Amendments to the IDPC Rules and to IDPC Form 1 regarding the floating index margin rate methodology

1. Background

Procyclical requirements or practices are those that are positively correlated with business or credit cycle fluctuations and that may cause or exacerbate financial instability. The current Methodology is procyclical. It calculates lower than optimal margin rate requirements during long periods of low market volatility, but results in sharp increases in margin rates during intermittent periods of high market volatility. The Amendments reduce procyclicality in the Methodology.

2. Comments received

We did not receive any comment letters in response to Notice 22-0063.

3. The Amendments

The Amendments:

• set floor margin rates for qualifying Canadian and U.S. index products included on the List of floating and tracking error margin rates for qualifying Canadian and U.S. index products,
• revise the floating index margin rate calculation for individual and offset (tracking error) positions to a “greater of” the floor margin rate and the floating margin rate percentage methodology,
• define “qualifying index” for the purposes of determining floating margin rates, which includes categorizing qualifying index types as either a broad based index or a sector index, and
• codify New SRO’s discretionary authority to modify the regulatory margin interval calculation.

The text of the Amendments to the IDPC Rules is set out in Appendix A and a blackline of the changes is set out in Appendix B. The text of the Amendments to IDPC Form 1 is set out in Appendix C and a blackline of the changes is set out in Appendix D.

4. Implementation

The Amendments will be effective on August 8, 2023. Upon implementation we plan to:

• update the floating margin rate list web-page to reflect the Amendments,
• discontinue regular margin rate-setting for unhedged U.S. index futures contracts,
• discontinue regular monthly floating margin rate list publications, and
• publish updated floating margin rate lists when a floating or tracking error margin rate change occurs above a floor margin rate.

5. Appendices

Appendix A – Clean copy of the Amendments to IDPC Rules

Appendix B – Blackline copy of the Amendments to IDPC Rules

Appendix C – Clean copy of the Amendments to IDPC Form 1

Appendix D – Blackline copy of the Amendments to IDPC Form 1

Appendix A

New Self-Regulatory Organization of Canada

Amendments to the IDPC Rules and to IDPC Form 1 regarding the floating index margin rate methodology

Clean copy of the Amendments to IDPC Rules

Amendment #1 – IDPC Rule subsection 5130(4) is amended to replace the term “major broadly based index” with “major widely quoted market index” as follow:

Amendment #2 – IDPC Rule subsection 5130(9) is amended by:

• adding and amending the definition “broad based index”, currently found in the General notes and definitions of Form 1, and
• amending the following other definitions,

in alphabetical sequence:

…

…

…

…

…

…

Amendment #3 – IDPC Rule subsection 5360(1) is amended by adding references to both the “greater of” and minimum floor margin rates in the margin calculations, as follows:

5360. Index participation units and qualifying baskets of index securities

1. The minimum Dealer Member inventory margin and client account margin requirements for index participation units and qualifying baskets of index securities are as follows:

   Minimum margin required
   Category (i) Index participation units	Category (ii) Qualifying basket of index securities
   The greater of: the floating margin rate percentage (calculated for index participation unit based on its regulatory margin interval), and the minimum floor margin rate required under subsection 5360(2), multiplied by The market value of index participation units.	The sum of: the greater of: the floating margin rate percentage (calculated for a perfect basket of index securities based on its regulatory margin interval), and the minimum floor margin rate required under subsection 5360(2), and The calculated incremental basket margin rate for the qualifying basket of index securities, multiplied by The market value of qualifying basket of index securities.

Amendment #4 – IDPC Rule section 5360 is amended by adding new subsection 5360(2) as follows:

2. The minimum floor Dealer Member inventory margin and client account margin rates for the purposes of subsection 5360(1) and offset strategies recognized in Rule 5700 are as follows:

   Qualifying index, individual and offset strategies	Category (i) Broad based index as defined in subsection 5130(9)	Category (ii) Sector index as defined in subsection 5130(9)
   Floor rate percentage to be used in determining margin rate for unhedged positions in index participation units and qualifying basket of index securities	10.00%	15.00%
   Floor rate percentage to be used in determining tracking error margin rate for qualifying offset strategies involving index products	2.00%	3.00%

Amendment #5 – IDPC Rule section 5360 is amended by adding new subsection 5360(3) as follows:

3. The Corporation calculates a regulatory margin interval for index products on qualifying indices. A qualifying index for the purposes of subsections 5360(1) and 5360(2) must be a widely quoted market index, as determined by the Corporation, that:
   1. meets the minimum requirements for an index in subsection 5130(9), and
   2. is included on the list of floating and tracking error margin rates for qualifying Canadian and U.S. index products.

Amendment #6 – IDPC Rule subsection 5360(2) is amended by renumbering to subsection 5360(4) and adding clause 5360(4)(ii) as follows:

4. The Corporation calculates a regulatory margin interval according to the following formula:

   Maximum standard deviation of percentage changes in daily closing prices over the most recent 20, 90, 260 trading days rounded up to the next ¼%.	x	3 (for a 99% confidence interval)	x	Square root of 2 (for 2 days price risk coverage)
   In limited circumstances, to ensure appropriate margin requirements, the Corporation may use discretion in calculating a regulatory margin interval. Dealer Members will be notified by the Corporation if any adjustments to the regulatory margin interval calculation are made.

Amendment #7 – IDPC Rule subsection 5360(3) is amended by:

• renumbering to subsection 5360(5),
• clarifying language in clause 5360(5)(iii) and
• updating the reference in clause 5360(5)(iv),

as follows:

5. To calculate the floating margin rate for an index participation unit or a perfect basket of index securities:
   1. the Corporation uses the last calculated regulatory margin interval, which is effective for the regular reset period unless a violation occurs,
   2. in normal circumstances, the floating margin rate is reset on the regular reset date to the regulatory margin interval calculated as at the regular reset date,
   3. if a violation occurs, the Corporation may reset the floating margin rate on the date the violation occurs to the regulatory margin interval determined as at the date of the violation, and
   4. the regulatory margin interval determined in clause 5360(5)(iii) will be effective for a minimum of 20 trading days and reset at the close of the 20th trading day to the regulatory margin interval determined as at that date if a reset results in a lower margin rate.

Amendment #8 – IDPC Rule subsections 5360(4) through 5360(6) are amended by renumbering sequentially and updating the references in clause 5360(7)(ii), as follows:

6. A basket of equity securities is a qualifying basket of index securities if:
   1. all of the securities in the basket are included in the composition of the same index,
   2. the basket comprises a portfolio with a market value equal to the market value of the underlying securities in the index,
   3. the market value of each equity security comprising the portfolio proportionally equals or exceeds the market value of its relative weight in the index, based on the latest published relative weights of securities comprising the index, and
   4. the required cumulative relative weight percentage of all equity securities comprising the portfolio:
      1. equals 100% of the cumulative weighting of the corresponding index, if the basket of equity securities underlying the index is comprised of less than 20 securities,
      2. equals or exceeds 90% of the cumulative weighting of the corresponding index, if the basket of equity securities underlying the index is comprised of 20 or more securities but less than 100 securities, and
      3. equals or exceeds 80% of the cumulative weighting of the corresponding index, if the basket of equity securities underlying the index is comprised of 100 or more securities,
         
         based on the latest published relative weightings of the equity securities comprising the index.
   5. If the cumulative relative weighting of all equity securities in the basket equals or exceeds the required cumulative relative weight percentage and is less than 100% of the cumulative weighting of the corresponding index, the deficiency in the basket must be filled by other equity securities included in the composition of the index.
7. The cumulative relative weight percentage is determined:
   1. by calculating for each security in a qualifying basket of index securities:
      1. its actual basket weighting, and
      2. its latest published relative weighting in the index,
         
         and then,
   2. by summing the lesser of the two weighting percentages calculated for each security in sub-clauses 5360(7)(i)(a) and 5360(7)(i)(b) for all of the securities in the qualifying basket of index securities.

8. The incremental basket margin rate for a qualifying basket of index securities is calculated as the sum:

   Market value of each underweighted security in basket

   x

   Margin rate for that security

   x

   The % by which the security is underweighted (calculated according to the formula: published relative weighting of the security - actual basket weighting of the security)

   for each underweighted security in the basket.

Appendix C

New Self-Regulatory Organization of Canada

Amendments to the IDPC Rules and to IDPC Form 1 regarding the floating index margin rate methodology

Clean copy of the Amendments to IDPC Form 1

Amendment #1 – IDPC Form 1 (General notes and definitions) is amended by updating the term “broad based index” to mirror the proposed amendments to the term in subsection 5130(9), as follows: