Chin-Chong Liew and Fang Jian of Linklaters discuss the background and principal features of this new development and what it means for the derivatives market in China going forward.
Linklaters is a leading international law firm specialising in capital markets and structured/ derivative products in Asia and it has been at the forefront of product and regulatory developments in derivatives markets across the region. If you would like to discuss recent developments in China or in any other jurisdiction in Asia, please contact the authors.
A Master Agreement for Derivatives in China
1 The RMB Master Agreement
On 21 July 2006, the China Foreign Exchange Trade Systems (ôCFETSö), with the approval of the State Administration for Foreign Exchange (ôSAFEö), published the much anticipated RMB Foreign Currency Forward and Swap Master Agreement (the ôRMB Master Agreementö). The RMB Master Agreement, which is drafted in the Chinese language and governed by Chinese law, is to be used principally for RMB forwards as well as the newly introduced RMB swaps in the National Inter-Bank Foreign Exchange Market (the ôInter-Bank Marketö).
For the first time ever in Chinese financial history, we have a master agreement, which embraces a ôsingle agreementö architecture where all the transactions entered, and to be entered, into between two parties formed one single agreement (rather than separate independent agreements) between the parties. The RMB Master Agreement also adopts the concept of ôclose-out nettingö and other key provisions that are commonly used in international and regional derivative documentation, such as the ISDA Master Agreements. This does not come as a major surprise given the prominence and popularity of ISDA Master Agreements among foreign as well as Chinese counterparties.
2 Principal Features
Certain principal features of the RMB Master Agreement are as follows:
ò Transactions under the RMB Master Agreement may include RMB-FX swaps and RMB-FX forwards as well as any other transactions as may be agreed between the parties.
ò The RMB Master Agreement adopts the ôsingle agreementö structure in that the RMB Master Agreement and all transaction confirmations shall together form a single agreement between the parties.
ò The parties may elect for payment netting to apply for different transactions or different groups of transactions if they have entered into two or more transactions.
ò The prescribed events of default under the RMB Master Agreement include failure to pay, credit support default, misrepresentation, default under specified transactions, cross-default, bankruptcy, merger without assumption and breach of agreement. In the case of certain bankruptcy events of default, the parties may elect for the application of ôautomatic early terminationö.
ò The prescribed termination events under the RMB Master Agreement are illegality, force majeure event and credit event upon merger, and the parties may also specify any Additional Termination Event.
ò Upon an early termination, an early termination amount, which is calculated as a net sum of the replacement value of the terminated transactions, any unpaid amounts and the fair market value of any collateral, shall be paid by one party (out-of- the money) to the other (in-the-money).
ò The RMB Master Agreement is to be governed by Chinese law and, to the extent that Chinese law is silent, relevant "market practice" may be adopted to interpret the RMB Master Agreement.
ò The parties may elect for Chinese court or Chinese arbitration to resolve any dispute under the RMB Master Agreement.
The RMB Master Agreement is a ôbilateralö agreement, in that a member has to sign the RMB Master Agreement with each of the other members of the Inter-Bank Market with whom it intends to transact and file such agreement with CFETS, and the negotiation process will take time. This is different from other master agreements in the Inter-Bank Market which are ômulti-lateralö in nature where a member will only need to sign and file one copy of the master agreement with CFETS, following which the member will be deemed to have entered into such agreement with each of the other members of the Inter-Bank Market.
3 Market Views
The RMB Master Agreement represents a huge step forward in terms of the development of a solid foundation for conducting derivative transactions in China and the views amongst market participants on the publication of the RMB Master Agreement have been overwhelmingly positive.
While the single agreement and close-out netting concepts under the RMB Master Agreement might be considered ahead of time in China under the pre-existing bankruptcy regime, it must now be asked whether they will be considered effective under the new Bankruptcy Law, which was passed on 27 August 2006 and will become effective on 1 June 2007.
In addition, it is also expected that the RMB Master Agreement may provide further impetus for the creation of derivative documentation for the end-user market, which in principle should be even simpler and user-friendlier, given the nature of such market and the sophistication of the end-users.
Linklaters
Linklaters has assisted a number of banks in giving comments to SAFE in the drafting of the RMB Master Agreement. Since the publication of the Master Agreement, Linklaters have been assisting a number of banks and have prepared numerous commentaries on the material provisions of the Master Agreement together with suggested changes to be incorporated into the Special Terms. Please do not hesitate to contact us if you would like to discuss any of the issues raised in this article.
Chin-Chong Liew
Partner and Head of Derivatives and Structured Products Asia (ex Japan)
Tel: (852) 2842 4857
Email: [email protected]
In addition to being a specialist in derivatives and structured products, Chong is widely recognised as a leading light in the field of China derivatives. A fluent Mandarin-speaker, one of ChongÆs focuses is on the development of derivative and structured products in China as the pace of deregulation in this area in the PRC increases. He advised on the first two swap litigation cases in China and has been closely involved in the development of derivative and structured products in China since 1995.
Fang Jian
Partner (Shanghai)
Tel: (86) 21 2891 1858
Email: [email protected]
Fang Jian is a lawyer specialising in PRC financial markets (including the PRC derivatives market) and has extensive experience and expertise in the PRC financial sector. He has advised many international financial institutions on their PRC activities, including assisting them on the acquisition of interests in PRC domestic financial institutions, the establishment of their operations in the PRC, the obtaining of financial services licences from the PRC government, the entering into of transactions with PRC counterparties involving financial products or financial services and on the regulatory and advisory side.
