Derivatives & Repos in Bankruptcy Flashcards
How is a swap defined in the Bankruptcy code?
defined to include swaps and other derivatives
What is a swap?
An agreement to swap cash flows on the “notional amount” at some point in the future
What is a repo?
A short term loan with a treasury bond/MBS as security but organized through a sale and repurchase of a bond at a slightly higher price
Why is financing a bank with a ton of repo risky?
Since it is very short-term financing, it can evaporate very quickly and the bank can be undercapitalized
What provisions of the bankruptcy code are repos and swaps exempt from?
Automatic stay; setoff; preference; non-intentional FT; can enforce ipso facto clauses
Arguments against the repo/swap carveout
It weakens the market’s incentive to police its debtors and enables firms to have weak balance sheets
Argument for the repo/swap carveout
Cause a chain reaction of insolvency; creates super low cost efficient lending
