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FRM Part II · FRM Exam Part II · Netting, Close-out and Related Aspects

Which feature of a close-out netting process is most likely to create disputes and residual risk for the non-defaulting party after the event of default?

The main source of dispute is determining the close-out value of terminated trades in stressed markets. Quotes may be scarce and volatile, so the valuation can be challenged by the estate. A single net payment, master agreement and simultaneous termination are features that reduce risk rather than create it.

  1. AUncertainty in determining the close-out value of terminated trades during a stressed marketCorrect
  2. BThe existence of a single net payment
  3. CThe use of a master agreement
  4. DThe termination of all trades at once

Explanation

After default the surviving party must value terminated trades, often in illiquid, volatile markets, and the valuation can be challenged. Single net payment, master agreements and simultaneous termination are the benefits of netting, not sources of dispute.

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