[Federal Register Volume 63, Number 214 (Thursday, November 5, 1998)]
[Notices]
[Pages 59831-59834]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 98-29620]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-40623; File No. SR-GSCC-98-02]
Self-Regulatory Organizations; Government Securities Clearing
Corporation; Order Approving a Proposed Rule Change Regarding the
Implementation of the GCF Repo Service
October 30, 1998.
On April 10, 1998, the Government Securities Clearing Corporation
(``GSCC'') filed with the Securities and Exchange Commission
``(Commission'') a proposed rule change (File No. SR-GSCC-98-02)
pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'').\1\ Notice of the proposal was published in the Federal
Register on June 9, 1998.\2\ The Commission received six comment
letters from five commenters in response to the proposed rule
change.\3\ 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\ Securities Exchange Act Release No. 40057 (June 2, 1998), 63
FR 31539.
\3\ Infra note 12.
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I. Description
Under the proposed rule change, GSCC will implement a new service
called the GCF Repo service. The GCF Repo service will allow GSCC's
dealer members to trade general collateral repos involving U.S.
Government securities throughout the day without requiring intraday,
trade for trade settlement on a delivery versus payment (``DVP'')
basis.
A. General Description of the GCF Repo Service
The GCF Repo service will enable netting members of GSCC that are
not interdealer brokers (``dealers'') to trade general collateral
repos, based on rate and term, with interdealer broker netting members
of GSCC (``brokers'') on a blind basis throughout each day. Brokers
will be required to submit GCF Repo trade data to GSCC within five
minutes of trade execution through a new terminal function. Brokers
will not be able to submit GCF Repo trades in batch. Upon receipt of
the trade data, GSCC immediately will report transaction details to
dealers through a terminal facility, and the GCF Repos will receive
GSCC's settlement guarantee. Standardized, generic CUSIP numbers
established exclusively for the GCF Repo service will be used to
specify the acceptable type of underlying eligible collateral, which
will include Treasuries, Agencies, and mortgage-backed securities.\4\
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\4\ The specific collateral will not be known at the time of the
trade. As a result, brokers will submit all GCF Repo trades to GSCC
using generic general collateral CUSIPs that denote the underlying
category of security. GSCC expects that the initial types of generic
CUSIPs that will be used for GCF Repo activity will denote the
following categories of securities: all Treasury securities,
Treasury securities with a remaining maturity of ten years and
under, all Fedwire-eligible Agency securities, and all Fedwire-
eligible mortgage-backed securities.
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The daily cutoff for submission of trades through the GCF Repo
service will be five minutes after a predetermined trading deadline,
which initially will be 3:30 p.m. GSCC will reject all trades submitted
for same day processing that are received after the cutoff. Dealers
initially will have until 3:45 p.m. to affirm or disaffirm trade data
submitted against them by a broker. If a dealer takes no action either
to affirm or to disaffirm trade data, the trade automatically will be
deemed to be affirmed. GSCC will then conduct an afternoon net
exclusively for GCF Repo service activity and will establish a single
net receive or deliver obligation for each dealer in each generic
CUSIP.
Each dealer with a net deliver obligation will allocate acceptable
securities (determined by the generic CUSIP) and will deliver those
securities on a DVP basis to a GSCC account within the dealer's
clearing bank using a modified triparty arrangement. GSCC will then
instruct the clearing bank to deliver those securities to dealers that
have net receive obligations. All GCF Repo service activity will settle
between dealers and GSCC within the dealers' clearing banks.
GSCC initially will implement the GCF Repo service within each of
its participating clearing banks separately.\5\ As a result, a
participating dealer will be able to trade GCF Repos only with other
dealers that use the same clearing bank.\6\
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\5\ Currently, GSCC's clearing banks are the Bank of New York
and the Chase Manhattan Bank. Under the proposed rule change, any
clearing bank that meets GSCC's operational requirements will be
able to provide GCF Repo settlement services to GSCC netting
members.
\6\ GSCC has informed the Commission that it eventually would
like to expand the GCF Repo service to allow dealers to engage in
GCF Repo trading with dealers that use different clearing banks. As
a result, GSCC currently is engaged in discussions with staff of the
Federal Reserve Bank of New York regarding the means by which to
accomplish ``after-hours'' interbank securities allocations. A
resolution of the issues involved may require, among other things,
opening of the securities Fedwire after its normal close.
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B. Participant Eligibility
To be eligible for the GCF Repo service, brokers and dealers will
be required to meet the qualifications for
[[Page 59832]]
repo netting membership as provided in GSCC's rules. In addition,
dealers will be required to designate the brokers that are authorized
to submit GCF Repo trades on their behalf. GSCC members that wish to
become eligible to use the GCF Repo service also will be required to
test with GSCC and to demonstrate that they are able to submit data to
and to receive output from GSCC using the communications links and in
the formats, timeframes, and deadlines established for the service.
C. Securities Eligibility
The securities eligible for the GSF Repo service are U.S. Treasury
securities (other than inflation-indexed securities or STRIPs), agency
securities that are not mortgage-backed, and book-entry mortgage-backed
securities that are Fedwire-eligible.
D. Broker Submission
Under the rule change, all GCF Repos will be executed by dealers as
money-fill transactions \7\ through eligible GSCC brokers on a blind-
brokered basis. Brokers will be required to submit GCF Repo trades
within five minutes of trade execution. Each GCF Repo trade will have a
single dealer on the repo side that is matched to a single dealer on
the reverse side. The facilitate broker submission, GSCC will implement
a new terminal facility that will provide the following services:
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\7\ A money-fill repo transaction is a repo transaction in which
the amount of securities sold and repurchased is determined by the
market value of the securities rather than on the par value.
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1. Large Trade Submission
Brokers will be able to submit GCF Repo trades to GSCC having
principal values of up to $2 billion. The current maximum transaction
size is $50 million.\8\ The GCF Repo service will have a $1 million
minimum transaction size and a $1 million multiple requirement.
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\8\ This limit on transaction size results from the $50 million
limit on book-entry securities transfers over Fedwire.
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2. Submission of Trade Data
Brokers will be able to submit data simultaneously for both the
repo and reverse sides of the trade using a single screen. GSCC
automatically will populate certain fields of the GCF Repo service's
screen design (such as trade date and start date) with default values.
Brokers will have to enter any information that differs from the
default values. The system also will automatically calculate the end
money for the repo based on start amount, term, and rate. In addition,
GSCC will require that every broker participating in the GCF Repo
service provide its terminal on GSCC's premises so that GSCC operations
staff can monitor whether the broker is satisfactorily fulfilling its
trade submission responsibilities.
E. Trade Recordings and Dealer Notification
GSCC will immediately record, as compared, all GCF Repos upon
receipt of trade data from the brokers. This type of ``locked-in''
trade recording, called broker-assisted processing, will replace the
traditional matched comparison process. As a result, both the repo and
reverse sides of the transaction will be processed solely based upon
broker input without requiring the submission and matching of
corresponding trade details from the dealer members.
Upon receipt of trade data from the brokers, GSCC will immediately
provide dealers with GCF Repo transaction details by way of a dynamic,
real time, online display. The five most recent trades will be
displayed in a window at the bottom of these screens while current
position information will be displayed at the top of the screens.
Position information will be available at both the individual CUSIP
level and the cumulative, overall level.
F. Dealer Affirmation
The rule change requires dealers to review GCF Repo trades and to
either affirm or disaffirm them by a predetermined deadline, which
initially will be 3:45 p.m. Affirming a trade will indicate that the
dealer recognizes the trade and agrees to its terms. If a dealer
disaffirms a trade, its GCF Repo position will be adjusted
automatically, and a notification will be sent to the broker for prompt
resolution. During the affirmation process, dealers will be able to
provide their own internal reference number. Entry of a reference
number will result in the automatic affirmation of the trade.
Any trade that has not been affirmed or disaffirmed by the close of
business will be affirmed automatically by the system.\9\ GSCC will
assess penalties for late dealer affirmations.
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\9\ GSCC will send a message to participants fifteen minutes
prior to running the automated process that will affirm all pending
trades.
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G. Netting and Position Reporting
GSCC will net all GCF Repo trades on a real time basis intraday for
each dealer into a single net settlement position for each generic
general collateral CUSIP submitted. This position will represent the
aggregate net dollar amount ``borrowed'' by the repo dealer or
``loaned'' by the reverse dealer.
Each day, netting will consist of adding all of the carryover
activity (i.e., term repos that are already in effect and forward
starting repos that have already been submitted and for which the start
date is the current day) \10\ in GCF Repos together with the current
day's activity. As a result, positions associated with term repos will
be renetted each day with the dealer's current activity. GSCC will
provide netting results to the clearing banks and its dealer members.
Clearing banks participating in the GCF Repo service will be
responsible for notifying their members regarding the allocation of
collateral and the transfer of funds.
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\10\ In a forward starting repo, the term of the repo beings on
a day after the trade date.
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GSCC will carry every GCF Repo trade in its system and will be
responsible for maintaining a database of all financial date for the
repos that are traded. This will include tracking all relevant terms of
each transaction and insuring that the appropriate final settlement
amounts are paid at the conclusion of each repo.
Real time, online output will be provided to brokers, dealers, and
the clearing banks over GSCC terminals to provide all transaction and
position information necessary for the intraday processing of GCF Repo
activity. Brokers and dealers will be able to view real time position
information, both at the individual CUSIP and overall position levels,
on their terminals throughout the day. The bottom of each position
screen also will display the five most recent transactions processed
against that participant. Each clearing bank will be able to monitor
the positions of its clearing members using its terminal.
H. Securities Allocation
Each dealer that is a net lender of securities through the GCF Repo
service will be responsible for allocating the appropriate collateral
(as defined by the generic general collateral CUSIP) to its clearing
banks using whatever mechanism it mutually agrees upon with the bank.
All such collateral movements will be made on a DVP basis to and from a
GSCC account. As a practical matter, dealers will have to give priority
to the allocation of GCF Repo service collateral so that reallocation
to the ultimate customer may occur promptly. GSCC will impose a penalty
on collateral allocations that are made after 4:30 p.m. Allocations not
made by 7:00 p.m. will be considered fails.
Dealers that receive securities as the result of reverse GCF Repos
will be required to reallocate them to a location
[[Page 59833]]
that is available for reversal before the opening of the securities
wire on the next day. Examples of these locations are overnight
triparty repos, hold-in-custody repos, and bank loans.
I. Next-Day Return of Collateral
All GCF Repo positions will be reversed on the morning of the next
business day prior to the opening of the securities Fedwire. This next
day reversal will occur for all GCF transactions regardless of the term
of the transaction. The repos themselves will be fully collateralized
intraday by cash.
J. Risk Management
GCF Repo transactions and resulting settlement obligations will be
subject to all of GSCC's existing risk management processes. GSCC will
assess its members' overall, cumulative exposure as a result of their
combined DVP buy/sell and repo activity and their GCF Repos service
activity.\11\
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\11\ For a more detailed description of how GSCC will apply its
risk management procedures to the GCF Repo service, refer to
Securities Exchange Act Release No. 40057 (June 2, 1998), 63 FR
31539.
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K. Trade Modification/Cancellation
The rules for GCF Repo trade modification are: (1) any data input
field on an unaffirmed trade may be modified unilaterally by the broker
at any time during the processing day and (2) dealers may not modify
any data on GCF Repos. Rather, dealers must cancel (or request
cancellation of) the trade. The modification of an unaffirmed trade
will result in the immediate replacement of the original trade and all
affected processing screens will be immediately updated accordingly.
Under the rule change, the two basic rules for canceling GCF Repos
are: (1) an unaffirmed trade may be unilaterally canceled by either the
broker or the dealer at any time during the processing day and (2) a
trade that has been affirmed, either by a dealer or by the system as
part of end-of-day processing, will require bilateral cancellation.
This means that a broker may cancel a trade unilaterally at any time
during the day if it has not been affirmed by either the dealer or by
the system. A unilateral cancellation of a GCF Repo trade by the broker
will result in the cancellation of both sides of the trade. Trade
cancellation by the broker will result in the cash and collateral
positions being reversed by the amount of the canceled trade and taken
out of account balances.
A dealer may cancel a GCF Repo trade unilaterally at any time
during the day if it has not been affirmed either by the dealer or by
the system. Trade cancellation will result in the dealer's cash and
collateral position balances being adjusted by the amount of the
canceled trade and in the automatic replacement of the dealer by the
broker in the transaction. The broker will carry the position and incur
all associated responsibilities unless and until the broker submits a
correcting entry (i.e., an entry where the broker enters a new single-
sided transaction with another dealer to eliminate the broker's
position). Cancellation of a trade by the dealer results in the
cancellation of that dealer's side only. The other dealer's side of the
trade will remain intact.
Cancellation of trades that have been affirmed by the dealer or by
the system will be required to be bilateral (i.e., if the dealer
requests a cancellation, the broker must approve it and vice-versa).
The submission by a broker or dealer of a request for cancellation of
an affirmed trade will result in the generation of a trade cancellation
request to the original broker or dealer. Upon approval of the cancel
request, the dealer will automatically be replaced by the broker in the
transaction. The broker will carry the position and incur all
associated responsibilities unless and until the broker submits a
correcting entry (i.e., an entry where the broker enters a new single-
sided transaction with another dealer to eliminate the broker's
position). A dealer or broker request for cancellation of an affirmed
trade that is not acted upon by the counterparty will require manual
intervention (i.e., contacting the counterparty) by GSCC operations to
determine whether or not the trade should be canceled.
L. Output and Reports
GSCC will establish a separate reporting stream to produce a full
range of machine-readable output (``MRO'') and print image end-of-day
reports for the GCF Repo service, which will be substantially similar
to the output currently provided to participants in conjunction with
their regular cash and repo trading activity. In implementing the GCF
Repo service, GSCC will attempt to limit the number and magnitude of
changes made to existing MRO formats in order to minimize the
development effort required by participating members.
II. Comment Letters
The Commission received six comment letters from five commenters in
response to GSCC's filing.\12\
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\12\ Letters from Thomas R. Donavan, President and Chief
Executive Officer, Chicago Board of Trade (``CBOT'') (June 30,
1998); Jean Webb, Secretary, U.S. Commodity Futures Trading
Commission (``CFTC'') (June 30, 1998); T. Eric Kilcollin, President
and Chief Executive Officer, Chicago Mercantile Exchange (``CME'')
(June 30, 1998); Daniel O. Minerva, Chair, and Paul G. Schuefele,
Vice Chair, Funding Division, The Bond Market Association (July 24,
1998); Sal Ricca, President and Chief Operating Officer, GSCC (July
31, 1998); and I. Michael Greenberger, Director, Division of Trading
& Markets, CFTC (September 21, 1998).
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A. Comment Letters Submitted by CBOT, CME and the CFTC
CBOT, CME, and the CFTC addressed the possibility that GCF Repo
service might be subject to the CFTC's jurisdiction.
1. Letter From CBOT
CBOT stated that the GCF Repo service might be subject to the
exclusive jurisdiction of the CFTC. CBOT further stated that if any of
the repos that would be cleared through the GCF Repo service are
futures then the CFTC has exclusive jurisdiction over the service even
if the repos also are securities. CBOT requested that the Commission
defer final action on the proposed rule change until the CFTC had an
opportunity to consider those issues.
2. Letter From CME
CME stated that the forward starting repos that GSCC proposed to
clear through the GCF Repo service might be futures subject to the
CFTC's jurisdiction. CME stated further that the forward starting repos
described in the proposed rule change might not qualify for the forward
contract exemption from the Commodity Exchange Act (``CEA''). As a
result, CME concluded that the trading of forward starting repos might
violate Section 4(a) of the CEA.
CME went on to consider whether the forward starting repo
transactions are exempt from the CEA either through Section
2(a)(1)(A)(ii) of the CEA, known as the ``Treasury Amendment,'' \13\ or
through the CFTC's Part 35 swaps exemption.\14\ CME stated that forward
starting repos contemplated by the proposed rule change are
transactions in repurchase agreements and are not ``enumerated in the
Treasury Amendment'' and that government securities are not the subject
of the forward starting repos. In addition, CME stated that the
Treasury Amendment does not apply to the forward starting repos because
the inter-dealer brokers
[[Page 59834]]
executing the transactions constitute a board of trade.
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\13\ The Treasury Amendment states that:
Nothing in the [CEA] shall be deemed to govern or in any way be
applicable to transactions in foreign currency, security warrants,
security rights, resales of installment loan contracts, repurchase
options, government securities, or mortgages and mortgage purchase
commitments, unless such transactions involve the sale thereof for
future delivery conducted on a board of trade.
7 U.S.C. 2(ii).
\14\ The Part 35 exemption exempts certain swap transactions
from the provisions of the CEA. 17 CFR 35.2.
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In addition, CME presented three reasons why it believes that the
CFTC's Part 35 swaps exemption does not apply to the forward starting
repos that would be cleared through the GCF Repo service: first, the
transactions that would be cleared through the GCF Repo service are
subject to multilateral clearing arrangements; second, the forward
starting repos transactions that would be cleared through the GCF Repo
service are standardized and fungible; and third, the proposed rule
change ``contemplates trading through multilateral execution facilities
maintained by blind-brokers.''
CME requested that the Commission defer action on the proposed rule
change until the CFTC had an opportunity to consider those issues.
3. Letters From the CFTC
The Commission received two comment letters from the CFTC. In the
first letter, the CFTC stated that it was analyzing the repos that
would be cleared through the GCF Repo service and requested that the
Commission defer final action on the proposed rule change until the
CFTC had time to complete its review of the proposal. The second letter
stated that staff of the CFTC's Division of Trading & Markets ``has
completed a review of the GCF Repo Service and has determined that we
have no further comment on this service or the transactions
contemplated thereby.''
B. Letters From the Bond Market Association and GSCC
The Bond Market Association (``BMA'') and GSCC responded to CBOT's
and CME's letters and to the CFTC's first letter. GSCC and the BMA
stated that forward start repos are not futures. GSCC and the BMA
stated further that a forward starting repo is the same as a standard
repo except that the obligations created by a forward starting repo
begin on a day after the day that the transaction is executed.
In addition, GSCC and the BMA stated that the forward starting
repos that would be cleared through the GCF Repo service are covered by
the Treasury Amendment. GSCC stated that forward starting repos are
transactions in government securities because they obligate the parties
to purchase and sell specified government securities on specified
dates. The BMA stated that market participants understand that the
Treasury Amendment applies to transactions in and in any way involving
government securities (as long as the transactions do not involve the
sale of such securities for future delivery conducted on an organized
exchange). Moreover, GSCC and the BMA stated that the facilities of
interdealer brokers should not be considered boards of trade because
they are not formally organized exchanges.
III. Discussion
Under Section 19(b) of the Act,\15\ the Commission is required to
approve a proposed rule change of a clearing agency if it finds that
the proposed rule change is consistent with the Act and the rules and
regulations thereunder. In reviewing GSCC's proposal under this
standard, the Commission has looked primarily to Section 17A(b)(3) of
the Act.\16\ This section requires, among other things, that the rules
of a clearing agency be designed to promote the prompt and accurate
clearance and settlement of securities transactions and to remove
impediments to and perfect the mechanism of a national system for
prompt and accurate clearance and settlement of securities
transactions.
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\15\ 15 U.S.C. 7s.
\16\ 15 U.S.C. 7q-1(b)(3).
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The market in repo transactions involving government securities,
including general collateral repos, is already well established. The
proposed rule change would expand the types of repo transactions that
can be processed through GSCC. As a result, the Commission believes
that the proposed rule change is consistent with GSCC's obligations
under Section 17A(b)(3) because it should provide a more efficient
method for the clearance and settlement of general collateral repo
transactions in government securities. Specifically, the Commission
believes that the use of the GCF Repo service should reduce exposure to
counterparty default, increase payment netting, and apply advance
clearing and risk management practices to the market in general
collateral repos. Accordingly, the Commission believes that the rule
change should enable GSCC to help facilitate the prompt and accurate
clearance and settlement of general collateral repos involving U.S.
Government securities and to remove impediments to and help perfect the
mechanism of the national clearance and settlement system for
securities transactions.
The comment letters that the Commission received from CBOT and CME
raised a question as to whether some of the repos that will be
processed through the GCF Repo service are futures subject to the
CFTC's jurisdiction. The BMA and GSCC asserted that forward starting
repos are distinct from futures, and even if futures they would be
exempt from CFTC jurisdiction. CBOT and CME urged the Commission to
defer action until the CFTC had an opportunity to address the question.
The CFTC requested that the Commission defer final action until the
CFTC had an opportunity to review whether the proposal ``raise[d] legal
issues under the Commodity Exchange Act.'' The CFTC's Division of
Trading & Markets has advised the Commission that it has no further
comment on the GCF Repo service or the transactions that will be
processed through it.
IV. Conclusion
On the basis of the foregoing, the Commission finds that the
proposal is consistent with the requirements of the Act and in
particular with the requirements of Section 17A of the Act and the
rules and regulations thereunder.
It is therefore ordered, pursuant to Section 19(b)(2) of the Act,
that the proposed rule change (File No. SR-GSCC-98-02) be and hereby is
approved.
For the Commission by the Division of Market Regulation,
pursuant to delegated authority.\17\
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\17\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 98-29620 Filed 11-4-98; 8:45 am]
BILLING CODE 8010-01-M