ABI Journal Article Sheds Light on Treatment of Derivatives in Bankruptcy

ABI Journal Article Sheds Light on Treatment of Derivatives in Bankruptcy

Contact: John Hartgen
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April 11, 2011, Alexandria, Va. — As debates about the regulation of derivatives continue swirl among regulators and lawmakers, the Bankruptcy Code already provides professionals with prescriptions of how derivatives are to be treated in a bankruptcy proceeding, according to an article in the April edition of the ABI Journal. In “Deciphering Derivatives in Bankruptcy,” authors Nicholas M. McGrath of K&L Gates LLP (Boston) and Ji Hun Kim of GrayRobinsson PA (Miami) provide an overview of derivative contracts and examine recent case law involving derivatives and the Bankruptcy Code.
The authors explain that derivative contracts are afforded special treatment under the Code, which contains 'safe-harbor' provisions that allow derivatives to be exempted from the automatic stay, certain avoidance actions and the unenforceability of ipso facto clauses. Even if a firm enters bankruptcy, nondebtor counterparties can enforce a contractual right to close out, terminate and accelerate all amounts owed under a derivative contract. Pointing to Lehman Brothers' chapter 11 filing and AIG's financial deterioration, McGrath and Kim pointed to the provisions of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 establishing how Congress intended to deal with derivatives in bankruptcy.
“Congress' reason in providing derivative contracts with these protections was to promote stability within the financial sector,” McGrath and Kim wrote. “If participants in certain activities were unable to enforce their rights to terminate financial contracts with an insolvent entity in a timely manner, or to offset or net their various contractual obligations, the resulting uncertainty and potential lack of liquidity could wreak havoc in the financial market.” The authors pointed to In re Lehman Brothers Holding Inc., et al., as a case that has rendered significant decisions in the Code's treatment of derivatives.

As companies continue to utilize derivatives to hedge against market fluctuations, the authors encourage new and upcoming insolvency professionals to learn more about how derivatives are treated in bankruptcy. “More bankruptcy proceedings will involve the application of the safe-harbor provisions of the Bankruptcy Code for treatment of derivatives,” McGrath and Kim wrote.
To obtain a copy of “Deciphering Derivatives in Bankruptcy,” published in the April edition of the ABI Journal, please contact John Hartgen at 703-894-5935 or via email at [email protected]


ABI is the largest multi-disciplinary, nonpartisan organization dedicated to research and education on matters related to insolvency. ABI was founded in 1982 to provide Congress and the public with unbiased analysis of bankruptcy issues. The ABI membership includes over 13,000 attorneys, accountants, bankers, judges, professors, lenders, turnaround specialists and other bankruptcy professionals, providing a forum for the exchange of ideas and information. For additional information on ABI, visit www.abiworld.org. For additional conference information, visit http://www.abiworld.org/conferences.html.