Credit Suisse, Goldman Sachs, JPMorgan, and 16 Other Banks Agree to Swaps Contract Modifications to Assist Failed Firms

JPMorgan Chase & Co. (JPM), HSBC Holdings Plc (HSBA), Goldman Sachs Group Inc. (GS), Credit Suisse (CS), and fourteen other big banks have agreed to changes that will be made to swaps contracts. The modifications are designed to assist in the unwinding of firms that have failed.

Under the plan, which was announced by the International Swaps and Derivatives Association, banks’ counterparties that are in resolution proceedings will postpone contract termination rights and collateral demands. According to ISDA CEO Scott O’Malia, the industry initiative seeks to deal with the too-big-to-fail issue while lowing systemic risks.

Regulators have pressed for a pause in swaps collateral collection. They believe this could allow banks the time they need to recapitalize and prevent the panic that ensued after Lehman Brothers Holdings Inc. failed in 2008. Regulators can then move the assets of a failing firm, as well as its other obligations, into a “bridge” company so that derivatives contracts won’t need to be unwound and asset sales won’t have to be conducted when the company is in trouble. Delaying when firms can terminate swaps after a company gets into trouble prevents assets from disappearing and payments from being sent out in disorderly, too swift fashion as a bank is dismantled.

After Lehman’s bankruptcy filing, it still had tens of thousands of individual derivative positions. Trading partners tried to close out swaps trades with the firm right away, even demanding their collateral back. Because of this, billions of dollars of swap-termination payments were issued.

Current U.S. bankruptcy laws exempt swaps and other derivatives from the stay that prevents creditors of a firm that has failed from collecting on what they are owed right away. Banks’ swap counterparties, however, have been able to move fast to grab collateral.

ISDA has changed the language in a standard swaps contract following concerns from U.S. regulators that close-out derivatives transactions could slow resolution efforts. The changes allow banks to get involved in overseas resolution regimes that might only have been applicable to domestic trades.

The deal with the banks stretches out delays or stays to 90% of what is outstanding of notional value of derivatives. The firms have agreed in principal to wait up to 48 hours before canceling derivatives contracts and collecting payments from firms that are in trouble.

Establishing a credible plan to unwind failed banks could get rid of the impression that governments will rescue firms if they become too big too fail.

The other banks that have consented to this agreement:
· Bank of America (BAC)
· UBS AG (UBSN)
· Bank of Tokyo-Mitsubishi UFJ
· Sumitomo Mutsui Financial Group Inc.
· Societe Generale SA (GLE)
· Barclays Plc (BARC)
· Royal Bank of Scotland Group Plc
· BNP Paribas SA (BNP)
· Nomura Holdings Inc.
· Citigroup Inc. (C)
· Mizuho Financial Group. Inc.
· Credit Agricole SA (CA)
· Morgan Stanley (MS)
· Deutsche Bank AG (DBK)

The Wall Street Journal says that under the agreement, firms are agreeing to forfeit certain rights that exist with their current contracts.

Banks Back Swap Contracts That Could Help Unwind Too-Big-to-Fail, Bloomberg, October 11, 2014

Banks Ink Swaps Deal With U.S. Regulators, The Wall Street Journal, October 12, 2014

International Swaps and Derivatives Association

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