On December 13, 2023, the Securities and Exchange Commission (the “SEC”) voted 4-1,1 to adopt Standards for Covered Clearing Agencies for U.S. Treasury Securities and Application of the Broker-Dealer Customer Protection Rule With Respect to U.S. Treasury Securities (the “Rule”).2
The Rule requires covered clearing agencies (“CCAs”) for U.S. Treasury Securities to provide central clearing services for:
- Repurchase and reverse repurchase transactions (“Repo Transactions”) in U.S. Treasury Securities in which a direct participant is a counterparty, with a few exceptions;3
- Cash transactions in U.S. Treasury Securities between direct participants who are acting as interdealer brokers; and
- Cash transactions in U.S. Treasury Securities between a direct participant and a registered broker-dealer or a government securities dealer or broker.
The Rule effectively imposes a central clearing mandate for all Repo Transactions in U.S. Treasury Securities, which will entail a major shift from the current repo market. However, in a significant concession to market comments and concerns, the Rule’s clearing requirement for cash transactions in U.S. Treasury Securities excludes buy side market participants and is thus more limited than originally proposed. In addition, the SEC adopted a phased implementation timeline for various aspects of the Rule – again, acknowledging the concerns of market participants.
Earlier this year, Seward & Kissel Partner Miki Navazio published a white paper outlining the four key features included in the proposing release for the Rule and issues Buy Side clients should consider if the Rule as proposed were adopted by the SEC. We invite you to review this white paper and we expect to release a further update on this final Rule before year-end.
In the meantime, a few highlights:
- Compliance Dates:
- March 31, 2025: CCAs must implement policies and procedures for risk management, protection of customer assets (which includes holding margin for direct participants’ proprietary transactions separate from margin submitted on behalf of indirect participant transactions), and access to clearance and settlement services for indirect participants.
- December 31, 2025: Cash transactions between direct participants who are acting as interdealer brokers and cash transactions between a direct participant and a registered broker-dealer or a government securities dealer or broker must be cleared at the CCA.
- June 30, 2026: All repurchase and reverse repurchase transactions where a direct participant is a counterparty must be cleared at the CCA.
- Fellow Customer Risk: Consistent with its approach in the proposing release for the Rule, the SEC declined to impose additional requirements to mitigate indirect participant default risk to other indirect participants (i.e., a legally segregated, operationally commingled or “LSOC” approach). Instead, the SEC leaves it to the CCA to determine the best risk management procedures for the “products it clears and the markets it serves”.
- Concentration Risk – CCA: The SEC acknowledged several comments concerning the potential concentration risk of having only one CCA, the Fixed Income Clearing Corporation (“FICC”). In their view, this concentration risk is mitigated by the regulatory and supervisory framework governing FICC, including its status as a “systemically important” institution under the Dodd-Frank Act. Additionally, FICC is subject to the Covered Clearing Agency Standards that require CCAs to monitor and manage their credit and liquidity risk.
1 Commissioner Hester Peirce voted against adoption.
2 Available at: https://www.sec.gov/files/rules/final/2023/34-99149.pdf.
3 Repo transactions in U.S Treasury Securities between a direct participant and (i) central banks, (ii) sovereign entities, (iii) international financial institutions or (iv) natural persons, are exempt from the clearing mandate.
