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Template:Flawed asset capsule: Difference between revisions
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Following an [[event of default]], a “[[flawed asset]]” provision allows an innocent, but [[out-of-the-money]] counterparty to a {{tag|derivative}} or {{tag|securities finance}} transaction to suspend performance of its obligations ''without'' terminating the transaction and thereby crystallising a [[mark-to-market]] loss. | Following an [[event of default]], a “[[flawed asset]]” provision allows an innocent, but [[out-of-the-money]] counterparty to a {{tag|derivative}} or {{tag|securities finance}} transaction to suspend performance of its obligations ''without'' terminating the transaction and thereby crystallising a [[mark-to-market]] loss implied by its out-of-the-money position. | ||
The asset – | The defaulting party’s asset – its right to be paid, or delivered to under the transaction – is “flawed” in the sense that it doesn’t apply for so long as ''the [[conditions precedent]] to payment are not fulfilled''. | ||
The most famous flawed asset clause is Section {{isdaprov|2(a)(iii)}} of the {{isdama}}. It entered the argot in a simpler, more peaceable time, when two-way, zero-threshold, daily margined {{tag|CSA}}s were a rather fantastical sight, and it was reasonably likely that a counterparty might be nursing a large unfunded mark-to-market liability which it would not want to have to fund just because the clot at the other end of the contract had gone belly-up. Closing out the contract would crystallise that liability, so the flawed asset provision allowed that innocent fellow to just stop performing hte contract altogether, rather than paying out its mark-to-market loss. | The most famous flawed asset clause is Section {{isdaprov|2(a)(iii)}} of the {{isdama}}. It entered the argot in a simpler, more peaceable time, when two-way, zero-threshold, daily margined {{tag|CSA}}s were a rather fantastical sight, and it was reasonably likely that a counterparty might be nursing a large unfunded mark-to-market liability which it would not want to have to fund just because the clot at the other end of the contract had gone belly-up. Closing out the contract would crystallise that liability, so the flawed asset provision allowed that innocent fellow to just stop performing hte contract altogether, rather than paying out its mark-to-market loss. | ||