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International Swaps and Derivatives Association, Inc.
UNDERSTANDING THE NEW ISDA
DOCUMENTATION CONFERENCE
ISDA 2002 MASTER AGREEMENT
ISDA Code of 1986 Code - Interest Rate Swap Agreement Cap, Collar Option RevisedFormed SWAPS of SWAPS - Interest Rate and Currency and Floor Addendum Definitions
(Standard Exchange Agreement Addendum (1991Wording, - Interest Rate and Currency Definitions)Assumptions Exchange Definitionsand Provisionsfor Swaps)
- Master Agreement - User’s Guide to 1992 - Credit Support Annex - User’s Guide to (Multicurrency-Cross Master Agreements (New York law) Credit Support Border) & (Local - OTC Bond Option - OTC Single Share Annex (New York law)Currency-Single Confirmation (Long Form) Option (Physical - Credit Support AnnexJurisdiction) - Commodity Derivatives Settlement) Confirmation (Transfer-English law)
- U.S. Municipal Definitions (Long Form) - Credit Support DeedCounterparty - Japanese translation of - Equity Option Definitions (Security Interest-EnglishDefinitions 1992 Master Agreement law)and Schedule - Standard Terms and
- FX and Currency Conditions for EscrowOption Definitions Float Transactions
- OTC Equity Index - Credit Support Annex Option Confirmation (Security Interest Subject to (Long Form) Japanese Law)
19841984 19851985 19861986 19871987 19891989 19901990 19911991
19921992 19931993 19941994 19951995
ISDA ® 2003
- 1996 Equity Derivatives Definitions- Credit Support Annex
(Japanese law)- User’s Guide to Credit Support
Annex (Japanese law)- Chinese Character Translation
(Traditional and Simplified) of User’s Guide to 1992 Master Agreements
- 1996 Representation Regarding Relationship between Parties
- ISDA/BBAIRS Bridge - ISDA/FRABBA Bridge
- 1997 Government Bond Option Definitions
- EMU Continuity Provision
- 1997 Bullion Definitions (long form and short form)
- OTC Credit Swap Confirmation
- 1998 FX and Currency Option Definitions
- 1998 Supplement to 1991 Definitions
- 1998 Euro Definitions
- EMU Protocol- EMU Guidebook- Guidelines for
Collateral Practitioners
- User’s Guide to Credit Support Documents under English Law
- User’s Guide to 1998 FX and Currency Option Definitions
- 1999 Credit Derivatives Definitions
- Y2K Review- 1999 Collateral Review
1996 1996 1997 1998 1997 1998 19991999
- 2000 Definitions- Supplement to 1993
Commodity Derivatives Definitions
- Revised Annex A to 1998 FX and Currency Option Definitions
- EMU Protocol (Greece)
2000 2000 20012001
- Restructuring Supplement to 1999 Credit Derivatives Definitions- 2001 Margin Provisions- User’s Guide to 2001 Margin Provisions- 2001 Credit Support Protocol- 2001 Euro Protocol- Form of Amendment to 1992 Master Agreements- U.S. Payee Tax Representations- Supplement to 1999 Credit Derivatives Definitions Relating to Convertible, Exchangeable or
Accreting Obligations- Supplement to 1999 Credit Derivatives Definitions Relating to Successor and Credit Events- 2001 Cross-Agreement Bridge- Chinese Character Translation of 1992 Master Agreement
ISDA ® 2003
- 2002 Energy Agreement Bridge- 2002 Equity Derivatives Definitions- 2002 Master Agreement
2003- 2003 Credit Derivatives Definitions
2002 and 20032002 and 2003
ISDA ® 2003
20022002
2002 Master Agreement
Published on 9th January, 2003
Incorporates and refines some of the standard amendments published in October 2001 as a result of ISDA’s Strategic Documentation Review
Additional changes reflect developments in market practice, legislation and litigation
Structure and fundamental protections unchanged
ISDA Agreement Structure (2003)
2002 Master AgreementGoverns legal and credit relationship between the parties
Includes representations, events of default/termination events, covenants
Incorporates Confirmations
Schedule makes elections and changes to standard provisions
Confirmations (short form)Incorporate DefinitionsSpecify economic terms of each TransactionInclude Transaction-specific modifications
1995 Credit Support Deed (Security Interest-English law)
Definitions: for use in documentingTransactions
2003 Credit Derivatives Definitions2002 Equity Derivatives Definitions2000 Definitions (plus annex)1999 Credit Derivatives Definitions (plus supplements)1998 Euro Definitions 1998 FX and Currency Option Definitions (plus revised Annex A)1997 Bullion Definitions 1997 Government Bond Option Definitions 1993 Commodity Derivatives Definitions (as amended by 2000 Supplement)
Credit Support Documents:offering protection againstcredit risk
2001 ISDA Margin Supplement (incorporating 2001 ISDA Margin Provisions)1995 Credit Support Annex (Transfer-English law) 1994 Credit Support Annex (New York law)
Confirmations (long form)
1995 Credit Support Annex (Japanese law)
Bridges2002 Energy Agreement Bridge2001 Cross-Agreement Bridge1996 FRABBA Bridge 1996 BBAIRS Bridge
ISDA ® 2003
Master Agreements
Master Agreement
Confirmation(e.g. interest rate swap)
Confirmation(e.g. credit default swap)
Confirmation(e.g. equity option)
ISDA ® 2003
Basic ISDA Agreement Structure
2002 Master Agreement plus Schedule
Governs legal and credit relationship of partiesIncludes representations, events of default and covenantsIncorporates ConfirmationsSchedule makes elections and changes to standard provisions
Short Form ConfirmationsIncorporate DefinitionsSpecify economic terms of each TransactionInclude Transaction-specific modifications
DefinitionsContain standard terms and definitions for documenting particular types of Transactions
Long Form ConfirmationsSpecify economic terms of each TransactionInclude Transaction-specific modifications
Credit Support DocumentsOffering protection against credit risk
Preserved:
A sunny side: Sections 1 to 4
A dark side: Sections 5 and 6
A back side: Sections 7 to 13
A far side
Preserved:3 PILLARS OF THE ISDA MASTER AGREEMENT:
SINGLE AGREEMENT FLAWED ASSET/CONDITIONALITY
CLOSE-OUT NETTING
Summary of Principal Changes
Events of Default tightened
Close-out Amount in; Market Quotation, Loss, First Method out
Set-off clause introduced
Amendments to Termination Events (including amendments to Illegality and introduction of Force Majeure Event)
Section 10(a) clarified
Jurisdiction clause updated
Interest and compensation provisions consolidated and refined
Preamble
“dated as of”
“Transactions”
“Confirmations”
Section 1 - Interpretation
Definitions
Inconsistency
Single Agreement
Conditions Precedent
Section 2(a)(iii) - conditions precedent
Standard conditions precedent unchanged
In 2002 Agreement, any additional condition precedent needs to be “specified in this Agreement to be a condition precedent for the purpose of this Section 2(a)(iii)”
Section 2(c) Payment Netting
PartyA
PartyA Net: $75
PartyB
PartyB
Gross: $100
Gross: $25
Note: payment netting applies to payments...on the same datein the same currencyin respect of the same Transaction UNLESS parties elect “Multiple Transaction Payment Netting” to apply (Part 4(i) of Schedule)
Section 3 - Representations
Basic RepresentationsAbsence of Certain EventsAbsence of Litigation (Specified Entities replace Affiliates)Accuracy of Specified InformationTax RepresentationsNo Agency (elective)Additional Representations (specified in Schedule/Confirmation). See Schedule for “Relationship Between Parties” representation
Section 4 - Agreements
Furnish Specified Information
Maintain Authorisations
Comply With Laws
Tax Agreement
Payment of Stamp Tax
Section 5(a) - Events of Default
Failure to Pay or Deliver (Section 5(a)(i))
applies to each party
Event of Default will occur if:
− a party has failed to pay/deliver
− the other party gives notice of such failure
− such failure is not remedied within one Local Business Day/Local Delivery Day after notice
Local Delivery Day
Section 5(a) - Events of Default
Breach of Agreement; Repudiation of Agreement(Section 5(a)(ii))
applies to each party
new coverage for repudiation of the Agreement, a Confirmation or a Transaction
30 day grace period (after notice) applies to Breach of Agreement
Section 5(a) - Events of Default
Credit Support Default (Section 5(a)(iii))
applies to each party and any Credit Support Provider(s)
new coverage for failure of security interest
Misrepresentation (Section 5(a)(iv))
applies to each party and any Credit Support Provider(s)
Section 5(a) - Events of Default
Default Under Specified Transaction (Section 5(a)(v))
applies to each party, any Credit Support Provider(s) and any Specified Entities“Specified Transaction” definition includes variety of transactions under other agreements between:
− each party− a party and the other party’s Credit Support Provider or
Specified Entity− one party’s Credit Support Provider or Specified Entity
and the other party’s Credit Support Provider or Specified Entity
Specified Entities
In Part 1(a) of the Schedule, the parties may elect whether any entities will be Specified Entities for the purposes of:
Section 5(a)(v) (Default Under Specified Transaction)
Section 5(a)(vi) (Cross-Default)
Section 5(a)(vii) (Bankruptcy)
Section 5(b)(v) (Credit Event Upon Merger)
Section 5(a) - Events of Default
definition updated and expanded in 2002 Agreement
only triggered by delivery failure if such failure results in acceleration of all transactions outstanding under the documentation applicable to the Specified Transaction
Default Under Specified Transaction (Section 5(a)(v)) - CONT’D
Section 5(a) - Events of Default
Cross-Default (Section 5(a)(vi))
parties elect in Part 1(c) of Schedule whether Section 5(a)(vi) will apply to a party and any Credit Support Provider(s) and Specified Entities
“Specified Indebtedness” is defined in Section 14 as “any obligation …in respect of borrowed money”. Parties can amend definition in Part 1(c) of Schedule
Threshold Amount to be specified in Part 1(c) of Schedule
Clauses (1) and (2) are now aggregated
Section 5(a) - Events of Default
Think through amendments to Section 5(a)(vi) carefully:
Section 5(a)(vi) will probably continue commonly to be amended
Section 5(a)(vi) gives the best default event protection a creditor can obtain vis à vis other creditors
But it is a double-edged sword
Section 5(a) - Events of Default
Bankruptcy (Section 5(a)(vii))
applies to each party, any Credit Support Provider(s) and any Specified Entities
shortened grace periods
no grace period where proceedings instituted, or petition presented by the regulator with primary jurisdiction over the party
Section 5(a) - Events of Default
Merger Without Assumption (Section 5(a)(viii))
applies to each party and any Credit Support Provider(s)
now covers broader range of merger events
Section 5(b) - Termination Events
Illegality (Section 5(b)(i))
applies to each party and any Credit Support Provider(s)
Force Majeure Event (Section 5(b)(ii))
applies to each party and any Credit Support Provider(s)
Tax Event (Section 5(b)(iii))
applies to each party
Section 5(b) - Termination Events
Tax Event Upon Merger (Section 5(b)(iv))
applies to each party
now covers broader range of merger events
Credit Event Upon Merger (Section 5(b)(v))
parties elect in Part 1(d) of the Schedule whether Section 5(b)(v) will apply to a party, any Credit Support Provider(s) and any Specified Entities
now covers broader range of merger events and has lower thresholds
Additional Termination Events (Section 5(b)(vi))
Illegality and Force Majeure Event
How has Illegality changed?
What is Force Majeure Event?
Anticipatory nature
Objectives
Deferral of obligations (Section 5(d))
Hierarchy of Events (Section 5(c))
Illegality and Force Majeure Event
Limitations:
only available after giving effect to other provisions
must try to overcome force majeure
Tax
No change, except:
Tax Event Upon Merger broadened
standard US payee tax representations included in Schedule
Early Termination - HowEarly Termination - How
ReasonReason
Events of DefaultBankruptcyOther
Termination EventIllegalityForce Majeure EventTax Event Upon MergerTax EventCredit Event Upon MergerAdditional Termination Event
2002 Master Agreement Reference:Sections 6(a) & 6(b)
Who may terminateWho may terminate
Non-defaulting Party or Automatic*Non-defaulting Party
typically either partytypically either partyBurdened PartyAffected PartyNon-affected PartyNon-affected Party or either party (if there are two Affected Parties)
*only applies if elected in Schedule
Event of Default
Credit Event Upon Merger
Illegality/Force Majeure Event
Additional Termination Event
Other Termination Events
Early Termination - EffectEarly Termination - Effect
all Transactions terminated
all Transactions terminated
selective termination ofAffected Transactions
all Transactions terminated(presumption)
all Affected Transactions terminated
2002 Master Agreement Reference:Sections 6(a) & 6(b)
Section 6(a) - Right to Terminate Following Event of Default
Parties elect in Part 1(e) of the Schedule whether Automatic Early Termination will apply to a party
Effect of Automatic Early Termination
When should it apply?
Early Termination -Illegality and Force Majeure Event
Rights of termination typically granted to either party
Rights of termination typically only exercisable after expiration of a Waiting Period
Right to terminate less than all Affected Transactions
Transfer to avoid Termination Event no longer applies to Illegality; does not apply to Force Majeure Event
Section 6(e) -Payments on Early Termination
Early Termination Amount:Events of Default:
sum of the Close-out Amount or Close-out Amounts determined by the Non-defaulting Party
plus Unpaid Amounts owed to the Non-defaulting Party on or before the Early Termination Date
less Unpaid Amounts owed to the Defaulting Party on or before the Early Termination Date
Close-out Amount
Single valuation measure
Replaces choice between Market Quotation and Loss
Designed to:
overcome perceived difficulties associated with precise procedures of Market Quotation in certain market conditions; and
provide more guidance and objectivity than Loss
Close-out Amount
Involves a calculation by a Determining Party of how much it would cost it (or how much it would be paid) to replace, or provide the economic equivalent of (a) the material terms of the Terminated Transaction(s), including the payments and deliveries by the parties under Section 2(a)(i) that would, but for the occurrence of the Early Termination Date, have been required after that date (assuming satisfaction of the conditions precedent in Section 2(a)(iii)) and (b) the option rights of the parties in respect of the Terminated Transaction(s)
Close-out Amount
Determining Party must:
act in good faith
use commercially reasonable procedures
in order to obtain a commercially reasonable result
Close-out Amount
May be determined for an individual Terminated Transaction or a group of Terminated Transactions (so long as, in aggregate, a Close-out Amount or Close-out Amounts is/are determined for all Terminated Transactions)
Determined as of the Early Termination Date or, if that would not be commercially reasonable, as of such later date or dates as would be commercially reasonable
Close-out Amount
Definition includes non-exhaustive list of information that may be taken into account, including:
quotations (firm or indicative) from one or more third parties (need not be “leading dealers”) that may take into account the Determining Party’s creditworthiness and the terms of relevant documentation between it and the third party
other external market data - rates, prices, yields, yield curves, volatilities, spreads, correlations, etc.
in certain circumstances, information of the same types available from internal sources
Close-out Amount
But, Determining Party will consider quotations or other external market data unless it reasonably believes in good faith that quotations or relevant market data are not readily available or would produce a result that would not satisfy the standards set forth in the definition
Hedging costs: losses or costs incurred in (or gain resulting from) terminating or re-establishing a hedge may be considered by the Determining Party so long as there is no duplication of amounts otherwise calculated pursuant to the definition, and so long as it is commercially reasonable to do so
Close-out Amount
Commercially reasonable procedures may include:
subject to certain qualifications, application to certain types of information (not third party quotations) of internal pricing or valuation models
application of different valuation methods to different Terminated Transactions or groups of Terminated Transactions depending on their type, complexity, size or number
Section 6(e) -Payments on Early Termination
Early Termination Amount:Termination Events - One Affected Party:
as for Events of Default, but references to Non-defaulting Party read as references to Non-affected Party
Section 6(e) -Payments on Early Termination
Early Termination Amount:Termination Events - Two Affected Parties:
one-half of difference between sum of Close-out Amount or Close-out Amounts determined by each Affected Party
plus Unpaid Amounts owed to the party determining the higher amount
less Unpaid Amounts owed to the party determining the lower amount
Section 6(e) -Payments on Early Termination
Early Termination Amount:Termination Events - Mid-Market Events:
Illegality/Force Majeure Event
Early Termination Amount determined as above (depending on whether there is one Affected Party or two Affected Parties), but, for the purpose of determining a Close-out Amount or Close-out Amounts, mid-market quotations/values used
Section 6(e) -Payments on Early Termination
Party that is out-of-the-money on a net basis has to pay other party, even if other party is a Defaulting Party
No longer an election of “payment method”
The “Second Method” or “full two-way payments” approach always applies
Early Termination Amount
Section 6(e)(iv):
failure to pay Early Termination Amount due to Illegality or Force Majeure Event does not constitute an Event of Default under Section 5(a)(i) or 5(a)(iii)(1)
if all outstanding Transactions subsequently terminated, treated as an Unpaid Amount
Section 6(f) - Set-Off
Early Termination Amount subject to Section 6(f)Section 6(f) introduces a contractual set-off clause intothe 2002 Agreement:
based on “Basic Set-off Provision” contained in the User’s Guide to the 1992 ISDA Master Agreementsnot cross-affiliateenforceability of clause not considered in ISDA netting opinions
The Backside
Section 7 - TransferSection 8 - Contractual CurrencySection 9 - MiscellaneousSection 10 - Offices; Multibranch PartiesSection 11 - ExpensesSection 12 - NoticesSection 13 - Governing Law and Jurisdiction
Section 9(h) - Interest and Compensation
Prior to Early Termination
Defaulted Payments
Defaulted Deliveries
Deferred Payments
Deferred Deliveries
Following Early Termination
Unpaid Amounts
Early Termination Amounts
Interest and Compensation - Examples
The following examples illustrate how, on early termination, interest is to be taken into account in the determination of an Unpaid Amount
Section 9(h)(ii)(1) applies for the purpose of determining an Unpaid Amount:
interest accrues from (and including) the date the relevant obligation was (or would have been but for Section 2(a)(iii) or 5(d)) required to have been performed to (but excluding) the relevant Early Termination Date, at the Applicable Close-out Rate
Monday Tuesday Friday Monday MondayFebruary 3 February 4 February 7 February 10 February 17
Swap Party A gives Party B’s Party A EarlyPayment Date: notice of failure to pay designates TerminationParty B failure to on Feb. 3 Feb. 17 Date. owes $150,000 Party B. becomes as the Early and fails to Event of Termination to pay. Default. Date.
Example 1
Interest and Compensation - Examples
Under Section 9(h)(ii)(1), interest accrues from (and including) February 3 to (but excluding) February 17 at Applicable Close-out Rate
Clause (a)(i) of Applicable Close-out Rate definition:
“in respect of obligations payable or deliverable…by a Defaulting Party, the Default Rate”
Interest and Compensation - Examples
Monday Wednesday Thursday Monday ThursdayFebruary 3 February 5 February 13 February 17 February 20
Force Majeure Swap Last day of Party A EarlyEvent occurs. Payment Date: applicable designates Termination
Party B owes Waiting Period Feb. 20 Date. $150,000 (Force Majeure as the Early and does not Event continues). Termination pay due to Date. Force MajeureEvent.
Example 2
Interest and Compensation - Examples
Under Section 9(h)(ii)(1), interest accrues from (and including)February 5 to (but excluding) February 20 at Applicable Close-out Rate
Clauses (a)(iii) and (a)(iv) of Applicable Close-out Rate definition:
“(iii) in respect of obligations deferred pursuant to Section 5(d), if there is no Defaulting Party and for so long as the deferral period continues, the Applicable Deferral Rate; and
(iv) in all other cases following the occurrence of a Termination Event (except where interest accrues pursuant to clause (iii) above), the Applicable Deferral Rate”
Interest and Compensation - Examples
Clause (b) of Applicable Deferral Rate definition applies for solong as the deferral period continues (February 5 to February 13):
rate offered to prime banks for overnight deposits in the applicable currency
Clause (c) of Applicable Deferral Rate definition applies for the rest of the period up to the Early Termination Date:
rate equal to the arithmetic mean of (i) the rate offered to thepayer for overnight deposits in the applicable currency and (ii)the rate equal to the relevant payee’s cost of funds (borrowing rate)
Interest and Compensation - Examples
Multibranch
Party A(Frankfurt)
Party B(Paris Branch)
Party B(London
Head Office)Swap 1
Swap 2
Section 10 - Offices; Multibranch Parties
Refined in 2002 Agreement:
more sophisticated treatment of branches
clarification of Section 10(a) (remains elective)
Section 5(e) - extension of Illegality/Force Majeure Event provisions
Section 12 - Notices
Different methods of giving notice or other communication
Notices under Sections 5 and 6
New technology
Section 13 - Governing Law and Jurisdiction
Submission to jurisdiction of the English courts now generally non-exclusive
Submission to jurisdiction of New York courts unchanged
Section 14 - Definitions
Consolidated
Helpful definitions included, e.g.:
Early Termination Amount
General Business Day
Non-affected Party
Termination Currency
Schedule
US payee tax representations
Relationship Between Parties representation
Recording of Conversations
Signature block
2001 Cross-Agreement Bridge
Effectively turns an ISDA Master Agreement into a “master master” agreement
Designed for inclusion in the Schedule to a 1992 Agreement, but easily adapted for use with the 2002 Agreement
If a “Bridging Event” occurs, all transactions under designated “Bridged Agreements” are closed out
Resulting net close-out amounts under the Bridged Agreements are incorporated into the close-out calculation under Section 6(e) of the ISDA Master Agreement
ISDA Netting Opinions 2002ISDA Netting Opinions 2002
15. Hungary16.16. IndonesiaIndonesia17.17. IrelandIreland18.18. ItalyItaly1919 JapanJapan20.20. LuxembourgLuxembourg21.21. MalaysiaMalaysia22.22. MexicoMexico23.23. Netherlands AntillesNetherlands Antilles24.24. New ZealandNew Zealand25.25. NorwayNorway26.26. PhilippinesPhilippines27.27. PortugalPortugal28.28. ScotlandScotland
29.29. SingaporeSingapore30.30. South AfricaSouth Africa31.31. South KoreaSouth Korea32.32. SpainSpain33.33. SwedenSweden34.34. SwitzerlandSwitzerland35.35. TaiwanTaiwan36.36. ThailandThailand37.37. TurkeyTurkey38. The Netherlands39. United States
1. Australia2. Austria3. Bahamas4. Belgium5. Bermuda6. B.V.I.7. Canada8. Cayman Islands9. Denmark10. England11. Finland12. France13. Germany14. Hong Kong
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