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Self-Regulatory Organizations; Government Securities Clearing Corporation; Order Granting Approval of a Proposed Rule Change Relating to the Redesign of Comparison Rules

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Start Preamble October 17, 2001.

On January 16, 2001, the Government Securities Clearing Corporation (“GSCC”) filed with the Securities and Exchange Commission (“Commission”) and on April 11 and August 17, 2001,[1] amended the proposed rule change (File No. SR-GSCC-2001-01) pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (“Act”).[2] Notice of the proposal was published in the Federal Register on May 16, 2001.[3] No comment letters were received. For the reasons discussed below, the Start Printed Page 53817Commission is granting approval for the proposed rule change.

I. Description

The purpose of the filing is to redesign GSCC's comparison rules in order to implement real-time interactive services. In a white paper distributed to all members in early 1997, GSCC outlined its long-range plans to provide straight-through processing and a point-of-trade guarantee to its members primarily through the implementation of real-time interactive services. Last years, GSCC announced that it would implement its interactive services in three phases. Phase 1 will introduce interactive messaging to support real-time comparison; phase 2 will introduce interactive messaging to support netting; and phase 3 will introduce support of same-day settlement of repo start legs.

During the latter part of 2000, GSCC implemented the necessary technical changes to its automated system to implement the first phase of its interactive processing service (i.e., making available the interactive messaging facility to support real-time comparison). Up until this point, GSCC's processing experience has been essentially batch. Members now have the ready ability, from a technological perspective, to submit trade input on an automated basis to GSCC intraday as trades are executed. While GSCC will continue to support its existing batch input and output facilities initially, it plans to eventually stop supporting these older formats. Members will be encouraged to make the shift from batch to interactive processing as soon as it is feasible for them to do so. At some point in time, once a sufficient nucleus of members has begun processing interactively, GSCC will implement disincentives to discourage members from continuing to submit and receive data via the old batch formats.[4]

Concurrent with this development, GSCC has been redesigning its matching and comparison procedures to better meet the needs of its members during their transition from batch to an interactive environment. This redesign is the subject of this proposed rule change. GSCC's central goal in this redesign is to provide straight-through processing by allowing for the easy identification and resolution of trades intraday to achieve 100 percent comparison. GSCC believes that interactive messaging and enhanced real-time matching processing are critical steps in helping to reduce risk by ensuring that more transactions are compared earlier in the day and then eventually also netted and guaranteed through GSCC so that intraday credit exposure to counterparties is minimized.

In the current environment, with the exception being certain locked-in trades, most trades such as members' Federal Reserve auction purchases are compared within the GSCC system as a result of bilateral comparison. To facilitate real-time comparison while still providing members with the flexibility to transition from batch to interactive submission according to a timeframe suitable to their own needs and resources, GSCC is proposing to: (i) Amend its rules to provide for three types of trade comparison: (a) bilateral comparison, (b) demand comparison, and (c) locked-in comparison; and (ii) make certain other related rules changes as further discussed below.

Bilateral Comparison

Bilateral comparison, which is the traditional method of comparison, will continue to require that the two trade counterparties (or if one or both of the counterparties are not GSC members, the members acting on their behalf) submit trades to GSCC in which certain mandatory details either match or fall within predefined parameters to effect a match. Bilateral comparison will remain the primary comparison type for dealer-to-dealer trades and will be available in both real-time and batch. Members may elect to submit interactively regardless of whether their trade counterparties do so.

A new feature of bilateral comparison will be the ability for members to “DK” any trades they “do not know”. The proposed rule change introduces the term “DK Notice” to GSCC's rules. If a member determines that a request for comparison is invalid or incorrect, it can send a DK notice to GSCC which will be forwarded to the original submitter. The receipt of the DK notice by GSCC will prevent the trade from comparing on GSCC's system. If a member that sent a DK notice determines that it did so erroneously, the member will be able to remove the DK and enable comparison to occur if it does so within the timeframes prescribed by GSCC for such purpose.

Demand Comparison

Demand comparison is a new type of comparison that has been designed to provide members with flexibility and control over the comparison process for trades executive via intermediaries. Demand comparison strikes a balance between bilateral comparison, where the member is required to submit trade data in order for its trade to compare, and locked-in comparison (discussed in more detail below), where the trade has essentially been operationally compared before being submitted to GSCC.

Demand trades will be submitted by approved intermediaries (e.g., brokers) that will be called “demand trade sources.” Demand trade sources must be able to communicate with GSCC interactively. In order for GSCC to accept trades from a demand trade source on a member's behalf, the member must provide GSCC with prior written authorization. The intermediary must also be approved and authorized by GSCC to be a demand trade source.

GSCC will deem a demand trade compared upon receipt of the trade data from the demand trade source. However, if a member does not know a trade submitted on its behalf by a demand trade source, the member will be able to submit a DK notice to GSCC. The receipt of a DK notice by GSCC will cause the demand trade to no longer be eligible for comparison. If a member that sent a DK notice determines that it did so erroneously, the member will be able to remove the DK and enable comparison to occur if it does so within the timeframes prescribed by GSCC for such purpose.

GSCC is making incidental rules changes to Rules 11, 16, 18, 21, 22, and 39 to take into account the introduction of demand trades.

Locked-In Comparison

Locked-in comparison will be similar to that currently provided for in GSCC's rules. Locked-in comparison presumes that a member would elect not to submit corresponding trade details to affect a match because the trade has been precompared by the trade source. An example of a trade appropriate for locked-in comparison would be one executed through a “pure” electronic trading system that is terminal-driven and that no discretion over trade details is exercised once the trade is submitted.

In order to participate, the locked-in trade source must be authorized by both the members of whose behalf it will be submitting trade data and by GSCC. With the exception of some current locked-in sources, such as the Federal Reserve banks, locked-in trade sources will be expected to communicate interactively with GSCC.

Locked-in trades will be deemed compared upon receipt by GSCC. The DK feature will also be available for locked-in trades. However, unlike the case of demand trades, a DK of a locked-in trade will be treated by GSCC as a Start Printed Page 53818request for cancellation to the locked-in trade source. In order to actually cancel the trade on GSCC's system, the locked-in trade source will have to respond to the request by submitting a trade cancellation. The locked-in trade source can modify the trade in response to a DK notice.

Submission Methods

In order to set forth the concept of a member submitting interactively versus submitting in one of the batch modes, GSCC is adding three new definitions to its rules: “interactive submission method,” “multiple batch submission method,” and “single batch submission method.” The proposed rules changes make clear which submission type is required for each type of comparison. In addition, GSCC is adding a definition of “real time” in its rules to be used to indicate when a particular process (e.g., the enhanced comparison processes set forth in Rule 10) will be performed by GSCC in real time as opposed to at end of day.

Submission of Full-Sized Trades

GSCC is permitting members to submit full-sized trades. Currently, non-GCF Repo trades are submitted in $50 million increments. Because members' internal systems tend to reflect the full size of each trade (as opposed to the pieces that they submit to GSCC), the submission of full-sized trades will permit members to better reconcile their trading activity. GSCC recognizes that not all members will be able to begin processing full-sized trades immediately. Therefore, GSCC will not require that members exercise this option.

Timing of Key Processes of GSCC

GSCC's key processes are comparison, netting, novation, and guaranty of settlement. GSCC is changing the timing of the comparison and guaranty of settlement processes.

With respect to the timing of comparison, GSCC's rules currently provide that it occurs when GSCC makes its comparison output available to members. GSCC is amending its rules to state that, while comparison will continue to occur upon issuance of the comparison message by GSCC with respect to trades submitted for bilateral comparison, comparison will be deemed to occur upon receipt of trade data from the authorized trade source with respect to trades submitted for demand comparison and locked-in comparison.

With respect to the timing of netting, GSCC's rules currently provide that netting occurs upon issuance of the report of or output on net settlement positions by GSCC. This will continue to be the case. Similarly, GSCC's rules currently provide that novation, the process by which GSCC becomes the substituted counterparty to trades submitted to it, occurs upon the issuance of the report of or output on net settlement positions by GSCC. This will also remain unchanged.

With respect to the timing of GSCC's guaranty of settlement, GSCC's current rules provide that GSCC guarantees the settlement of a netting-eligible trade upon issuance of the report/output that sets forth the member's net settlement position.[5] The proposed rule changes will move the timing of GSCC's guaranty to the point of comparison. This means that a netting-eligible trade submitted for bilateral comparison will be guaranteed upon issuance of the comparison message by GSCC, and a netting-eligible trade submitted for demand or locked-in comparison will be guaranteed upon receipt of trade, data from the authorized trade source. If a trade is DKed (and with respect to a locked-in trade cancelled by the locked-in trade source), GSCC's guaranty will no longer be in effect with respect to that trade. As a transition measure that recognizes that members may need some time to switch to interactive processing, GSCC is proposing that it maintain its policy of guaranteeing blind brokered repo trades entered into in good faith upon trade execution through the year 2001.

General Responsibilities of Members

GSCC's comparison rule contains a provision that requires members to review documents that they receive from GSCC. GSCC desires to expand the provision to cover any type of communication provided to members by GSCC and to require members to inform GSCC promptly, but in no event later than ten calendar days upon receipt of the communication, if there is any error, omission, or other problem with respect to the communication. GSCC's netting rule contains a similar provision with respect to which GSCC is adding the ten-day requirement. GSCC believes that the ten-day time frame will provide members with a sufficient amount of time within which to detect problems in a communication from GSCC.

Amendments to Schedules

GSCC is making incidental changes to certain of its Schedules for clarification purposes and to bring them into conformity with the proposed rules changes discussed above. Specifically, GSCC is expanding the output time slot in its “Schedule of Timeframes” from “midnight to 2:00 a.m.” to “8:00 p.m. to 2:00 a.m.” This change reflects the fact that GSCC may be able to provide certain output earlier given the implementation of real-time trade matching and also the recent shift to the 8:00 p.m. trade submission deadline.

GSCC is also adding language to make clear that the 10:30 a.m. deadline for satisfaction of a clearing fund deficiency call is approximate because members have two hours after a call is made to fulfill their obligation.

GSCC is also updating its “Schedule of Required Match Data,” “Schedule of Required Data Submission Items,” and its “Schedule of Required Data Submission Items for a Right of Substitution” to make clear that the only locked-in trades to which those schedules do not apply are Treasury/Federal Reserve auction purchases and GCF repo transactions.

GSCC is also amending its fee structure to set fees for demand trades which will be the same as those currently imposed on locked-in trades.

II. Discussion

Section 17A(b)(3)(F) [6] of the Act requires that the rules of a clearing agency 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 GSCC. The rule change, which allows GSCC to implement interactive messaging to support real-time comparison, will enable GSCC to reduce risk by enabling firms to know earlier of any trades which do not compare and to have more time to resolve the problems. This should reduce the number of failed trades at GSCC. The rule change also provides for more efficient procedures in the comparison process thereby facilitating prompt and accurate clearance and settlement of securities at GSCC. Therefore, the Commission finds that the rule change is consistent with Section 17A and the rules and regulations thereunder.

III. Conclusion

On the basis of the foregoing, the Commission finds that the proposed rule change is consistent with the Start Printed Page 53819requirements of the Act and in particular 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-2001-01) be and hereby is approved.

Start Signature

For the Commission by the Division of Market Regulation, pursuant to delegated authority.[7]

Margaret H. McFarland,

Deputy Secretary.

End Signature End Preamble


1.  The August 17, 2001, amendment withdrew a portion of the proposed rule change which was reflected by GSCC in a subsequent proposed rule change. Securities Exchange Act Release No. 44907 (October 4, 2001), 66 FR 51988 (October 11, 2001) [File No. SR-GSCC-2001-09]. As such, republication of notice was not required.

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3.  Securities Exchange Act Release No. 44282 (May 8, 2001), 66 FR 27190.

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4.  GSCC will file with the Commission pursuant to Section 19 of the Act proposed rule changes with respect to any fees intended as disincentives to discourage members from using batch formats.

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5.  The exception to this rule is GSCC's policy of guaranteeing blind brokered repos entered into in good faith upon trade execution. GSCC adopted this policy in order to comfort dealers that have intraday credit exposure to brokers through whom they execute such transactions. The policy only applies to such transactions that are entered into in good faith, which means, for example, that GSCC would not honor it in the event that a dealer entered into a transaction knowing that the counterparty was insolvent.

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6.  15 U.S.C. 78q-1(b)(3)(F).

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[FR Doc. 01-26727 Filed 10-23-01; 8:45 am]