View source for Transaction terminations and VM

{{a|vmcsa|}}Now the timings of the various payments under the ISDA architecture lead to one rather odd effect:

If you have an existing {{isdaprov|Transaction}} with a large [[MTM]] exposure, that is currently collateralised, as it almost certainly will be, with [[variation margin]], and then the in-the-money party decides to close out that exposure (or — I dunno — the swap just gets to its Schedulted Termination Date, then you have a coupole of opposite things that have to happen.

*The [[out-of-the-money]] counterparty has to pay the termination value of the {{isdaprov|Transaction}}; and
*The [[in-the-money]] counterparty has to ''re''pay a corresponding portion of the {{vmcsaprov|variation margin}} it has already posted on the {{isdaprov|Transaction}}

These two amounts should be — intra-day market moves permitting — the same. Stands to reason: the point at which I finally pay you your winnings on the swap casino, you must pay me back the cashI gave you as collateral for the value of your trade.

Now you would like to think these things would seamlessly net off against each other: you keep the variation margin cash value, maybe there’s a small true up payment to cater for the market movement since the last collateral exchjange, and we’re all square.

But that’s not how {{icds}} played it.<ref>In fairness, the mechanics were first designed in an innocent, primordial era where variation margin was barely even an idea let alone the regulatory mandatory behemoth it is today. So they weren’t really to know.</ref> Instead the OTM counterparty must pay out the whole value of the swap mark to market — like, ''again'' — then wait for a new opportunity to value the master agreement, tomorrow, and then call for the equivalent credit support back then.

This leads to ''enormous'' overnight exposure, but this is the way the market seems to have operated since credit support annexes were a thing.