Interpretation - 1992 ISDA Provision

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1992 ISDA Master Agreement

A Jolly Contrarian owner’s manual™

1 in a Nutshell

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Original text:

1. Interpretation

1(a) Definitions. The terms defined in Section 14 and in the Schedule will have the meanings therein specified for the purpose of this Master Agreement.
1(b) Inconsistency. In the event of any inconsistency between the provisions of the Schedule and the other provisions of this Master Agreement, the Schedule will prevail. In the event of any inconsistency between the provisions of any Confirmation and this Master Agreement (including the Schedule), such Confirmation will prevail for the purpose of the relevant Transaction.
1(c) Single Agreement. All Transactions are entered into in reliance on the fact that this Master Agreement and all Confirmations form a single agreement between the parties (collectively referred to as this “Agreement”), and the parties would not otherwise enter into any Transactions.

The Varieties of ISDA Experience
Subject 2002 (wikitext) 1992 (wikitext) 1987 (wikitext)
Preamble Pre Pre Pre
Interpretation 1 1 1
Obligns/Payment 2 2 2
Representations 3 3 3
Agreements 4 4 4
EODs & Term Events 5

Events of Default
FTPDBreachCSDMisrepDUSTCross DefaultBankruptcyMWA
Termination Events
IllegalityTax EventTEUMCEUMATE

5

Events of Default
FTPDBreachCSDMisrepDUSTCross DefaultBankruptcyMWA
Termination Events
IllegalityTax EventTEUMCEUMATE

5

Events of Default
FTPDBreachCSDMisrepDUSTCross DefaultBankruptcyMWA
Termination Events
IllegalityFMTax EventTEUMCEUMATE

Early Termination 6

Early Termination
ET right on EODET right on TEEffect of DesignationCalculations

6

Early Termination
ET right on EODET right on TEEffect of DesignationCalculationsSet-off

6

Early Termination
ET right on EODET right on TEEffect of DesignationCalculationsSet-off

Transfer 7 7 7
Contractual Currency 8 8 8
Miscellaneous 9 9 9
Offices; Multibranch Parties 10 10 10
Expenses 11 11 11
Notices 12 12 12
Governing Law 13 13 13
Definitions 14 14 14
Schedule Schedule Schedule Schedule
Termination Provisions Part 1 Part 1 Part 1
Tax Representations Part 2 Part 2 Part 2
Documents for Delivery Part 3 Part 3 Part 3
Miscellaneous Part 4 Part 4 Part 4
Other Provisions Part 5 Part 5 Part 5

Resources and Navigation

Index: Click to expand:

Overview

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The 2002 ISDA does the reader the service of acknowledging there might be terms defined in the schedule and not just Section 14 — as indeed there must — party-specific things like Party A, Party B, Credit Support Provider, Credit Support Document, and no doubt you can think of others — but beyond this, the text of Section 1 in the 2002 ISDA is the same as Section 1 in the 1992 ISDA.

The 1987 ISDA was broadly the same, though there was no “single agreement” subclause (c) — that is built instead into the Preamble. By 1992 ISDA’s crack drafting squad™ deemed this important enough to deserve its own place in Section 1(c), and there it stayed for the 2002 ISDA.

Summary

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Section 1 is a gentle introduction indeed to the dappled world of the ISDA Master Agreement: much of it comes from the “goes without saying, but let’s say it anyway” dept of legal wordwrightery — a large department indeed, in the annals of modern legal practice.

In a nutshell — unless you are doing repackagings, and even then, don’t get carried away — make sure you understand what Section 1 is there for, and what it does, but don’t fiddle with it.

Section 1(a)

The large slew of definitions are set out in Section 14. The JC considers each in its own write in Section 14, so not much more to say here.

Section 1(b)

It wouldn’t be ISDA if there weren’t a hierarchy clause; like all hierarchy clauses, all this just states the obvious: the pre-printed ISDA Master Agreement itself sits at the bottom of the hierarchy, and is modified by the counterparties to their hearts’ content by its Schedule; once that is negotiated and stuck into the netting database, the Schedule basically sits there unloved and unregarded until from the sky shall come the Great King of Terror[1] and may be (but generally isn’t) modified as needs be for each Transaction by the Confirmation.

In point of fact the Confirmations don’t tend to modify anything in the Master or Schedule, but rather builds on them, but if there is inconsistency — and with a document as pedantic and overwrought as the ISDA Master Agreement you never know — then the most specific, recently edited document will be the one that prevails.

All of this follows from general principles of contractual interpretation and common sense communication, of course.

Section 1(c)

Section 1(c) starts getting a bit tastier in that it comprises the Single Agreement. This is deep ISDA lore, from which all the close-out netting that gives the ISDA Master Agreement its capital efficiency wings flows.

The “single agreement” concept

Here several pieces of magic come together to create the capital foundation of the modern master trading agreement. The challenge, originally solved by the First Men, was to create an architecture that allowed discrete, unitary, complete Transactions, such that creating a new one or terminating an old one didn’t upset the economic or legal integrity of other Transactions that were currently on foot — no untoward tax consequences, that is to say — while at the same time creating an umbrella framework so that, should something regrettable happen to either party, all Transactions can be quickly rounded up, evaluated, stopped and then collapsed down — “netted” — to a single payment, payable by one party to the other.

This involved some canny financial engineering. The general rules of set-off require not just a mutuality of parties to the off-setting debts, but also amounts falling due on the same day and in the same currency — neither of which was necessarily true of the independent Transactions executed under a multi-currency, cross-border ISDA Master Agreement.

Their solution was this concept of the “Single Agreement”: the over-arching agreement that, however independent and self-contained Transactions are for any other purpose, when it comes to their early termination, they transmogrify into the single host agreement, in the process reduced to mere calculation inputs to the final amount which one party must pay the other. Thereby the process is not one of “set-off” at all, but of calculating a single net amount, the payment of which would sort out all matters outstanding under the relationship.

The JC once had the idea of doing a “boring talk” about the history of the ISDA Master, and actually pitched it to the BBC for their podcast series. It was rejected, on account of being too boring. True story.

Under the 2002 ISDA that single amount is labeled an “Early Termination Amount”. Though a very important concept in the architecture of the ISDA Master Agreement, it didn’t occur to the squad to label it at all in the 1992 ISDA, but it is still often referred to as an Early Termination Amount in that version, seeing as “the net amount determined under Section 6(e)” is a bit of a mouthful. A succulent, tasty mouthful, in the minds of an ISDA ninja, but a mouthful nonetheless.

As far as we know, “Early Termination Amount” concept, as set out here, first landed in the 1987 ISDA, where it was offhandedly referred to in the preamble, and was promoted to a fully-fledged subclause of Section 1 in the 1992 ISDA.

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  • JC’s “nutshell” summary of the clause
  • Background reading and long-form essays
  • The thinking behind the “Single Agreement” concept
  • Repackaging vehicles and the Single Agreement
  • Assignment and its effect on netting and set-off

See also

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References

  1. © Nostradamus