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FRM Part II · FRM Exam Part II · Margin (Collateral) and Settlement

A bank and a hedge fund have an uncollateralised OTC interest rate swap. The bank then signs a Credit Support Annex (CSA) with the hedge fund. What is the primary purpose of the CSA under an ISDA Master Agreement framework?

The CSA specifies how collateral is posted and returned between two OTC derivative counterparties, including thresholds, minimum transfer amounts, eligible assets and haircuts. Its purpose is to reduce counterparty credit exposure. It does not set trade terms, remove market risk, or clear the trade centrally.

  1. ATo set out the terms under which collateral is exchanged to reduce counterparty credit exposureCorrect
  2. BTo determine the notional amount and fixed rate on the swap
  3. CTo eliminate market risk on the swap for both parties
  4. DTo transfer the swap to a central counterparty

Explanation

The CSA is the legal annex to the ISDA Master Agreement that sets the collateral terms: thresholds, minimum transfer amounts, eligible collateral, haircuts and call frequency. Its purpose is to reduce counterparty credit exposure. It does not set trade economics, remove market risk, or move the trade to a CCP.

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