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| {{a|repack|{{layman|bond}}}}You will know old Grandpa Contrarian’s story of [[the farmer and the sheep]]. It is illustrated richly in every cove, inlet and waterway of the financial markets, but is no better exemplified than in the genetic structure of a [[medium term note]] programme. | | {{essay|repack|MTN structure|{{layman|bond}}}} |
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| These, for the fortunately uninitiated, are architectural structures by which corporations raise funds in the international [[debt capital market]]s. Their history is long and mildly diverting at best — the type who naturally deals in debt instruments is not really given to intrigue — but for our purposes it is important.
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| === Conceptual underpinnings ===
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| Now: as per the panel summary, a [[bond]] of any kind is an [[IOU]], in that it represents an entitlement to be repaid a loan. In earlier epochs one would borrow against a “note” — literally, a signed piece of paper indicating your preparedness to pay a sum to whoever presented it, in exchange for its surrender.
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| The neat thing about this kind of note is its transferability: the original lender can “[[negotiability|negotiate]]” it — sell it<ref>Or pledge, or lend it.</ref> without the issuer’s permission, or even knowledge — and its value will be the [[present value]] of the issuer’s promise to pay. A note is a unilateral contract, therefore. A conventional loan is a ''bilateral'' contract, and the job of transferring ones rights and liabilities under it is more involved, and often requires the cooperation of the borrower.
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| The other neat thing about notes compared to loans is that you can easily divide a big borrowing into lots of little notes, rather than a single big one. Thus, you can access a wider pool of lenders — including [[Belgian dentist]]<nowiki/>s, as we will see — each of whom can manage its own exposure without reference to the others, by buying or selling bonds in the secondary market.
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| Notes therefore are more liquid, transferable things, and while they are outstanding the issuer need not even know who its creditors are: they hove into view only upon payment of [[principal]] or [[interest]], when they would show up at the issuer’s office with their instrument in hand.
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| === Industrialisation of debt securities ===
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| This all being the case, notes quickly became popular, and the process of issuing, selling and maintaining them industrialised. Notes were “security printed”, like banknotes. [[Interest]] payments were represented by perforated [[Coupon|coupons]] that could be detached and presented (or “stripped” and separately traded): for a long-dated bond, where there wasn’t room for all the coupons, there would be “[[talon]]s” attached entitling the bearer to a fresh strip of coupons. Issuers appointed banks as “[[paying agent]]s” to handle the mechanics of dealing with holders, paying out on presentation and so on. In some jurisdictions<ref>America being a prime example, thanks to the glorious strictures of the [[Tax Equity and Fiscal Responsibility Act]] ([[TEFRA]]) of 1982, which introduced punitive tax treatment for bearer bonds, on the grounds that they were inherently fishy, income-sheltering things — a quality that never bothered the Belgian dental profession in the same way.</ref> issuers needed to maintain a record of noteholders, so created “registered” notes which were profoundly different in legal ''concept'' — title transferred by entry in the register, whereas with a [[bearer instrument]] the security itself ''was'' the debt and title passed by delivery — and there needed to be terms to deal with certain unwanted contingencies: replacing lost or mutilated notes; provisions for noteholder meetings to consider amendments to terms and so on.
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| Now an [[IOU]] is a simple enough thing: the legal architecture making it all possible was another thing altogether: [[trust deed]]<nowiki/>s, paying agency agreements, [[dealer]] agreements, [[prospectus]]<nowiki/>es and so on, and the up-front cost of a “stand-alone” debt issuance was formidable. Thus emerged the [[medium term note programme]] — a pre-crafted architecture containing all the standard terms, appointments and so on, which an issuer could quickly “tap” when it needed to, in a fraction of the time and cost.
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| In parallel the information revolution arrived and notes started to trade electronically, in a [[clearing system]]<ref>In the European markets, there are two major [[clearing system]]s: [[Euroclear]] and [[Clearstream]].</ref>. Here noteholders’ interests were represented as electronic entries in their clearing system accounts there was no need for security printing, perforated coupons, a wide network of paying agents, and the identity for the time being of the holders was ascertainable, at least by the clearing system, which had to maintain the records on order to ensure everyone got paid. At the very heart there was still a physically printed note: just one: a “global note”, representing all the nominally issued notes, held by a “[[common depositary]]” — a custodian for the electronic clearing systems in which the notes are traded.
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| === Residual DNA ===
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| By the 1990s, all notes, bonds and other securities were electronically cleared, and none has been security printed since. Nonetheless, the MTN terms and structure still bear traces of their physical biology, a bit like tailbones, appendixes and male nipples. The basic rationale is “well, the [[clearing system]]s might not work one day — you know, there could be some kind of post-apocalyptic, Mad Max-style future with everyone driving round in battle trucks and drinking their own urine — so I might need to change these into security-printed definitive notes, so we better leave these terms in just in case”.
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| Now the [[JC]] would be the last one to pooh-pooh the idea of a dystopian future — given the last few years he rather expects it at some stage, in fact — but, really: if you are eating caterpillars, presenting your coupons to the Luxembourg paying agent is going to be a long way down your list of priorities.
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| In any case, this useless DNA makes for a great deal more complicatedness than, in practice one really needs. Your bond terms and conditions have to deal with the following:
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| * [[Registered security|Registered]] or [[Bearer security|bearer]] form
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| * [[Clearing system|Electronically cleared]] or [[Definitive security|definitive]]
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| * Where definitive and bearer, mechanics of presenting coupons, talons and so on.
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| {{bluetable|align=right|width=50}} | |
| '''On what kind of ball may be used with what kind of game''' <br>
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| A single, branching proposition where the subject is the ball:
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| <small>{{subtable|
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| 1. A ball: <br>
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| (a) if it is red
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| :(i) if it is round
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| ::(A) must not be used for rugby union
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| ::(B) must not be used for rugby league
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| ::(C) may be used for test cricket
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| ::(D) must not be used for one-day cricket
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| :(ii) if it is oval:
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| ::(A) may be used for rugby union
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| ::(B) may be used for rugby league
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| ::(C) must not be used for test cricket
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| ::(D) must not be used for one-day cricket
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| (b) if it is white:
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| :(i) if it is round:
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| ::(A) must not be used for rugby union
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| ::(B) must not be used for rugby league
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| ::(C) must not be used for test cricket
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| ::(D) may be used for one-day cricket
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| :(ii) if it is oval:
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| ::(A) may be used for rugby union
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| ::(B) may be used for rugby league
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| ::(C) must not be used for test cricket
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| ::(D) must not be used for one-day cricket
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| }}</small>
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| Two branching propositions where the subject is the ball:
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| <small>{{subtable|
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| 1. An ball that is oval: <br>
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| :(i) may be used for rugby
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| :(ii) must not be used for cricket
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| 2. A ball that is round:
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| :(i) must not be used for rugby
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| :(ii) if it is red:
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| ::(a) may be used for test cricket
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| ::(b) must not be used for one-day cricket
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| :(iii) if it is white:
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| ::(a) must not be used for test cricket
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| ::(b) may be used for one-day cricket
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| }}</small>
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| Three non-branching propositions where the subject is the game.
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| <small>{{subtable|
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| 1. Rugby must be played with a ball that is oval <br>
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| 2. Cricket must be played with a ball that is round and:<br>
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| :(i) in test cricket, red <br>
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| :(ii) in one-day cricket, white<br>
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| }}</small> | |
| {{tablebottom}}
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| ===The logical structure of legal documents===
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| This leads us on to [[Semantic code project|one of our pet interests]]: why are legal documents so convoluted, and what can we do to correct it? For this we need to delve into the underlying logical structure of a contract.
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| Any legal statement, however [[Fish Principle|Fish]]ily articulated, boils down to a basic logical proposition, rather like software code, with propositions, conditions, logic gates, if/then statements, and so on, only we call them [[definitions]], [[obligation]]s, [[Rights cumulative|right]]s, [[discretion]]s, [[option]]s and so on.
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| Any “logic gate” that splits a proposition into alternatives increases the inherent complicatedness of a proposition.
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| Take the alternative statements about cricket and rugby balls in the panel at right. The variables at play are:
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| *round or oval ball (relevant to all games)
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| *red or white ball (relevant to all cricket games)
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| *rugby or cricket, (relevant to all games) which in turn breaks into
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| :*test or one-day (relevant to cricket)
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| :*union or league (relevant to rugby
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| How you structure these variables can great more or less complicatedness. If we try to create a single proposition that covers all eventualities, we commit ourselves to a lot downstream branching, because that our single logical structure must accommodate all the permutations.
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| The '''subject''' of the sentence and '''sequence''' of the branches makes a difference. For example, focussing on the ball first then its colour then its shape, and articulating these by reference to the games, commits to sixteen branches. If we break the proposition into two and focus first on shape, we can reduce this to five. if we reframe the proposition to focus on the game, we can get it down to the three, which is the minimum.
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| There is doubtless some information theory that optimises the logical structure, but intuitively it seems to us common options should be delayed as far as possible, and where games are largely common, separating out the points where they differ into a separate set of propositions may help.
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| Back to our [[medium term note]]s: base terms and conditions are designed to set out options — allow registered or bearer form, for example, and listed or unlisted notes, or interest bearing, fixed or floating. The majority of the conditions will apply to all, but with variations. The art — it’s probably a science of information theory, but for legal eagles it is a lost art — is working out when to embed that variability in the body of your conditions, and when to set it out as a separate proposition.
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| Still thinking about it.
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| {{sa}}
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| * [[Medium term note programme]]
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| * [[Repackaging programme]]
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| {{Ref}}
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