Cross acceleration - ISDA Provision: Difference between revisions
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{{a|isda|{{subtable|''' | {{a|isda|{{subtable|'''ISDA’s Cross Default clause in a {{nutshell}}'''<br> | ||
{{Nutshell 2002 ISDA 5(a)(vi)}}}} | {{Nutshell 2002 ISDA 5(a)(vi)}}}} | ||
{{subtable|''' | {{subtable|'''ISDA’s Cross Default clause in full'''<br> | ||
{{ISDA Master Agreement 2002 5(a)(vi)}} | {{ISDA Master Agreement 2002 5(a)(vi)}} | ||
}}}}“Cross acceleration” is not an ''actual'' ISDA {{isdaprov|Event of Default}}, but it is what ''happens'' to an actual ISDA Event of Default — namely, the much-negotiated, seldom-used Section {{isdaprov|5(a)(vi)}}, {{isdaprov|Cross Default}} EOD, if you can persuade your credit department to water it down to something sensible. | }}}}“Cross acceleration” is not an ''actual'' ISDA {{isdaprov|Event of Default}}, but it is what ''happens'' to an actual ISDA Event of Default — namely, the much-negotiated, seldom-used Section {{isdaprov|5(a)(vi)}}, {{isdaprov|Cross Default}} EOD, if you can persuade your credit department to water it down to something sensible. | ||
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Therefore to convert a [[cross default]] to a [[cross acceleration]], you only need to require ''general'' defaults to have been accelerated. Repayment defaults ''can’t'' be accelerated. | Therefore to convert a [[cross default]] to a [[cross acceleration]], you only need to require ''general'' defaults to have been accelerated. Repayment defaults ''can’t'' be accelerated. | ||
Cross acceleration also avoids the need to muck around allowing for grace | Cross acceleration also avoids the need to muck around allowing for [[grace period]]s to expire, granting indulgences for administrative and operational error and all that dreck: if the counterparty ''has actually accelerated the loan, the grace periods and operational errors are moot. It is too late. The game is up. | ||
Now to be sure [[legal eagles]], especially the ''lesser-spotted buy-side legal eagle'', might start hopping up and down, flapping their wings and squawking restively at this point. “But,” they will say, “what about grace | Now, to be sure, [[legal eagles]], especially the ''lesser-spotted [[buy-side legal eagle]]'', might start hopping up and down, flapping their wings and squawking restively at this point. | ||
“But,” they will say, “what about [[grace period]]s and operational errors on that final payment? We must be allowed those before you can close us out!” | |||
You may roll your eyes at this — the [[JC]] certainly does — and while it might make you feel better for a moment, it won’t make the problem go away. The short answer is that ''ordinary'' [[grace period]]s ''are'' factored in if you would care to read the language — the event isn’t triggered until they have all expired, and as for contractual affordances that don’t quite count as [[grace period]]s (that are, for example, dependent on the borrower providing evidence of [[operational error]] to give it some more time to pay) — well, on a [[fair, large and liberal]] view these count as [[grace period]]s anyway, and if you aren’t persuaded of that [[I’m not going to die in a ditch about it|am I going to die in a ditch about it]]? It depends how late it is on a Friday. At the time of writing it is 6:30 pm and the [[JC]] is like ''oh pleeeeease''. | |||
===Is “downgrading” to [[cross acceleration]] ''wise'', though?=== | ===Is “downgrading” to [[cross acceleration]] ''wise'', though?=== | ||
There are two schools of thought: | There are two schools of thought: | ||
*''''Yes''': The sensible, pragmatic, wise, [[noble, fearless and brave]] one you will find in these pages: “''Yes''. Cross default is misplaced in a modern collateralised {{isda}}. Anything you can do either to restrict its scope, or simply to avoid being dragged into a [[tedious]] argument about its scope, is | *''''Yes''': The sensible, pragmatic, wise, [[noble, fearless and brave]] one you will find in these pages: “''Yes''. [[Cross default]] is misplaced in a modern daily-collateralised {{isda}}. Anything you can do either to restrict its scope, or simply to avoid being dragged into a [[tedious]] argument ''about'' its scope, is worth doing.” | ||
*'''No''': The learned one, from the learned author of that terrible [[FT book about derivatives]]: “All other things being equal, ''no''. One should only | *'''No''': The learned one, from the learned author of that terrible [[FT book about derivatives]]: “All other things being equal, ''no''. One should only soften [[cross default]] reluctantly. Because other counterparts might not be so weak.” | ||
With respect to my learned friend, his reasoning isn’t massively compelling, as it rather mischaracterises what is going on: | With respect to my learned friend, his reasoning isn’t massively compelling, as it rather mischaracterises what is going on: | ||
:''With [[cross acceleration]] the innocent third party actually has to start proceedings<ref>Actually, it doesn’t have to ''sue'' your counterparty; just call its debt in.</ref> against the defaulting counterparty before you can trigger your transaction termination rights ... . The downgrading [of cross default to cross acceleration] therefore affects the timing of your right to terminate, It is no longer automatic but deferred.<ref>I have no idea what the learned author means by “automatic” here: either way the your termination right is ''optional'', not ''automatic'': it is simply contingent on an independent event in either case: in one case the default; in other case the lender’s ''acceleration'' of the default.</ref> | :''With [[cross acceleration]] the innocent third party actually has to start proceedings<ref>Actually, it doesn’t have to ''sue'' your counterparty; just call its debt in.</ref> against the defaulting counterparty before you can trigger your transaction termination rights ... . The downgrading [of cross default to cross acceleration] therefore affects the timing of your right to terminate, It is no longer automatic but deferred.<ref>I have no idea what the learned author means by “automatic” here: either way the your termination right is ''optional'', not ''automatic'': it is simply contingent on an independent event in either case: in one case the default; in other case the lender’s ''acceleration'' of the default.</ref> | ||
:''If the third party is your counterparty’s main relationship bank it may take some time to review its position<ref>Indeed it may, and probably will. ''But while it is doing that it is not accelerating its | :''If the third party is your counterparty’s main relationship [[bank]] it may take some time to review its position<ref>Indeed it may, and probably will. ''But while it is doing that it is not accelerating its claim against your counterparty.'' It is granting its customer, and your counterparty, an indulgence. ''Your'' position is, therefore, not worsened in the meantime.</ref> and may propose a compromise which does not suit you. <ref>You, bear in mind, are the owner of a fully collateralised {{isdama}} which the counterparty has, in the mean time, continued faithfully to perform. If one of your co-creditors has granted an indulgence on outstanding indebtedness — even in return for some other surety or compromise — which avoid that debt being accelerated in full, how can that by itself make your position worse?</ref> | ||
“But other swap counterparties —” Ahh yes: the learned author is, technically, correct, you are marginally worse off if you have conceded to [[cross acceleration]] and other swap counterparties have not. They can beat you, and your counteroparty’s main relationship bank, to the punch. ''But that just illustrates how stupid the concept of cross default is''. ''Especially'' in our enlightened age of zero-threshold, [[daily margined|variation margin]] unexotic swap contracts. ''Especially'' given the extreme conceptual difficulty of even gathering enough information to work out whether you even ''can'' exercise your stupid cross default right. (Just how a third party would ever be able to assess the value of defaulted Specified Indebtedness has never been explained to this old goat). | |||
This is angel-on-the-head-of-a-pin stuff indeed. | |||
{{sa}} | {{sa}} | ||
*[[Cross default]] generally | *[[Cross default]] generally | ||
{{ref}} | {{ref}} | ||
Revision as of 17:37, 2 October 2020
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ISDA Anatomy™
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“Cross acceleration” is not an actual ISDA Event of Default, but it is what happens to an actual ISDA Event of Default — namely, the much-negotiated, seldom-used Section 5(a)(vi), Cross Default EOD, if you can persuade your credit department to water it down to something sensible.
Cross acceleration: what is it?
Template:Cross acceleration capsule
How to change Cross Default to cross acceleration
You can amend Cross Default to Cross Acceleration by adding the following language:
- Section 5(a)(vi) is amended by deleting “, or becoming capable at such time of being declared,” from subsection (1).
Explain this wondrous drafting to me!
Cross Default, as per the panel to the right, is triggered by two kinds of default:
- General default: a general event of default of any kind at any time during the tenor of any Specified Indebtedness — this could be anything: the borrower’s bankruptcy, a breach of its reps and warranties, a non-payment of interest, any repudiatory breach of the contract of indebtedness, really; or
- Repayment default: the borrower’s failure to fulfil, in full, final repayment of the debt itself when due.
Why draw a distinction between these two general default and repayment default, seeing as both of them are cataclysmic? There is an answer, but it is fussy, word-smithy stuff from the squad, I’m afraid, readers: because a general default entitles the lender to accelerate the debt requiring the borrower to repay it at once, before its scheduled maturity date; a repayment default, logically, falls on that scheduled maturity date, and so can’t be “accelerated” as such. There is nothing to accelerate: the repayment date is already here.
Therefore to convert a cross default to a cross acceleration, you only need to require general defaults to have been accelerated. Repayment defaults can’t be accelerated.
Cross acceleration also avoids the need to muck around allowing for grace periods to expire, granting indulgences for administrative and operational error and all that dreck: if the counterparty has actually accelerated the loan, the grace periods and operational errors are moot. It is too late. The game is up.
Now, to be sure, legal eagles, especially the lesser-spotted buy-side legal eagle, might start hopping up and down, flapping their wings and squawking restively at this point.
“But,” they will say, “what about grace periods and operational errors on that final payment? We must be allowed those before you can close us out!”
You may roll your eyes at this — the JC certainly does — and while it might make you feel better for a moment, it won’t make the problem go away. The short answer is that ordinary grace periods are factored in if you would care to read the language — the event isn’t triggered until they have all expired, and as for contractual affordances that don’t quite count as grace periods (that are, for example, dependent on the borrower providing evidence of operational error to give it some more time to pay) — well, on a fair, large and liberal view these count as grace periods anyway, and if you aren’t persuaded of that am I going to die in a ditch about it? It depends how late it is on a Friday. At the time of writing it is 6:30 pm and the JC is like oh pleeeeease.
Is “downgrading” to cross acceleration wise, though?
There are two schools of thought:
- 'Yes: The sensible, pragmatic, wise, noble, fearless and brave one you will find in these pages: “Yes. Cross default is misplaced in a modern daily-collateralised ISDA. Anything you can do either to restrict its scope, or simply to avoid being dragged into a tedious argument about its scope, is worth doing.”
- No: The learned one, from the learned author of that terrible FT book about derivatives: “All other things being equal, no. One should only soften cross default reluctantly. Because other counterparts might not be so weak.”
With respect to my learned friend, his reasoning isn’t massively compelling, as it rather mischaracterises what is going on:
- With cross acceleration the innocent third party actually has to start proceedings[1] against the defaulting counterparty before you can trigger your transaction termination rights ... . The downgrading [of cross default to cross acceleration] therefore affects the timing of your right to terminate, It is no longer automatic but deferred.[2]
- If the third party is your counterparty’s main relationship bank it may take some time to review its position[3] and may propose a compromise which does not suit you. [4]
“But other swap counterparties —” Ahh yes: the learned author is, technically, correct, you are marginally worse off if you have conceded to cross acceleration and other swap counterparties have not. They can beat you, and your counteroparty’s main relationship bank, to the punch. But that just illustrates how stupid the concept of cross default is. Especially in our enlightened age of zero-threshold, variation margin unexotic swap contracts. Especially given the extreme conceptual difficulty of even gathering enough information to work out whether you even can exercise your stupid cross default right. (Just how a third party would ever be able to assess the value of defaulted Specified Indebtedness has never been explained to this old goat).
This is angel-on-the-head-of-a-pin stuff indeed.
See also
- Cross default generally
References
- ↑ Actually, it doesn’t have to sue your counterparty; just call its debt in.
- ↑ I have no idea what the learned author means by “automatic” here: either way the your termination right is optional, not automatic: it is simply contingent on an independent event in either case: in one case the default; in other case the lender’s acceleration of the default.
- ↑ Indeed it may, and probably will. But while it is doing that it is not accelerating its claim against your counterparty. It is granting its customer, and your counterparty, an indulgence. Your position is, therefore, not worsened in the meantime.
- ↑ You, bear in mind, are the owner of a fully collateralised ISDA Master Agreement which the counterparty has, in the mean time, continued faithfully to perform. If one of your co-creditors has granted an indulgence on outstanding indebtedness — even in return for some other surety or compromise — which avoid that debt being accelerated in full, how can that by itself make your position worse?