82 FR 26728 - Self-Regulatory Organizations; LCH SA; Order Approving Proposed Rule Change Relating to Recovery Risk Margin

SECURITIES AND EXCHANGE COMMISSION

Federal Register Volume 82, Issue 109 (June 8, 2017)

Page Range		26728-26729
FR Document		2017-11864
Federal Register, Volume 82 Issue 109 (Thursday, June 8, 2017)
[Federal Register Volume 82, Number 109 (Thursday, June 8, 2017)]
[Notices]
[Pages 26728-26729]
From the Federal Register Online  [www.thefederalregister.org]
[FR Doc No: 2017-11864]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-80848; File No. SR-LCH SA-2017-003]


Self-Regulatory Organizations; LCH SA; Order Approving Proposed 
Rule Change Relating to Recovery Risk Margin

June 2, 2017.

I. Introduction

    On April 4, 2017, Banque Centrale de Compensation, which conducts 
business under the name LCH SA (``LCH SA''), filed with the Securities 
and Exchange Commission (``Commission''), pursuant to Section 19(b)(1) 
of the Securities Exchange Act of 1934 (``Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change (SR-LCH SA-2017-003) to revise 
its margin methodology with respect to credit default swaps (``CDS'') 
in the Reference Guide: CDS Margin Framework (``Reference Guide''). The 
proposed rule change was published for comment in the Federal Register 
on April 19, 2017.\3\ The Commission received no comment letters 
regarding the proposed change. For the reasons discussed below, the 
Commission is approving the proposed rule change.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
    \3\ Securities Exchange Act Release No. 34-80450 (April 13, 
2017), 82 FR 18488 (April 19, 2017) (SR-LCH SA-2017-003) (the 
``Notice'').
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II. Description of the Proposed Rule Change

    The proposed rule change seeks to amend the Reference Guide by 
eliminating the recovery rate risk charge as a component of the margin 
methodology, as it applies to index CDS. LCH SA, however, does not 
propose to alter the recovery rate risk charge as a component of the 
margin methodology, as it applies to single name CDS. The proposed rule 
change also seeks to make minor updates and clarifications to the 
Reference Guide.\4\
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    \4\ LCH SA has proposed changes to the Reference Guide to (i) 
correct a hyperlink and (ii) add a cross reference and hyperlink to 
the general inputs considered by LCH SA in constructing the CDS 
pricing for European and U.S. dollar denominated contracts. See 
Notice, 82 FR at 18489.
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    With respect to the portion of the proposed rule change that 
eliminates the recovery rate risk charge as a margin component for 
index CDS positions, LCH SA believes that recovery rate risk is 
irrelevant to index CDS in normal market conditions and it therefore 
should not need to charge margin to address it. In support, LCH SA 
represents that ``[the] market convention is to assume a pre-defined 
recovery rate for pricing an index CDS, such as a CDS on iTraxx 
indices.'' \5\ Therefore, according to LCH SA, there is no need to 
charge margin for an adverse recovery rate movement for an index CDS 
position because, pursuant to market convention for pricing an index 
CDS in normal market conditions, the rate will not move. Moreover, LCH 
SA characterizes any drop in the recovery rate for index CDS as a 
stress loss, and states that applying a margin charge to address this 
risk ``would be trying to capture a stress loss incurred in a Clearing 
Member's portfolio should the pre-defined recovery rate for these index 
CDS change, which is not consistent with market convention in normal 
market conditions.'' \6\ Furthermore, while LCH SA does expect 
deviations from this market convention in extreme market conditions, 
LCH SA believes that these deviations--and any resultant recovery rate 
risk on the affected index CDS positions--should not be addressed 
through its margin framework but rather ``would be captured by LCH SA's 
stress scenarios used to size the Default Fund.'' \7\ Therefore, LCH SA 
maintains that elimination of recovery rate risk charge from its margin 
framework is appropriate and consistent with applicable provisions of 
the Exchange Act and Commission Rules promulgated thereunder.
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    \5\ Id.
    \6\ Id.
    \7\ Id.

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[[Page 26729]]

III. Discussion and Commission Findings

    Section 19(b)(2)(C) of the Act directs the Commission to approve a 
proposed rule change of a self-regulatory organization if it finds that 
such proposed rule change is consistent with the requirements of the 
Act and the rules and regulations thereunder applicable to such 
organization.\8\ Section 17A(b)(3)(F) of the Act requires,\9\ among 
other things, that the rules of a registered clearing agency be 
designed to assure the safeguarding of securities and funds which are 
in the custody or control of the clearing agency or for which it is 
responsible. Rule 17Ad-22(b)(2) requires that a registered clearing 
agency that performs central counterparty services shall establish, 
implement, maintain, and enforce written policies and procedures 
reasonably designed to use margin requirements to limit its credit 
exposures to participants under normal market conditions.\10\ Rule 
17Ad-22(e)(6) requires that a covered clearing agency \11\ shall 
establish, implement, maintain, and enforce written policies and 
procedures reasonably designed to cover its credit exposures to its 
participants by establishing a risk-based margin system that, at a 
minimum, calculates margin sufficient to cover its potential future 
exposure to participants in the interval between the last margin 
collection and the close out of positions following a participant 
default and uses an appropriate method for measuring credit exposure 
that accounts for relevant product risk factors and portfolio effects 
across products.\12\ Rule 17Ad-22(e)(1) requires that a covered 
clearing agency shall establish, implement, maintain, and enforce 
written policies and procedures reasonably designed to provide for a 
well-founded, clear, transparent, and enforceable legal basis for each 
aspect of its activities in all relevant jurisdictions.\13\
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    \8\ 15 U.S.C. 78s(b)(2)(C).
    \9\ 15 U.S.C. 78q-1(b)(3)(F).
    \10\ 17 CFR 240.17Ad-22(b)(2).
    \11\ See 17 CFR 240.17Ad-22(a)(5) (defining ``covered clearing 
agency'').
    \12\ See 17 CFR 240.17Ad-22(e)(6)(iii), (e)(6)(v).
    \13\17 CFR 240.17Ad-22(e)(1).
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    The Commission finds that the proposed rule change is consistent 
with Section 17A of the Act and Rule 17Ad-22 thereunder. In particular, 
the Commission finds that the elimination of recovery rate risk charges 
is consistent with market convention for pricing index CDS, as 
represented by LCH SA and discussed above. Moreover, the Commission 
notes that the elimination of this component of LCH SA's margin is 
expected to have only a minor impact on the total amount of margin LCH 
SA collects with respect to index CDS. Furthermore, the Commission 
notes that LCH SA will continue to consider and address recovery rate 
risk on index CDS in its stress scenarios used to size its default 
fund. Based on these findings and considerations, the Commission 
believes that the proposed rule change is reasonably designed to use 
margin requirements to limit its credit exposures to participants under 
normal market conditions, calculate margin sufficient to cover its 
potential future exposure to participants in the interval between the 
last margin collection and the close out of positions following a 
participant default and use an appropriate method for measuring credit 
exposure that accounts for relevant product risk factors and portfolio 
effects across products, consistent with Section 17A(b)(3)(F) of the 
Exchange Act,\14\ and Rules 17Ad-22(b)(2), (e)(6)(iii), and (e)(6)(v) 
thereunder.\15\
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    \14\ 15 U.S.C. 78q-1(b)(3)(F).
    \15\ 17 CFR 240.17Ad-22(b)(2), (e)(6)(iii), and (e)(6)(v).
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    With respect to the portion of the proposed rule change that 
revises the Reference Guide to (i) correct a hyperlink and (ii) add a 
cross reference and hyperlink to the general inputs considered by LCH 
SA in constructing the CDS pricing for European and U.S. dollar 
denominated contracts, the Commission believes that correcting an 
erroneous hyperlink and providing an additional cross-reference and 
hyperlink would make the Reference Guide more clear to those who use 
it, consistent with Rule 17Ad-22(e)(1).\16\
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    \16\ 17 CFR 240.17Ad-22(e)(1).
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IV. Conclusion

    It is therefore ordered pursuant to Section 19(b)(2) of the Act 
that the proposed rule change (SR-LCH SA-2017-003) be, and hereby is, 
approved.\17\
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    \17\ In approving the proposed rule change, the Commission 
considered the proposal's impact on efficiency, competition, and 
capital formation. 15 U.S.C. 78c(f).
    \18\ 17 CFR 200.30-3(a)(12).

    For the Commission by the Division of Trading and Markets, 
pursuant to delegated authority.\18\
Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2017-11864 Filed 6-7-17; 8:45 am]
 BILLING CODE 8011-01-P
26728 Federal Register / Vol. 82, No. 109 / Thursday, June 8, 2017 / Notices

designates the proposal operative upon business days between the hours of eliminating the recovery rate risk charge
filing.18 10:00 a.m. and 3:00 p.m. Copies of the as a component of the margin
At any time within 60 days of the filing also will be available for methodology, as it applies to index CDS.
filing of the proposed rule change, the inspection and copying at the principal LCH SA, however, does not propose to
Commission summarily may office of the Exchange. All comments alter the recovery rate risk charge as a
temporarily suspend such rule change if received will be posted without change; component of the margin methodology,
it appears to the Commission that such the Commission does not edit personal as it applies to single name CDS. The
action is necessary or appropriate in the identifying information from proposed rule change also seeks to make
public interest, for the protection of submissions. You should submit only minor updates and clarifications to the
investors, or otherwise in furtherance of information that you wish to make Reference Guide.4
the purposes of the Act. If the available publicly. All submissions
Commission takes such action, the should refer to File Number SR–MIAX– With respect to the portion of the
Commission shall institute proceedings 2017–25 and should be submitted on or proposed rule change that eliminates
to determine whether the proposed rule before June 29, 2017. the recovery rate risk charge as a margin
change should be approved or component for index CDS positions,
For the Commission, by the Division of
disapproved. Trading and Markets, pursuant to delegated LCH SA believes that recovery rate risk
IV. Solicitation of Comments authority.19 is irrelevant to index CDS in normal
Eduardo A. Aleman, market conditions and it therefore
Interested persons are invited to should not need to charge margin to
submit written data, views, and Assistant Secretary.
[FR Doc. 2017–11869 Filed 6–7–17; 8:45 am]
address it. In support, LCH SA
arguments concerning the foregoing,
represents that ‘‘[the] market convention
including whether the proposed rule BILLING CODE 8011–01–P
is to assume a pre-defined recovery rate
change is consistent with the Act.
Comments may be submitted by any of for pricing an index CDS, such as a CDS
the following methods: SECURITIES AND EXCHANGE on iTraxx indices.’’ 5 Therefore,
COMMISSION according to LCH SA, there is no need
Electronic Comments to charge margin for an adverse recovery
[Release No. 34–80848; File No. SR–LCH
• Use the Commission’s Internet SA–2017–003]
rate movement for an index CDS
comment form (http://www.sec.gov/ position because, pursuant to market
rules/sro.shtml); or Self-Regulatory Organizations; LCH convention for pricing an index CDS in
• Send an email to rule-comments@ SA; Order Approving Proposed Rule normal market conditions, the rate will
sec.gov. Please include File Number SR– Change Relating to Recovery Risk not move. Moreover, LCH SA
MIAX–2017–25 on the subject line. Margin characterizes any drop in the recovery
Paper Comments rate for index CDS as a stress loss, and
June 2, 2017.
• Send paper comments in triplicate states that applying a margin charge to
to Brent J. Fields, Secretary, Securities I. Introduction address this risk ‘‘would be trying to
and Exchange Commission, 100 F Street On April 4, 2017, Banque Centrale de capture a stress loss incurred in a
NE., Washington, DC 20549–1090. Compensation, which conducts Clearing Member’s portfolio should the
All submissions should refer to File business under the name LCH SA (‘‘LCH pre-defined recovery rate for these index
Number SR–MIAX–2017–25. This file SA’’), filed with the Securities and CDS change, which is not consistent
number should be included on the Exchange Commission (‘‘Commission’’), with market convention in normal
subject line if email is used. To help the pursuant to Section 19(b)(1) of the market conditions.’’ 6 Furthermore,
Commission process and review your Securities Exchange Act of 1934 while LCH SA does expect deviations
comments more efficiently, please use (‘‘Act’’) 1 and Rule 19b–4 thereunder,2 a from this market convention in extreme
only one method. The Commission will proposed rule change (SR–LCH SA– market conditions, LCH SA believes that
post all comments on the Commission’s 2017–003) to revise its margin these deviations—and any resultant
Internet Web site (http://www.sec.gov/ methodology with respect to credit recovery rate risk on the affected index
rules/sro.shtml). Copies of the default swaps (‘‘CDS’’) in the Reference CDS positions—should not be addressed
submission, all subsequent Guide: CDS Margin Framework through its margin framework but rather
amendments, all written statements (‘‘Reference Guide’’). The proposed rule ‘‘would be captured by LCH SA’s stress
with respect to the proposed rule change was published for comment in scenarios used to size the Default
change that are filed with the the Federal Register on April 19, 2017.3 Fund.’’ 7 Therefore, LCH SA maintains
Commission, and all written The Commission received no comment that elimination of recovery rate risk
communications relating to the letters regarding the proposed change. charge from its margin framework is
proposed rule change between the For the reasons discussed below, the appropriate and consistent with
Commission and any person, other than Commission is approving the proposed applicable provisions of the Exchange
those that may be withheld from the rule change. Act and Commission Rules promulgated
public in accordance with the thereunder.
II. Description of the Proposed Rule
provisions of 5 U.S.C. 552, will be
Change
available for Web site viewing and
asabaliauskas on DSKBBXCHB2PROD with NOTICES

printing in the Commission’s Public The proposed rule change seeks to 4 LCH SA has proposed changes to the Reference

Reference Room, 100 F Street NE., amend the Reference Guide by Guide to (i) correct a hyperlink and (ii) add a cross
reference and hyperlink to the general inputs
Washington, DC 20549, on official considered by LCH SA in constructing the CDS
19 17 CFR 200.30–3(a)(12).
1 15
pricing for European and U.S. dollar denominated
18 For purposes only of waiving the 30-day U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
contracts. See Notice, 82 FR at 18489.
operative delay, the Commission has also 5 Id.
considered the proposed rule’s impact on 3 Securities Exchange Act Release No. 34–80450
6 Id.
efficiency, competition, and capital formation. See (April 13, 2017), 82 FR 18488 (April 19, 2017) (SR–
15 U.S.C. 78c(f). LCH SA–2017–003) (the ‘‘Notice’’). 7 Id.

VerDate Sep<11>2014 17:24 Jun 07, 2017 Jkt 241001 PO 00000 Frm 00072 Fmt 4703 Sfmt 4703 E:\FR\FM\08JNN1.SGM 08JNN1
Document Created: 2018-11-14 10:07:12
Document Modified: 2018-11-14 10:07:12
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 26728