By James Conmy

In March, Fixed Income Clearing Corporation (FICC) expects to begin testing its new approach for simplifying how dealers can change or substitute the pools of mortgages they allocate to satisfy their mortgage-backed securities TBA (to-be-announced) trading positions.

Built on FICC's Electronic Pool Notification (EPN) service, the new "pool substitution" approach slated to undergo testing is one of the building blocks in the effort to create a central counterparty for the mortgage-backed securities market.

The new substitution service will allow members of the EPN service to cancel existing pool allocations and simul-taneously replace them with new ones using a single EPN message.

Leap forward
"Introducing the new message capability sounds relatively simple," said Michele Hillery, DTCC product manager, Clearance and Settlement Group, "but it's a big step toward a more automated pool allocation process."

Under current industry practices, sellers of mortgage-backed securities submit information through EPN on the pools of mortgages they intend to deliver to satisfy their TBA position. Sometimes, however, sellers may need to change the makeup of their pools. At present, this takes two steps. First, the pools must be canceled, and then another allocation must be entered authorizing the new pools.

"What can happen is that instead of using the two EPN messages, members end up communicating pool substitution information via the phone or fax machine, which is a far cry from the automated processing EPN was originally created to support," Hillery said. "Our new approach should fix that. It ensures an automated process, and it keeps that process within the structure of FICC."

One-step substitution
The new pool substitution service lets EPN members send a single message to cancel a number of previously allocated pools and simultaneously replace them with new ones - on a real-time basis. It also gives the message a time-stamped notice that effectively serves as an audit trail by indicating that EPN has processed the substitution and delivered it to the contra party.

The ability to substitute pools promptly is critical to FICC's future role as a central counterparty for all mortgage-backed securities trades, because FICC will need to refer pool substitution notifications received from the seller to the appropriate buyer counterparty in real time.

Implementation of the EPN pool substitution notification process is regarded as "Phase 2" in FICC's plan to develop a central counterparty. Phase 1 of the plan - specified pool trade matching through the Real-Time Trade Matching system - is already undergoing testing.

To schedule testing
Because it's possible for any firm's pool allocations to be substituted by the counterparty to the trade, all EPN users will be required to support the service when it goes live.

Pool substitution will be handled either through the screen-based EaSyPool software or through a computer-to-computer interface - CTCI, for short. Members who use CTCI will need to have completed programming for the new pool substitution messaging, or else will have to resort to EaSyPool to receive and/or deliver pool substitution messages.

To schedule pool substitution testing, members can contact Relationship Management at rmsupport@dtcc.com.

Updated documentation, including a service bulletin spelling out the steps members need to make to be prepared for pool substitution, is available on FICC's Web site (www.ficc.com). Additional notices, including one focused on business continuity planning, have been posted to the site recently. @

[For additional information, contact Michele Hillery at 212.855.7475 or mhillery@dtcc.com.]