The International Swaps and Derivatives Association is working on two papers to address fundamental legal risks in the crypto markets.
The International Swaps and Derivatives Association (ISDA) is working on two papers to address fundamental legal risks in the crypto markets, such as the insolvency of crypto exchange firms, according to a statement released on Jan. 26.
The initiative was motivated by the collapse of crypto exchange FTX and previous bankruptcy cases that “prompted a cascade of liquidity and solvency concerns across the crypto ecosystem.” Along with other things, the papers will offer guidance for market participants regarding crypto ownership and the role of intermediates in the event of bankruptcy.
“The prospect of insolvency of a major market participant requires firms to consider how they manage counterparty credit risk, which intermediated or custodial structures are most appropriate, and whether the tools employed can be reliably enforced in a bankruptcy scenario. Applying existing bankruptcy rules to a new asset class inevitably raises legal characterization and other questions that must be tackled to provide the necessary certainty,” notes the announcement.
In addition, the association said that the oft-repeated principle “not your keys, not your crypto” seems to imply that fundamental questions settled in the traditional markets may still be evolving or may not exist in the crypto industry, such as “what defines the owner of an asset?” or for “a party that is not the direct owner, but holds an asset indirectly via an intermediary, what is the impact of an intermediary’s bankruptcy?” Specifically, the statement says:
“The FTX collapse indicates that such norms are still evolving (or may not yet exist) in the cryptocurrency markets. When these issues are not well understood by market participants or the risks are not properly managed, unanticipated and significant loss of capital can emerge.”
The publications will deliver standards on close-out netting and collateral and address issues relating to customers’ digital assets held with intermediaries and how they may be held and treated in an insolvency scenario. The papers will also inform legal and documentation needed to establish ownership of digital assets and their use as collateral.
The ISDA is a private trade association comprising primarily banks that transact in the over-the-counter derivatives market. As part of its work, the association seeks to identify and reduce risks in the markets.
The USDA’s last annual meeting, held in May 2022, had the presence of Sam Bankman-Fried, former CEO of FTX, representing the crypto industry. Featured keynotes at the event included Gary Gensler, chair of the United States Securities and Exchange Commission, and Rostin Behnam, chair of the Commodity Futures Trading Commission.