82 FR 17475 - Self-Regulatory Organizations; National Securities Clearing Corporation; Notice of Filing of Proposed Rule Change To Enhance the Credit Risk Rating Matrix and Make Other Changes

SECURITIES AND EXCHANGE COMMISSION

Federal Register Volume 82, Issue 68 (April 11, 2017)

Page Range		17475-17481
FR Document		2017-07180
Federal Register, Volume 82 Issue 68 (Tuesday, April 11, 2017)
[Federal Register Volume 82, Number 68 (Tuesday, April 11, 2017)]
[Notices]
[Pages 17475-17481]
From the Federal Register Online  [www.thefederalregister.org]
[FR Doc No: 2017-07180]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-80381; File No. SR-NSCC-2017-002]


Self-Regulatory Organizations; National Securities Clearing 
Corporation; Notice of Filing of Proposed Rule Change To Enhance the 
Credit Risk Rating Matrix and Make Other Changes

April 5, 2017.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on March 22, 2017, 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.\3\ The Commission is 
publishing this notice to solicit comments on the proposed rule change 
from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ On March 22, 2017, NSCC filed this proposed rule change as 
an advance notice (SR-NSCC-2017-801) with the Commission pursuant to 
Section 806(e)(1) of Title VIII of the Dodd-Frank Wall Street Reform 
and Consumer Protection Act entitled the Payment, Clearing, and 
Settlement Supervision Act of 2010, 12 U.S.C. 5465(e)(1), and Rule 
19b-4(n)(1)(i) of the Act, 17 CFR 240.19b-4(n)(1)(i). A copy of the 
advance notice is available at http://www.dtcc.com/legal/sec-rule-filings.aspx.
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I. Clearing Agency's Statement of the Terms of Substance of the 
Proposed Rule Change

    The proposed rule change consists of amendments to NSCC's Rules and 
Procedures (``Rules'').\4\ The proposed rule change would amend the 
Rules in order to (i) enhance the matrix (hereinafter referred to as 
the ``Credit Risk Rating Matrix'' or ``CRRM'') \5\ developed by NSCC to 
evaluate the risks posed by certain Members (``CRRM-Rated Members'') to 
NSCC and its Members from providing services to these CRRM-Rated 
Members and (ii) make other amendments to the Rules to provide more 
transparency and clarity regarding NSCC's current ongoing membership 
monitoring process.
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    \4\ Capitalized terms not defined herein are defined in the 
Rules, available at http://www.dtcc.com/~/media/Files/Downloads/
legal/rules/nscc_rules.pdf.
    \5\ The proposed rule changes with respect to the enhancement of 
the CRRM are reflected in the inclusion of (i) qualitative factors 
and examples thereof in the proposed new definition for ``Credit 
Risk Rating Matrix'' in Rule 1 and (ii) Members that are foreign 
banks or trust companies that have audited financial data that is 
publicly available in Section 4(b)(i) of Rule 2B.
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II. Clearing Agency's Statement of the Purpose of, and Statutory Basis 
for, the Proposed Rule Change

    In its filing with the Commission, 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.

[[Page 17476]]

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

1. Purpose
    The proposed rule change would, among other things, enhance the 
CRRM to enable it to rate Members that are foreign banks or trust 
companies and have audited financial data that is publicly available. 
It would also enhance the CRRM by allowing it to take into account 
qualitative factors when generating credit ratings for Members. In 
addition, it would enhance the CRRM by shifting it from a relative 
scoring approach to an absolute scoring approach.
    This rule filing also contains proposed rule changes that are not 
related to the proposed CRRM enhancements but that provide specificity, 
clarity and additional transparency to the Rules related to NSCC's 
current ongoing membership monitoring process.
(i) Background
    NSCC occupies an important role in the securities settlement system 
by interposing itself as a central counterparty between Members that 
are counterparties to transactions accepted for clearing by NSCC, 
thereby reducing the risk faced by Members. NSCC uses the CRRM, the 
Watch List (as defined below) and the enhanced surveillance to manage 
and monitor default risks of Members on an ongoing basis, as discussed 
below. The level and frequency of such monitoring for a Member is 
determined by the Member's risk of default as assessed by NSCC. Members 
that are deemed by NSCC to pose a heightened risk to NSCC and its 
Members are subject to closer and more frequent monitoring.
Existing Credit Risk Rating Matrix
    In 2005, the Commission approved a proposed rule change filed by 
NSCC (``Initial Filing'') \6\ to establish new criteria for placing 
certain Members on a list for closer monitoring (``Watch List'').
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    \6\ See Securities Exchange Act Release No. 51362 (March 11, 
2005), 70 FR 13562 (March 21, 2005) (SR-NSCC-2003-11).
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    NSCC proposed in the Initial Filing that all U.S. broker-dealers 
and U.S. banks that were Members would be assigned a rating generated 
by entering financial data of those Members into an internal risk 
assessment matrix, i.e., the CRRM. However, the text of the current 
Rule 2B, Section 4, does not specify which Members are CRRM-Rated 
Members and whether non-CRRM-Rated Members may be included on the Watch 
List.
    Currently, Members that are U.S. broker-dealers and U.S. banks are 
assessed against the CRRM and assigned a credit rating based on certain 
quantitative factors.\7\ Unfavorably-rated Members are placed on the 
Watch List. In addition, NSCC credit risk staff may downgrade a 
particular Member's credit rating based on various qualitative factors. 
An example of such qualitative factors might be that the Member in 
question received a qualified audit opinion on its annual audit. NSCC 
believes that, in order to protect NSCC and its other Members, it is 
important that credit risk staff maintain the discretion to downgrade a 
Member's credit rating on the CRRM and thus subject the Member to 
closer monitoring.
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    \7\ Quantitative factors considered by NSCC include (a) for 
broker dealers, size (i.e., total excess net capital), capital, 
leverage, liquidity, and profitability and (b) for banks, size, 
capital, asset quality, earnings, and liquidity.
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    The current CRRM is comprised of two credit rating models--one for 
the U.S. broker-dealers and one for the U.S. banks--and generates 
credit ratings for the relevant Members based on a 7-point rating 
system, with ``1'' being the strongest credit rating and ``7'' being 
the weakest credit rating.
    Over time, the current CRRM has not kept pace with NSCC's evolving 
membership base and heightened expectations from regulators and 
stakeholders for robustness of financial models. Specifically, the 
current CRRM only generates credit ratings for those Members that are 
U.S. banks or U.S. broker-dealers that file standard reports with their 
regulators. Although these types of Members currently represent the 
vast majority (approximately 95%) of Members at NSCC,\8\ foreign banks 
and trust companies are expected to be a growing category of NSCC's 
membership base in the future, and the proposed enhancements to the 
CRRM would enable it to assign credit ratings to these entities. 
Foreign banks and trust companies are typically large global financial 
institutions that have complex businesses and conduct a high volume of 
activities. Although foreign banks and trust companies are not 
currently rated by the CRRM, they are monitored by NSCC's credit risk 
staff using financial criteria deemed relevant by NSCC and can be 
placed on the Watch List if they experience a financial change that 
presents risk to NSCC. Given the potential increase in the number of 
Members that are foreign banks or trust companies in the coming years, 
there is a need to formalize NSCC's credit risk evaluation process of 
these Members by assigning credit ratings to them in order to better 
facilitate the comparability of credit risks among Members.\9\
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    \8\ As of March 16, 2017, there are 155 Members. Of the 155 
Members, 11 (or 7%) are U.S. banks, 136 (or 88%) are U.S. broker-
dealers and one (or 1%) is a foreign bank or trust company.
    \9\ CRRM is applied across NSCC and its affiliated clearing 
agencies, Fixed Income Clearing Corporation (``FICC'') and The 
Depository Trust Company (``DTC''). Specifically, in order to run 
the CRRM, credit risk staff uses the financial data of the 
applicable NSCC Members in addition to data of applicable members 
and participants of FICC and DTC, respectively. In this way, each 
applicable NSCC Member is rated against other applicable members and 
participants of FICC and DTC, respectively.
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    In addition, the current CRRM assigns each Member that is a U.S. 
bank or U.S. broker-dealer and that files standard reports with its 
regulator(s) a credit rating based on inputting certain quantitative 
data relative to the applicable Member into the CRRM. Accordingly, a 
Member's credit rating is currently based solely upon quantitative 
factors. It is only after the CRRM has generated a credit rating with 
respect to a particular Member that such Member's credit rating may be 
downgraded manually by credit risk staff, after taking into 
consideration relevant qualitative factors. The inability of the 
current CRRM to take into account qualitative factors requires frequent 
and manual overrides by credit risk staff, which may result in 
inconsistent and/or incomplete credit ratings for Members.
    Furthermore, the current CRRM uses a relative scoring approach and 
relies on peer grouping of Members to calculate the credit rating of a 
Member. This approach is not ideal because a Member's credit rating can 
be affected by changes in its peer group even if the Member's financial 
condition is unchanged.
Proposed Credit Risk Rating Matrix Enhancements
    To improve the coverage and the effectiveness of the current CRRM, 
NSCC is proposing three enhancements. The first proposed enhancement 
would expand the scope of CRRM coverage by enabling the CRRM to 
generate credit ratings for Members that are foreign banks or trust 
companies and that have audited financial data that is publicly 
available. The second proposed enhancement would incorporate 
qualitative factors into the CRRM and therefore is expected to reduce 
the need and the frequency of manual overrides of Member credit 
ratings. The third enhancement would replace the relative scoring 
approach currently used by CRRM with a statistical approach to

[[Page 17477]]

estimate the absolute probability of default of each Member.
A. Enable the CRRM To Generate Credit Ratings for Foreign Bank or Trust 
Company Members
    The current CRRM is comprised of two credit rating models--one for 
the U.S. broker-dealers and one for the U.S. banks. NSCC is proposing 
to enhance the CRRM by adding an additional credit rating model for the 
foreign banks and trust companies. The additional model would expand 
the membership classes to which the CRRM would apply to include Members 
that are foreign banks or trust companies and that have audited 
financial data that is publicly available. The CRRM credit rating of a 
Member that is a foreign bank or trust company would be based on 
quantitative factors, including size, capital, leverage, liquidity, 
profitability and growth, and qualitative factors, including market 
position and sustainability, information reporting and compliance, 
management quality, capital management and business/product diversity. 
By enabling the CRRM to generate credit ratings for these Members, the 
enhanced CRRM would provide more comprehensive credit risk coverage of 
NSCC's membership base.
    With the proposed enhancement to the CRRM as described above, 
applicable foreign bank or trust company Members would be included in 
the CRRM process and be evaluated more effectively and efficiently 
because financial data with respect to these foreign bank or trust 
company Members could be extracted from data sources in an automated 
form.\10\
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    \10\ Currently, these Members are monitored by NSCC credit risk 
staff that review similar criteria as those reviewed for CRRM-Rated 
Members, but such review occurs outside of the CRRM process.
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    After the proposed enhancement, CRRM would be able to generate 
credit ratings on an ongoing basis for all Members that are U.S. banks, 
U.S. brokers-dealers and foreign banks and trust companies, which 
together represent approximately 96% of the NSCC Members.\11\
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    \11\ As of March 16, 2017, there are 7 Members that would not be 
rated by the enhanced CRRM, as proposed, because they are central 
securities depositories, securities exchanges and U.S. trust 
companies that do not file Call Reports (as defined below).
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B. Incorporate Qualitative Factors Into the CRRM
    In addition, as proposed, the enhanced CRRM would blend qualitative 
factors with quantitative factors to produce a credit rating for each 
applicable Member in relation to the Member's credit risk. For U.S. and 
foreign banks and trust companies, the enhanced CRRM would use a 70/30 
weighted split between quantitative and qualitative factors to generate 
credit ratings. For U.S. broker-dealers, the weight split between 
quantitative and qualitative factors would be 60/40. These weight 
splits are chosen by NSCC based on the industry best practice as well 
as research and sensitivity analysis conducted by NSCC. NSCC would 
review and adjust the weight splits as well as the quantitative and 
qualitative factors, as needed, based on recalibration of the CRRM to 
be conducted by NSCC approximately every three to five years.
    Although there are advantages to measuring credit risk 
quantitatively, quantitative evaluation models alone are incapable of 
fully capturing all credit risks. Certain qualitative factors may 
indicate that a Member is or will soon be undergoing financial 
distress, which may in turn signal a higher default exposure to NSCC 
and its other Members. As such, a key enhancement being proposed to the 
CRRM is the incorporation of relevant qualitative factors into each of 
the three credit rating models mentioned above. By including 
qualitative factors in the three credit rating models, the enhanced 
CRRM would capture risks that would otherwise not be accounted for with 
quantitative factors alone.\12\ Adding qualitative factors to the CRRM 
would not only enable it to generate more consistent and comprehensive 
credit ratings for applicable Members, but it would also help reduce 
the need and frequency of manual credit rating overrides by the credit 
risk staff because overrides would likely only be required under more 
limited circumstances.\13\
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    \12\ The initial set of qualitative factors that would be 
incorporated into the CRRM includes (a) for U.S. broker dealers, 
market position and sustainability, management quality, capital 
management, liquidity management, geographic diversification, 
business/product diversity and access to funding, (b) for U.S. 
banks, environment, compliance/litigation, management quality, 
liquidity management and parental demands and (c) for foreign banks 
and trust companies, market position and sustainability, information 
reporting and compliance, management quality, capital management and 
business/product diversity.
    \13\ Once a Member is assigned a credit rating, if circumstances 
warrant, credit risk staff would still have the ability to override 
the CRRM-issued credit rating by manually downgrading such rating as 
they do today. To ensure a conservative approach, the CRRM-issued 
credit ratings cannot be manually upgraded.
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C. Shifting From Relative Scoring to Absolute Scoring
    As proposed, the enhanced CRRM would use an absolute scoring 
approach and rank each Member based on its individual probability of 
default rather than the relative scoring approach that is currently in 
use. This proposed change is designed to have a Member's CRRM-generated 
credit rating reflect an absolute measure of the Member's default risk 
and eliminate any potential distortion of a Member's credit rating from 
the Member's peer group that may occur under the relative scoring 
approach used in the existing CRRM.
D. Watch List and Enhanced Surveillance
    In addition to the Watch List, NSCC also maintains an enhanced 
surveillance list (referenced herein and in the proposed rule text as 
``enhanced surveillance'') for membership monitoring. The enhanced 
surveillance list is generally used when Members are undergoing drastic 
and unexpected changes in their financial conditions or operation 
capabilities and thus are deemed by NSCC to be of the highest risk 
level and/or warrant additional scrutiny due to NSCC's ongoing concerns 
about these Members. Accordingly, Members that are subject to enhanced 
surveillance are reported to NSCC's management committees and are also 
regularly reviewed by a cross-functional team comprised of senior 
management of NSCC. More often than not, Members that are subject to 
enhanced surveillance are also on the Watch List. The group of Members 
that is subject to enhanced surveillance is generally much smaller than 
the group on the Watch List. The enhanced surveillance list is an 
internal tool for NSCC that triggers increased monitoring of a Member 
above the monitoring that occurs when a Member is on the Watch List.
    A Member could be placed on the Watch List either based on its 
credit rating of 5, 6 or 7, which can either be generated by the CRRM 
or from a manual downgrade, or when NSCC deems such placement as 
necessary to protect NSCC and its Members. In contrast, a Member would 
be subject to enhanced surveillance only when close monitoring of the 
Member is deemed necessary to protect NSCC and its Members.
    The Watch List and enhanced surveillance tools are not mutually 
exclusive; they may complement each other under certain circumstances. 
A key distinction between the Watch List and enhanced surveillance is 
that being placed on the Watch List may result in Required Deposit \14\ 
related

[[Page 17478]]

consequences under the Rules, whereas enhanced surveillance does 
not.\15\ For example, a Member that is in a precarious situation could 
be placed on the Watch List and be subject to enhanced surveillance; 
however, because the Watch List status could increase a Member's 
Required Deposit, when NSCC has preliminary concerns about a Member, to 
avoid potential increase to a Member's Required Deposit, NSCC may opt 
not to place the Member on the Watch List until it is certain that such 
concerns would not be alleviated in the short-term. Instead, in such a 
situation, NSCC might first subject the Member to enhanced surveillance 
in order to closely monitor the Member's situation without affecting 
the Member's Required Deposit. If the Member's situation improves, then 
it will no longer be subject to enhanced surveillance. If the situation 
of the Member worsens, the Member may then be placed on the Watch List 
as deemed necessary by NSCC.
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    \14\ See Rule 4 (Section 1). The ``Required Deposit'' is the 
amount that each Member is required to deposit in NSCC's Clearing 
Fund. Rules, supra note 4.
    \15\ NSCC expects to provide additional clarity to Members 
regarding the Watch List and its impact on Required Deposit in a 
subsequent proposed rule change to be filed with the Commission in 
2017.
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(ii) Detailed Description of the Proposed Rule Changes Related to the 
Proposed CRRM Enhancements
    In connection with the proposed enhancements to the CRRM, NSCC 
proposes to amend the Rules to (1) incorporate qualitative factors into 
CRRM and (2) add Members that are foreign banks or trust companies to 
the categories of Members that would be assigned credit ratings by NSCC 
using the CRRM.
A. Proposed Changes to Rule 1 (Definitions and Descriptions)
    NSCC is proposing to include qualitative factors, such as 
management quality, market position/environment, and capital and 
liquidity risk management in the proposed new definition for ``Credit 
Risk Rating Matrix'' in Rule 1 because, as proposed, the enhanced CRRM 
would blend both qualitative factors and quantitative factors to 
produce a credit rating for each applicable Member.
B. Proposed Changes to Section 4(b)(i) of Rule 2B (Ongoing Membership 
Requirements and Monitoring)
    NSCC is proposing to expand the membership types to which the CRRM 
would apply to include Members that are foreign banks or trust 
companies and that have audited financial data that is publicly 
available by amending Section 4 of Rule 2B.
    The enhanced CRRM would assign credit ratings for each Member that 
is a foreign bank or trust company based on its publicly available 
audited financial data. The credit rating would be based on an 18-point 
scale, which is then mapped to the 7-point rating system currently in 
use today, with ``1'' being the strongest credit rating and ``7'' being 
the weakest credit rating.
(iii) Other Proposed Rule Changes
    This rule filing also contains proposed rule changes that are 
unrelated to the proposed enhancement of the CRRM. These proposed rule 
changes would provide specificity, clarity and additional transparency 
to the Rules with respect to NSCC's current ongoing membership 
monitoring process, as described below.
A. Proposed Changes to Rule 1 (Definitions and Descriptions)
    NSCC is proposing to amend Rule 1 to add definitions for the CRRM 
and the Watch List.
    The proposed definition of the CRRM would provide that the term 
``Credit Risk Rating Matrix'' means a matrix of credit ratings of 
Members as specified in Section 4 of Rule 2B. The definition would 
state that the CRRM is developed by NSCC to evaluate the credit risk 
such 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. The proposed definition would state that, in 
addition to the proposed qualitative factors described above, these 
factors include quantitative factors, such as capital, assets, earnings 
and liquidity.
    The proposed definition of the Watch List would provide that the 
term ``Watch List'' means, at any time and from time to time, the list 
of Members whose credit ratings derived from the CRRM are 5, 6 or 7, as 
well as Members and Limited Members that, based on NSCC's consideration 
of relevant factors, including those set forth in Section 4(d) of Rule 
2B (described below), are deemed by NSCC to pose a heightened risk to 
NSCC and its Members.
B. Proposed Changes to Rule 2B (Ongoing Membership Requirements and 
Monitoring)
Section 2B of Rule 2B
    NSCC is proposing to amend Section 2B of Rule 2B to state that NSCC 
may review the financial responsibility and operational capability of 
each Member and may otherwise require additional reporting from the 
Member regarding its financial or operational condition that may (1) 
include information regarding the businesses and operations of the 
Member and its risk management practices with respect to NSCC's 
services utilized by the Member for another Person and (2) result in 
the Member being placed on the Watch List and/or being subject to 
enhanced surveillance as determined by NSCC.
    Members are direct participants of NSCC. However, there are firms 
that rely on the services provided by Members in order to have their 
activity cleared and settled through NSCC's facilities (the ``indirect 
participants''). These indirect participants pose certain risks to NSCC 
that need to be identified and monitored as part of NSCC's ongoing 
member due diligence process. In order for NSCC to understand (1) the 
material dependencies between Members and the indirect participants 
that rely on the Members for the clearance and settlement of the 
indirect participants' transactions, (2) significant Member-indirect 
participant relationships and (3) the various risk controls and 
mitigants that these Members employ to manage their risks with respect 
to such relationships, NSCC may request information from Members 
regarding the Members' businesses and operations as well as their risk 
management practices with respect to services of NSCC utilized by the 
Members for indirect participants. The information provided by Members 
would then be taken into consideration by NSCC when determining whether 
a Member may need to be placed on the Watch List, be subject to 
enhanced surveillance or both.
Section 4 of NSCC Rule 2B
    NSCC is proposing to amend Section 4 of Rule 2B in order to (1) 
specify the membership types that are currently subject to NSCC's 
ongoing monitoring and review, (2) clarify which U.S. broker-dealers 
and U.S. banks will be assigned a credit rating by NSCC in accordance 
with the CRRM, (3) provide that NSCC may manually downgrade a CRRM-
Rated Member's credit rating in certain instances, (4) provide that 
NSCC may place non-CRRM-Rated Members and certain Limited Members on 
the Watch List and/or subject them to enhanced surveillance, if 
necessary, (5) describe some of the factors that could be taken into 
consideration by NSCC when downgrading a Member's or Limited Member's 
credit rating, placing a Member or Limited Member on the Watch List 
and/or subjecting a Member or Limited Member to enhanced

[[Page 17479]]

surveillance, (6) allow NSCC to collect additional deposits to the 
Clearing Fund and to retain deposits in excess of the Required Deposit 
from Members or Limited Members that are on the Watch List and (7) 
provide for enhanced monitoring of Members or Limited Members that are 
on the Watch List and/or are subject to enhanced surveillance.
    In connection with the forgoing, NSCC proposes to delete the 
current first paragraph in Section 4 of NSCC Rule 2B and add the 
following:
    1. Section 4(a), specifying that NSCC currently monitors and 
reviews all Members and certain Limited Members on an ongoing and 
periodic basis, which may include monitoring news and market 
developments relating to these Members and Limited Members and 
conducting reviews of financial reports and other public information of 
these Members and Limited Members.
    2. Section 4(b)(i), clarifying that (1) Members that are (A) U.S. 
banks or trust companies that file the Consolidated Report of Condition 
and Income (``Call Report'') or (B) U.S. broker-dealers that file the 
Financial and Operational Combined Uniform Single Report (``FOCUS 
Report'') or the equivalent with their regulators, would be assigned a 
credit rating by NSCC in accordance with the CRRM and (2) each CRRM-
Rated Member's credit rating would be reassessed upon receipt of 
additional information from the Member.
    3. Section 4(b)(ii), providing that, because the factors used as 
part of the CRRM may not identify all risks that a Member may pose to 
NSCC, NSCC may, in addition to other actions permitted by the Rules, 
downgrade the Member's credit rating derived from the CRRM if NSCC 
believes the CRRM-generated rating is insufficiently conservative or if 
it deems such downgrade as necessary to protect NSCC and its Members. 
Depending on the credit rating of the Member, a downgrade may result in 
the Member being placed on the Watch List and/or being subject to 
enhanced surveillance based on relevant factors.
    4. Section 4(c), specifying that, other than CRRM-Rated Members, 
NSCC may place Members and Limited Members that are monitored and 
reviewed by NSCC on the Watch List and/or subject them to enhanced 
surveillance even though they are not being assigned credit ratings by 
NSCC in accordance with the CRRM.
    5. Section 4(d), describing some of the factors that could be taken 
into consideration by NSCC when downgrading a Member's credit rating, 
placing a Member or Limited Member on the Watch List and/or subjecting 
a Member or Limited Member to enhanced surveillance. These factors 
include but are not limited to (i) news reports and/or regulatory 
observations that raise reasonable concerns relating to the Member or 
Limited Member, (ii) reasonable concerns around the Member's or Limited 
Member's liquidity arrangements, (iii) material changes to the Member's 
or Limited Member's organizational structure, (iv) reasonable concerns 
of NSCC about the Member's or Limited 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 or 
Limited Member to demonstrate satisfactory financial condition or 
operational capability or if NSCC has a reasonable concern regarding 
the Member's or Limited Member's ability to maintain applicable 
membership standards and (vi) failure of the Member or Limited Member 
to provide information required by NSCC to assess risk exposures posed 
by the Member's or Limited Member's activity.
    6. Section 4(e), allowing NSCC to (1) require a Member or Limited 
Member that has been placed on the Watch List to make and maintain 
additional deposits to the Clearing Fund and (2) withhold any deposit 
in excess of the Required Deposit of a Member or Limited Member that 
has been placed on the Watch List as provided in Section 9 of Rule 4.
    7. Section 4(f), providing that NSCC would, in addition to other 
actions permitted by the Rules, conduct a more thorough monitoring of 
the financial condition and/or operational capability of, and require 
more frequent financial disclosures from, not only those Members and 
Limited Members that are placed on the Watch List but also Members and 
Limited Members subject to enhanced surveillance, including examples of 
how the monitoring could be conducted and the types of disclosures that 
may be required. In addition, Members and Limited Members that are 
subject to enhanced surveillance would be reported to NSCC's management 
committees and regularly reviewed by a cross-functional team comprised 
of senior management of NSCC.
    In addition to the proposed changes described above, NSCC is 
proposing to make technical corrections to the second paragraph of 
Section 4 of Rule 2B to (1) renumber the paragraph as Section 4(g), (2) 
update an internal cross reference and (3) clarify that the references 
in the paragraph to Members under surveillance are referring to Members 
on the Watch List.
C. Proposed Changes to Rule 4 (Clearing Fund)
    NSCC is proposing to amend Section 9 of Rule 4 to clarify that NSCC 
may, in its discretion, withhold all or part of any excess Clearing 
Fund deposit of Members that are on the Watch List.
D. Proposed Changes to Procedure XV (Clearing Fund Formula and Other 
Matters)
    NSCC is proposing to amend Section I(B)(1) of Procedure XV to 
clarify that Members or Limited Members that are placed on the Watch 
List would be required to make additional Clearing Fund deposits, as 
determined by NSCC.
    In addition, NSCC is proposing to make the following technical 
corrections to Section I(B)(1) of Procedure XV, (i) renumber the final 
three paragraphs as Section I(B)(2) and title the new subsection 
``Family Issued Securities'' to reflect the different subject matter of 
the new subsection, (ii) capitalize references to the Credit Risk 
Rating Matrix to reflect the proposed addition of the defined term to 
Rule 1 and (iii) make other grammatical corrections to the new Section 
I(B)(2).
    Finally, NSCC is proposing to amend Section II(C) of Procedure XV 
to clarify that, although NSCC would not request additional Clearing 
Fund deposits from Members unless they exceed a predetermined 
threshold, such floor would not apply to Members or Limited Members 
that are on the Watch List.
E. Additional Proposed Changes to Rule 1 (Definitions and Descriptions) 
and Procedure XV (Clearing Fund Formula and Other Matters)
    NSCC is proposing to amend the definition of ``Illiquid Position'' 
in Rule 1 as well as Procedure XV Sections I(A)(1) and I(A)(2), each as 
proposed in connection with a separate proposed rule change filed with 
the Commission but not yet approved.\16\ Specifically, the proposed 
amendments would replace and conform references to ``credit risk 
matrix'' with ``Credit Risk Rating Matrix'' in the proposed definition 
of ``Illiquid Position'' in Rule 1 as well as Procedure XV Sections 
I(A)(1) and I(A)(2).
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    \16\ See Securities Exchange Act Release No. 80260 (March 16, 
2017), 82 FR 14781 (March 22, 2017) (SR-NSCC-2017-001).
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Implementation Timeframe
    Pending Commission approval, NSCC expects to implement this 
proposal promptly. Members would be advised of the implementation date 
of this proposal through issuance of a NSCC Important Notice.

[[Page 17480]]

2. Statutory Basis
    Section 17A(b)(3)(F) of the Act requires that the Rules be designed 
to promote the prompt and accurate clearance and settlement of 
securities transactions and to assure the safeguarding of securities 
and funds which are in the custody or control of NSCC or for which it 
is responsible.\17\
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    \17\ 15 U.S.C. 78q-1(b)(3)(F).
---------------------------------------------------------------------------

    By enhancing the CRRM to enable it to assign credit ratings to 
Members that are foreign banks or trust companies and that have audited 
financial data that is publicly available, NSCC believes that the 
proposed rule change is consistent with Section 17A(b)(3)(F) of the 
Act. This is because the proposed rule change expands the CRRM's 
applicability to a wider group of Members, which further improves 
NSCC's membership monitoring process and better enables NSCC to 
safeguard the securities and funds which are in its custody or control 
or for which it is responsible in furtherance of the Act.
    Similarly, by enhancing the CRRM to enable it to incorporate 
qualitative factors when assigning a Member's credit rating, NSCC 
believes that this proposed rule change is consistent with Section 
17A(b)(3)(F) of the Act. This is because the proposed rule change would 
enable NSCC to take into account relevant qualitative factors in an 
automated and more effective manner when monitoring the credit risks 
presented by Members, thus improving NSCC's membership monitoring 
process overall, which would in turn better enable NSCC to safeguard 
the securities and funds which are in its custody or control or for 
which it is responsible in furtherance of the Act.
    Likewise, by enhancing the CRRM to shift from a relative scoring 
approach to an absolute scoring approach when assigning a Member's 
credit rating, NSCC believes that this proposed rule change is 
consistent with Section 17A(b)(3)(F) of the Act. This is because the 
proposed rule change would enable NSCC to generate credit ratings for 
Members that are more reflective of the Members' default risk, thus 
improving NSCC's membership monitoring process overall, which would in 
turn better enable NSCC to safeguard the securities and funds which are 
in its custody or control or for which it is responsible in furtherance 
of the Act.
    By providing specificity, clarity and additional transparency to 
the Rules related to NSCC's current ongoing membership monitoring 
process, NSCC believes that the proposed rule changes to (1) Rule 1 
(Definitions of Credit Risk Rating Matrix, Watch List and Illiquid 
Position), Rule 2B (Sections 2B and 4), Rule 4 and Procedure XV 
(Sections I(A), I(B) and II(C)), which are unrelated to the proposed 
enhancements of the CRRM, are consistent with Section 17A(b)(3)(F) of 
the Act because the proposed rule changes would help ensure that the 
Rules remain accurate and clear. Collectively, the proposed changes 
would help ensure that the Rules are more transparent, accurate and 
clear, which would help enable all stakeholders to readily understand 
their respective rights and obligations with NSCC's clearance and 
settlement of securities transactions. Therefore, NSCC believes that 
the proposed rule changes would promote the prompt and accurate 
clearance and settlement of securities transactions, consistent with 
Section 17A(b)(3)(F) of the Act.
    The proposed enhancements to the CRRM are consistent with Rule 
17Ad-22(e)(3)(i) under the Act, which was recently adopted by the 
Commission.\18\ Rule 17Ad-22(e)(3)(i) will require NSCC to establish, 
implement, maintain and enforce written policies and procedures 
reasonably designed to maintain a sound risk management framework for 
comprehensively managing risks that arise in or are born by NSCC, which 
includes . . . systems designed to identify, measure, monitor and 
manage the range of risks that arise in or are borne by NSCC.\19\ The 
proposed enhancements to the CRRM have been designed to assist NSCC in 
identifying, measuring, monitoring and managing the credit risks to 
NSCC posed by its Members. The proposed enhancements to the CRRM 
accomplish this by (i) expanding the CRRM's applicability to a wider 
group of Members to include Members that are foreign banks or trust 
companies, (ii) enabling the CRRM to take into account relevant 
qualitative factors in an automated and more effective manner when 
monitoring the credit risks presented by Members and (iii) enabling the 
CRRM to generate credit ratings for Members that are more reflective of 
the Members' default risk by shifting to an absolute scoring approach, 
all of which would improve NSCC's membership monitoring process 
overall. Therefore, NSCC believes the proposed enhancements to the CRRM 
would assist NSCC in identifying, measuring, monitoring and managing 
risks that arise in or are born by NSCC, consistent with the 
requirements of Rule 17Ad-22(e)(3)(i).
---------------------------------------------------------------------------

    \18\ 17 CFR 240.17Ad-22(e)(3)(i). The Commission adopted 
amendments to Rule 17Ad-22, including the addition of new subsection 
17Ad-22(e), on September 28, 2016. See Securities Exchange Act 
Release No. 78961 (September 28, 2016), 81 FR 70786 (October 13, 
2016) (S7-03-14). NSCC is a ``covered clearing agency'' as defined 
by the new Rule 17Ad-22(a)(5) and must comply with new subsection 
(e) of Rule 17Ad-22 by April 11, 2017. Id.
    \19\ Id.
---------------------------------------------------------------------------

    The proposed rule change to Section 2B of Rule 2B with respect to 
the scope of information that may be requested by NSCC from its Members 
has been designed to be consistent with Rule 17Ad-22(e)(19) under the 
Act, which was recently adopted by the Commission.\20\ Rule 17Ad-
22(e)(19) will require NSCC to establish, implement, maintain and 
enforce written policies and procedures reasonably designed to 
identify, monitor, and manage the material risk to NSCC arising from 
arrangements in which firms that are indirect participants in NSCC rely 
on the services provided by Members to access NSCC's payment, clearing, 
or settlement facilities.\21\ By expressly reflecting in the Rules what 
is already NSCC's current practice associated with its request for 
additional reporting of a Member's financial or operational conditions 
to state that such request may include information regarding the 
businesses and operations of the Member, as well as its risk management 
practices with respect to services of NSCC utilized by the Member for 
another Person, this proposed rule change would help enable NSCC to 
have rule provisions that are reasonably designed to identify, monitor 
and manage the material risks to NSCC arising from tiered participation 
arrangements consistent with Rule 17Ad-22(e)(19).
---------------------------------------------------------------------------

    \20\ 17 CFR 240.17Ad-22(e)(19). Id.
    \21\ Id.
---------------------------------------------------------------------------

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

    NSCC does not believe that the proposed rule change to (i) enable 
the CRRM to generate credit ratings for Members that are foreign banks 
or trust companies Members, (ii) incorporate qualitative factors into 
the CRRM and (iii) shift to an absolute scoring approach would impose 
any burden on competition that is not necessary or appropriate in 
furtherance of the Act.\22\ These proposed enhancements to the CRRM 
would improve NSCC's member credit risk evaluation process by (1) 
expanding the CRRM's credit rating capability and thereby providing 
more comprehensive credit risk coverage of NSCC membership, (2) 
enabling the CRRM to generate more consistent and comprehensive credit 
ratings for Members and thereby reducing the need

[[Page 17481]]

and frequency for manual downgrades and (3) enabling the CRRM to 
generate credit ratings for Members that are more reflective of the 
Members' default risk. However, NSCC recognizes that any change to its 
member credit risk evaluation process, such as the proposed rule 
change, may impose a burden on competition in terms of potential impact 
on Members' credit ratings and their Clearing Fund deposits. 
Nevertheless, NSCC believes that any burden on competition derived from 
the proposed rule change would be necessary and appropriate in 
furtherance of the Act because the proposed enhancements to the CRRM 
would help improve NSCC's membership monitoring process and thus better 
enable NSCC to safeguard the securities and funds which are in its 
custody or control or for which it is responsible. Furthermore, the 
proposed enhancements to the CRRM would also assist NSCC in 
identifying, measuring, monitoring and managing risks that arise in or 
are born by NSCC. As such, NSCC does not believe the proposed 
enhancements to the CRRM would impose any burden on competition that is 
not necessary or appropriate in furtherance of the Act.
---------------------------------------------------------------------------

    \22\ 15 U.S.C. 78q-1(b)(3)(I).
---------------------------------------------------------------------------

    NSCC does not believe that the proposed rule changes to (1) NSCC 
Rule 1 (Definitions of Credit Risk Rating Matrix, Watch List and 
Illiquid Position), NSCC Rule 2B (Sections 2B and 4), Rule 4 and 
Procedure XV (Sections I(A), I(B) and II(C)) that are unrelated to the 
proposed CRRM enhancements would have any impact on competition because 
each of such proposed rule changes is designed to provide additional 
specificity, clarity and transparency in the Rules regarding NSCC's 
current ongoing membership monitoring process by expressly providing in 
the Rules NSCC's current practices with respect to such process. As 
such, these proposed rule changes would not impact Members or impose 
any burden on competition.

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

    Written comments relating to this proposed rule change have not 
been solicited or received. NSCC will notify the Commission of any 
written comments received by NSCC.

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

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period up to 90 days (i) as the 
Commission may designate if it finds such longer period to be 
appropriate and publishes its reasons for so finding or (ii) as to 
which the self- regulatory organization consents, the Commission will:
    (A) By order approve or disapprove such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.
    The proposal shall not take effect until all regulatory actions 
required with respect to the proposal are completed.

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 Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form
    (http://www.sec.gov/rules/sro.shtml); or
     Send an email to [email protected]. Please include 
File Number SR-NSCC-2017-002 on the subject line.

Paper Comments

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

All submissions should refer to File Number SR-NSCC-2017-002. 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 Web site (http://www.sec.gov/rules/sro.shtml). Copies of the submission, all subsequent amendments, all 
written statements with respect to the proposed rule change that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for Web site 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 Web site (http://dtcc.com/legal/sec-rule-filings.aspx). All 
comments received will be posted without change; the Commission does 
not edit personal identifying information from submissions. You should 
submit only information that you wish to make available publicly. All 
submissions should refer to File Number SR-NSCC-2017-002 and should be 
submitted on or before May 2, 2017.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\23\
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    \23\ 17 CFR 200.30-3(a)(12).
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Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2017-07180 Filed 4-10-17; 8:45 am]
 BILLING CODE 8011-01-P
Document Created: 2017-04-11 00:48:37
Document Modified: 2017-04-11 00:48:37
Category		Regulatory Information
Collection		Federal Register
sudoc Class		AE 2.7: GS 4.107: AE 2.106:
Publisher		Office of the Federal Register, National Archives and Records Administration
Section		Notices
FR Citation		82 FR 17475