The Financial Markets Lawyers Group, an advisory group backed by the Federal Reserve Bank of New York, plans to examine the implications of an Australian court case on U.S. derivatives law after the U.K. regulator expressed concern. The case has put regulatory capital relief for netted derivatives in question. Linda Ricci, spokeswoman for the Federal Reserve, confirmed it was on the FMLG agenda, but said it was too early to comment on what the group was planning to do. She added the group will keep an eye on developments in the U.K., where the Financial Services Authority has asked the Financial Markets Law Committee to study the impact.
Mark Rae, partner at Stroock Stroock & Lavan in New York, said the FMLG is a respected group of financial market and derivatives lawyers and the Fed is likely to take any recommendation it makes seriously. The impact of the Enron vs. TXU Australia court case--in which TXU Australia was allowed to not terminate a trade and also to stop paying the defaulted party, leading some lawyers to say this was similar to a walkaway clause and therefore puts regulatory capital relief for netted derivatives transactions in jeopardy (DW, 8/6)--may not be a serious in the U.S.
Under U.S. bankruptcy law if a corporate files for bankruptcy and commences a reorganization, as opposed to a liquidation, it can chose to affirm or reject outstanding contracts, according to Rae. This right would be taken away from it if the non-defaulted party terminated the contract first, but it would prevent a non-defaulting party suspending the contract indefinitely. In order to affirm the contract, however, the corporate in bankruptcy proceedings must cure all prior defaults, explained Rae. He added most U.S. corporates, including Enron, opt for reorganization rather liquidation even if they decide at a later date to liquidate the business.
