Cross default: Difference between revisions

Cross default (view source)

Revision as of 14:05, 16 October 2015

2,436 bytes added , 16 October 2015

no edit summary

Amwelladmin

Bureaucrats, Interface administrators, Administrators

82,701

edits

@@ Line 7: / Line 7: @@
 Compare and contrast [[default under specified transaction]]
+Cross Default is a concept that developed in the loan market. If Lender A advanced a large sum to a Borrower with only periodic interest or principal repayments, there would be long periods (between interest payments) - which may be months, quarters or even years where the Borrower had no payment obligations to Lender A.
+A Borrower with no payment obligations, can hardly fail to pay ({{isdaprov|Failure to Pay}} being the cleanest of all [[events of default]]).
+However, if in the mean time the Borrower failed to make a payment under a materially sized loan from another Lender B, Lender A is in a difficult position, unless it can accelerate its loan in response. {{isdaprov|Cross Default}} was introduced to give Lender A an out in that circumstance. To make sure it was a material default, a threshold of indebtednexss triggering that cross default right was usually included.
+Note two key "vuilnerabilities" of a lender that a cross default clause is designed to protect against: (a) the fact the borrower has incurred material indebtedness, and (ii) the Lender A has infrequent payment obligations by which to measure the Borrower's capacity to repay.
+An ISDA, particularly one with a zero threshold daily {{isdaprov|CSA}} and multiple {{isdaprov|transaction}}s under it, has neither of those weaknesses. It is not a contract of indebtedness – the nearest thing to indebtedness is MTM exposure, and that is zeroed daily by means of a collateral call – and there are payment obligations arising almost every day (such as margin calls).
+So the two main reasons for inserting a cross default aren't really there in an ISDA or any other collateralised trading agreement. For a bank, there are key treasury concerns about giving away a cross default, because it can affect our liquidity buffer calculations, but credit to date has not been persuaded to worry about these.
+DUST, on the other hand, is between just the two parties, and here any direct failure to us under any transaction, whether or not under the ISDA should allow us to close out the ISDA (just as a payment default under the ISDA itself would). The better your dust, the less need, in fact, you have for a cross default. Dust doesn’t need to cover indebtedness because it’s covered already by default, but you’re right – it’s slightly odd that indebtedness between parties is excluded from specified transactions – but there you have it.
 ==Introduction==