Banking and Finance Law Daily Fed develops new rating system for financial market infrastructures
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Thursday, August 25, 2016

Fed develops new rating system for financial market infrastructures

By Richard A. Roth, J.D.

The Federal Reserve Board is replacing the rating system it uses when performing financial market infrastructure assessments. The new rating system, designated ORSOM, will evaluate each institution from the viewpoint of: organization; risk management; settlement; operational risk and information technology; and market support, access, and transparency. According to the Fed notice, the new rating system will take effect on Oct. 27, 2016.

The Fed says that a financial market infrastructure (FMI) is a multilateral system that transfers, clears, settles, or records various financial transactions among market participants or between a participant and the FMI. Financial market utilities (FMUs) are a subset of FMIs that, according to the Dodd-Frank Act, perform FMI functions for market participants that are financial institutions.

FMIs can be subject to Fed supervision for any of three reasons:

  1. The Financial Stability Oversight Council has designated the FMU for Fed supervision because it is, or is likely to become, systemically important.
  2. The FMI is operated by an institution the Fed supervises, such as a state member bank, Edge or agreement corporation, or bank holding company.
  3. The FMI is operated by the Federal Reserve Banks (for example, the Fedwire Funds Service).

Comments on proposal. The Fed proposed the ORSOM system in November 2015 (see Banking and Finance Law DailyNov. 12, 2015). The Fed says that in response to the two comment letters that were submitted, it edited the proposal to make clear that no obligations are being created beyond those included in existing regulations and guidance.

Rating system details. The Fed explains the five ORSOM components as:

Organization—The organization component has two sub-components: Board and Management Oversight, and Internal Audit. They are intended to address the FMI’s objectives and the ability of the FMI’s board and management to achieve those objectives. The internal audit function is part of that analysis.

Risk Management—This includes an analysis of the FMI’s financial resources for managing losses and liquidity pressures, its ability to meet its obligations should a participant in the system default, its ability to recover or wind down its operations in an orderly manner, and its capital plan. The FMI’s management of risks posed by market participants’ customers and other FMIs also will be considered.

Settlement—The Settlement component looks at the tools the FMI uses to ensure settlement takes place, the procedures it follows if there is a default, its ability to protect the rights of securities issuers and holders, and its ability to protect securities issuers that are in its custody.

Operational Risk—The Operational Risk and Information Technology component analyzes the FMI’s systems, procedures, infrastructure, and information security to measure its operational reliability and ability to support the ongoing functioning of the markets.

Market Support, Access, and Transparency—This component assesses the FMI’s participation requirements, member monitoring, operational efficiency, and required disclosures.

Numerical ratings. Under ORSOM, each FMI will receive a rating of 1 to 5 for each component:

  1. Strong;
  2. Satisfactory;
  3. Fair;
  4. Marginal;
  5. Unsatisfactory.

The component ratings then will be combined into a composite rating of 1 through 5.

MainStory: TopStory DoddFrankAct FinancialStability SecuritiesDerivatives PrudentialRegulation

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