By:Liu Zhigang, Partner and Lv Yinghao, associate, King & Wood’s Banking Department

In the final quarter of 2007, the National Association of Financial Market Institutional Investors (“NAFMII”) was authorized by the People’s Bank of China to release a standardized Master Agreement and supplements (“Master Agreement”) to serve as uniform documentation of inter-bank market participants in financial derivatives transactions. For those familiar with the International Swaps and Derivates Association Master Agreement (“ISDA Agreement”), its influence is evident in the newly adopted Master Agreement. Similar to the ISDA Agreement, the Master Agreement addresses an extremely wide variety of transactions, including most if not all derivatives allowed by Chinese law.

There are three very prominent features of the Master Agreement. First, it adopts the “single agreement” scheme. The single agreement scheme combines all the necessary schedules, confirmations, and CSAs into the one Master Agreement. Second, the concept of “netting” is utilized. Parties can choose netting not just within one transaction, but across different transactions if specified. In the event of early termination close-out netting is even allowed, minimizing loss upon credit failure. Third, close-out amounts are narrowly tailored to the Chinese market. An example of such a Chinese-specific provision is that tax–related aspects are largely ignored since it is assumed that the Master Agreement will be used for domestic dealings.

The Master Agreement is not without its flaws, but they are far outweighed by the progress that it represents. Issues such as the validity of netting in bankruptcy situations and uncertainties regarding alternatives for documentation are comparatively minor and can be settled by practice. There is little doubt that this significant advancement will notably promote prosperity within the domestic financial derivatives market.