Template:M summ 1992 ISDA 6(e)(i)

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Upon a Termination Event under the ISDA Master Agreement it is good to have your payment and calculation methods well-defined. The section Payments on Early Termination (ISDA Master Agreement Section 6(e) and Schedule 1(f)) covers this.

First Method

Fun fact: That terrible FT book about derivatives, and other like-minded sources, label the First Method a “limited two-way payments” clause, by which lights Long John Silver was a “limited two-legged pirate”. Less disingenuously also known as a “walkaway clause”, the First Method, which ensured that on close-out a Defaulting Party got paid nothing, regardless of how far in-the-money its Transactions were, was rarely used, even in the heady early 1990s, when derivatives seemed fun, new and mostly harmless.

Under the First Method, a payment is only ever made if the Settlement Amount is payable by the Defaulting Party to the Non-defaulting Party. This is, needless to say, a big fat free option against a Defaulting Party. The First Method is thus a back door to withhold payments that otherwise would due under the ISDA Master Agreement, it is hard to see why anyone in their right mind would give away this kind of optionality at the commencement of a derivative trading relationship, and, predictably, no one did.

Very, very rarely seen.

Second Method

The Second Method is a method of determining the Early Termination Amount due upon close out of an 1992 ISDA. Unlike the First Method, it requires a payment to be made equal to the net value of the Terminated Transactions to whom it is due, regardless whether it is the Defaulting Party or the Non-defaulting party. I.e., the Defaulting Party might get paid. Nice, huh?

Transaction Valuation

The Template:199ma provides alternative ways of arriving at a value for your portfolio of Terminated Transactions. This probably seemed like a good idea to ISDA’s crack drafting squad™ at the time — hey look: acid wash denim seemed a good idea at the time, to someone — but it leads to complexity, confusion, fear and loathing.

  1. They won’t.