Trade Features - Equity Derivatives Provision

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2002 ISDA Equity Derivatives Definitions
A Jolly Contrarian owner’s manual™

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Section Trade Features in a Nutshell

Use at your own risk, campers!
1.38. “Cash-settled” means that Cash Settlement applies to the Transaction.

1.39. “Physically-settled” means a Transaction to which Physical Settlement applies.
1.40. The “Calculation Agent” will be specified in the Confirmation. It must exercise its judgment in in good faith and in a commercially reasonable manner but, when doing so, is neither fiduciary nor advisor to either party.
1.41. “ISDA Master Agreement” means an ISDA Master Agreement, and “Event of Default”, “Affiliate” and “Early Termination Date” are as defined in the ISDA Master Agreement.
1.42. “Knock-in Price” must be specified in the Confirmation.
1.43. “Knock-out Price” must be specified in the Confirmation.
1.44. Knock-in Event.

(a) If “Knock-in Event” applies, a party’s right to exercise an Option under an Option Transaction will be conditional upon the Knock-in Event existing when it is exercised on any Knock-in Determination Day. The parties’ rights and obligations will be altered upon the such exercise as is specified in the Confirmation.
(b) “Knock-in Event” must be specified in the Confirmation. If it is not, but the Confirmation specifies a Knock-in Price for a Knock-in Reference Security that is also the specified Underlier for that Transaction, the Knock-in Event will occur:
(i) If the Knock-in Price on the Trade Date was higher than the initial level set for the Transaction: when the Knock-in Reference Security’s level at the Knock-in Valuation Time on a Knock-in Determination Day at least equals the Knock-in Price; and
(ii) If the Knock-in Price on the Trade Date was lower than the initial level set for the Transaction: when the Knock-in Reference Security‘s level at the Knock-in Valuation Time on a Knock-in Determination Day at most equals the Knock-in Price.
If the parties cannot agree whether a Knock-in Event has occurred, the Calculation Agent will decide.

1.45. Knock-out Event.

(a) If “Knock-out Event” applies, a party’s right to exercise an Option under a Transaction will be conditional upon the Knock-out Event not having occurred on any Knock-out Determination Day as of the time of such exercise, and the parties’ respective rights and obligations will be altered from the occurrence of the Knock-out Event as specified in the Confirmation.
(b) “Knock-out Event” must be specified in the Confirmation. If it is not, but the Confirmation specifies a Knock-out Price for a Knock-out Reference Security that is also the specified Index, Share or Basket for that Transaction, the Knock-out Event will occur:
(i) If the Knock-out Price on the Trade Date was higher than the initial level set for the Transaction: when the level of the Knock-out Reference Security at the Knock-out Valuation Time on any Knock-out Determination Day is at least equal to the Knock-out Price; and
(ii) If the Knock-out Price on the Trade Date was lower than the initial level set for the Transaction: when the level of the Knock-out Reference Security at the Knock-out Valuation Time on any Knock-out Determination Day is equal to or lower than the Knock-out Price.
If the parties cannot agree whether a Knock-out Event has occurred, the Calculation Agent will decide.

1.46. “Knock-in Reference Security” means, where a Knock-in Event applies, the index, share or basket specified as such in the Confirmation or, if not specified, the specified Underlier.
1.47. “Knock-out Reference Security” means, where a Knock-out Event applies, the index, share or basket specified as such in the Confirmation or, if not specified, the specified Underlier.
1.48. “Knock-in Determination Day” means each specified Scheduled Trading Day, unless it is a Disrupted Day due to an event occurring before the Knock-in Valuation Time, in which case it will be the following undisrupted Scheduled Trading Day, though if eight Scheduled Trading Days in a row are Disrupted Days, the eighth one, even though a Disrupted Day, will be the Knock-in Determination Day. In this case the Calculation Agent must determine the level of the Knock-in Reference Security as if it were an Underlier on a disrupted Valuation Date using the method set out in Section 6.6.

Unless otherwise specified the Knock-in Determination Days will be each Scheduled Trading Day from and including the Trade Date to and including the final Valuation Date, the Expiration Date or, if none, the date one Settlement Cycle prior to the final Settlement Date for the Transaction (adjusted as necessary under Sections 3.1(f) and 6.6).
1.49. “Knock-out Determination Day” means each specified Scheduled Trading Day, unless it is a Disrupted Day due to an event occurring before the Knock-out Valuation Time, in which case it will be the following undisrupted Scheduled Trading Day, though if eight Scheduled Trading Days in a row are Disrupted Days, the eighth one, even though a Disrupted Day, will be the Knock-out Determination Day. In this case the Calculation Agent must determine the level of the Knock-out Reference Security as if it were an Underlier on a disrupted Valuation Date using the method set out in Section 6.6.

Unless otherwise specified the Knock-out Determination Days will be each Scheduled Trading Day from and including the Trade Date to and including the final Valuation Date, the Expiration Date or, if none, the date one Settlement Cycle prior to the final Settlement Date for the Transaction (adjusted as necessary under Sections 3.1(f) and 6.6).
1.50. “Knock-in Valuation Time” means the specified time on any Knock-in Determination Day or, if there is none, the Valuation Time specified in the related Confirmation, or if none, the Scheduled Closing Time on the relevant exchange for the Knock-in Reference Security on any Knock-in Determination Day

If an exchange closes early and before the specified Knock-in Valuation Time, the Knock-in Valuation Time will be that actual closing time.
1.51. “Knock-out Valuation Time” means the specified time on any Knock-out Determination Day or, if there is none, the Valuation Time specified in the related Confirmation, or if none, the Scheduled Closing Time on the relevant exchange for the Knock-out Reference Security on any Knock-out Determination Day

If an exchange closes early and before the specified Knock-out Valuation Time, the Knock-out Valuation Time will be that actual closing time.

Full text of Section Trade Features

Section 1.38. Cash-settled. “Cash-settled” means, in respect of a Transaction, that Cash Settlement is applicable to that Transaction.

Section 1.39. Physically-settled. “Physically-settled” means, in respect of a Transaction, that Physical Settlement is applicable to that Transaction.
Section 1.40. Calculation Agent. “Calculation Agent” means the person or entity specified as such in the related Confirmation. Whenever a Calculation Agent is required to act or to exercise judgment in any way, it will do so in good faith and in a commercially reasonable manner. Furthermore, each party agrees that the Calculation Agent is not acting as a fiduciary for or as an advisor to such party in respect of its duties as Calculation Agent in connection with any Transaction.
Section 1.41. ISDA Master Agreement. “ISDA Master Agreement” means one of the standard form master agreements published by the International Swaps and Derivatives Association, Inc. The terms “Event of Default”, “Affiliate” and “Early Termination Date” will have the meanings given to those terms in the ISDA Master Agreement.
Section 1.42. Knock-in Price. “Knock-in Price” means, in respect of a Transaction that is subject to a Knock-in Event, the level, price or amount specified as such in the related Confirmation.
Section 1.43. Knock-out Price. “Knock-out Price” means, in respect of a Transaction that is subject to a Knock-out Event, the level, price or amount specified as such in the related Confirmation.
Section 1.44. Knock-in Event.

(a) If “Knock-in Event” is specified as applicable to a Transaction, then unless otherwise specified in the related Confirmation, a party’s right to exercise an Option under an Option Transaction and its right to receive, or its obligation to make, a payment or delivery under an Option Transaction (once exercised or deemed exercised), a Forward Transaction or Equity Swap Transaction where such right or obligation is subject to a Knock-in Event shall be conditional upon the occurrence of the Knock-in Event on any Knock-in Determination Day as of the time of such exercise, deemed exercise, payment or delivery, and the parties shall have any other rights and obligations set forth in the related Confirmation from and after the occurrence of the Knock-in Event.
(b) “Knock-in Event” means the event or occurrence specified as such in the related Confirmation. In the event that the related Confirmation does not specify such an event or occurrence but specifies a Knock-in Reference Security and/or a Knock-in Price, a Knock-in Event shall occur for a Transaction for which such Knock-in Reference Security is also the Index, Share or Basket specified in the related Confirmation:
(i) where, on the Trade Date, the Knock-in Price is greater than the Initial Price, Strike Price, Forward Price or other initial level set for the Transaction, when the level, price or amount of the Knock-in Reference Security determined as of the Knock-in Valuation Time on any Knock-in Determination Day is greater than or equal to the Knock-in Price; and
(ii) where, on the Trade Date, the Knock-in Price is less than the Initial Price, Strike Price, Forward Price or other initial level set for the Transaction, when the level, price or amount of the Knock-in Reference Security determined as of the Knock-in Valuation Time on any Knock-in Determination Day is less than or equal to the Knock-in Price.
In the event of a dispute between the parties as to whether a Knock-in Event has occurred, the Calculation Agent shall determine whether a Knock-in Event has occurred.

Section 1.45. Knock-out Event.

1.45(a) If “Knock-out Event” is specified as applicable to a Transaction, then unless otherwise specified in the related Confirmation, a party's right to exercise an Option under an Option Transaction and its right to receive, or its obligation to make, a payment or delivery under an Option Transaction (once exercised or deemed exercised), a Forward Transaction or Equity Swap Transaction where such right or obligation is subject to a Knock-out Event shall be conditional upon the Knock-out Event not having occurred on any Knock-out Determination Day as of the time of such exercise, deemed exercise, payment or delivery, and the parties shall have any other rights and obligations set forth in the related Confirmation from and after the occurrence of the Knock-out Event.
1.45(b)Knock-out Event” means the event or occurrence specified as such in the related Confirmation. In the event that the related Confirmation does not specify such an event or occurrence but specifies a Knock-out Reference Security and/or a Knock-out Price, a Knock-out Event shall occur for a Transaction for which such Knock-out Reference Security is also the Index, Share or Basket specified in the related Confirmation: (i) where, on the Trade Date, the Knock-out Price is greater than the Initial Price, Strike Price, Forward Price or other initial level set for the Transaction, when the level, price or amount of the Knock-out Reference Security determined as of the Knock-out Valuation Time on any Knock-out Determination Day is greater than or equal to the Knock-out Price; and (ii) where, on the Trade Date, the Knock-out Price is less than the Initial Price, Strike Price, Forward Price or other initial level set for the Transaction, when the level, price or amount of the Knock-out Reference Security determined as of the Knock-out Valuation Time on any Knock-out Determination Day is less than or equal to the Knock-out Price. In the event of a dispute between the parties as to whether a Knock-out Event has occurred, the Calculation Agent shall determine whether a Knock-out Event has occurred.

Section 1.46. Knock-in Reference Security. “Knock-in Reference Security” means, in respect of a Transaction for which a Knock-in Event is specified as being applicable, the index, share, other security or basket specified as such in the related Confirmation. In the event that the related Confirmation does not specify a Knock-in Reference Security, the Knock-in Reference Security will be deemed to be the same Index, Share or Basket, as the case may be, specified in the related Confirmation.
Section 1.47. Knock-out Reference Security. “Knock-out Reference Security” means, in respect of a Transaction for which a Knock-out Event is specified as being applicable, the index, share, other security or basket specified as such in the related Confirmation. In the event that the related Confirmation does not specify a Knock-out Reference Security, the Knock-out Reference Security will be deemed to be the same Index, Share or Basket, as the case may be, specified in the related Confirmation.
Section 1.48. Knock-in Determination Day. “Knock-in Determination Day” means, in respect of a Transaction for which a Knock-in Event is specified as being applicable, each Scheduled Trading Day specified as such in the related Confirmation, unless such day is a Disrupted Day due to the occurrence of an event giving rise to a Disrupted Day prior to the Knock-in Valuation Time on such day. If such day is a Disrupted Day due to the occurrence of such an event, then the Knock-in Determination Day shall be the first succeeding Scheduled Trading Day that is not a Disrupted Day, unless each of the eight Scheduled Trading Days immediately following the original date that, but for the occurrence of a Disrupted Day, would have been the Knock-in Determination Day is a Disrupted Day. In that case, that eighth Scheduled Trading Day shall be deemed to be the Knock-in Determination Day, notwithstanding the fact that such day is a Disrupted Day, and the Calculation Agent shall determine the level, price or amount of the Knock-in Reference Security in the same manner that it would determine a level, price or amount of an Index, Share or Basket on a deemed Valuation Date that is also a Disrupted Day in accordance with the provisions of Section 6.6(a)(ii), (b) or (c), as the case may be. In the event that the related Confirmation does not specify any Knock-in Determination Days, each Scheduled Trading Day from and including the Trade Date to and including the final Valuation Date, the Expiration Date or, if there is no such Valuation Date or Expiration Date, the date that is one Settlement Cycle prior to the final Settlement Date in relation to the Transaction (adjusted, if applicable, as provided in Sections 3.1(f) and 6.6) shall be deemed to be Knock-in Determination Days in relation to the Transaction.
Section 1.49. Knock-out Determination Day. “Knock-out Determination Day” means, in respect of a Transaction for which a Knock-out Event is specified as being applicable, each Scheduled Trading Day specified as such in the related Confirmation, unless such day is a Disrupted Day due to the occurrence of an event giving rise to a Disrupted Day prior to the Knock-out Valuation Time on such day. If such day is a Disrupted Day due to the occurrence of such an event, then the Knock-out Determination Day shall be the first succeeding Scheduled Trading Day that is not a Disrupted Day, unless each of the eight Scheduled Trading Days immediately following the original date that, but for the occurrence of a Disrupted Day, would have been the Knock-out Determination Day is a Disrupted Day. In that case, that eighth Scheduled Trading Day shall be deemed to be the Knock-out Determination Day, notwithstanding the fact that such day is a Disrupted Day, and the Calculation Agent shall determine the level, price or amount of the Knock-out Reference Security in the same manner that it would determine a level, price or amount of an Index, Share or Basket on a deemed Valuation Date that is a Disrupted Day in accordance with the provisions of Section 6.6(a)(ii), (b) or (c), as the case may be. In the event that the related Confirmation does not specify any Knock-out Determination Days, each Scheduled Trading Day from and including the Trade Date to and including the final Valuation Date, the Expiration Date or, if there is no such Valuation Date or Expiration Date, the date that is one Settlement Cycle prior to the final Settlement Date in relation to the Transaction (adjusted, if applicable, as provided in Sections 3.1(f) and 6.6) shall be deemed to be Knock-out Determination Days in relation to the Transaction.
Section 1.50. Knock-in Valuation Time. “Knock-in Valuation Time” means, in respect of a Transaction that provides for a right to receive, or obligation to make, a payment or delivery that is subject to a Knock-in Event, the time on any Knock-in Determination Day specified as such in the related Confirmation. in that the event that the related Confirmation does not specify a Knock-in Valuation Time, the Knock-in Valuation Time shall be the Valuation Time specified in the related Confirmation, or if no Valuation Time is specified, the Scheduled Closing Time on the relevant exchange for the Knock-in Reference Security on any Knock-in Determination Day, in relation to the index, share, other security or basket to be valued. If the relevant exchange closes prior to its Scheduled Closing Time and the specified Knock-in Valuation Time is after the actual closing time for its regular trading session, then the Knock-in Valuation Time shall be such actual closing time.

Section 1.51. Knock-out Valuation Time. “Knock-out Valuation Time” means, in respect of a Transaction that provides for a right to receive, or obligation to make, a payment or delivery that is subject to a Knock-out Event, the time on any Knock-out Determination Day specified as such in the related Confirmation. in that the event that the related Confirmation does not specify a Knock-out Valuation Time, the Knock-out Valuation Time shall be the Valuation Time specified in the related Confirmation, or if no Valuation Time is specified, the Scheduled Closing Time on the relevant exchange for the Knock-out Reference Security on any Knock-out Determination Day, in relation to the index, share, other security or basket to be valued. If the relevant exchange closes prior to its Scheduled Closing Time and the specified Knock-out Valuation Time is after the actual closing time for its regular trading session, then the Knock-out Valuation Time shall be such actual closing time.


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Content and comparisons

A JC-curated sub-division of the General Definitions section. We sub-group the Section 1 definitions into the following subgroups:

These are the Trade Features definitions:

1.38. Cash-settled
1.39. Physically-settled
1.40. Calculation Agent
1.41. ISDA Master Agreement

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Summary

Section 1.38

This is your classic equity derivative: given that much of the point of equity swaps is to invest synthetically in securities you either don’t want to, or cannot, own physically — or instruments like indices that you can’t own.

Section 1.39

Just a brief irked note to ask whether, without obviously mocking the entire process, one could have created a more tortured way of explaining that “physically-settled” means, you know, physically-settled?

Not only is was this poor semantic concept unfairly harassed by ISDA’s crack drafting squad™ as it went about its peaceable business, but it was then taken in to the cells and tortured, too. Mean.

Section 1.40

The Determining Party only ever has to determine a Cancellation Amount, Cancellation and Payment or Partial Cancellation and Payment under 12.8, and that will only happen in only when a Transaction terminates following an Extraordinary Event or an Additional Disruption Event.

Calculation Agent vs. Determining Party

Why: The Equity Derivatives recognise that while most calculations could be performed by whoever is appointed Calculation Agent, determination of a Cancellation Amount is inextricably related to the hedge and — especially where there is a disrupted market – this is best to be calculated by the one whose problem it is to unwind that hedge: namely, the Hedging Party.

In theory (though almost never in practice)[1] the Hedging Party might not be the Calculation Agent.

In theory, too, the Hedging Party might not be named the Determining Party. Which is kind of awkward, since the Cancellation Amount is couched in terms of the cost to the determining Party of unwinding, liquidating or re-establishing its hedge — which it would only do if it was, like, hedging.

Lastly, note that if your investment bank is as left-handedly configured as some the JC has come across,[2] the group entity writing the equity swaps might not be the same as the one doing the physical hedging of those swap obligations (with a back-to-back trade between them, for example), so the Hedging Party/Determining Party might not be either party to the actual ISDA Master Agreement at all.

The User’s Guide

We have noted elsewhere that the User’s Guide is less forthcoming than one might like it to be on what the Determining Party is for, and when (or why) there might ever be two. But it does say this:

“In calculating a Cancellation Amount, a Determining Party is required to act in good faith and to use commercially reasonable procedures. It should be noted that quotations are not necessarily required, as depending on the Transaction in question, the cost of liquidating hedges may be a more appropriate basis for determining a Cancellation Amount than soliciting quotations.[3]

Parties should note that the Determining Party is the party that will be calculating its own cost of replacing or providing the economic equivalent of a terminated Transaction. The Calculation Agent may be a party to the Transaction, but when performing its duties as Calculation Agent it is acting as a neutral party. The Calculation Agent as such will not have a replacement cost or economic equivalent and therefore should not be designated as the Determining Party.[4]

If this is meant to help, it singularly fails to, except to recognise that the Determining Party is acting in its capacity as a Hedging Party, and not in its gnomic, wise, dispassionate role as impartial determiner of abstract values. This explains, maybe, why ISDA’s crack drafting squad™ thought it worthwhile to have distinct roles of Calculation Agent and Determining Party — it is not saying (as far as we can tell) that the party who is Calculation Agent cannot be Determining Party at all, but only that when it is being a Determining Party it is not being Calculation Agent: the two roles wear different trousers, so to speak.

But what it does confirm is that the Determining Party is meant to refer to the person who is actually hedging the trade, and that what they will be doing is liquidating hedges to get prices.

Section 1.41

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General discussion

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See also

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References

  1. If Calculation Agent == Dealer, and Dealer == Hedging Party, and Hedging Party == Determining Party, then Calculation Agent == Determining Party.
  2. AND WHO SHALL REMAIN NAMELESS.
  3. May be”. You think?
  4. Emphasis added.