Absence of Certain Events - ISDA Provision
Content and comparisons
No change from 1992 ISDA to 2002 ISDA.
Summary
Can you understand the rationale for this representation? Sure.
Does it do any practical good? No.
It is a warranty, not a representation
A standard, but useless, contractual warranty. It can’t be a pre-contractual representation, of course, because the very idea of an “event of default” depends for its intellectual existence on the conclusion of the contract in which it is embedded. So, it won’t really do to argue there should be no contract, on grounds of the false representation that a contract that does not exist has not been breached.
It is paradoxes all the way down
A No EOD rep is a classic loo paper rep: soft, durable, comfy, absorbent — super cute when a wee Labrador pub grabs one end of the streamer and charges round your Italian sunken garden with it — but as a credit mitigant or a genuine contractual protection, only good for wiping your behind on.
Bear in mind you are asking someone — on pain of them being found in fundamental breach of contract — to swear to you they are not already in fundamental breach of contract. Now, how much comfort can you genuinely draw from such promise? Wouldn’t it be better if your credit team did some cursory due diligence to establish, independently of the say-so of the prisoner in question, whether there are grounds to suppose it might be in fundamental breach of contract?
Presuming there are not — folks tend not to publicise their own defaults on private contracts, after all — the real question here is, “do I trust my counterparty?” And to that question, any answer provided by the person whose trustworthiness is in question, carries exactly no informational value. All cretins are liars.[1]
So, let’s say it turns out your counterparty is lying; there is a pending private event of default it knew about and you didn’t. Now what are you going to do? Righteously detonate your contract on account of something of which by definition you are ignorant?
Have fun, counsellor.
General discussion
“...or potential event of default”
Adding potential events of default is onerous, especially if it is a continuous representation, as it deprives the representor of grace periods it has carefully negotiated into its other payment obligations. Yes, it is in the ISDA Master Agreement.
“... or would occur as a result of entering into this agreement”
A curious confection, you might think: what sort of event of default could a fellow trigger merely by entering into an ISDA Master Agreement with me? Well, remember the ISDA’s lineage. It was crafted, before the alliance of men and elves, by the Children of the Woods. They were a species of pre-derivative, banking people. It is possible they had in mind the sort of restrictive covenants a banker might demand of a borrower with a look of softness about its credit standing: perhaps a promise not to create material indebtedness to another lender, though in these enlightened times that would be a great constriction indeed on a fledgling enterprise chasing the world of opportunity that lies beyond its door.
So, does a swap mark-to-market exposure count as indebtedness? Many will recognise this tedious question as one addressed at great length when contemplating a Cross Default: Suffice, here, to say that an ISDA isn’t “borrowed money”[2] as such, but a material swap exposure would have the same credit characteristics as indebtedness. But in these days of compulsory variation margin you wouldn’t expect one’s mark-to-market exposure to be material, unless something truly cataclysmic was going on intra-day in the markets.
Much more likely is a negative pledge, and while an unsecured, title-transfer, close-out netted ISDA might not offend one of those, a Pledge GMSLA might, and a prime brokerage agreement may well do.
But still, nonetheless, see above: if it does, and your counterparty has fibbed about it, all you can do is get out your tiny violin.
See also
- An essay on Berkeley’s paradox — why promising to own up to a breach is a bit ontologically weird.
- No default or potential event of default in general.
- Representations and Warranties Anatomy
- Negative pledge