ISDA Master Agreement
An ISDA Master Agreement provides standardised terms to a contract when trading in the over-the-counter market. The first Master Agreement was first designed by ISDA (International Swap and Derivatives Association) in 1992 with the intent of standardising the documentation in the OTC derivatives market in order to increase efficiency and liquidity in the markets. The standard agreement identifies the two parties entering the transaction; describes the terms of the arrangement, such as payment, events of default and termination; and lays out all other legalities of the deal.
The term master agreement is used to indicate all the terms that will govern the entire trading relationship between the two parties to the agreement in multiple transactions; for this reason the master agreement is purposely generic and applicable independently of the counterparty and of the transaction. Further to the master agreement, there is the “Schedule”. This is a counterparty-specific contract attached to the master agreement and allows the parties to modify the standard terms contained in the master agreement based on each other‚Äôs specifications. As part of the Master Agreement, ISDA drafted the “Definitions” with the purpose of providing a basic framework to use in confirmations of individual transactions. In addition, if expressly provided by the Master Agreement and the Schedule, a Credit Support Annex document can be incorporated. This provides details of the collateral arrangements.
Nowadays, the 1992 form and the renewed 2002 version are both commonly used within the OTC derivatives market.
To summarise, the general structure of a master agreement comprises the following:
2002 ISDA Master Agreement
Credit Support Documents
The benefits of standardised documentations and definitions are multiple. In particular, we can highlight:
Cost effectiveness and efficiency, due to a reduced amount of terms to agree at every transaction
Elimination of basis risk, which is the risk associated with a different use of economic terms or market conventions
Increasing liquidity in the markets as the terms of the contracts are complete and understood among the market players.