Derivatives in Review - March 2015

by Orrick, Herrington & Sutcliffe LLP
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The Derivatives in Review highlights the month's important legal, regulatory and other newsworthy developments in the area of derivatives.

Featured in this month's edition:

NYDFS Releases Revised BitLicense Proposal

On February 4, 2015, the New York State Department of Financial Services ("NYDFS") released a revised version of its proposed virtual currency regulations (commonly referred to as "BitLicense"), originally released in July 2014. Nearly 4,000 formal comment letters were submitted by advocacy groups, financial service providers, law firms, individuals and others on the original proposal. A 30-day public comment period began upon publication of the revised proposal in the New York State Register on February 25, 2015. Section I below summarizes significant changes that the revised version of the BitLicense proposal made to the original, and Section II provides an outline of the overall proposed BitLicense regime, as amended.

CFTC Subcommittee Recommends Timeline for Clearing of Non-Deliverable Forwards

On December 5, 2014, the Global Markets Advisory Committee, Foreign Exchange Markets Subcommittee (the "Subcommittee") of the Commodity Futures Trading Commission ("CFTC") submitted its recommendation to the Global Markets Advisory Committee on the timing of mandated clearing of foreign exchange non-deliverable forward ("NDF") transactions.

Parties to an NDF agree to settle on a pre-agreed date based on the difference between an exchange rate for a specified currency pair agreed on the trade date and the spot rate for the same currency pair at maturity. At the time of settlement, one party delivers a payment to the other in the deliverable currency, which is usually U.S. dollars. NDFs are expected to be the next type of swap that the CFTC will require to be centrally cleared through a derivatives clearing organization.

ISDA Webinar Addresses Development of a "Standard Initial Margin Model"

In February 2015, the International Swaps and Derivatives Association, Inc. ("ISDA") released a webinar on various issues related to the margin requirements for uncleared swaps. Specifically, the webinar: (i) covered the organizational structure of ISDA's Working Group on Margin Requirements Implementation Initiative and each of the Initiative's "workstreams" responsible for tasks associated with the margin rules (i.e., the Portfolio Integrity Workstream, the Margin & Collateral Workstream, the Risk Classification & Methodology Workstream, the Data Sources Workstream, the Dispute Resolution Workstream, and the Legal & Documentation Workstream); (ii) provided an update on ISDA's efforts to develop, and obtain regulatory approval for, its "standard initial margin model" ("SIMM"), which is a standardized method for calculating initial margin on uncleared swaps; and (iii) discussed significant legal and operational issues related to the implementation of the recently re-proposed uncleared swap margin regulations.

Exploring Temporary Stays of Early Termination Rights

Under the Bankruptcy Code (Title 11, U.S.C., §§ 101 et seq., the "Bankruptcy Code") non-debtor counterparties to qualified financial contracts generally are not subject to the automatic stay under section 362 and the prohibition on ipso facto clauses under section 365(e). As a result, upon the commencement of a bankruptcy case under the Bankruptcy Code, counterparties are able to exercise their contractual right to cause the liquidation, termination or acceleration of the transactions under qualified financial covenants.

The same is not necessarily true when a bank, insurance company or other similar regulated entity becomes insolvent. Such entities are not eligible to be debtors under the Bankruptcy Code. While the insolvency regimes for such entities do not provide for an automatic injunction barring creditor remedies, the insolvency regime will provide a brief stay preventing counter-parties to qualified financial contracts with such entity from terminating, liquidating or accelerating a qualified financial contract during such period.

The American Bankruptcy Institute recently released its Chapter 11 Reform Report. The Reform Report proposed a number of revisions to Chapter 11 related to confirmation, valuation, financing and asset sales, among others. The Reform Report also proposed a number of revisions to the safe harbor protections, which were discussed in Part II of Orrick's Restructuring Team's summary and analysis of the Reform Report. As mentioned in the summary of the proposed changes to the safe harbor protections, the Commission considered, but rejected, incorporating a temporary stay on the exercise by a non-debtor counterparty of its contractual rights to terminate and liquidate qualified financial contracts.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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