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Request for Comments – Material Amendments to CDS Procedures – Amendment to Debt Haircut Rates in CDSX – CDS Clearing and Depository Services Inc.
A. DESCRIPTION OF THE PROPOSED CDS PROCEDURE AMENDMENTS
Proposed changes to the haircut rates applied to debt securities in CDSX for the purposes of calculating aggregate collateral value (ACV) and the value of collateral pledged to collateral pools and participant funds.
B. NATURE AND PURPOSE OF THE PROPOSED CDS PROCEDURE AMENDMENTS
The haircut rates applied to debt securities to determine collateral values in CDSX (for both ACV and collateral pledged to pools and funds) historically have been based on the haircut rates used by the Bank of Canada for the Bank's Standing Liquidity Facility (SLF). This linkage is appropriate given that, in a participant default, it is possible that collateral would be required to be pledged by participants to the Bank of Canada.
On June 17, 2010, the Bank of Canada announced changes to its haircut rates which were effective on July 19, 2010. These changes included distinguishing between strip bonds and bonds with coupons and bonds with maturities greater than 35 years. In order to maintain consistency with the Bank of Canada haircut rates, the changes to CDSX debt haircut rates in the table below are recommended. These changes would be followed by an assessment of the system changes and risk/cost benefits of distinguishing between coupon and strip bonds, adding an additional maturity bucket for greater than 35 years as well as distinguishing ABCP from other corporate securities. That assessment will be presented to the Risk Advisory Committee in 2011.
These changes are based on the highest comparable rate applied by the Bank of Canada (with the exception of the provincial and provincially guaranteed bonds with maturity greater than 10 years noted with an *). For example, the Bank applies rates of 2.5% and 3.0% to Government of Canada coupon and strip bonds with maturities greater than 10 years. Since the changes proposed by CDS do not distinguish between coupon and strip bonds, we have applied the higher haircut rate to all Government of Canada bonds of that maturity. The comparison of current and proposed haircut rates in included in the table below.
Haircut Rates for Debt Securities (Current and Proposed)
Years to Maturity | |||||
|---|---|---|---|---|---|
| Security Type | 0 to 1 | 1 to 3 | 3 to 5 | 5 to 10 | > 10 |
| Government of Canada | 1.0% | 1.0% | 1.5% | 2.0% | 2.5% |
0.5% | 3.0% | ||||
| Federally guaranteed | 1.5% | 2.0% | 2.5% | 3.0% | 3.5% |
1.0% | 1.5% | 4.0% | 4.5% | ||
| Provincial | 2.0% | 3.0% | 3.5% | 4.0% | 4.5% |
1.5% | 2.0% | 3.0% | 4.5% | 6.0% * | |
| Provincial guaranteed | 3.0% | 4.0% | 4.5% | 5.0% | 5.5% |
2.0% | 2.5% | 3.5% |
| 6.5% * | |
| Corporate AAA | 4.0% | 5.0% | 5.5% | 6.0% | |
3.0% | 3.5% | 4.0% | 6.5% | 9.0% | |
| Corporate AA | 7.5% | 8.5% | 9.0% | 10.0% | |
3.0% | 3.5% | 4.0% | 6.5% | 9.0% | |
| Corporate A | 12.0% | 13.0% | 13.5% | 15.0% | |
5.0% | 5.5% | 6.0% | 8.5% | 11.0% | |
| Unrated public sector entities and government grants | 15.0% | 16.0% | 17.0% | 18.5% | 20.0% |
| Unrated municipal | 20.0% | 21.0% | 22.0% | 23.5% | 25.0% |
| Corporate BBB | 30.0% | 32.0% | 33.0% | 35.0% | |
| Corporate BB and lower | 100.0% | ||||
| U.S. T-bills, notes and bonds | 2.0% | 5.0% | |||
1.0% | 1.5% | 3.0% | 4.5% | ||
C. IMPACT OF THE PROPOSED CDS PROCEDURE AMENDMENTS
C.1 Competition
None
C.2 Risks and Compliance Costs
Based on the fact that most haircut rates are being reduced, an analysis of the ACV indicates that there would be no adverse effect on participants' ability to collateralize their settlement activity. Furthermore, if the proposed haircut rates were applied to securities currently pledged to collateral pools and participant funds, no additional collateral would have been required by participants.
C.3 Comparison to International Standards -- (a) Committee on Payment and Settlement Systems of the Bank for International Settlements, (b) Technical Committee of the International Organization of Securities Commissions, and (c) the Group of Thirty
The proposed changes are entirely consistent with all relevant international standards.
D. DESCRIPTION OF THE PROCEDURE DRAFTING PROCESS
D.1 Development Context
The proposed amendments were developed by CDS's Risk Management division and were reviewed and recommended for approval by the Risk Advisory Committee on December 7, 2010.
D.2 Procedure Drafting Process
CDS Procedure Amendments are reviewed and approved by CDS's Strategic Development Review Committee ("SDRC"). The SDRC determines or reviews, prioritizes and oversees CDS-related systems development and other changes proposed by participants and CDS. The SRDC's membership includes representatives from the CDS Participant community and it meets on a monthly basis.
These amendments were reviewed and approved by the SDRC on January 27, 2011.
D.3 Issues Considered
See above.
D.4 Consultation
See above.
D.5 Alternatives Considered
See above.
D.6 Implementation Plan
CDS is recognized as a clearing agency by the Ontario Securities Commission pursuant to section 21.2 of the Ontario Securities Act. The Autorité des marchés financiers has authorized CDS to carry on clearing activities in Québec pursuant to sections 169 and 170 of the Québec Securities Act. In addition CDS is deemed to be the clearing house for CDSX®, a clearing and settlement system designated by the Bank of Canada pursuant to section 4 of the Payment Clearing and Settlement Act. The Ontario Securities Commission, the Autorité des marchés financiers and the Bank of Canada will hereafter be collectively referred to as the "Recognizing Regulators".
The amendments to Participant Procedures may become effective upon approval of the amendments by the Recognizing Regulators following public notice and comment.
E. TECHNOLOGICAL SYSTEMS CHANGES
E.1 CDS
The proposed changes can be accomplished by a simple amendment to tables within CDSX. No application or logic changes are required.
E.2 CDS Participants
No changes required.
E.3 Other Market Participants
No changes required.
F. COMPARISON TO OTHER CLEARING AGENCIES
The haircut rates apply to Canadian debt securities and therefore direct comparison is not relevant. Other depositories apply haircut rates derived in a manner similar to that applied in the calculation of the proposed haircut rates.
G. PUBLIC INTEREST ASSESSMENT
CDS has determined that the proposed amendments are not contrary to the public interest.
H. COMMENTS
Comments on the proposed amendments should be in writing and submitted within 30 calendar days following the date of publication of this notice in the Ontario Securities Commission Bulletin to:
David Stanton
Chief Risk Officer
CDS Clearing and Depository Services Inc.
85 Richmond Street West
Toronto, Ontario M5H 2C9
Phone: (416) 365-8489
Email: [email protected]
Copies should also be provided to the Autorité des marchés financiers and the Ontario Securities Commission by forwarding a copy to each of the following individuals:
Me Anne-Marie Beaudoin | Manager, Market Regulation |
CDS will make available to the public, upon request, all comments received during the comment period.
I. PROPOSED CDS PROCEDURE AMENDMENTS
Attached at Appendix A are the clean and blacklined versions of the proposed procedural amendments.
Access to the proposed amendments to the CDS Procedures is also provided on the User documentation revisions web page (http://www.cds.ca/cdsclearinghome.nsf/Pages/-EN-blacklined?Open) and to the CDS Forms (if applicable) on Forms online (Click View by Form Category and in the Select a Form Category list, click External review) on the CDS Services web page (www.cdsservices.ca).
Appendix "A"
CHAPTER 10 AGGREGATE COLLATERAL VALUE
ACV edit for U.S. dollar transactions
10.4 ACV edit for U.S. dollar transactions
Since ACV currently supports Canadian dollar transactions only, a participant's ACV for a security with a U.S. funds market price is converted to Canadian funds, using a Canadian to U.S. exchange rate. Participants use the Security Price/Rate Inquiry function to view information on the prices and rates used by CDSX to calculate the ACV price of the security. For more information, refer to CDSX Procedures and User Guide.
10.5 Haircuts
Haircuts are applied against the market price to determine the value of the security for the purposes of the ACV edit as follows:
• Debt instruments, haircuts are based on the security class, an issuer rating and its term to maturity.
• Equities, CDS uses a value-at-risk (VaR) based methodology to calculate haircut rates for equity securities. For more information, see CNS participant funds on page 193.
The haircut represents the dollar value that securities could decline by from default to liquidation. The size of the haircut depends on the level of risk associated with the securities.
CDSX debt haircuts
The table below indicates the haircut rates that CDS applies to the market value of each debt security type.
Term to maturity | |||||
|---|---|---|---|---|---|
Security type | 0 to 1 year | 1 to 3 years | 3 to 5 years | 5 to 10 years | Greater than 10 years |
| Government of Canada | 0.5% | 1.0% | 1.5% | 2.0% | 3.0% |
| Federated guaranteed | 1.0% | 1.5% | 2.5% | 4.0% | 4.5% |
| Provincial | 1.5% | 2.0% | 3.0% | 4.5% | 6.0% |
| Provincial guaranteed | 2.0% | 2.5% | 3.5% | 5.0% | 6.5% |
| Corporate AAA | 3.0% | 3.5% | 4.0% | 6.5% | 9.0% |
| Corporate AA | 3.0% | 3.5% | 4.0% | 6.5% | 9.0% |
| Corporate A | 5.0% | 5.5% | 6.0% | 8.5% | 11.0% |
| Unrated public sector entities and government grants | 15.0% | 16.0% | 17.0% | 18.5% | 20.0% |
| Unrated munis | 20.0% | 21.0% | 22.0% | 23.5% | 25.0% |
| Corporate BBB | 30.0% | 32.0% | 33.0% | 35.0% | |
CHAPTER 10 AGGREGATE COLLATERAL VALUE
Sector limits
Term to maturity | |||||
|---|---|---|---|---|---|
Security type | 0 to 1 year | 1 to 3 years | 3 to 5 years | 5 to 10 years | Greater than 10 years |
| Corporate BB | 100.0% | ||||
| Corporate B | 100.0% | ||||
| Corporate C | 100.0% | ||||
| U.S. Treasury bills, notes and bonds (interest-bearing and zero-coupon bonds){1} | 1.0% | 1.5% | 3.0% | 4.5% | |
{1} The value of U.S. Treasury securities is determined using NSCC haircuts that apply to zero-coupon bonds.
Haircut rates for new issues
A standard haircut rate of 25 per cent is applied to all new equity issues, unless the haircut rate is not appropriate for the particular new issue. The standard haircut rate is reviewed and validated on a regular basis, and CDS reserves the right to adjust the rate. After the initial 20-day period has elapsed, the haircut rate is calculated by the Internal Risk Management System (IRMS) at the next haircut calculation run, subject to the minimum haircut rate of 15 per cent for the first year.
Haircut rates for equities with static prices
For equities with no price change for a period of 20 or more consecutive days in the most recent 260-day price history, CDS applies a default haircut rate of 75 per cent.
10.6 Sector limits
Sector limits are applicable to extenders of credit, federated participants and settlement agents, and their family members. The sector limits indicated in the table below ensure that a participant's ACV is not concentrated in certain types of securities.
Sector limit | Field | Description |
|---|---|---|
| Government sector limit | GSL | Calculated as 25 per cent of the company cap and is made up of non-federal-government-sector-issued securities (provincial debt, federally-guaranteed debt and |
| provincially-guaranteed debt) | ||
| Private sector limit | PSL | Calculated as 15 per cent of the company cap and is made up of private-sector-issued debt securities |
| Unrated debt limit | UDL | Set at 0 and is made up of unrated public sector bonds and unrated municipal bonds |
CHAPTER 10 AGGREGATE COLLATERAL VALUE
ACV edit for U.S. dollar transactions
10.4 ACV edit for U.S. dollar transactions
Since ACV currently supports Canadian dollar transactions only, a participant's ACV for a security with a U.S. funds market price is converted to Canadian funds, using a Canadian to U.S. exchange rate. Participants use the Security Price/Rate Inquiry function to view information on the prices and rates used by CDSX to calculate the ACV price of the security. For more information, refer to CDSX Procedures and User Guide.
10.5 Haircuts
Haircuts are applied against the market price to determine the value of the security for the purposes of the ACV edit as follows:
• Debt instruments, haircuts are based on the security class, an issuer rating and its term to maturity.
• Equities, CDS uses a value-at-risk (VaR) based methodology to calculate haircut rates for equity securities. For more information, see CNS participant funds on page 193.
The haircut represents the dollar value that securities could decline by from default to liquidation. The size of the haircut depends on the level of risk associated with the securities.
CDSX debt haircuts
The table below indicates the haircut rates that CDS applies to the market value of each debt security type.
Term to maturity | |||||
|---|---|---|---|---|---|
Security type | 0 to 1 year | 1 to 3 years | 3 to 5 years | 5 to 10 years | Greater than 10 years |
| Government of Canada | 1.0% | 1.5% | 2.0% | ||
| 0.5% | 3.0% | ||||
| Federated guaranteed | 2.5% | ||||
| 1.0% | 1.5% | 4.0% | 4.5% | ||
| Provincial | |||||
| 1.5% | 2.0% | 3.0% | 4.5% | 6.0% | |
| Provincial guaranteed | 5.0% | ||||
| 2.0% | 2.5% | 3.5% | 6.5% | ||
| Corporate AAA | |||||
| 3.0% | 3.5% | 4.0% | 6.5% | 9.0% | |
| Corporate AA | |||||
| 3.0% | 3.5% | 4.0% | 6.5% | 9.0% | |
| Corporate A | |||||
| 5.0% | 5.5% | 6.0% | 8.5% | 11.0% | |
| Unrated public sector entities and government grants | 15.0% | 16.0% | 17.0% | 18.5% | 20.0% |
| Unrated munis | 20.0% | 21.0% | 22.0% | 23.5% | 25.0% |
| Corporate BBB | 30.0% | 32.0% | 33.0% | 35.0% | |
| Corporate BB | 100.0% | ||||
| Corporate B | 100.0% | ||||
| Corporate C | 100.0% | ||||
| U.S. Treasury bills, notes and bonds (interest-bearing and zero-coupon bonds){1} | |||||
| 1.0% | 1.5% | 3.0% | 4.5% | ||
{1} The value of U.S. Treasury securities is determined using NSCC haircuts that apply to zero-coupon bonds.
Haircut rates for new issues
A standard haircut rate of 25 per cent is applied to all new equity issues, unless the haircut rate is not appropriate for the particular new issue. The standard haircut rate is reviewed and validated on a regular basis, and CDS reserves the right to adjust the rate. After the initial 20-day period has elapsed, the haircut rate is calculated by the Internal Risk Management System (IRMS) at the next haircut calculation run, subject to the minimum haircut rate of 15 per cent for the first year.
Haircut rates for equities with static prices
For equities with no price change for a period of 20 or more consecutive days in the most recent 260-day price history, CDS applies a default haircut rate of 75 per cent.