May 14, 2024
In line with a healthy market mechanism I am strongly encouraging to reject this rule. As the OCC’s Clearing Member Default Rules and Procedures [11] Loss Allocation waterfall allocates losses to “3. OCC’s own pre-funded financial resources” (OCC ‘s “skin-in-the-game” per SR-OCC-2021-801 Release 34-91491[12]) before “4. Clearing fund deposits of non-defaulting firms”, any sufficiently large Clearing Member default which exhausts both “1. The margin deposits of the suspended firm” and “2. Clearing fund deposits of the suspended firm” automatically poses a financial risk to the OCC. As this rule proposal is concerned with potential liquidity issues for non-defaulting Clearing Members as a result of charges to the Clearing Fund, it is clear that the OCC is concerned about risk which exhausts OCC’s own pre-funded financial resources. With the first and foremost line of protection for the OCC being “1. The margin deposits of the suspended firm”, this rule proposal to reduce margin requirements for at risk Clearing Members via idiosyncratic control settings is blatantly illogical and nonsensical. By the OCC’s own admissions regarding the potential scale of financial risk posed by a defaulting Clearing Member, the OCC should be increasing the amount of margin collateral required from the at risk Clearing Member(s) to increase their protection from market risks associated with Clearing Member’s positions and promote appropriate risk management of Clearing Member positions. Curiously, increasing margin requirements is exactly what the OCC admits is predicted by the allegedly “procyclical” STANS model [4] that the OCC alleges is an overestimation and seeks to mitigate [13]. If this rule proposal is approved, mitigating the allegedly procyclical margin requirements directly reduces the first line of protection for the OCC, margin collateral from at risk Clearing Member(s), so this rule proposal should be rejected and made fully available for public review. Strangely, the OCC proposed the rule change to establish their Minimum Corporate Contribution (OCC’s “skin-in-the-game”) in SR-OCC-2021-003 to the SEC on February 10, 2021 [14], shortly after “the so-called ‘meme-stock’ episode on January 27, 2021” [9], whereby “a covered clearing agency choosing, upon the occurrence of a default or series of defaults and application of all available assets of the defaulting participant(s), to apply its own capital contribution to the relevant clearing or guaranty fund in full to satisfy any remaining losses prior to the application of any (a) contributions by non-defaulting members to the clearing or guaranty fund, or (b) assessments that the covered clearing agency require non-defaulting participants to contribute following the exhaustion of such participant's funded contributions to the relevant clearing or guaranty fund.” [15] Shortly after an idiosyncratic market event, the OCC proposed the rule change to have the OCC’s “skin-in-the-game” allocate losses upon one or more Clearing member default(s) to the OCC’s own pre-funded financial resources prior to contributions by non-defaulting members or assessments, and the OCC now attempts to leverage their requested exposure to the financial risks as rationale for approving this proposed rule change on adjusting margin requirement calculations which vitiates existing protections as described above and within the proposal itself (see, e.g., “These clearing activities could expose OCC to financial risks if a Clearing Member fails to fulfil its obligations to OCC. … OCC manages these financial risks through financial safeguards, including the collection of margin collateral from Clearing Members designed to, among other things, address the market risk associated with a Clearing Member's positions during the period of time OCC has determined it would take to liquidate those positions.” [16]) There can be no reasonable basis for approving this rule proposal as the OCC asked to be exposed to financial risks if one or more Clearing Member(s) fail and is now asking to reduce the financial safeguards (i.e., collection of margin collateral from Clearing Members) for managing those financial risks. Especially when the OCC has already indicated a reluctance to liquidate Clearing Member positions (see, e.g., “As described above, the proposed change would allow OCC to seek a readily available liquidity resource that would enable it to, among other things, continue to meet its obligations in a timely fashion and as an alternative to selling Clearing Member collateral under what may be stressed and volatile market conditions.” [23 at page 15])