital available to members to absorb
losses arising out of their clearance and settlement activities at NSCC
than simply net capital because a member's net capital alone may not be
available to absorb losses arising out of such activities. Thus,
relying on measures beyond net capital would help members more
effectively understand and manage the resources available to mitigate
the credit risks they pose to NSCC. In the case of those proposed rule
changes that may require members such as U.S. banks and trust
companies, non-U.S. banks, national securities exchanges, non-U.S.
securities exchanges or multilateral trading facilities, or Index
Receipt Agents to maintain capital greater than $50 million, NSCC
believes that enhanced capital requirements for such members are
necessary and appropriate in light of the regulatory and other capital
requirements that such members face and the credit risks they pose to
NSCC, which would help NSCC more effectively manage and mitigate such
credit risks. Therefore, NSCC believes that the enhanced capital
requirements for members are necessary to mitigate risks that could not
otherwise be effectively managed by other measures, consistent with
Rule 17Ad-22(b)(7) under the Exchange Act.
---------------------------------------------------------------------------
\36\ 17 CFR 240.17Ad-22(b)(7).
---------------------------------------------------------------------------
Rule 17Ad-22(e)(4)(i) under the Exchange Act requires that NSCC
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.\37\ As described above, NSCC proposes to enhance its
capital requirements for members, redefine the Watch List, and
eliminate the enhanced surveillance list. NSCC believes that enhancing
its capital requirements for members would help ensure that members
maintain sufficient capital to absorb losses arising out of their
clearance and settlement activities at NSCC and otherwise, which would
in turn help NSCC more effectively manage and mitigate its credit
exposures to its members and thereby help enhance the ability of NSCC's
financial resources to cover fully NSCC's credit exposures to members
with a high degree of confidence. NSCC believes that redefining the
Watch List and eliminating the enhanced surveillance list would help
NSCC better allocate its resources for monitoring its credit exposures
to
[[Page 74195]]
members. By helping to better allocate resources, the proposal would in
turn help NSCC more effectively manage and mitigate its credit
exposures to its members, thereby helping to enhance the ability of
NSCC's financial resources to cover fully NSCC's credit exposures to
members with a high degree of confidence. Therefore, NSCC believes that
its proposal to enhance its capital requirements for members, redefine
the Watch List, and eliminate the enhanced surveillance list is
consistent with Rule 17Ad-22(e)(4)(i) under the Exchange Act.
---------------------------------------------------------------------------
\37\ 17 CFR 240.17Ad-22(e)(4)(i).
---------------------------------------------------------------------------
Rule 17Ad-22(e)(18) under the Exchange Act requires that NSCC
establish, implement, maintain and enforce written policies and
procedures reasonably designed to establish objective, risk-based, and
publicly disclosed criteria for participation, which permit fair and
open access by direct and, where relevant, indirect participants and
other financial market utilities, require participants to have
sufficient financial resources and robust operational capacity to meet
obligations arising from participation in the clearing agency, and
monitor compliance with such participation requirements on an ongoing
basis.\38\ As described above, NSCC proposes to enhance its capital
requirements for members, redefine the Watch List, and eliminate the
enhanced surveillance list. NSCC's proposed capital requirements would
utilize objective measurements of member capital that would be fully
disclosed in the Rules. The proposed capital requirements also would be
risk-based and allow for fair and open access in that they would be
based on the credit risks imposed by the member, such as its membership
type, type of entity (including whether it is a non-U.S. entity),
whether it self-clears or clears for others, and its VaR Tier.
Accordingly, NSCC's proposed capital requirements would establish
objective, risk-based and publicly disclosed criteria for membership,
which would permit fair and open access by members. The proposed
capital requirements also would ensure that members maintain sufficient
capital to absorb losses arising out of their clearance and settlement
activities at NSCC and otherwise, which would help ensure that they
have sufficient financial resources to meet the obligations arising
from their membership at NSCC. NSCC's proposed redefinition of the
Watch List and the elimination of the enhanced surveillance list would
help NSCC better allocate its resources for monitoring the credit risks
posed by its members, including their ongoing compliance with NSCC's
proposed enhancements to its capital requirements. Therefore, NSCC
believes that its proposal to enhance its capital requirements for
members, redefine the Watch List, and eliminate the enhanced
surveillance list is consistent with Rule 17Ad-22(e)(18) under the
Exchange Act.
---------------------------------------------------------------------------
\38\ 17 CFR 240.17Ad-22(e)(18).
---------------------------------------------------------------------------
Rule 17Ad-22(e)(19) under the Exchange Act requires that NSCC
establish, implement, maintain and enforce written policies and
procedures reasonably designed to identify, monitor, and manage the
material risks to NSCC arising from arrangements in which firms that
are indirect participants in NSCC rely on the services provided by
direct participants to access NSCC's payment, clearing, or settlement
facilities.\39\ As described above, NSCC proposes to enhance its
capital requirements for members, including U.S. broker-dealer Members
that clear transactions for others. More specifically, the proposal
would subject U.S. broker-dealer Members that clear transactions for
others to heightened capital requirements versus U.S. broker-dealer
Members that clear transactions only for themselves. NSCC believes that
a broker-dealer Member that clears transactions for others (i.e., a
direct participant) can present additional risk because it could clear
for a large number of correspondent clients (i.e., indirect
participants), which would expand the scope and volume of risk
presented to NSCC and the direct participant itself when the indirect
participant's trades are submitted to NSCC for settlement via the
direct participant. The indirect nature of this risk exposure also
increases risk to NSCC as there is generally less transparency into the
indirect activity versus if the direct participant generated all of the
activity itself. By requiring a U.S. broker-dealer Member that clears
transactions for others to be subject to heightened capital
requirements versus a U.S. broker-dealer Member that clears
transactions only for itself, the proposal would help ensure that NSCC
is able to better manage the material risks to NSCC arising from
arrangements in which a Member clears transactions for others through
NSCC. Therefore, NSCC believes that its proposal to enhance its capital
requirements for members is consistent with Rule 17Ad-22(e)(19) under
the Exchange Act.
---------------------------------------------------------------------------
\39\ 17 CFR 240.17Ad-22(e)(19).
---------------------------------------------------------------------------
(B) Clearing Agency's Statement on Burden on Competition
NSCC believes that the proposed rule change to enhance its capital
requirements for BD Members could have an impact upon competition
because some BD Members could be required to maintain capital in excess
of their current capital levels. That impact could impose a burden on
competition on some of those BD Members because they may bear higher
costs to raise capital in order to comply with the enhanced capital
requirements.
Consistent with that belief, NSCC received three written comments
from three BD Members arguing that the proposed enhancements to the
capital requirements for BD Members (``Proposed BD Requirements'')
could negatively affect smaller BD Members.\40\
---------------------------------------------------------------------------
\40\ Letter from Bonnie K. Wachtel, Chief Executive Officer, and
Wendie L. Wachtel, Chief Operating Officer, Wachtel & Co., Inc.
(September 16, 2019) (``Wachtel Letter''); Email from Samuel F. Lek,
Lek Securities Corporation (September 17, 2019) (``Lek Email'');
Email from William L. Walker, Chief Operating Officer, Wilson-Davis
& Co., Inc. (October 31, 2019) (``Wilson-Davis Email''). Copies of
the comments received have been included as Exhibit 2 to the filing,
pursuant to the requirements of Form 19b-4 and the General
Instructions for Form 19b-4, available at <a href="https://www.sec.gov/about/forms/form19b-4.pdf">https://www.sec.gov/about/forms/form19b-4.pdf</a>.
---------------------------------------------------------------------------
Two of the commenters argue that the Proposed BD Requirements will
unfairly discriminate against small BD Members in favor of the largest
BD Members,\41\ with one of the commenters further arguing that mid-
sized BD Member firms also will be discriminated against.\42\
Similarly, a third commenter argues that, in addition to affecting
small BD Members, the Proposed BD Requirements will drastically affect
other industry participants and small companies that do business with
and that rely on such BD Members to raise capital.\43\
---------------------------------------------------------------------------
\41\ Wachtel Letter, supra note 40; Lek Email, supra note 40.
\42\ Wachtel Letter, supra note 40.
\43\ Wilson-Davis Email, supra note 40.
---------------------------------------------------------------------------
Two of the commenters argue that the Proposed BD Requirements will
create barriers to entry.\44\ Moreover, one of those commenters argues
that the barriers to entry will cause further industry
consolidation,\45\ while the other argues that the barriers are
anticompetitive and, when considered with the argued effect on smaller
broker-dealers, at odds with the goals of the Exchange Act.\46\
---------------------------------------------------------------------------
\44\ Wachtel Letter, supra note 40; Lek Email, supra note 40.
\45\ Wachtel Letter, supra note 40.
\46\ Lek Email, supra note 40.
---------------------------------------------------------------------------
Regarding the proposed VaR Tiers for BD Members, one commenter
suggests that the proposed tiering scale should
[[Page 74196]]
not end at $5 million Excess Net Capital for a self-clearing BD Member
with a daily volatility component of more than $500,000 for its Net
Unsettled Positions; rather, the scale should continue
indefinitely.\47\ Meanwhile, another commenter suggests that the
proposed $10 million in Excess Net Capital for a BD Member that clears
for others is not necessary to address the risk presented by such BD
Member because its required margin will be greater than $500,000 for
its Net Unsettled Positions.\48\ That same commenter also argues that
the VaR Tiers are extremely low, which is an effort to target smaller
BD Members and ignores the greater risk presented by larger BD
Members.\49\
---------------------------------------------------------------------------
\47\ Wachtel Letter, supra note 40.
\48\ Lek Email, supra note 40.
\49\ Id.
---------------------------------------------------------------------------
NSCC values each of its BD Members and does not wish to create a
competitive burden on any of them or any of their clients. The Proposed
BD Requirements were not designed to discriminate against any BD
Members (small, medium, or large), create a barrier to NSCC membership,
or force any BD Member to clear through another financial institution
or exit the business completely. Rather, as discussed above and below,
the Proposed BD Requirements were designed and tailored to help address
the specific risks presented by BD Members within the current industry
environment.
Nevertheless, NSCC fully appreciates that the Proposed BD
Requirements may result in a burden on competition for some BD Members
that would need to raise or keep more capital on hand in order to
comply with the new requirements, although NSCC does not believe that
any such burden on competition would be significant. In any event, to
the extent the Proposed BD Requirements would be a burden on
competition, NSCC believes that the burden would be necessary and
appropriate in furtherance of the purposes of the Exchange Act, as
permitted by Section 17A(b)(3)(I) thereunder.\50\
---------------------------------------------------------------------------
\50\ 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------
NSCC believes the Proposed BD Requirements are necessary because,
in short, the current requirements are outdated. As noted above, the
current minimum capital requirements for members have not been adjusted
in over 20 years. Meanwhile, there have been significant changes to the
industry (e.g., market structure, technology, and regulatory
environment) within which NSCC and all its members operate, exposing
NSCC and its members to more and different risks than 20 years ago.
There also have been significant membership changes over the past
20 years. Numerous mergers, acquisitions, and new market entrants have
created a diverse NSCC membership that has expanded the credit-risk
profiles that NSCC must manage. For example, NSCC has seen an increase
in less capitalized market participants focusing on niche parts of the
market with innovative new business models.
Additionally, as mentioned above, trading activity and market
volatility, each of which present risk to NSCC, ballooned over the
years.\51\ While NSCC does collect margin from its members to help
address these types of risk, it is imperative that NSCC ensure that its
members have sufficient capital to sustain unexpected and/or sustained
increases in margin requirements. Although the above factors do not
directly require NSCC to increase capital requirements for its
membership (e.g., there is no specific regulation or formula that
prescribes a set capital requirement for members of a CCP such as
NSCC), the overarching and collective focus of the regulatory changes
noted above, in light of the many heightened risks to the financial
industry, has been to increase the stability of the financial markets
in order to reduce systemic risk. As a self-regulatory organization, a
SIFMU, and being exposed to the new and increased risks over the past
20 years, NSCC has a responsibility to do the same. Enhancing its
capital requirements helps meet that responsibility and improve NSCC's
credit risk management.
---------------------------------------------------------------------------
\51\ See supra note 9.
---------------------------------------------------------------------------
Moreover, stress testing has also highlighted that BD Members with
smaller capital bases are exposed to the risk of losses exceeding their
current Excess Net Capital requirements under a stressed scenario.\52\
There also has been heightened focus on legal, operational, and cyber
risk, given the devastating impact that they could have today. In the
case of legal risk, members can and do face legal exposures that exceed
their required Excess Net Capital.\53\ In the case of operational risk,
unexpected operational events could expose NSCC to an amount in excess
of a firm's required Excess Net Capital. In the case of cyber risk,
cyber-attacks have the potential to inflict significant losses that
could exceed the current minimum capital requirements.
---------------------------------------------------------------------------
\52\ See Stress Testing Analysis, included as a Confidential
Exhibit 3 to the filing.
\53\ See Commission v. Alpine Sec. Corp., 982 F.3d 68 (2d Cir.
2020) (upholding $12 million civil penalty against clearing broker-
dealer).
---------------------------------------------------------------------------
Appreciation of these greater risks have manifested into new
regulatory requirements for certain industry participants,\54\
including NSCC, requiring NSCC to maintain greater capital amounts and
deploy enhanced risk management tools.\55\ As to which BD Members are
arguably ``riskier'' in today's environment, NSCC's internal stress
testing analysis \56\ highlights that BD Members with smaller capital
bases are more likely to experience a loss that would exceed their
current Excess Net Capital requirements,\57\ countering the commenter's
argument that larger BD Members are riskier.\58\
---------------------------------------------------------------------------
\54\ See, e.g., Basel Committee on Banking Supervision, Basel
III Standards, supra note 5; Financial Stability Board, 2020 list of
G-SIBs, supra note 4; U.S. Department of the Treasury, Designations,
Financial Market Utility Designations, supra note 7.
\55\ See, e.g., CCAS, supra note 10.
\56\ See supra note 52.
\57\ See Letter from Daniel McElligott, Executive Director,
DTCC, to Regional Firms Council (October 24, 2019), included as a
Confidential Exhibit 3 to the filing.
\58\ Lek Email, supra note 40.
---------------------------------------------------------------------------
Therefore, NSCC believes the Proposed BD Requirements are necessary
in furtherance of the purposes of the Exchange Act, as permitted by
Section 17A(b)(3)(I) thereunder,\59\ as the proposed changes would help
ensure that all BD Members maintain an amount of capital that is more
commensurate with the current industry environment and the risks it
presents.
---------------------------------------------------------------------------
\59\ 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------
NSCC believes the Proposed BD Requirements are appropriate for a
variety of reasons. First, the new requirements are tailored to better
reflect the volatility risk presented by BD Members. Currently, the
minimum capital requirement for BD Members is simply an amount of
Excess Net Capital based on membership type (i.e., a $500,000 Excess
Net Capital requirement for those that self-clear and a $1 million
Excess Net Capital requirement for those that clear for others),
without considering any other risks. As described above, NSCC would not
only continue to consider membership type, but it also proposes to use
the daily volatility component of the BD Member's own Net Unsettled
Positions (i.e., a measurement of the risk that the BD Member's Net
Unsettled Positions present to NSCC) in order to more strategically
group BD Members into tiers, with each tier being assigned a specific
minimum capital requirement. BD Members in a greater tier would need to
maintain higher capital requirements than those in a
[[Page 74197]]
lesser tier, commensurate with the volatility risks that the BD Members
in each tier present to NSCC. As described above, BD Members could move
between tiers based on sustained changes to their daily volatility
component, thus allowing BD Members to have control over the tier in
which they are placed and, in turn, the capital they need to maintain.
NSCC would track VaR breaches for BD Members on a daily basis. On the
first instance of breaching a VaR Tier, NSCC would send a letter to the
Member informing it of the VaR breach and reminding it that four
subsequent breaches within the next 12 months would result in a higher
capital requirement. On the fifth instance of breaching a VaR Tier,
NSCC would again send a letter to a Member informing it of the fifth
breach and that the new, higher capital requirement would take effect
in 60 days and would remain in effect for at least the next 12 months.
In the case of new applicants for NSCC membership, as described
above, if the Proposed BD Requirements had been in effect for the past
two years, but newly admitted BD Members were not automatically placed
in at least the middle VaR Tier, only one BD Member would have belonged
in the lowest VaR Tier at admittance, and that firm would have moved to
the middle VaR Tier in its second month of membership.\60\ As a result,
requiring new BD Members to be placed in at least the middle VaR Tier
at admittance would not pose an unnecessary barrier to entry that such
BD Members would not have had to meet eventually anyway.
---------------------------------------------------------------------------
\60\ See supra note 21.
---------------------------------------------------------------------------
In response to specific comments that the VaR Tiers begin at too
low of a level and that they should continue indefinitely,\61\ NSCC
designed the tier levels to not only consider the volatility risk that
the BD Members present to NSCC but also to make the tiers easy to
understand and manage. NSCC believes that adding more tiers at the
upper levels, or splitting existing tiers, would complicate the
structure unnecessarily and make the logistics in tracking each BD
Member as they moved between tiers unwieldy, not only for NSCC but also
for the BD Member itself. NSCC believes the proposed tier structure
strikes the right balance between benefit and functionality.
---------------------------------------------------------------------------
\61\ Lek Email, supra note 40; Wachtel Letter, supra note 40.
---------------------------------------------------------------------------
Second, while NSCC believes members must understand the risks that
their capitalization presents to NSCC and be prepared to monitor their
capitalization and alter their behavior in order to minimize that risk,
as necessary, NSCC also appreciates and understands that members must
be able to plan for their capital requirements. That is why NSCC would
not implement the proposed changes to any of the enhanced capital
requirements until one year after the Commission's approval of the
proposal. During that one-year period, NSCC would periodically provide
Members with estimates of their capital requirements. The deferred
implementation for all members and the estimated capital requirements
for Members are designed to give members the opportunity to assess the
impact of their enhanced capital requirements on their business profile
and make any changes that they deem necessary.
Third, in response to the specific comment that the Proposed BD
Requirements are at odds with the goals of the Exchange Act,\62\ NSCC
believes the proposed changes are, in fact, consistent with and would
improve upon NSCC's compliance with applicable regulatory requirements,
as discussed above, including Section 17A(b)(3)(F) of the Exchange Act
and Rules 17Ad-22(b)(7), (e)(4)(i), (e)(18) and (e)(19) promulgated
thereunder.
---------------------------------------------------------------------------
\62\ Lek Email, supra note 40.
---------------------------------------------------------------------------
Finally, NSCC believes that the Proposed BD Requirements would
better align NSCC's capital requirements for members with those of
other CCPs, both in the U.S. and abroad.\63\
---------------------------------------------------------------------------
\63\ See supra note 10.
---------------------------------------------------------------------------
Therefore, NSCC believes the Proposed BD Requirements are
appropriate in furtherance of the purposes of the Exchange Act, as
permitted by Section 17A(b)(3)(I) thereunder,\64\ as the proposed
changes are purposely tailored and structured, provide for a one-year
implementation period, are consistent with applicable provisions of the
Exchange Act and rules thereunder, and better align with NSCC peers.
---------------------------------------------------------------------------
\64\ 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------
NSCC does not believe the proposed changes to enhance the capital
requirements for its other members would impact competition because
such members already meet the proposed requirements. Additionally, NSCC
does not believe that the proposed changes to (i) redefine the Watch
List and eliminate the enhanced surveillance list and (ii) make
clarification changes to the Rules would impact competition. Redefining
the Watch List and eliminating the enhanced surveillance list are
simply intended to streamline and clarify these monitoring practices.
If anything, by no longer automatically including Members with a CRRM
rating of 5 on the Watch List, as proposed, the change could promote
competition for such Members, as such Members would no longer
automatically be subject to increased scrutiny by NSCC, including the
possibility of increased financial and reporting obligations.
Meanwhile, making clarification changes to the Rules to ensure that
they remain accessible and transparent would help facilitate members'
understanding of the Rules and provide members with increased
predictability and certainty regarding their rights and obligations
with respect to NSCC's clearance and settlement activities.
(C) Clearing Agency's Statement on Comments on the Proposed Rule Change
Received From Members, Participants, or Others
All written comments received by NSCC have been summarized and
responded to in Item 4 (Self-Regulatory Organization's Statement on
Burden on Competition) above. If any additional written comments are
received, NSCC will amend this filing to publicly file such comments as
an Exhibit 2 to this filing, as required by Form 19b-4 and the General
Instructions thereto.
Persons submitting written comments are cautioned that, according
to Section IV (Solicitation of Comments) of the Exhibit 1A in the
General Instructions to Form 19b-4, the Commission does not edit
personal identifying information from comment submissions. Commenters
should submit only information that they wish to make available
publicly, including their name, email address, and any other
identifying information.
All prospective commenters should follow the Commission's
instructions on How to Submit Comments, available at <a href="https://www.sec.gov/regulatory-actions/how-to-submit-comments">https://www.sec.gov/regulatory-actions/how-to-submit-comments</a>. General
questions regarding the rule filing process or logistical questions
regarding this filing should be directed to the Main Office of the
Commission's Division of Trading and Markets at
<a href="/cdn-cgi/l/email-protection#394d4b585d50575e58575d54584b525c4d4a794a5c5a175e564f"><span class="__cf_email__" data-cfemail="bbcfc9dadfd2d5dcdad5dfd6dac9d0decfc8fbc8ded895dcd4cd">[email protected]</span></a> or 202-551-5777.
NSCC reserves the right to not respond to any comments 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
[[Page 74198]]
the self-regulatory organization consents, the Commission will:
(A) By order approve or disapprove such 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
<bullet> Use the Commission's internet comment form (<a href="https://www.sec.gov/rules/sro.shtml">https://www.sec.gov/rules/sro.shtml</a>); or
<bullet> Send an email to <a href="/cdn-cgi/l/email-protection#f98b8c959cd49a9694949c978d8ab98a9c9ad79e968f"><span class="__cf_email__" data-cfemail="d9abacb5bcf4bab6b4b4bcb7adaa99aabcbaf7beb6af">[email protected]</span></a>. Please include
File Number SR-NSCC-2021-016 on the subject line.
Paper Comments
<bullet> 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-NSCC-2021-016. 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 (<a href="https://www.sec.gov/rules/sro.shtml">https://www.sec.gov/rules/sro.shtml</a>). 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 the filing also will be available
for inspection and copying at the principal office of NSCC and on
DTCC's website (<a href="https://dtcc.com/legal/sec-rule-filings.aspx">https://dtcc.com/legal/sec-rule-filings.aspx</a>). 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-NSCC-2021-016 and should be
submitted on or before January 19, 2022.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\65\
---------------------------------------------------------------------------
\65\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2021-28250 Filed 12-28-21; 8:45 am]
BILLING CODE 8011-01-P
</pre><script data-cfasync="false" src="/cdn-cgi/scripts/5c5dd728/cloudflare-static/email-decode.min.js"></script></body>
</html>Indexed from Federal Register on December 29, 2021.
This is legal information, not legal advice. Laws vary by jurisdiction and change frequently. Always verify current law with official sources and consult a licensed attorney in your jurisdiction for advice on your specific situation.