ISDA 2014 Derivatives Definitions Protocol

Insights ISDA 2014 Derivatives Definitions Protocol Robin Powers · September 4, 2014

On August 21, the International Swaps and Derivatives Association (ISDA) published the ISDA 2014 Credit Derivatives Definitions Protocol (the “Protocol”). The deadline for adhering to the Protocol is September 12, 2014 and the Protocol will become effective between adhering parties on September 22, 2014. The Protocol will apply to certain (but not all) existing credit derivative transactions (“CDS”) and will also apply to certain CDS entered into in the year following the effective date, to allow parties to continue using their existing documentation as updated by the Protocol as they transition to the 2014 Credit Derivatives Definitions (the “2014 Definitions”). The 2014 Definitions will apply to new CDS as of the effective date.

The ISDA protocol documents can be found here.

The 2014 Definitions are the most comprehensive update to the standard form documentation for CDS since the 2003 Credit Derivatives Definitions (the “2003 Definitions”) were published.   The 2014 Definitions retain the auction settlement processes and the Determination Committee which supplemented the 2003 Definitions, but otherwise transform the terms governing CDS to address issues encountered by the market in the ensuing years with regard to the global financial crises generally, and credit and succession events and financial and sovereign reference entities more specifically.  The most significant changes represented by the new definitions are the introduction of (a) the Standard Reference Obligation, (b) the Governmental Intervention Credit Event, (c) Currency Redenomination provisions, (d) the Asset Package Delivery provisions and (e) the Financial Reference Entity Terms, and the replacement of the Succession Event with the Steps Plan.

Standard Reference Obligation

The 2014 Definitions introduce the “Standard Reference Obligation” (“SRO”). The SRO will be the default Reference Obligation with respect to liquid CDS contracts between parties unless the parties specify a Reference Obligation with respect to the specific seniority level.  The SRO removes potential basis risk between CDS transactions that have the same Reference Entity but different Reference Obligations. The SROs will be published periodically on the SRO list on the ISDA website.  Market participants should note that (a) if an SRO is removed from the list, the transaction will be deemed to have no Reference Obligation until a new SRO is included in the SRO list and (b) all contracts that reference a Reference Entity not covered by the SRO List will be required to specify a Reference Obligation. Further, Clearinghouses are likely to require that the SRO apply to all cleared CDS transactions, so that all CDS contracts with the same named Reference Entity and the same terms are treated in same manner.

Governmental Intervention Credit Event

The 2014 Definitions incorporate a new Credit Event to clarify when and if government “bail-outs” of non-U.S. financial Reference Entities, and “bail-ins”[i] by creditors, trigger CDS contracts. Similar to the Restructuring Credit Event, a “Governmental Intervention” Credit Event is triggered when a government’s action or announcement results in mandatory reduction in principal and/or interest, a change in the ranking in priority of payment, expropriation, postponement/deferral of a date for payment and other structural changes to indebtedness.  In contrast to the Restructuring Credit Event, a Government Intervention Credit Event can be triggered even absent the deterioration in the creditworthiness of the Reference Entity.  Market participants should note that a Government Intervention Credit Event can be triggered even if the government intervention is expressly contemplated by the terms of the Reference Obligation.

Currency Redenomination

The 2014 Definitions address the issue of currency redenominations, including how CDS contracts handle (a) an emerging market exiting international currency and changing over to domestic currency and (b) a country exiting the Eurozone and adopting a new currency. A currency redenomination will not by itself trigger a Governmental Intervention Credit Event unless other relevant events occur.  If a currency redenomination is not otherwise a credit event, the 2014 Definitions clarify that it is not considered a Failure-To-Pay Credit Event if a freely available market rate of conversion between the original currency and the redenominated currency existed at the time of the redenomination, unless the redenomination itself constitutes a reduction in the rate or amount of interest, principal or premium payable under any debt obligation of the Reference Entity that is unsubordinated to the Reference Obligation at the time of the redenomination. Market participants should note that the 2014 Definitions focus in particular on a Eurozone exit and specify which types of obligations are deliverable obligations if a redenomination-related credit event occurs, as well as the impact on any future credit events if a currency redenomination does not constitute a credit event.

Asset Package Delivery

The 2014 Definitions allow for “Asset Package Delivery” to address the difficulties faced by market participants in settling CDS contracts referencing debt that has been exchanged or converted, whether pursuant to a bail-in, forgiveness of sovereign debt, or otherwise.  Asset Package Delivery allows market participants to deliver assets resulting from the corresponding Deliverable Obligations that have been converted in connection with a Government Intervention or Restructuring Credit Event and those assets will also be used to determine the Final Price in an Auction. In the case of financial institution debt, the 2014 Definitions permit the delivery of an asset package resulting from the exchange or conversion of “Prior Deliverable Obligations;” in the case of sovereign debt, the 2014 Definitions permit the delivery of an asset package based on one or more “Package Observable Bonds,” a benchmark reference obligation of the Sovereign specified by ISDA that meets the deliverability criteria immediately prior to the Credit Event.   Market participants should note that the new Asset Package Delivery provisions will apply to Sovereign CDS following a Restructuring Credit Event and financial Reference Entity CDS following a Restructuring or a Government Intervention Credit Event. For Asset Package Delivery to be effective, the protection buyer must notify the protection seller of its intent to deliver an asset package in lieu of the prior or original deliverable obligation.

Financial Reference Entity Terms

The 2014 Definitions permit market participants to elect “Financial Reference Entity Terms” with respect to CDS contracts written on financial Reference Entities. If elected, a Government Intervention or Restructuring Credit Event solely affecting subordinated debt will not trigger CDS contracts written on senior debt and only CDS written on subordinated debt will be triggered.  Market participants should note that Financial Reference Entity Terms only applies to Government Intervention or Restructuring, and all other Credit Events with respect to subordinated debt will continue to also trigger senior CDS contracts.

Succession Events

The 2014 Definitions include provisions to reduce the creation of “orphaned” CDS following certain restructurings.  Under the 2003 Definitions, a “Successor” to a Reference Entity was based on the percentage of Relevant Obligations assumed by the Successor following the identification of a “succession event.”   The 2014 Definitions replace the concept of a succession event with a “steps plan.” The Steps Plan assesses individual transfers of debt by one or more entities in the aggregate to determine whether or not a successor needs to be named. The 2014 Definitions also introduces a “Universal Successor,” that assumes all of the obligations of the original Reference Entity in circumstances where the Reference Entity has ceased to exist or is in the process of being dissolved.   Market participants should note that the Universal Successor (a) applies a single fixed backstop date of January 1, 2014 and (b) does not apply to Sovereign Reference Entities.

Qualifying Guarantee

The 2014 Definition make a number of technical changes to the definition of “qualifying guarantee” to correct situations in which a guarantee fails to meet the criteria of this definition because certain amounts payable under the underlying obligation are not covered by the guarantee. In addition, the 2014 Definitions include (a) an exception from the definition of qualifying guarantee for a “permitted transfer” in circumstances where there is a transfer of all or substantially all of the assets of the reference entity to the same single transferee and (b) the inclusion of a new “fixed cap” concept, which is a specified numerical limit on the amount of the reference entity’s liability under the underlying guaranteed obligation.  Market participants should note that the benefit of the guarantee must be capable of being delivered along with the underlying obligation and if the guarantee contains a fixed cap, all claims to any amounts subject to the fixed cap must be capable of being delivered together with the delivery of the guarantee.

Additional 2014 Definition Changes:

Modified Restructuring and Modified Modified Restructuring. The 2014 Definitions introduce a number of simplifications to the small bang protocol to alleviate cumbrous post-credit-event settlement.

Event Determination Date.

The 2014 Definitions split this definition into two separate provisions: (a) a standard event determination date for transactions to which auction settlement applies and either party to the transaction may be a notifying party or (b) a non-standard event determination date for transactions to which auction settlement does not apply and/or only the protection buyer may be the notifying party.  Transactions falling under the event determination date provision will now be automatically triggered by the announcement of a credit event by an ISDA determinations committee.

Outstanding Principal Balance

The 2014 Definitions provide a precise definition of “Outstanding Principal Balance,” and a formula for its calculation


The ISDA 2014 Credit Derivatives Definitions Protocol

The Protocol operates as an amendment to the documentation in respect of existing transactions, and also a forward-looking amendment to transactions entered into in the year following implementation.  Before deciding to adhere, market participants should consider (a) if adhering, the impact of the amendments on existing and future transactions, and (b), if not adhering any resulting basis risk associated with not amending existing transactions.

Market participants should note that:

  • In certain emerging market regions, CDS transactions on sovereign and financial reference entities are included within the scope of the Protocol, however, (i) Asset Package Delivery does not apply to those Sovereigns or financial entities, and (ii) Governmental Intervention Credit Event does not apply to those financial entities.  Similarly, new transactions on Sovereign and financial reference entities in those regions will not include Asset Package Delivery or the Governmental Intervention Credit Event.
  • Certain CDS referencing certain reference entities are excluded from the scope of the Protocol.  ISDA has published on its website a list of Excluded Reference Entities which will not be covered by the Protocol.
  •  Market participants will have a limited right to revoke an adherence letter in an attempt to discourage a “wait and see” approach as to the extent of industry adoption of the Protocol.
  • The Protocol will only become effective if at least seven of the first eight Eligible Global Dealers on the Global Dealer Trading Volume List (as defined in the rules applicable to the Credit Derivatives Determinations Committees) have adhered.
  • On 22nd September four additional documents will be published by ISDA or Markit. They will address revisions to the terms and conditions of various credit derivatives contracts. [ii]

For assistance with Adherence, or if you have any questions about the changes being implemented, please contact Robin Powers at Rimon, PC.

212.363.0270 x223



[i] A bail-in occurs when holders of a bank’s debt are forced to contribute to a bank rescue.

[ii] The following documents will be published by ISDA or Markit by September 22:

Revised Credit Derivatives Physical Settlement Matrix and Confirmation – ISDA
Revised iTraxx and CDX Standard Terms Supplements and Confirmations – Markit
Revised ISDA Disclosure Annex for Credit Derivative Transactions – ISDA
2014 CoCo Supplement to the 2014 ISDA Credit Derivatives Definitions – ISDA

Note: ISDA will not be publishing Master Confirmation Agreements which reference the 2014 Definitions.