Overview of ISDA Documentation
ISDA stands for International Swaps and Derivatives Association. Before we understand the documentation, let us first understand a few basics concepts about ISDA documentation. I have designed these concepts in the form of Question and Answers for ease of understanding.
Is ISDA documentation mandatory?
No. As the full-form of ISDA suggests, ISDA is an association of international swaps and derivatives participants (mostly dealers). It is not a regulator. Therefore, what it says is not mandatory. However, market participants use its documentation for almost all their transactions in derivatives as it is one of the best standards available in the market. Participants are free to use their own documentation by engaging lawyers. However, that would be expensive and time consuming. ISDA's documentation solution is the cheapeast and easiest of all and therefore it is adopted widely. About 98% of the OTC derivatives transactions in the world use ISDA documentation. There are other documentation standards such as FXC documentation (Foreign Exchange Committee of the New York Fed), EMTA documentation (Emerging Markets Trade Association) and a few regional documentation standards such as in Germany and France. However, they are not truly international in nature. Thus, even though it is not mandatory, it is an international standard documentation and is adopted widely.
For which market does ISDA documentation apply?
ISDA documentation applies to OTC derivatives markets only. For exchange trades, the respective exchange have their own documentation standard. For derivatives trades having trading obligations, the rules and documentation of SEF or OTF apply. For derivative trades having clearing obligations, the rules and documentation of CCPs apply.
SEF stands for Swap Execution Facilities
OTF stands for Organised Trading Facilities
CCP stands for Central Clearing Counterparties
Does ISDA documentation apply to all countries in the world?
No. ISDA documentation was never designed to work for all countries in the world. It was primarily designed as a standard documentation that could apply to certain developed countries. That is because, initially, most trading in derivatives used to happen among these countries. Subsequently, as the markets in other developed and developing economies matured, they started trading OTC derivative products, and therefore, the documentation standard was expanded to include these countries. Currently, the ISDA documentation, with minor modification, can be used in most of the G-20 countries. That is not to say that it is not applicable to other countries. Parties in other jurisctions can use ISDA documentation by making the necessary tweaks to make it compatible with the law of contracts applicable in their land. Irrespective of which country a party belongs to, it must consult a legal expert who is specialized in derivatives documentation to ensure that the ISDA documentation is in proper compliance with the underlying law of contract of that country.
Does it apply to past transactions?
Yes. ISDA documentation can handle past, present and future transactions. In fact, the ISDA Master Agreement states in its first page the following " (Party 1) and (Party 2) have entered and/or anticipate entering into one or more transactions". This means, if parties have entered into any transactions before entering into ISDA documentation they can get those transactions governed by the ISDA agreement.
What is the nature of ISDA documentation?
ISDA documentation is modular in nature. What this means is that there are modular parts to the documentation. There is no one document that parties can enter into and claim that they have fulfilled their documentation. They need to enter into a few modules, at the least, to complete their documentation. All modules of the documentation reference or link each other. We will discuss this aspect when we discuss about the components of ISDA documentation
ISDA documentation is also dynamic in nature. When changes occur due to changes in market practices, regulation or other events, ISDA brings about changes to the entire documentation set or to specific components of the documentation. Many of these changes apply automatically without the need for parties to do anything from their end. Thus, the documentation is every adopting and dynamic.
Is ISDA documentation a law?
No. ISDA is only an association; it is not a regulator or statutory body. Every country has its own law of contract, which is the law that governs all contracts including OTC derivatives. Any documentation standard that is developed has to comply with the law of contract of that country. If it does not comply then the whole documentation or parts of the documentation which does not comply will be null and void. ISDA publishes guidelines and research notes from time to time if certain provisions do not apply to certain countries or if changes are required.
To understand this in a simple way, let's take the example of transactions such as Lease, Rent, Sale, Mortgage and Hire-Purchase in India. There is no separate law governing these transactions. The underlying law for all contracts in India is the Indian Law of Contract; for sale of goods there is a separate sub-set law called "Sale of Goods Act"; and for Hire-Purchase, there is no separate law but it is covered under the "Special Contracts" section of the Law of Contract. All sub-set laws or special laws have to comply with the main law, which is the India Law of Contract. No documentation standard has been prescribed by law. Parties are free to enter into whatever documentation style they want to create; however, all such styles or formats need to comply with the provisions of the law. In this sense, ISDA documentation is only a style or format, it is not a law. It needs to comply with all provisions of the underlying law, which is the law of contract of the country in which it is used.
Components of ISDA Documentation
The following are the components of ISDA documentation.
- Master Agreement
- Master Confirmation Agreement
- Transaction Supplement
- ISDA Definitions
- Standard Terms Supplement
- Credit Support Documents
- Long Form Confirmation
We shall discuss these components in a separate article.
END OF MY NOTES