For those BLPB readers watching the derivatives markets, specifically CDS (credit default swaps), an interesting development to be following right now is the potential auction related to the EMEA (Europe) Determinations Committee’s decision that a failure to pay credit event had occurred with respect to the Russian Federation.
Really really briefly – if you want a deeper dive into CDS and the Determinations Committees, see here – CDS are insurance-like contracts in which a protection buyer makes periodic payments akin to an insurance premium to a protection seller to financially “protect” them should a credit event (failure to pay, bankruptcy, etc.) occur on an underlying reference entity, for example, the Russian Federation. The protection buyer may or may not have actual economic exposure to the underlying entity.
The importance of a credit event determination is that it triggers the CDS protection seller’s payout obligation. In general, the amount of this payout obligation is determined by an auction. The Credit Derivatives Determinations Committees is the dispute resolution mechanism which decides whether or not a credit event has occurred and, if so, whether a settlement auction will be held. The decision of a Committee applies market-wide. There are five regional Committees: Americas, Australia-New Zealand, Asia (non-Japan), Japan, and EMEA (Europe). In general, each Committee is responsible for decisions surrounding reference entities related to their region. An independently managed subsidiary of ISDA, DC Administration Services, is secretary to each Committee. The voting members of a full Committee consist of 10 dealer members and 5 non-dealer members. The most recent list of Determinations Committees members is here.
On June 1, 2022, the EMEA (Europe) Determinations Committee decided “Yes” in answer to the question: “Has a Failure to Pay Credit Event occurred with respect to the Russian Federation under the 2014 Definitions and the Updated 2003 Definitions?” Generally, a Committee votes to hold a settlement auction following its determination that a credit event has occurred. However, the EMEA Determinations Committee decided to defer making a decision about whether to hold an auction. As noted in its Meeting Statement of July 25, 2022: “On 9 June 2022, the EMEA DC announced that it was deferring making a decision on holding an Auction and the date of any Auction. Such deferral was as a result of the publication by OFAC [Office of Foreign Assets Control] of updated FAQs on 6 June 2022 in respect of new investment prohibitions relating to entities in the Russian Federation (further to Executive Order (E.O.) 14066, E.O. 14068, and E.O. 14071).” On June 24, 2022, a Bloomberg news article noted “Swaps Panel Asks US Treasury for Russia Sanctions Workaround.” On July 22, 2022, OFAC released General Licenses No. 45 “Authorizing Transactions Related to the Wind Down of Certain Financial Contracts Prohibited by Executive Order 14071” and No. 46 “Authorizing Transactions in Support of an Auction Process to Settle Certain Credit Derivative Transactions Prohibited by Executive Order 14071.”
An August 5, 2022, Determinations Committee website update (the latest as of this post) shares that the EMEA Committee has now published a “Preliminary List of Deliverable Obligations for the purposes of a potential auction” and also that “The EMEA DC continues to consider the potential impact of restrictions on settlement of the debt obligations of the Reference Entity within clearing systems, including the restrictions on transfer of debt obligations within Clearstream referenced in the DC Meeting Statement of 25 July 2022.”
With CDS and clearing involved, this is definitely a developing story I’ll continue to follow, think about, and write on!