Terminating a derivatives contract has never been the simplest of tasks, especially during volatile markets, but the process has become even more complicated in recent years due to various post-crisis regulatory reforms. We’re working on ways to make this procedure easier to navigate, with the development of two initiatives – the ISDA Close-out Framework and the ISDA Notices Hub – that will help firms prepare for the worst and ensure a key part of the termination process is more efficient.

The complexity became clear in March 2023, following problems at Signature Bank and SVB in the US, among the few bank failures to occur since the financial crisis. The post-crisis introduction of mandatory margining and collateral segregation requirements for non-cleared derivatives, plus the implementation of bank resolution regimes and the potential for temporary stays on termination, created some practical challenges that, in many cases, banks were addressing in a live situation for the first time.

The ISDA Close-out Framework, which we launched last month, is designed to illustrate the various steps and decisions firms need to take and is intended as a preparatory tool for future stress events. We hope it will help highlight the areas where coordination is necessary between legal, operational and risk management functions, and flag the types of questions that will likely emerge.

As a follow-up, we intend to run a series of ‘tabletop’ exercises later this year, in which senior executives from different parts of a firm will come together to work through a termination scenario, using the Close-out Framework as a reference tool. As regulators increasingly focus on internal bank processes for managing the default of a counterparty, we hope this will be a useful resource. Look out for details on the ISDA website or contact legal@isda.org for more information.

But even before the introduction of margin requirements and the various bank resolution regimes, there were some potentially tricky aspects of the close-out process – specifically, the physical delivery and receipt of critical termination-related notices. Under the ISDA Master Agreement, these notices must be delivered using certain prescribed methods, based on contact details set out in the agreement – problematic if a firm has moved without updating its address, as happened with Lehman Brothers International (Europe) in 2008.

A further issue emerged during the pandemic, when offices were located in areas subject to lockdown requirements, meaning notices couldn’t easily be delivered or received. Similarly, there were challenges following Russia’s invasion of Ukraine, when market participants were unable to physically deliver notices in a perilous environment.

The ISDA Notices Hub responds to this by allowing the instantaneous delivery and receipt of notices via a secure online platform, eliminating risk exposures and potential losses that can result from delays in terminating derivatives contracts. It will also regularly prompt users to update their physical address details, a single entry that will populate agreements with all their counterparties on the system.

Following a major industry outreach initiative earlier this year, I’m delighted to say that we’ve received strong support for this initiative from buy- and sell-side firms globally. We will now work with S&P Global Market Intelligence and Linklaters to build the platform, draft the necessary documentation and obtain legal opinions in priority jurisdictions to confirm the validity of delivering notices via the ISDA Notices Hub.

No one wants to see a counterparty fail. But when they do, it’s imperative that firms can minimize their exposures by terminating outstanding derivatives contracts as quickly as possible. Our two initiatives, the ISDA Close-out Framework and the ISDA Notices Hub, will make this process much safer, quicker and more efficient.