• Changes to Trading Documentation Will be Necessary to Recognize Regulatory Stays of Termination Rights
  • May 11, 2016
  • Law Firm: Eversheds Sutherland (US) LLP - Washington Office
  • On May 3, 2016, the Federal Reserve Board released a proposed rule (Proposed Rule) which would “require U.S. global systemically important banking institutions (GSIBs) and the U.S. operations of foreign GSIBs to amend contracts for common financial transactions to prevent the immediate cancellation of the contracts if the firm enters bankruptcy or a resolution process. The Proposed Rule is intended to “reduce the risk of a run on the solvent subsidiaries of a failed GSIB caused by a large number of firms terminating their financial contracts at the same time.” According to the press release, the Proposed Rule “ensures consistency with restrictions on financial contracts under Title II of the Dodd-Frank Wall Street Reform and Consumer Protection Act that support the orderly resolution of financial firms. By requiring GSIBs to make clear in their [qualified financial contracts] (QFCs) that the U.S. special resolution regimes apply, the Proposed Rule would help ensure that all QFC counterparties-domestic and foreign-would be treated in the same way in an orderly resolution. The Proposed Rule would also require GSIBs to ensure that their QFCs restrict the ability of counterparties to terminate the contract, liquidate collateral, or exercise other default rights based on the resolution of an affiliate of the GSIB. This restriction on default rights will help ensure that the affiliates of a GSIB that are able to meet their obligations are not forced to enter resolution by the failure of another affiliate of the GSIB.” The comment period for the Proposed Rule will close on August 5, 2016.

    The Fed’s Proposed Rule reflects efforts across multiple jurisdictions to provide for the contractual recognition of special resolution regimes for GSIBs, particularly in the cross-border context. The practical effect of these efforts is that fund managers should expect to have to amend their funds’ existing trading documentation to recognize the resolution regimes to which their trading counterparties are subject.

    The International Swaps and Derivatives Association (ISDA) has developed a protocol that will facilitate the amendment of existing trading agreements to recognize stays imposed pursuant to such regimes. For more information about the ISDA protocol, please visit the ISDA website.