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{{cocalculationagent}} | {{cocalculationagent}} | ||
===Disputing a Calculation Agent’s determinations=== | ===Disputing a Calculation Agent’s determinations=== | ||
One of the great old saws of negotiation in any capital markets transaction is ''what to do if you don’t like the number the Calculation Agent comes up with''. | One of the great old saws of negotiation in any capital markets transaction is ''what to do if you don’t like the number the Calculation Agent comes up with''. | ||
This springs from the ancient, primal fear that flutters in the breast of every [[buy-side legal eagle]], and which is best articulated thus: ''All swap dealers are profit-obsessed predators''. They eat their ''own'' young, so will hardly blanche about eating ''yours''. | |||
They will, thus, not pause to breathe before ripping clients’ faces from their skulls should the merest opportunity to do so arise. Derivatives, we know, are [[financial weapons of mass destruction]]{{Tm}} even on a good day, so giving one of those dastardly [[Dealer|dealers]] the unilateral right to determine values on the economic equivalent of an ICBM without any comeback would be ''insane''. | |||
Therefore, I must have a mechanic to dispute a calculation my dealer makes that seems “off”. | |||
Now, to be fair, there was a time, in living memory, when swap dealers ''would'' rip off their clients’ faces at the merest opportunity, in some markets. “[[Cheapest to deliver]]” options in managed [[Collateralised debt obligation|CDO]] portfolios spring unhappily to mind. Banks used to “prop trade” a lot more than they do now. The year or our lord 2006 was a wild time. There are different regulations now: capital rules, clearing obligations, prop-trading restrictions, and [[best execution]] obligations. Dealers play much more of an agency role now. They act like brokers ought to: they execute as riskless principals, they earn their keep from commissions, and not by trading against their clients. In observable, liquid markets, clients can see for themselves whether they are getting good prices, and can take their business elsewhere if they are not. | |||
Yet we are still beset by fear of dealer mendacity. | |||
But even if they were justified, the dispute mechanism our learned friends habitually confect boil down to seeking prices from ''other'' “reference dealers”. The exact method can be baroque: appeals to Law Society presidents, competing panels of reference dealers, fallbacks dealers, [[Co-calculation agent|co-calculation agents]], discarding outliers, splitting differences and so on, but each is predicated on the idea that a disinterested market participant — who is still, remember, a rapacious dealer, just not one with a dog in the fight — will be less [[inclined]] to tear your face from the bone than the one with whom you have had a fruitful twenty-year relationship. This feels wishful. | |||
As does the idea that a disinterested dealer will have any interest in offering a price ''at all''. Why would it? What does it have to gain from reverse engineering a historical market value for a a security it will not actually get to trade? | |||
This is quite different from the case of your actual dealer. It will base its marks on where it has actually executed its own [[Delta-hedging|delta-hedge]]. In other words, these are prices at which it has actually traded, and for which it has off-setting liability. Why would it ever accept a hypothetical price from a disinterested third party over its own actually traded price? | |||
The real answer to calculation agent disputes is the [[commercial imperative]]. Dealers trade countless swaps every day. Their business viability depends on satisfied old customers coming back and placing more orders. Customers who have had their faces ripped off don’t do that. | |||
We sense there will be buyside legal-eagles out there who are not persuaded by this. We know there are, in fact: their Byzantine valuation dispute mechanisms pepper ISDA portfolios from New York to Tokyo. If you are one of them, here is a question: ''when did your client last actually invoke a dispute mechanism in anger?'' | |||
How strongly each feels about its right to ''query'' or ''dispute'' the {{isdaprov|Calculation Agent}}’s determinations will depend on the sort of products they’re expecting to trade: [[FX]] and simple [[equity derivative|equity derivatives]] have deep, liquid, observable markets, and as there’s little scope for picking a fight, a [[dealer]] {{isdaprov|Calculation Agent}} may not be bothered about ceding rights to dispute its calculations. Expect a different reaction should you seek to second-guess your [[dealer]]’s marks on exotic [[credit derivative|credit derivatives]], on the other hand. These rely enormously on the dealer’s internal models, pricing curves and other kinds of idiosyncratic financial [[bullshit|alchemy]] that are almost certainly unique to the [[dealer]] in question. | How strongly each feels about its right to ''query'' or ''dispute'' the {{isdaprov|Calculation Agent}}’s determinations will depend on the sort of products they’re expecting to trade: [[FX]] and simple [[equity derivative|equity derivatives]] have deep, liquid, observable markets, and as there’s little scope for picking a fight, a [[dealer]] {{isdaprov|Calculation Agent}} may not be bothered about ceding rights to dispute its calculations. Expect a different reaction should you seek to second-guess your [[dealer]]’s marks on exotic [[credit derivative|credit derivatives]], on the other hand. These rely enormously on the dealer’s internal models, pricing curves and other kinds of idiosyncratic financial [[bullshit|alchemy]] that are almost certainly unique to the [[dealer]] in question. | ||