Statement at Open Meeting: Covered Clearing Agencies and Shortening the Settlement Cycle
Chair Mary Jo White
Sept. 28, 2016
Good morning. This is an open meeting of the U.S. Securities and Exchange Commission on September 28, 2016, under the Government in the Sunshine Act. The Commission today will consider three recommendations from the staff regarding the clearance and settlement system that is the essential foundation supporting the huge volumes of securities transactions that occur every day.
First, we will consider rules under the Securities Exchange Act and the Dodd-Frank Act that would establish enhanced requirements for the risk management, operations, and governance of clearing agencies registered with the Commission. That portion of our agenda consists of two recommendations: one to adopt final requirements for systemically important clearing agencies and certain other clearing agencies with a complex risk profile; and one that proposes to broaden the scope of the enhanced requirements to cover all registered clearing agencies that act as a central counterparty, a central securities depository, or a securities settlement system.
Next on our agenda is to consider a recommendation from the staff to shorten the standard settlement cycle for most broker-dealer transactions from three business days after the trade date, or “T+3”, to two business days after the trade date, or “T+2.”
We will begin with the recommendations for clearing agency requirements.
Covered Clearing Agencies
The use of clearing agencies is critical to the safety and efficiency of securities trading, enabling billions of dollars of securities to change hands smoothly every day. At the same time, their centralized role in concentrating and managing financial exposures, which has grown significantly since the financial crisis, can raise systemic risk concerns.
The Commission, as the key supervisory agency for securities clearing agencies, operates a comprehensive oversight program of the national clearance and settlement system. In recent years, in light of market and regulatory developments, and an increasing focus and reliance on clearing services — particularly with respect to the clearing of credit default swaps and other security-based derivatives — the Commission has expanded its regulatory focus on clearing agency activities. Among other measures, we have expanded our examination and supervisory program, implemented strong new regulatory requirements, and developed new procedures for reviewing proposed rule changes by clearing agencies.
In addition, Title VIII of the Dodd-Frank Act provides for enhanced regulation of “financial market utilities” that have been designated systemically important by the Financial Stability Oversight Council (FSOC). Specifically, the Commission is authorized under Title VIII to prescribe risk management standards governing the operations of designated clearing agencies, and in doing so, to take into consideration international standards and existing prudential requirements. Five Commission-registered clearing agencies have been designated by FSOC as systemically important, and the Commission serves as the supervisory agency for four of them.
Today’s recommendation would require covered clearing agencies to establish comprehensive policies and procedures related to governance and comprehensive risk management, with specific requirements addressing, among other things, the management of financial, liquidity, credit, operational, and general business risks. These new requirements, which build on standards first adopted by the Commission in 2012, would further enhance our regulatory program for clearing agencies by, among other things, ensuring that the risks inherent in the activities of designated clearing agencies and security-based swap clearing agencies are effectively managed. Taken together, the recommended requirements are robust enhancements to the management of the risks faced by designated and security-based swap clearing agencies, and will render them better able to withstand adverse events that may arise in stressed market conditions.
In setting forth these requirements, the recommendation is cognizant of the global system of regulation that currently exists for clearing agencies that may be regulated by multiple authorities. The rules, for example, reflect careful consideration of the standards set forth in the Principles for Financial Market Infrastructures (PFMI) published by the Committee for Payment and Settlement Systems and the International Organization of Securities Commissions (IOSCO), to which our staff significantly contributed.
Our supervision and regulation of clearing agencies goes far beyond these new rule requirements. First and foremost, the statutory framework for the Commission’s supervision of clearing agencies centers on their role as self-regulatory organizations. They are required to file changes with the Commission — everything from new credit facilities to reorganizations to access requirements — and our review and approval or disapproval of these changes is a powerful tool for oversight. The requirements being considered today thus do not stand alone, and they should not be viewed in a vacuum — they will be given life in the rule filing process. I expect the Commission and its staff to focus closely on evaluating proposed SRO rule changes to ensure that the rules before us today, which cover the full universe of clearing agencies and practices, are transformed into specific requirements uniquely tailored to each institution’s risk profile.
The Commission also conducts regular supervisory reviews and examinations of every systemically important clearing agency, reviewing everything from risk management practices to resource allocations to compliance frameworks. The implementation of the requirements being considered today will be reviewed closely in those reviews and examinations, where they can be evaluated concretely in the context of a clearing agency’s specific risks. We must be clear-eyed about understanding how today’s requirements are implemented, review that implementation regularly, and stand ready to make any changes necessary to further protect investors and the markets.
Finally, it is important to remember that our requirements in this area are not static. Just as today’s requirements improve on rules first adopted four years ago, so too will we continue to develop different or additional requirements for the evolving role of clearing in the modern securities markets. Even today, we are taking another step toward further enhancement in the rule proposal before us.
That proposal would expand the enhanced requirements to all registered clearing agencies that act as a central counterparty, a central securities depository, or a securities settlement system. By applying the enhanced standards under consideration today to all registered clearing agencies — not just those designated as systemically important or as having a complex risk profile — the proposal would further strengthen the national system for clearance and settlement and help to further mitigate risk to the broader U.S. financial system. It is this kind of continual improvement and ongoing regulation that makes our clearance and settlement system so strong.
* * *
Before I ask Steve Luparello, Director of the Division of Trading and Markets, to discuss the staff recommendation, I would like to thank Steve; his Deputy Director, Gary Goldsholle; and Steve’s counsel, Moshe Rothman, and his former counsel, Malou Huth, for their leadership on these rulemakings. I also would like to thank Mark Flannery, Scott Bauguess, and Vanessa Countryman for their leadership of the effort by the Division of Economic and Risk Analysis.
We are deeply grateful to the clearing agency rulemaking team for all of its hard and continuing work over many years. Recognizing the complexity and importance of these rulemakings, I wish to thank:
- Christian Sabella, Jeffrey Mooney, Stephanie Park, Matthew Lee, Elizabeth Fitzgerald, and DeCarlo McLaren from the Division of Trading and Markets; and
- Hari Phatak and Parul Sharma from the Division of Economic and Risk Analysis.
Many thanks also to Annie Small, Meridith Mitchell, Lori Price, Robert Teply, and Donna Chambers from the Office of the General Counsel.
In addition, I would like to thank many other staff throughout the agency for their contributions, including Paula Sherman from the Office of Compliance Inspections and Examinations; Katherine Martin, Jon Balcom, and Laura Compton from the Office of International Affairs; and Wenchi Hu, Gena Lai, Carson McLean, and Roy Cheruvelil from the Division of Trading and Markets.
I would also like to note that Jennifer Marietta-Westberg, who very recently departed the Commission after a decade of service, played an important role in developing the staff’s recommendation. She is here today, and I wanted to express again how deeply we appreciate her service to the Commission, on this rule and so many others over the years. Jennifer, you have been an extraordinary role model for all SEC staff.
Finally, I would like to thank my fellow Commissioners and all of our counsels for their engagement and comments on the recommendation.
Now, I will turn the meeting over to Steve Luparello to present the Division’s recommendations on clearing agencies.
T+2 Settlement Cycle
No standard settlement cycle was mandated for much of the Commission’s history. When the Commission first established one in 1993 — at T+3, which was shorter than the industry practice of T+5 — we articulated a number of reasons for standardizing and shortening the settlement cycle. These benefits included, among others: reducing credit and market risk exposure related to unsettled trades; reducing liquidity risk among derivatives and cash markets; encouraging greater efficiency in the clearance and settlement process, and reducing systemic risk.
It is now time to move forward again — this time to consider a T+2 cycle, so that similar benefits can again be realized for investors, intermediaries, and other market participants. In the years since the standardized settlement cycle was first established, the Commission has actively studied and considered proposals to shorten the settlement cycle. Today, a combination of both industry and regulatory initiatives has led to continuing developments in technology and processes, and in particular further immobilization and dematerialization of securities, and enhanced institutional trade matching utilities, that have laid the foundation for a shorter settlement cycle. Doing so remains a major undertaking — the complexity of the clearance and settlement process, and the wide range of participants that interact with and rely on the workflows within that process, make simple fixes impractical and requires more than advances in technology.
Today’s proposal is intended to capitalize on the Commission’s prior work on shortening the settlement cycle and support the industry’s ongoing efforts to successfully migrate to a T+2 standard settlement cycle. I have supported this multi-stakeholder effort from the beginning, and I hope the Commission’s action today will give market participants the necessary momentum to complete their efforts. I recognize there will be costs for market participants to take on this significant endeavor; however, I believe that shortening the settlement cycle should yield important benefits that ultimately flow to investors — including reduced clearing capital requirements for broker-dealers, reduced pro-cyclical margin and liquidity demands on market participants, and increased global harmonization of settlement cycles.
In moving forward today, it is critical that we maintain an unwavering commitment to act in the best interests of investors and the markets. Important voices — from the Investor Advisory Committee to many large institutional investors — have already been heard on these issues. Today’s proposal will solicit input from a wider audience as to the benefits and costs of a T+2 standard settlement cycle, as well as alternatives such as T+1 or T+0.
While there has been extensive analysis of a move to T+2, as well as recent experiences in foreign markets to study, there is relatively less analysis and experience around further reductions to the standard settlement cycle. I believe that today’s Commission can best fulfill its commitment to serving investors and the markets by pursuing today’s proposal to move to T+2. However, I would expect that future Commissions, like ours is today, will review whether further reductions would be appropriate, in light of the technology, investor needs, and all other relevant circumstances at the time.
* * *
Before I ask Steve Luparello, the Director of the Division of Trading and Markets, to provide additional details on the recommendation I would like to thank Steve, Gary Goldsholle, as well as their counsel, Moshe Rothman, and their former counsel, Malou Huth, for their leadership on this rulemaking.
I would also like to especially commend the core rulemaking team for all their hard and exceptional work. In particular:
- Christian Sabella, Jeffrey Mooney, Natasha Vij Greiner, Justin Pica, Susan Petersen, Andrew Shanbrom, and Jonathan Shapiro from the Division of Trading and Markets; and
- Jennifer Marietta-Westberg, Vanessa Countryman, Hari Phatak and Charles Lin from the Division of Economic and Risk Analysis.
Many thanks as well to Annie Small, Meridith Mitchell, Lori Price, Robert Teply, Cynthia Ginsberg and Leila Bham from the Office of General Counsel.
In addition, I would like to thank many other staff throughout the agency for their contributions, including Jonathan Ingram and Heather Maples from the Division of Corporation Finance; Doug Scheidt, Sarah ten Siethoff, Kathy Joaquin and Jennifer Palmer from the Division of Investment Management; and Raymond Lombardo, Timothy Fox, Josephine Tao and Darren Vieira from the Division of Trading and Markets.
Finally, I would like to express my gratitude to my fellow Commissioners and all of our counsels for their support, engagement and comments on this proposal.
Now, I will ask Steve and his team as well as Mark Flannery, our Chief Economist and Director of the Division of Economic and Risk Analysis, to provide additional details on the recommendation.