QFC is a new set of rules aimed at improving the resolvability and resilience of US global systemically important banks (“GSIBs”) and the operations of foreign G-SIBs with a presence in the United States. The rules are designed to mitigate the risk of destabilizing “closeouts” of swaps and other financial contracts (including credit support annexes, guarantees or reimbursement obligations) upon a GSIB’s insolvency.
The rules are implemented in the form of amendments to existing master agreements and other written documentation. The rules require GSIBs to obtain the explicit agreement of their counterparties to waive any credit enhancement transfer restrictions and not exercise cross-default remedies in the event of an affiliate bankruptcy proceeding. They also require GSIBs to secure the consent of their counterparties to permit the FDIC, as receiver of a GSIB, to access information on their transactions with that GSIB and its affiliates.
In addition, the rules contain certain ancillary provisions addressing issues such as the ability of the FDIC to exercise its “orderly liquidation authority” under the Dodd-Frank Act or other resolution authorities (including the OLA regime) in connection with the GSIB’s insolvency. These provisions are intended to provide the FDIC with more complete information about a GSIB’s assets and liabilities in order to make sound resolution decisions.
GSIBs must conform their existing agreements to the new requirements by Jan. 1, 2020. In the meantime, buy-side participants should be considering how to comply with the new requirements and identifying all the agreements that may need to be amended. The article highlights key provisions of the QFC rules and provides an overview of available compliance methods and timelines.
Step one – in-scope agreements
The QFC rules define the term “in-scope agreement” as any “covered financial contract” (which includes a securities contract, commodity contract, forward contract, repurchase agreement or swap agreement) that:
(i) is entered into by a covered entity or its consolidated affiliates on or after Jan. 1, 2019; and (ii) is governed by law other than the United States. This approach prevents the scope from being overly broad. However, in practice it will often result in many legacy agreements being in-scope.
ISDA has published a 2018 protocol that, when adhered to by both parties, will automatically amend all in-scope agreements (assuming the other party has also adhered) as of the date of adherence. This method of compliance is permitted under a safe harbor contained in the QFC rules. The protocol does not, however, address the Opt-In Requirement or the Cross-Default Restriction.
Neither the 2018 protocol nor the other compliance methods addressed in this article address the requirement that a covered entity or its consolidated affiliates not exercise any default rights in the event of an affiliate bankruptcy proceeding. This will be a significant issue for many of the existing transactions involving sovereign entities, central banks and multilateral development banks that are not in-scope under the rules. Until the regulators clarify these issues, we expect that those counterparties will need to amend their existing QFCs in order to comply with the resolution stay requirements. QFC