ISDA has prepared this brief summary of frequently asked questions to assist in your consideration of the Supplement and the Protocol (each as defined in the FAQs below). THIS FREQUENTLY ASKED QUESTIONS DOES NOT PURPORT TO BE AND SHOULD NOT BE CONSIDERED A GUIDE TO OR AN EXPLANATION OF ALL RELEVANT ISSUES OR CONSIDERATIONS IN CONNECTION WITH THE SUPPLEMENT OR THE PROTOCOL. PARTIES SHOULD CONSULT WITH THEIR LEGAL ADVISERS AND ANY OTHER ADVISER THEY DEEM APPROPRIATE PRIOR TO USING THE SUPPLEMENT OR ADHERING TO THE PROTOCOL. ISDA ASSUMES NO RESPONSIBILITY FOR ANY USE TO WHICH ANY OF ITS DOCUMENTATION OR OTHER DOCUMENTATION MAY BE PUT.
This Frequently Asked Questions webpage is divided into three sections: (i) questions relating to the substance of the Protocol and the Supplement; (ii) questions relating to the submission of Adherence Letters; and (iii) questions relating to adherence by investment managers.
ADHERENCE LETTER SUBMISSION
SPECIAL CONSIDERATIONS FOR INVESTMENT/ASSET MANAGERS
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What is the Supplement and the Protocol?
The 2003 ISDA Credit Derivatives Definitions (the “Definitions”) are being supplemented by the 2009 ISDA Credit Derivatives Determinations Committees, Auction Settlement and Restructuring Supplement to the Definitions (the “Supplement”). Parties to existing and future credit derivative transactions which incorporate the Definitions can amend those existing transactions to incorporate the Supplement by adhering to the 2009 ISDA Credit Derivatives Determinations Committees, Auction Settlement and Restructuring CDS Protocol (the “Small Bang Protocol” or “Protocol”) as described below.
If I signed up to the Big Bang Protocol, do I still need to sign up to the Small Bang Protocol?
Parties that signed up to the Big Bang Protocol earlier this year are NOT automatically adhered to the Small Bang Protocol. A party that adhered to the Big Bang Protocol and now wishes to make the changes discussed below would therefore need to adhere to the Small Bang Protocol.
What does the Supplement do?
The Supplement extends the auction hardwiring provisions (implemented by the Big Bang Protocol earlier this year) to Restructuring credit events. The auction hardwiring process contained in the Big Bang Protocol added auction settlement as a standard settlement method for a broad range of credit derivatives transactions, but specifically excluded Restructuring credit events from the auction settlement standard. This exclusion recognized that, unlike other standard credit events, following a Restructuring where "Modified Restructuring" ("Mod-R") or "Modified Modified Restructuring" ("Mod-Mod-R") is applicable, the settlement process applies differently to contracts with different maturities, and depending on which party triggers the credit event. The Supplement addresses these additional considerations, thereby allowing settlement of Restructuring credit events to be brought within the auction framework.
A key step in allowing Restructuring credit events to be settled by an auction is the grouping of CDS transactions into maturity buckets, in order to reduce the number of potential combinations of Deliverable Obligations that are deliverable into contracts with different maturities. Under this maturity bucketing, if Buyer triggers a Restructuring credit event, then the Deliverable Obligations will be determined by reference to the maturity bucket into which the relevant CDS contract falls according to the remaining maturity of that CDS contract. This applies both to settlement in an auction and also to physical or cash settlement if no auction is held.
What are the auction settlement provisions applicable following a Restructuring credit event?
The Supplement does not change the methodology used in the existing CDS auctions, but it does provide that more than one auction may be held following a Restructuring credit event. In this event, CDS contracts will be grouped into buckets by maturity and depending on which party triggers the CDS. Deliverable Obligations will also be identified for each bucket (note that any Deliverable Obligations included in a shorter bucket will also be deliverable for all longer buckets). The volume of CDS in each bucket that are triggered will be used by the Determinations Committee ("DC") to determine whether an auction will be held for that bucket. If the DC determines to hold an auction for a particular bucket, then that auction will be held according to the existing auction methodology that has previously been used for Bankruptcy and Failure to Pay credit events, except that the Deliverable Obligations will be limited to those falling within the relevant bucket.
What if I discover a Restructuring credit event occurred - what do I need to do to trigger? What are the deadlines?
For a Restructuring credit event, there are two conceptual stages. First the event itself needs to be determined, and then secondly one of the parties must trigger that credit event in respect of specific transactions. Whether those two steps occur separately in practice depends on whether the DC determines whether the Restructuring credit event has occurred.
Using the DC mechanism, the first step is for the DC to determine the occurrence of the Restructuring credit event itself. If a party believes that a Restructuring credit event has occurred, it can "stop the clock" on the 60 day look-back period by requesting that the DC determine whether that Restructuring credit event occurred. The party's request to the DC must include Publicly Available Information relating to the event and must be effective not more than 60 days after the event. If the DC determines that a Restructuring Credit Event has occurred, the second step is for one of the parties to trigger that Restructuring credit event for a specific transaction by delivering a credit event notice. The deadline for this step depends on whether an auction will be held for the maturity bucket in which the relevant transaction falls. If the DC resolves to hold an auction for that bucket, then the deadline for the credit event notice will be two business days (for Seller) or five business days (for Buyer) following the publication of the Final List of Deliverable Obligations for that auction. If the DC resolves not to hold an auction for that bucket (including where the DC resolves not to hold an auction for any bucket), then the deadline for the credit event notice will be 21 calendar days following the date such resolution is announced.
If the DC mechanism is not invoked or the DC declines to resolve a Restructuring credit event question, a party could send a Credit Event Notice and Notice of Publicly Available Information directly to its counterparty in respect of a CDS transaction. These notices would need to be effective not more than 60 days after the event, and they would serve both to determine the Restructuring credit event and also to trigger settlement on the relevant CDS transaction.
What is the "movement option" and how can it be exercised?
A new element in the Supplement is the "movement option", which is relevant where the DC resolves to hold one or more auctions following a Restructuring credit event, but resolves not to hold an auction for a particular maturity bucket. In this case, Buyer and Seller to a transaction that falls within that maturity bucket may (depending on the factors described in the next paragraph) each have the option to settle the transaction using the price determined for an alternative bucket for which an auction is held.
Buyer may exercise the movement option if there is an auction with fewer Deliverable Obligations than those available to settle the particular transaction, and if Buyer exercises the movement option, the final price from any such auction with the largest number of Deliverable Obligations will apply (for example using the final price for the immediately shorter maturity bucket for which an auction is held). Seller may only exercise the movement option if Buyer originally triggered the Restructuring credit event and the DC resolves to hold an auction for the longest identified maturity bucket (for example 30 years in the case of a European Corporate transaction), and if Seller exercises the movement option, the final price from this auction will apply.
The deadline for either party to exercise the movement option is the 9th business day following the publication of the Final List of Deliverable Obligations for the relevant auction. A party may exercise the movement option by delivering a notice to its counterparty effective by the deadline (a form of this notice is included in the Supplement). If both parties exercise the movement option, then Buyer's exercise will prevail.
So, what does the Small Bang Protocol do?
The Supplement applies to transactions going forward, provided that the relevant documentation incorporates the Supplement. ISDA has published the Small Bang Protocol to enable market participants to eliminate distinctions in their book between transactions entered into before July 27, 2009 and those entered into on or after that date. Market participants, by adhering to the Protocol, agree to amend their existing credit derivative transactions with all other adhering parties to implement the amendments incorporated by the Supplement. Please note that certain existing transactions are not covered by the Protocol (see below).
The Protocol will also, for a limited time, apply the Supplement to future transactions between adhering parties. This applies until January 31, 2011.
The entire Supplement (Restructuring Auction Settlement and maturity bucketing) is made applicable to all Protocol Covered Transactions (see below) except that the Auction Settlement method will not apply to "Covered Non-Auction Transactions" (see below).
What Transactions are covered by the Protocol?
The Protocol will cover the same types of credit derivative transactions that were included in the Big Bang Protocol, including:
- Covered Index Transactions (including CDX and iTraxx Tranched and Untranched);
- Covered Swaption Transactions (single name and portfolio); and
- Covered Non-Swaption Transactions (e.g. Single name, Nth to default, Recovery Lock, Bespoke Portfolio Transactions.
In addition to these transactions, the Protocol will also cover the following transaction types that are not typically included in CDS auctions, referred to as Covered Non-Auction Transactions (e.g. Reference Obligation only, Fixed Recovery, Preferred CDS, or Party Specified Non-Auction Transactions). Covered Non-Auction Transactions will incorporate the Supplement but will not specify Auction Settlement.
The types of Protocol Covered Transactions mentioned above fall into three categories: previously existing (or legacy) transactions; future transactions, and novated transactions.
For any previously existing transaction to be covered by the Protocol, it must be between two Adhering Parties to the Protocol and the Trade Date of such transaction is before July 27, 2009, the Scheduled Termination Date is on or after July 27, 2009, and no Event Determination Date or Early Termination Date has occurred prior to July 27, 2009.
In addition, the Protocol covers future credit derivative transactions that are entered into between two Adhering Parties to the Protocol on or after July 27, 2009 but before January 31, 2011. This is to reflect the fact that ISDA and other groups have produced various market standard form documents to facilitate entities wishing to enter into such transactions and which incorporate the Definitions but which will not have been updated to incorporate the Supplement before the close of the Protocol adherence period. ISDA is committed to updating all of its standard documentation as soon as possible but until such time, Adhering Parties can ensure that such market standard transactions will be on the same terms as legacy transactions and future transactions which incorporate the Supplement.
Similarly, the Protocol covers novations of any credit derivative transaction of the types described above that are entered into after July 27, 2009 but before January 31, 2011, where the transferee and remaining party to the novation are Adhering Parties, and the underlying transaction that is being novated would have been a Protocol Covered Transaction if the parties thereto had been Adhering Parties to the Protocol.
The legacy transactions, future transactions and novated transactions described above are each Protocol Covered Transactions.
What Transactions are excluded from the Protocol?
The following credit derivative transactions are excluded from the scope of the Protocol and will not be amended to incorporate the provisions of the Supplement unless the parties bilaterally agree:
- Loan Only transactions;
- U.S. Municipal type transactions;
- Credit derivative transactions on asset backed securities; and
- Index transactions entered into between two of the main dealers (listed in the Protocol) relating to trust certificates linked to any Dow Jones CDX.NA.HY Index or CDX.NA.HY Index.
In addition, two Adhering Parties can bilaterally agree that any credit derivative transaction should not be a Protocol Covered Transaction and should not be amended by the Protocol. This agreement can be recorded in the Confirmation or in a separate side agreement. Note that if parties specified certain transactions as excluded from the Big Bang Protocol, they should nonetheless exclude those transactions from the Small Bang Protocol if they wish them to be excluded from the Small Bang Protocol.
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What are the overall consequences of the Small Bang Protocol to an individual institution?
It is not possible for ISDA to confirm what all the consequences of the Small Bang Protocol would be for an individual institution since its application will depend upon the type of contracts that a particular institution has and their specific provisions. Nor can ISDA give legal advice in this respect to its members. Members must consult with their own legal advisers to the extent that they have specific questions about the application of the documents and their consequences for their particular institution.
What if my transaction is a hedging transaction that should settle in the same way as, for example, an underlying CLN?
Bespoke Portfolio Transactions that are expressly linked to a specific underlying portfolio, for example linked to CLNs are covered by the Protocol but are excluded from the auction by the Form of Auction Settlement Terms. Such transactions will incorporate the Supplement but will not settle pursuant to the Auction.
Who will make the determination whether there has been a Restructuring credit event?
The relevant DC will decide whether there has been an event and the relevant information will be posted on the ISDA website.
When does the fallback to Physical Settlement come into effect and what are some of the implications of this?
This happens if the DC decides not to hold an Auction. The DC could decide against holding any auction following a Restructuring (for example where a name is not very liquid) or may decide to hold an auction only for certain buckets (for example, where a sufficient number of trades are triggered only in those buckets and not in the bucket in which the relevant transaction falls and neither party exercises the movement option).
If we sign up for this Protocol, will we be forced to settle all Restructuring credit events via the auction (assuming we own the covered CDS contract)? Or will we still have the choice to settle physically prior to the auction?
As for previous CDS auctions, parties can obtain the same economic outcome as physical settlement by submitting a Physical Settlement Request into the auction. If the DC decides to hold an auction, parties will not have the option to physically settle prior to the auction, unless agreed bilaterally with the counterparty.
How do I know which parties have adhered to the Protocol?
The names and DTCC IDs, where provided, of Adhering Parties will be posted on ISDA’s website throughout each day of the adherence period, within a few business hours of ISDA’s receipt of a party’s Adherence Letters. A list can be exported to Excel by clicking on “CDS Auction Hardwiring”, then selecting “Adhering Parties DTCC Account Number”.
What alternatives are there to adhering to the Protocol?
The changes that the Protocol makes could be made by way of individually negotiated agreements.
If we do not choose to sign up for the hardwiring protocol, will we be allowed to participate in an auction following a Restructuring credit event? Would we have to sign an individual auction protocol to participate?
If a party does not sign up to the Protocol, then following a Restructuring credit event that party's transactions will have to be settled in accordance with the terms originally agreed with its counterparty (i.e. cash or physical settlement, as agreed) unless they otherwise mutually agree. Of course it is open to the parties at any time to bilaterally agree that they will amend their transaction to cash settle at the Final Price determined by an auction but their trade will not automatically be subject to Auction Settlement and they will not be able to participate in the relevant auction. It will not be possible to "opt in" to a future auction for a Restructuring credit event for transactions that are covered by the Small Bang Protocol.
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ADHERENCE LETTER SUBMISSION
Adherence Letter Submission Process
Can I change the text of the Adherence Letter?
No. The Adherence Letter must be in the same format as the form letter published in the Protocol.
Does it cost any money to adhere to the “Small Bang” Protocol?
When do I need to send in my Adherence Letter?
The Protocol is open for adherence from Tuesday July 14 2009 until 5:00pm New York time on Friday July 24 2009. An entity must email its Adherence Letter to ISDA by 5:00pm New York time on Friday July 24 or it will not be able to adhere to the Protocol.
ISDA has the discretion to extend the adherence period or to re-open the Protocol for adherence at a later date but currently has no plans to do so.
How do I send in my Adherence Letter?
All Adherence Letters must be delivered by email to email@example.com. In the email, you must submit both your conformed and executed copies of the Adherence Letter. You must use the form of letter for the Small Bang Protocol available on the ISDA website. Click here for form of adherence letter.
The Adherence Letter(s) should be on your institution’s letterhead. Nothing in the form of Adherence Letter available on ISDA’s website may be changed with the exception of completing the details of your institutional name, date and signature block.
Please do not send your original Adherence Letter(s) by mail to ISDA.
What is a conformed copy?
A conformed copy of the Adherence Letter means that the name of the authorized signatory (for example, Patricia Smith) is typed rather than having Patricia Smith’s actual signature on the letter. ISDA only posts on its website the conformed copy of all Adherence Letters.
You must also submit an executed, or signed, copy of the Adherence Letter in addition to the conformed copy of the Adherence Letter. ISDA keeps the executed copy of the Adherence Letter for its files and does not share the executed copy with anyone else.
Who is an authorized signatory?
An authorized signatory to the Adherence Letter is an individual who has the legal authority to bind the adhering institution.
We have more than one fund and therefore more than one DTCC account number. Will we need to submit more than one Adherence Letter?
No. You can list numerous DTCC numbers on one adherence letter.
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SPECIAL CONSIDERATIONS FOR INVESTMENT/ASSET MANAGERS
What if I am an investment or asset manager, not all of my discretionary management agreements permit me to amend my client’s agreements?
If you are an investment or asset manager and act on behalf of multiple funds, you have three options, set out below. Where an investment or asset manager adheres using either option 1 or option 3, such adherence will take effect in respect of both existing clients, investors, funds, accounts and/or other principals and future such entities added to a Governing Master Agreement after adherence but before January 31, 2011. An investment or asset manager that adheres using option 2 is only adhering in relation to those clients, investors, funds, accounts and/or other principals specified in the attachment. If any future such entity wishes to enter into a CDS transaction incorporating the provisions of the Protocol, the Agent, on behalf of such entity, will have to agree with the counterparty to that entity to incorporate the provisions of the Protocol. By way of example only, this could be done when the parties agree to add that entity to an existing master agreement.
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- If you have authority to adhere on behalf of all of your clients you may do so by indicating the following in the signature block:
"[Investment/Asset Manager], acting on behalf of the clients, investors, funds, accounts and/or other principals listed in the relevant Governing Master Agreement (or other agreement which deems a Governing Master Agreement to have been created) entered into between it (as Agent) and another July 2009 Adhering Party on or prior to January 31, 2011" or such other language that indicates the Clients to which this letter is applicable. If such a signature block is used, a separate Adherence Letter for each Client does not need to be submitted to ISDA and no specific names of Clients will be publicly disclosed on the ISDA website in connection with this July 2009 Protocol.
If you wish to adhere in this way, you must ensure that you have the authority to do so from all clients on whose behalf you enter into credit derivative transactions covered by the Protocol.
- If you do not have authority from all of your funds, you can adhere on behalf of those funds whose permission you have by indicating the following in the signature block:
“Investment/Asset Manager, acting on behalf of the funds and accounts identified in [the] attachment  to this Adherence Letter in relation to the relevant Agreement (or other agreement which deems an Agreement to have been created) between it (as agent) and another Adhering Party [and [acting on behalf of the funds and accounts identified in attachment 2 to this Adherence Letter] in relation to the relevant Agreement (or other agreement which deems an Agreement to have been created) between such fund or account and another Adhering Party]”. The attachment to your Adherence Letter can either name the clients or funds, or identify them with a unique identifier which will be known and recognized by all other Adhering Parties with which the relevant funds or clients have entered into Protocol Covered Transactions. The attachment to your letter will be posted on the ISDA website with your Adherence Letter.
Any credit derivative transactions which you enter into on behalf of funds that are not listed in your adherence letter(s) (including any funds added to an umbrella master agreement after the adherence period closes) will not be covered by the Protocol.
- If you do not have the authority to adhere to the Protocol as Agent on behalf of certain clients but wish to adhere to the Protocol on behalf of all other clients, you may indicate the following in the signature block:
"[Investment/Asset Manager], acting on behalf of the clients, investors, funds, accounts and/or other principals listed in the relevant Governing Master Agreement (or other agreement which deems a Governing Master Agreement to have been created) entered into between it (as Agent) and another July 2009 Adhering Party on or prior to January 31, 2011, unless the relevant July 2009 Adhering Parties agree prior to the Implementation Date that a particular client, investor, fund, account or other principal is not a July 2009 Adhering Party for purposes of this July 2009 Protocol".
It is the Agent's responsibility to record properly any bilateral agreement to exclude a Client from the scope of this July 2009 Protocol.