[Federal Register Volume 82, Number 9 (Friday, January 13, 2017)]
[Notices]
[Pages 4434-4437]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-00626]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-79764; File No. SR-DTC-2016-008]
Self-Regulatory Organizations; The Depository Trust Company;
Order Granting Approval of Proposed Rule Change Relating To Processing
of Transactions in Money Market Instruments
January 9, 2017.
The Depository Trust Company (``DTC'') filed on September 23, 2016
with the Securities and Exchange Commission (``Commission'') proposed
rule change SR-DTC-2016-008 (``Proposed Rule Change'') pursuant to
Section 19(b)(1) of the Securities Exchange Act of 1934 (``Act'') \1\
and Rule 19b-4 thereunder.\2\ The Proposed Rule Change was published
for comment in the Federal Register on October 11, 2016.\3\ On,
November 18, 2016, the Commission extended to January 9, 2017 the date
by which it shall either approve, disapprove, or institute proceedings
to determine whether to approve or disapprove the Proposed Rule
Change.\4\ The Commission did not receive any comments on the Proposed
Rule Change. For the reasons discussed below, the Commission is
granting approval of 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. 34-79046 (October 5,
2016), 81 FR 70200 (October 11, 2016) (SR-DTC-2016-008)
(``Notice''). DTC also filed the Proposed Rule Change as an advance
notice with the Commission, pursuant to Section 806(e)(1) of the
Payment, Clearing, and Settlement Supervision Act of 2010 and Rule
19b-4(n)(1) under the Act. 12 U.S.C. 5465(e) and 17 CFR 240.19b-
4(n)(1), respectively. The advance notice was published in the
Federal Register on November 9, 2016. Securities Exchange Act
Release No. 79224 (November 3, 2016), 81 FR 78884 (November 9, 2016)
(SR-DTC-2016-802). The Commission did not receive any comments on
the advance notice.
\4\ Securities Exchange Act Release No. 34-79351 (November 18,
2016), 81 FR 85295 (November 25, 2016) (SR-DTC-2016-008)
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I. Description of the Proposed Rule Change
The Proposed Rule Change is a proposal by DTC to modify (i) the DTC
Rules, By-laws and Organization Certificate (``Rules''),\5\ (ii) the
DTC Settlement Service Guide (``Settlement Guide''),\6\ and (iii) the
DTC Distributions Service Guide (``Distributions Guide''),\7\ in order
to change the way in which DTC processes transactions in money market
instruments (``MMI''). The proposal would affect DTC's processing of
issuances of MMI securities as well as maturity presentments, income
presentments, principal presentments, and reorganization presentments
(collectively, ``presentments'' and with issuances of MMI securities,
``MMI Obligations'').
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\5\ Available at http://www.dtcc.com/legal/rules-and-procedures.aspx.
\6\ Available at http://www.dtcc.com/~/media/Files/Downloads/
legal/service-guides/Settlement.pdf.
\7\ Available at http://www.dtcc.com/~/media/Files/Downloads/
legal/service-guides/
Distributions%20Service%20Guide%20FINAL%20November%202014.pdf.
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Specifically, DTC proposes to: (i) With respect to delivery of MMI
securities, require purchasers of the securities (or their custodian,
if applicable) to acknowledge that they agree to receive the securities
via DTC's Receiver Authorized Delivery (``RAD'') system before DTC
processes the transaction; (ii) with respect to cash, require an
issuing and paying agent (``IPA'') of an MMI issuer to acknowledge its
funding obligations for MMI presentments before DTC processes the
transaction, except in limited circumstances where there are no funding
obligations; \8\ (iii) implement an enhanced process to check certain
MMI transactions against DTC's risk management controls (referred to as
``MMI Optimization''); (iv) eliminate the largest provisional net
credit risk management control; and (v) eliminate DTC's receive versus
payment net additions control, as described below. In addition, the
proposal would amend DTC's Distributions Guide to conform to the
proposed changes.
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\8\ An affirmative MMI funding acknowledgement by the IPA would
not be required where the aggregate amount of an issuer's delivery
of MMI securities that have been approved in RAD exceeds the
aggregate amount of presentments because payment for those
securities would fully fund the presentments. In such a case, the
IPA would be deemed to have provided a funding acknowledgement and
DTC would process the transactions, subject to risk management
controls.
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A. Background
Today, according to DTC, when an issuer issues MMI securities at
DTC, the IPA for that issuer sends issuance
[[Page 4435]]
instructions to DTC electronically, which results in crediting the
applicable MMI securities to the DTC account of the IPA. The MMI
securities are then delivered by DTC to the accounts of the applicable
DTC participants (``Participants'') that are purchasing the issuance,
typically as custodians for individual investors, in accordance with
their purchase amounts. The IPA's delivery instructions may be free of
payment or, most often, for payment (i.e., delivery versus payment or
``DVP''). Unlike deliveries free of payment, DVP transactions are
subject to DTC's risk management controls for both the IPA and the
receiving Participants, which means they are monitored for Net Debit
Cap and Collateral Monitor sufficiency.\9\
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\9\ DVP transfers at DTC are structured so that the completion
of delivery of securities to a Participant in end-of-day settlement
is contingent on the receiving Participant satisfying its end-of-day
net settlement obligation, if any. The risk of Participant failure
to settle is managed through risk management controls that would
enable DTC to complete settlement despite the failure to settle of
the Participant, or affiliated family of Participants, with the
largest net settlement obligation. The two principal controls are
the Net Debit Cap and Collateral Monitor. The largest net settlement
obligation of a Participant or affiliated family of Participants
cannot exceed DTC liquidity resources, based on the Net Debit Cap,
and must be fully collateralized, based on the Collateral Monitor.
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When MMI securities of a particular acronym \10\ mature, the
current presentment process involves DTC automatically sweeping the
matured positions from the applicable Participant accounts and debiting
the settlement account of the applicable IPA for the amount of the
matured position, with corresponding credits made to the settlement
accounts of the deliverers. Because presentments are currently
processed automatically at DTC, IPAs have the option to refuse to pay
(``RTP'') for maturing MMI Obligations to protect against the
possibility that an IPA may not be able to fund settlement because it
has not received funds from the relevant issuer. An IPA that refuses
payment for a presentment (i.e., refuses to make payment for the
delivery of matured MMI securities for which it is the designated IPA
and/or pay interest or dividend income on MMI securities for which it
is the designated IPA) must notify DTC of its RTP. An IPA may notify
DTC of an RTP until 3:00 p.m. ET on the date of the affected
presentment.
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\10\ MMI of an issuer are designated by DTC using unique four-
character identifiers referred to as acronyms. An MMI issuer can
have multiple acronyms representing its securities. MMI transactions
and other functions relating to MMI are done on an ``acronym-by-
acronym'' basis.
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Under the current Rules, the effect of an RTP is for DTC to reverse
all processed MMI security deliveries of that MMI acronym, including
issuances, related funds credits and debits, and presentments, which
means that the securities would fail to settle. This reversal of
processed (but not yet settled) transactions could override DTC's risk
management controls (i.e., Collateral Monitor and Net Debit Cap) and
could result in a Participant's account having, unexpectedly, a net
debit balance that exceeds its Net Debit Cap and/or having insufficient
collateral to secure its settlement obligations throughout the day.
Thus, RTPs can create uncertainty and pose systemic risk with respect
to a Participant's and, ultimately, DTC's ability to complete end-of-
day net funds settlement.
Currently, to mitigate the risks associated with an RTP, the Rules
and the Settlement Guide provide for the Largest Provisional Net Credit
control (``LPNC Control''). Under the LPNC Control, DTC withholds from
each Participant's Net Debit Cap the two largest intraday net MMI
credits owed to that Participant. The MMI credits withheld are not
included in the calculation of the Participant's Collateral Monitor or
its net debit balance. This provides protection in the event that
processed (but not yet settled) MMI transactions are reversed by DTC as
a result of an RTP.\11\
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\11\ See Securities Exchange Act Release No. 71888 (April 7,
2014), 79 FR 20285 (April 11, 2014) (SR-DTC-2014-02) (clarifying the
LPNC procedures in the Settlement Guide) and Securities Exchange Act
Release No. 68983 (February 25, 2013), 78 FR 13924 (March 1, 2013)
(SR-DTC-2012-10) (updating the Rules related to LPNC).
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According to DTC, its Rules and procedures relating to settlement
processing for the MMI program \12\ were designed to limit credit,
liquidity, and operational risk for DTC and Participants. In connection
with ongoing efforts by DTC to evaluate the risk associated with the
processing of MMI Obligations, DTC has determined that the risks
presented by intra-day reversals of processed MMI Obligations should be
eliminated to prevent the possibility that a reversal could override
DTC's risk controls and heighten liquidity and settlement risk. DTC
also states that eliminating intra-day reversals of processed MMI
Obligations would enhance intra-day finality and allow for the
elimination of the LPNC Control, which creates intra-day blockage and
affects liquidity through the withholding of settlement credits.
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\12\ The procedures applicable to MMI settlement processing are
set forth in the Settlement Guide. Supra note 6.
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B. Proposed Changes
The proposal would eliminate provisions for intra-day reversals of
processed MMI Obligations based on an IPA's RTP or issuer insolvency of
which DTC becomes aware, as described below.
Pursuant to the proposal, DTC would no longer automatically process
MMI Obligations. DTC's processing of MMI Obligations involves the
delivery of cash and/or securities. With respect to securities, DTC
would require purchasers of MMI issuances (or their custodian, if
applicable) to acknowledge in RAD that they agree to receive the MMI
securities before DTC processes the transaction. With respect to cash,
an IPA would make an MMI funding acknowledgment using a new DTC
platform designed to accept such acknowledgments. When an MMI funding
acknowledgement is received, DTC would attempt to process transactions
in the acronym(s) for which the MMI funding acknowledgment pertains.
If the IPA has provided an MMI funding acknowledgment for the full
amount of presentments, then all transactions in that acronym would be
sent to the normal DTC processing system and tested against DTC's risk
management controls. If the IPA provides an MMI funding acknowledgement
for only partial funding of the presentments, then DTC would undertake
the proposed ``MMI Optimization'' process to determine whether risk
management controls would be satisfied by all deliverers and purchasers
of the acronym and determine whether all parties would maintain
adequate positions to complete the applicable transactions. However, as
long as the issuances that could satisfy deliverer and purchaser risk
controls for that MMI acronym are equal to or greater than the maturing
presentments of that acronym, the applicable transactions (i.e., those
that pass risk controls) could be processed without an IPA's funding
acknowledgement.
If DTC does not receive the necessary acknowledgments from both the
IPA and purchasers for an acronym for which maturing MMI Obligations
are due on that day and/or DTC is aware, through ordinary business
channels, that the issuer of an acronym is insolvent (``Acronym Payment
Failure''), then DTC would not process transactions in the acronym.\13\
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\13\ DTC would automatically consider an Acronym Payment Failure
that occurred due to an IPA's failure to provide timely MMI funding
acknowledgement (i.e., provide the acknowledgment by 3:00 p.m. ET)
as an RTP.
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In the event of an Acronym Payment Failure, DTC would: (i) Prevent
further issuance and maturity activity for the acronym in DTC's system;
(ii) prevent
[[Page 4436]]
deliveries of MMI securities of the acronym and halt all activity in
that acronym; (iii) set the collateral value of the MMI securities in
the acronym to zero for purposes of calculating the Collateral Monitor
of any affected Participant; and (iv) notify Participants of the
Acronym Payment Failure via DTC's current notification process.
Notwithstanding the occurrence of an Acronym Payment Failure, the IPA
would remain liable for funding pursuant to any MMI funding
acknowledgment previously provided for that business day.
A ``Temporary Acronym Payment Failure'' would occur when an IPA
notifies DTC that it temporarily refuses to pay income presentments,
and only income presentments, for an acronym, which typically would be
due to an issuer's inability to fund income presentments on that day. A
Temporary Acronym Payment Failure would only be initiated if there are
no maturity presentments, principal presentments, and/or reorganization
presentments on that business day. DTC would require the issuer and/or
IPA to resolve such a situation by the next business day.
In the event of a Temporary Acronym Payment Failure, DTC would: (i)
Temporarily devalue to zero all of the issuer's MMI securities for
purposes of calculating the Collateral Monitor, unless and until the
IPA acknowledges funding with respect to the income payments on the
following business day; (ii) notify Participants of the delayed
payment; and (iii) block from DTC's systems all further issuances and
maturities by that issuer for the remainder of the business day on
which notification of the Temporary Payment Failure was received by
DTC. An IPA would not be able to avail itself of a Temporary Acronym
Payment Failure for the same acronym on consecutive business days.
The Commission understands that the proposal would not: (i)
Decrease the total number and value of transactions that would pass
DTC's risk controls throughout the processing day; or (ii) increase the
volume of transactions that would fail to settle. The Commission also
understands that the proposal would reduce blockage caused by DTC. Non-
MMI transactions and fully funded MMI transactions would likely have a
reduction in blockage because of the elimination of the LPNC Control.
The elimination of the LPNC Control would no longer withhold billions
of dollars of settlement credits as it does today, thus permitting MMI
transactions subject to the LPNC Control to process earlier in the day.
Moreover, it is expected that the value and volume of MMI transactions
recycling due to failure to meet DTC's risk management controls during
the late morning and afternoon periods would be reduced, because of
such transactions being held outside of DTC's processing system while
they await the necessary acknowledgments.
Similar to the LPNC Control, the RVPNA Control is used to prevent a
Participant from delivering free of value or undervalued any MMI
securities that were received for payment on the same day.\14\ For
example, under DTC's current rules, if Participant A delivers MMI
securities to Participant B for payment, and then Participant B
delivers the same MMI securities to Participant C free of payment
(subject to risk management controls), the delivery to Participant C is
final when the securities are credited to Participant C. DTC would,
therefore, be unable to reverse the delivery to Participant C and,
thus, DTC could not reverse the delivery from Participant B to
Participant A. The RVPNA Control protects DTC against being unable to
reverse such transactions of MMI Securities in the event of an RTP by
the IPA. Because DTC would no longer permit the reversal of processed
MMI transactions, DTC would no longer need the RVPNA Control.
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\14\ For purposes of RVPNA, MMI securities are considered
undervalued if they are delivered for less than 10 percent below
market value.
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II. Discussion and Commission Findings
Section 19(b)(2)(C) of the Act \15\ 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 rules and regulations thereunder applicable
to such organization. The Commission believes the Proposed Rule Change
is consistent with Section 17A(b)(3)(F) of the Act and Rule 17Ad-
22(d)(12) under the Act,\16\ as described in detail below.
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\15\ 15 U.S.C. 78s(b)(2)(C).
\16\ 15 U.S.C. 78q-1(b)(3)(F); 17 CFR 240.17Ad-22(d)(12).
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A. Consistency With Section 17A(b)(3)(F) of the Act
Section 17A(b)(3)(F) of the Act requires, in part, that the rules
of a clearing agency be designed to promote the prompt and accurate
clearance and settlement of securities transactions and to protect
investors and the public interest.\17\
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\17\ 15 U.S.C. 78q-1(b)(3)(F).
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The Commission believes that the Proposed Rule Change is consistent
with promoting prompt and accurate clearance and settlement. First, as
described above, DTC automatically processes MMI transactions today but
permits RTPs in order to enable IPAs to protect against the possibility
that the IPA does not receive the necessary funds from the relevant
issuer. However, if DTC reverses processed (but not yet settled) MMI
transactions because of an RTP, the transactions would fail to settle
and the reversal could override DTC's risk management controls.
The Proposed Rule Change would eliminate such reversals, failures,
and possible overrides because the proposal would require, before DTC
would process an MMI transaction, that (i) purchasers of MMI issuances
(or their custodian, if applicable) authorize delivery of the MMI
securities, and (ii) IPAs provide an MMI funding acknowledgement that
commits the IPA to the acknowledge funds. If DTC does not receive a RAD
authorization or MMI funding acknowledgement, as applicable, it would
not process the MMI transaction. However, if a RAD authorization or an
MMI funding acknowledgment is receive, DTC would no longer permit an
RTP for what was authorized or acknowledge, thus eliminating the risk
that the applicable MMI transaction would fail to settle or override
DTC's risk management controls due to an RTP. Although theses proposed
changes would establish new requirements before DTC would process such
MMI transactions, the Commission believes that the benefits of
eliminating the risk of a potential override of DTC's risk management
controls from an RTP supports such requirements.
Second, the Proposed Rule Change would help ensure prompt and
accurate clearance and settlement securities by employing the proposed
MMI Optimization. MMI Optimization would, for MMI transactions that
await funding, continually test the net effect of transactions, across
multiple MMI issuers, on receiving and delivering Participants' risk
controls, and then process the transactions once the controls are met.
As such, MMI Optimization would help maximize processing and facilitate
more timely settlement of MMI transactions, thus reducing risks that
transactions may not settle.
Third, the proposed removal of the LPNC and RVPNA Controls also
would further promote prompt clearance and settlement. As described
above, the LPNC Control currently withholds from each Participant the
two largest intraday net MMI credits out of all of the MMI credits owed
to that Participant in order to protect DTC from a Participant
[[Page 4437]]
breaching its Net Debit Cap or having insufficient collateral in the
event of a reversal caused by an RTP. However, withholding the credits
makes them unavailable to the Participant, which can cause blockage
(i.e., the failure of a transaction to process because of insufficient
liquidity) for the Participant. Meanwhile, the RVPNA Control limits a
Participant's ability to deliver MMI that the Participant is due to
receive that day. By preventing Participants from delivering certain
MMI securities, the RVPNA Control also can create blockage.
Because DTC would no longer process MMI transactions without a
purchaser's RAD authorization and an IPA's MMI funding acknowledgement,
as applicable, RTPs and resulting intraday reversals no longer present
the risk that the LPNC and RVPNA Controls are meant to address. As
such, DTC would eliminate these controls. This change would make
available to Participants the intraday credits that were previously
withheld by those controls, which would decrease intraday liquidity
blockage for the Participant and enable DTC to process MMI transactions
earlier. Thus, Participants would have less exposure to intraday
reversals that increase liquidity and settlement risk and a more
complete view of their actual intraday net debit and credit balances.
The Commission also believes that the Proposed Rule Change is
consistent with protecting investors and the public interest. As
described above, DTC would no longer automatically process MMI
presentments. Rather, DTC would require purchasers to authorize
delivery via RAD and IPAs to provide a funding acknowledgment before
processing MMI presentments, as applicable. Because these changes would
eliminate the risk of reversals due to an RTP, the changes would
mitigate the risk of a potential override of DTC's risk management
controls. Thus, the Proposed Rule Change would help protect investors
and the public interest by reducing DTC's exposure to potential
failures, promoting DTC's safety and soundness, and providing greater
assurance that transactions will settle despite a Participant default.
Therefore, for the above reasons, the Commission believes that the
Proposed Rule Change will help promote the prompt and accurate
clearance and settlement of securities transactions and help protect
investors and the public interest, consistent with Section 17A(b)(3)(F)
of the Act, cited above.
B. Consistency With Rule 17Ad-22(d)(12)
Rule 17Ad-22(d)(12) under the Act requires DTC to establish,
implement, maintain and enforce written policies and procedures
reasonably designed to ensure that final settlement occurs no later
than the end of the settlement day; and require that intraday or real-
time finality be provided where necessary to reduce risks.\18\ Through
this proposal, DTC would no longer process MMI transactions
automatically but, rather, would first require an IPA's funding
acknowledgment and a purchaser's RAD authorization, as applicable.
Where such acknowledgements and authorizations are provided, DTC would
no longer permit an RTP, thus eliminating the risk of an intraday
reversal of a processed MMI transaction. Additionally, the proposal
would eliminate the LPNC and RVPNA Controls, which would help eliminate
blockage caused by the LPNC Control's withholding of Participants' two
largest net credits for MMI transactions and the RVPNA Control's
restriction on delivering certain MMI securities. Each of these
proposed changes, both individually and collectively, would help ensure
that final settlement occurs at the end of the day. Therefore, the
Commission believes that the changes proposed in the Advance Notice are
consistent with Rule 17Ad-22(d)(12) under the Act.\19\
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\18\ 17 CFR 240.17Ad-22(d)(12).
\19\ Id.
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III. Conclusion
On the basis of the foregoing, the Commission finds that the
Proposed Rule Change is consistent with the requirements of the Act and
in particular with the requirements of Section 17A of the Act \20\ and
the rules and regulations thereunder.
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\20\ 15 U.S.C. 78q-1.
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It is therefore ordered, pursuant to Section 19(b)(2) of the Act,
that proposed rule change SR-DTC-2016-008 be, and hereby is, Approved
as of the date of this order or the date of a notice by the Commission
authorizing DTC to implement DTC's advance notice proposal (SR-DTC-
2016-802) that is consistent with this Proposed Rule Change, whichever
is later.\21\
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\21\ In approving the proposed rule change, the Commission
considered the proposals' impact on efficiency, competition, and
capital formation. 15 U.S.C. 78c(f).
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\22\
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\22\ 17 CFR 200.30-3(a)(12).
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Eduardo A. Aleman,
Assistant Secretary.
[FR Doc. 2017-00626 Filed 1-12-17; 8:45 am]
BILLING CODE 8011-01-P