General Conditions - ISDA Provision
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ISDA Anatomy™
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Section 2(a) is identical in the 1992 ISDA and the 2002 ISDA.
Of these provisions, the one that generates the most controversy (chiefly among academics and scholars, it must be said) is Section 2(a)(iii). It generates a lot less debate between negotiators precisely because its legal effect is nuanced, so its terms are more or less inviolate. Thus, should a counterparty of yours take a pen to Section 2(a)(iii), a clinching argument against that inclination is “just don’t go there, girlfriend”.
So, for academics and frustrated geeks only:
Section 2(a)(iii)
Section 2(a)(iii) of the ISDA Master Agreement was considered in the Metavante v Lehman litigation, which has led to more or less the opposite conclusion to the court in Enron v TXU.
The following is a proposal to "fix" the issues perceived to arise from the Metavante and, more specifically, the Marine Trade case with respect to Section 2(a)(iii), about which HMT Treasury is sufficiently concerned so as to establish a consultation group to advise it on the ISDA Master Agreement.
Mean time, ISDA is looking to propose a market led solution. That is HMT's preferred position but they may well legislate if a workable solution is not forthcoming.
HMT has not concluded that 2(a)(iii) necessarily operates as a walk-away clause (or an “ipso facto” clause, as it is called in the US) but is concerned it may have that economic effect and is is raising policy arguments as to why that should not be allowed to continue.
Clearly, any push towards a finding of "walk-aways" takes derivative counterparties to an unsupportable place with regard to RWA generation under the Capital Accords.
HMT concerns
The key concern for HMT relates to non-payment into the insolvent estate by the insolvent company's debtors. Specifically:
1. Time delay - how long can parties rely on 2(a)(iii) for? Indefinitely?
2. Opportunism: Can a non-defaulting party effectively monetise the gross obligations of a defaulting party by not designating an Early Termination Date and then realising value through the exercise of Set-off rights or the enforcement of security?
3. Faux J indicated in his judgment that the obligations of the non-defaulting party under the ISDA never come into existence if the condition precedent is not satisfied on the relevant payment date: i.e., the failure cannot be cured and the obligations cannot come into existence on a future date if the CP is subsequently satisfied. That view is controversial and was expressed obiter dicta. The CA may not address it for that latter reason.