In February 2022, ISDA published the 2022 ISDA Securities Financing Transactions Definitions and related documents. The launch followed an ISDA whitepaper in October 2020 that highlighted significant opportunities for alignment between derivatives and securities financing transactions (SFTs). These documents allow parties to document stock loans, repurchase transactions and derivatives as part of a single close-out netting arrangement under an ISDA Master Agreement, confirming the enforceability of set-off rights, which enable counterparties to exchange a single net payment across products in the event of a default or termination.

The introduction of set-off rights across products has significant consequences, creating the necessary legal framework to align market practices and bring improvements across legal, accounting, risk, capital, collateral and operational processes. The impact on those functions should be carefully considered when using the ISDA SFT documents.

This paper provides an overview of the background and scope of the ISDA SFT documents, including the near-term benefits of product agnostic agreements, which allow counterparties to net settle SFTs and derivatives in the event of a default. The paper is intended to educate readers on the accounting and reporting implications under US Generally Accepted Accounting Principles and International Financial Reporting Standards. It describes the balance sheet offsetting requirements under US GAAP, where there are some exceptions to the requirement to demonstrate intent when there is a master netting agreement in place, and under IFRS, where there is a requirement to demonstrate the intention to offset in all circumstances, not just in the event of default.

The paper also provides an illustrative example of the economics and benefits of using ISDA’s SFT documentation and demonstrates the legal right to set off across products, where a dealer and customer enter into a securities lending transaction and a derivatives transaction. This example demonstrates how the economics of a single close-out provision across products with the same counterparty can provide risk management benefits.

Extrapolating on this example, the paper explores the beneficial practices that could develop as the market adopts cross product netting, such as collateral optimization. With various products subject to the same master netting agreement, and potentially the same collateral agreement, there is an opportunity to further optimize the collateral posting process by only requiring one net amount to be posted across all products with the same counterparty. More efficient posting of collateral can ultimately contribute to a more stable financial system.

Documents (1) for Accounting for Cross-product Netting