Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by the Pacific Exchange, Inc. Relating to Margin and Net Capital Requirements for Joint Back Office Participants and Clearing Firms

[Federal Register Volume 63, Number 37 (Wednesday, February 25, 1998)]
[Notices]
[Pages 9622-9623]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-4758]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-39680; File No. SR-PCX-97-49]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the Pacific Exchange, Inc. Relating to Margin and Net Capital 
Requirements for Joint Back Office Participants and Clearing Firms

February 18, 1998.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ notice is hereby given that on December 18, 1997, the 
Pacific Exchange, Inc. (``PCX'' or ``Exchange'') 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 Exchange. 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).
---------------------------------------------------------------------------

I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    The Exchange seeks to amend Exchange Rule 2.16(c)(5) and adopt a 
new Exchange Rule 2.16(c)(6) to establish margin and net capital 
requirements for joint Back Office (``JBO'') participants and clearing 
firms.
    The text of the proposed rule change is available at the Office of 
the Secretary, the Exchange, and at the Commission.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the proposed Rule Change

    In its filing with the Commission, the Exchange 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 Exchange has prepared summaries, set forth in 
sections A, B, and C below, of the most significant aspects of such 
statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    The Exchange proposes to revise Exchange Rule 2.16(c)(5) and adopt 
a new Exchange Rule 2.16(c)(6) to establish margin and net capital 
requirements for JBO participants and clearing firms. JBO arrangements 
permit a participating broker-dealer to be deemed self-clearing for 
margin purposes and entitle the participating broker-dealer to good 
faith credit. Pursuant to Regulation T, a JBO participant must maintain 
an ownership interest in the JBO clearing firm.\2\
---------------------------------------------------------------------------

    \2\ Regulation T, ``Credit by Brokers and Dealers,'' requires 
that a JBO clearing firm be ``a clearing and servicing broker or 
dealer owned jointly or individually by other [broker-dealers].'' 12 
CFR 220.11(a)(2). The Board of Governors of the Federal Reserve 
System issued Regulation T pursuant to the Act.
---------------------------------------------------------------------------

    In recent amendments to Regulation T, the Board of Governors of the 
Federal Reserve System (``FRB'') placed its reliance on the authority 
of self-regulatory organizations (``SROs'') to ensure that 
reasonableness of JBO arrangements.\3\ When the provision permitting 
JBO arrangements was first adopted, the FRB assumed there would be a 
reasonable relationship between the good faith credit extended to a JBO 
participant and its ownership interest in the clearing firm. However, 
because Regulation T does not provide an ownership standard, good faith 
credit has been extended to ``owners'' maintaining only a nominal 
interest in a clearing firm.
---------------------------------------------------------------------------

    \3\ See Board of Governors of the Federal Reserve System Docket 
No. R-0772 (Apr. 26, 1996), 61 FR 20386 (May 6, 1996).
---------------------------------------------------------------------------

    In conjunction with other SROs and representatives from the 
securities industry, the Exchange has established standards for JBO 
participants and clearing firms. These standards will permit the 
extension of good faith credit to clearing firm ``owners'' only when 
the owners maintain meaningful assets on deposit with the JBO clearing 
firm, and the clearing firm maintains sufficient net capital and risk 
control procedures to carry such accounts. The Exchange's proposed rule 
change would establish the following requirements:
    (a) Broker-Dealer Accounts. The Exchange proposes to adopt a new 
Exchange Rule 2.16(c)(6)(A) that would permit a member organization to 
carry the proprietary account of another broker-dealer that is 
registered with the

[[Page 9623]]

Commission, upon a margin basis that is satisfactory to both parties, 
provided the requirements of Regulation T are adhered to and the 
account is not carried in a deficit equity condition. The rule would 
specify that the amount of any deficiency between the equity maintained 
in the account and the haircut requirements of Commission Rule 15c3-1 
(``Rule 15c3-1'') shall be deducted in computing the net capital of the 
member organization under the Exchange's capital requirements.
    (b) JBO Arrangements. The Exchange also proposes to adopt a new 
Exchange Rule 2.16(c)(6)(B) which will provide that an arrangement may 
be established between two or more registered broker-dealers pursuant 
to Regulation T to form a JBO arrangement for carrying and clearing, or 
carrying accounts of participating broker-dealers. Member organizations 
must provide written notification to the Exchange prior to establishing 
a JBO.
    The proposed rule change also sets forth certain requirements that 
a carrying and clearing, or carrying member organization must satisfy. 
First, the member organization must maintain a minimum tentative net 
capital \4\ of $25 million as computed pursuant to Rule 15c3-1, except 
that a member organization whose primary business consists of the 
clearance of options market-maker accounts, may carry JBO accounts 
provided that it maintains a minimum net capital of $10 million as 
computed pursuant to Rule 15c3-1. Second, the member organization must 
include in its ration of gross options market maker deductions to net 
capital required by the provisions of Rule 15c3-1, gross deductions for 
JBO participant accounts. Clearance of options market maker accounts 
shall be deemed to be a broker-dealer's primary business if a minimum 
of 60% of the aggregate deductions in the above ratio are options 
market maker deductions. Third, the member organization must maintain a 
written risk analysis methodology for assessing the amount of credit 
extended to participating broker-dealers which shall be made available 
to the Exchange upon request. Fourth, the member organization must 
deduct from net capital haircut requirements pursuant to Rule 15c3-1 in 
excess of the equity maintained in the accounts of participating 
broker-dealers.
---------------------------------------------------------------------------

    \4\ The term ``tentative net capital'' generally refers to a 
member firm's net capital before the application of haircuts and 
undue concentration deductions.
---------------------------------------------------------------------------

    In addition, the proposed rule change specifies that a 
participating broker-dealer must: (a) Be a registered broker-dealer 
subject to Rule 15c3-1; (b) maintain an ownership interest in the 
carrying/clearing member organization pursuant to Regulation T, Section 
220.11; and (c) maintain a minimum liquidating equity of $1 million in 
the JBO arrangement exclusive of the ownership interest established in 
(b) above. When the minimum liquidating equity decreases below the $1 
million requirement, the participant must deposit an amount sufficient 
to eliminate this deficiency within 5 business days or become subject 
to margin requirements pursuant to the other provisions of Exchange 
Rule 2.16, ``Margin Requirements.''
    (c) Specialist's Accounts. The proposed rule change also modifies 
Exchange Rule 2.16(c)(5)(A) to revise the manner in which debit items 
to a carrying member firm's net capital are calculated. Currently, the 
amount of any deficiency between the margin deposited by a specialist 
and the margin required by Exchange Rule 2.16 is considered as debit 
item in the computation of the net capital of the carrying member firm. 
Under the proposed rule change, the debit item would consist of the 
amount of any deficiency between the margin deposited by a specialist 
and the haircut requirements of Rule 15c3-1. The proposed rule change 
would make the identical modification to Exchange Rule 2.16(c)(5)(B) to 
apply to the situation where joint accounts are carried by a member 
firm for specialists, and the member firm participates in such joint 
accounts.
2. Statutory Basis
    The Exchange believes the proposed rule change is consistent with 
Section 6(b) of the Act,\5\ in general, and furthers the objectives of 
Section 6(b)(5),\6\ in particular, in that it is designed to perfect 
the mechanism of a free and open market and a national market system, 
and to protect investors and the public interest.
---------------------------------------------------------------------------

    \5\ 15 U.S.C. 78f(b).
    \6\ 15 U.S.C. 78f(b)(5).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

    The Exchange does no believe the proposed rule change will impose 
any inappropriate burden on competition.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants or Others

    The Exchange did not solicit or receive written comments with 
respect to the proposed rule change.

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

    Within 35 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding, or (ii) as to 
which the Exchange consents, the Commission will:
    (A) By order approve 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 Act. Persons making written submissions 
should file six copies thereof with the Secretary, Securities and 
Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. 
Copies of the submissions, 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 persons, 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 inspection and copying in the 
Commission's Public Reference Section, 450 Fifth Street, N.W., 
Washington, D.C. 20549. Copies of such filing will also be available 
for inspection and copying at the principal office of the Exchange. All 
submissions should refer to File No. SR-PCX-97-49 and should be 
submitted by March 18, 1998.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\7\
---------------------------------------------------------------------------

    \7\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-4758 Filed 2-24-98; 8:45 am]
BILLING CODE 8010-01-M