International Swaps and Derivatives Association, Inc. Collateral and International Law Issues Peter Werner ISDA Europe

ISDA The Collateral Directive: summary  Effective and simple regime for pledge and title transfer  Simplifies creation, perfection and enforcement  Confirms validity of right of use (‘rehypothecation’)  Confirms efficacy of title transfer collateral and close-out netting  Some protection in context of insolvency (stay on enforcement, ‘zero hour’ rules, top- up and substitution)  Clarifies conflict of laws rules

ISDA EU Collateral Directive  Collateralisation: Important risk management tool to transfer credit risk into legal, operational and market risk  Containment of legal risk by approved netting and collateral opinions as well as documentation (e.g.ISDA)

ISDA EU Collateral Directive Urgent need for collateral law reform (2000 ISDA survey)  Uncertainty regarding the enforceability of title transfer collateral in 7 out of 15 EU member states  Uncertainty regarding the vulnerability of the transfer collateral arrangements against third parties in 6 member states  Uncertainty regarding the treatment of top-up collateral as a preference in 5 member states

ISDA EU Collateral Directive: evolution  All financial collateral  Pledge and title transfer agreements covered  Both provider and taker must be either a public authority/central bank or a financial institution under prudential supervision or a legal person of a capital base exceeding €100million

ISDA EU Collateral Directive: evolution  Limitation of rules on creation and enforcement  Re-use of pledge?  Recognition of substitution/top-up  Recognition of close-out netting  Recognition of the PRIMA approach  Inclusion of collateralised business between corporates?

ISDA EU Collateral Directive: issues and results Creation of a pledge or title transfer requires often formal acts, such as  Filing with an official body  Registration in a public register  Official publication  Result: Creation/validity not dependent on a formal act if:  The financial collateral arrangement provides for dispossession, i.e. the provision of the collateral  The provision of collateral must be evidenced in writing

The EU Collateral Directive ISDA  Effective June 2002 (2000/47/EC)  Implementation required by end-2003  Broad range of financial institutions  Central banks (incl. ECB, EIB, IMF)  Public authorities  Central counterparty or clearing house  A person other than a natural person, incl. partnerships, provided the other party is one of the above (BUT: Opt-out)

ISDA Conflict of laws issues  Proprietary issues generally governed by lex rei sitae  Situs of traditional, directly held securities  Situs of securities held indirectly through securities account with intermediary  Problems of a “look-through” approach  The “place of the relevant intermediary approach” (“PRIMA”)

ISDA Measures to introduce PRIMA  Settlement Finality Directive, article 9(2)  Collateral Directive, article 9  Proposed Hague Convention on Indirectly Held Securities

ISDA Hague Convention: current position  June 2002 text produced by Drafting Committee  Regional workshops June/July 2002  Main outstanding issue relates to identification of PRIMA law – Option A: law specified in custody agreement Option B: law of state in which securities account is agreed to be maintained  Diplomatic Conference December 2002

ISDA Unidroit initiative  Unidroit study group on harmonized substantive rules for the use of securities held with intermediaries as collateral  Scope under discussion: creation, perfection, pre- and post-insolvency enforcement of collateral arrangements  First session 9 to 13 September 2002  Next official study group meeting Feb/Mar 03