Netting of Payments - ISDA Provision
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ISDA Anatomy™
then those obligations will be satisfied and replaced by an obligation on the party owing the larger amount to pay the difference. The parties may net payments across multiple specified Transactions by applying “Multiple Transaction Payment Netting” (and clause 2(c)(ii) will therefore not apply).
Multiple Transaction Payment Netting arrangements may apply to different groups of Transactions, will apply separately to each pairing of specified Offices and will take effect as agreed between the parties.
by each party to the other, then, on such date, each party’s obligation to make payment of any such amount will be automatically satisfied and discharged and, if the aggregate amount that would otherwise have been payable by one party exceeds the aggregate amount that would otherwise have been payable by the other party, replaced by an obligation upon the party by which the larger aggregate amount would have been payable to pay to the other party the excess of the larger aggregate amount over the smaller aggregate amount. The parties may elect in respect of two or more Transactions that a net amount and payment obligation will be determined in respect of all amounts payable on the same date in the same currency in respect of those Transactions, regardless of whether such amounts are payable in respect of the same Transaction. The election may be made in the Schedule or any Confirmation by specifying that “Multiple Transaction Payment Netting” applies to the Transactions identified as being subject to the election (in which case clause 2(c)(ii) above will not apply to such Transactions). If Multiple Transaction Payment Netting is applicable to Transactions, it will apply to those Transactions with effect from the starting date specified in the Schedule or such Confirmation, or, if a starting date is not specified in the Schedule or such Confirmation, the starting date otherwise agreed by the parties in writing. This election may be made separately for different groups of Transactions and will apply separately to each pairing of Offices through which the parties make and receive payments or deliveries.
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Transaction flows and collateral flows
In a fully margined ISDA Master Agreement, all other things being equal, the termination of a Transaction will lead to two equal and opposite effects:
- A final payment or exchange under the Transaction having a value more or less equal to the present value of that Transaction;
- A offsetting change in the Exposure under the CSA in exactly the same value.
The strict sequence of these payments ought to be that the Transaction termination payment goes first, and the collateral return follows, since it can only really be calculated and called once the termination payment has been made.
I know what you’re thinking. Hang on! that means the termination payer pays knowing this will increase its Exposure for the couple of days it will take for that collateral return to find its way back. That’s stupid!
What with the regulators’ obsession minimise systemic counterparty credit risk, wouldn’t it be better to apply some kind of settlement netting in anticipation, to keep the credit exposure down?
Now, dear reader, have you learned nothing? It might be better, but “better” is not how ISDA documentation rolls. The theory of the ISDA and CSA settlement flows puts the Transaction payment egg before the variation margin chicken so, at the moment, Transaction flows and collateral flows tend to be handled by different operations teams, and their systems don’t talk. Currently, the payer of a terminating transaction has its heart in its mouth for a day or so.
Industry efforts to date have been targeting at shortening the period between the Exposure calculation and the final payment of the collateral transfer.
Settlement netting, not close-out netting
Section 2(c) is about “settlement” or “payment” netting — that is, the operational settlement of offsetting payments due on any day under the normal operation of the Agreement — and not the more drastic close-out netting, which is the Early Termination of all Transactions under Section 6.
If you want close-out netting, see here:
I mean, what is the point?
Our chief contrarian wonders what on earth the point of this section is, since settlement netting is a factual operational process for performing existing legal obligations, rather than any kind of variation of the parties’ rights and obligations. If you owe me ten pounds and I owe you ten pounds, and we agree to both keep our tenners, what cause of action arises? What loss is there? We have settled our existing obligations in different way.
To be sure, if I pay you your tenner and you don’t pay me mine, that’s a different story — but then there is no settlement netting at all. The only time one would wish to enforce settlement netting it must, ipso facto, have actually happened, so what do you think you’re going to court to enforce?
So, friends, this rather convoluted passage in that mighty industry standard is, as G. K. Chesterton once said - merely piss and wind.
Multiple Transaction Payment Netting
"Multiple Transaction Payment Netting" is a defined term introduced in the 2002 ISDA in place of the more clunky 1992 ISDA language set out in Section 2(c).
In the 1992 ISDA, to specify that netting across transactions would apply, you must disapply Section 2(c)(ii). Counterintuitive, but true (because otherwise netting only applies in respect of the same Transaction).
That is partly why, in the 2002 ISDA they introduced the more intuitive Multiple Transaction Payment Netting concept. So now you can say "Multiple Transaction Payment Netting does (or does not) apply".
Good on them, eh?