Highly-rated bank credit derivative counterparties are set to benefit from the collapse of Enron, which was a top 20 credit derivatives market maker, said traders in London and New York. Firms in both countries were busy liquidating positions this week, which could total USD6 billion of gross notional exposure to Enron as a counterparty, according to some estimates. A tier one house typically executes USD50 billion a year.
Enron's default has hit U.S.-based players harder than London desks because international firms traded credit-default swaps referenced to Enron out of New York. Most major dealers have approximately USD1 billion (notional) of credit-default swaps referenced to Enron on their books, according to one credit-derivatives lawyer. Traders have already started settling and netting the contracts. One complained, "it's been a ton of administrative work." However, it should be a smooth process because it is a straightforward default. "It has been extremely orderly, which is really a tribute to the market's development," said a head of credit derivatives in London.
International Swaps and Derivatives Association master agreements are designed with counterparty bankruptcies in mind and the fact that Enron was selling protection should not make a difference in settling the contracts, explained a derivatives attorney in New York. The non-defaulting party sets a termination date for the contract and gets a mark-to-market price to replace it. If it is owed money by Enron it triggers the collateral agreement or joins the list of unsecured creditors.
The huge volume of credit-default swaps on market makers' books means that companies, which would traditionally have credit exposure to Enron may have hedged this out months ago and are now reaping the rewards, the lawyer speculated.