Template:M gen 2018 CSD 13(h)

The logic

There is some debate even as to the logical structure of the clause. We discovered this because we read it one way, whereas a correspondent who saw action in ISDA’s crack drafting squad™ during its gestation read it another way.

Initially, we read the logic as follows:

SPRE means (i) unless FPETA applies, in which case it means (ii), unless CACSPRE applies, in which case it means CASPRE.

The alternative reading is:

SPRE means (for EODs and ACs) (i), and (for ETAs that came about for any other reason) (ii) unless CACSPRE applies, in which case it means CASPRE.

With profound regret, we find ourselves agreeing with the latter logic, notwithstanding the absurd outcome it generates, and despite the desperate drafting in which it is wrought.

The alternatives

As-standard: a “designated Early Termination Date”

The as-standard Secured Party Rights Event in the 2018 English law IM CSD is the designation of an Early Termination Date in respect of all Transactions following an Event of Default but — unless designated as an “Access Condition” — not a normal Termination Event or an Additional Termination Event. For what it is worth, “Access Conditions” are a list of Termination Events and Additional Termination Events set out in Paragraph 13(e)(ii) for each of which one can opt — separately for each party — in your elections. What on earth ISDA’s crack drafting squad™ thought it was achieving with such pointless, fine-grained optionality (other than a sumptuous lifestyle for the hoardes of legal eagles who will feast on client negotiations as a result) it is hard to say. In any case, now we have a subset of termination rights that allow an Innocent Party to immediately seize the other party’s Posted Credit Support (IM) at the moment of notifying close-out, and days, weeks or months before it knows whether it is actually owed anything.

This leaves those means of terminating of one or more Transactions that are not Events of Default or “Access Conditions”. For these you must wait until you have determined and demanded an Early Termination Amount, and the client has failed to pay it when due, that failure itself representing a further Event of Default (putting you somewhat back in the position of (i), but okay let’s gloss over that.

In any case, just as a piece of design this is cruddy: any event leading to the early termination of all outstanding Transactions, should count as a Secured Party Rights Event, at the same time, since at that point you are off risk, right? ISDA’s crack drafting squad™, obsessed as ever with counterparty credit default, uses this as the distinction point for early access to the collateral, when in fact this is not what initial margin is about. For initial margin to be in play it is a given that there has been a credit failure. Initial margin is about market losses between that failure and when you finally go off risk. Until that point yuou don’t have a claim, and you don’t have credit risk, since the initial margin is held with a third party. As long as amounts are undetermined, or not as yet due under those Transactions, there is nothing to appropriate the collateral for.

Why do you need to appropriate initial margin before you know if you are actually owed anything?

The sensible point for an SPRE: “Failure to Pay Early Termination Amount”

(Quick drafting point: this means that a party fails to pay its Early Termination Amount once it has been determined, not that there is an Early Termination Amount determined following only a Failure to Pay or Deliver Event of Default.) That being the case, this is — well, if it covered all Termination Events, would be — the obvious best choice: it means, beyond any doubt the counterparty really has failed, it really did owe something, and it really did fail to pay it.

Now you have all the justification you need to wade in and repossess your counterparty’s initial margin.

Failing that: “Control Agreement Secured Party Rights Events”

If you have chosen to designate in your Control Agreement what the Secured Party’s rights to possess collateral are, then that applies, and overrides any of the disastrous trainwreck we have just picked through above.

Cutting through the nonsense

For those who don’t trust Control Agreements, or Secured Party Rights Events, to do what they say on the tin, consider this kind of wording:

“Secured Party Rights Event” means that, following the occurrence or designation of an Early Termination Date with respect to all outstanding Transactions, an Early Termination Amount payable by the Chargor has been determined and notified to the Chargor under Section 6(d), and the Chargor has not paid it in full when due under Section 6(d)(ii).