With a market value of around $3 trillion, crypto assets are now a well-established asset class that is increasingly attracting the attention of institutional investors and banks. The International Swaps and Derivatives Association (ISDA) is now working to develop legal standards to support the crypto derivatives market, with input from a range of stakeholders, including those active in the crypto space, writes ISDA CEO Scott O’Malia.
The aim is to align the crypto derivatives market with the existing spot market by creating strong legal foundations. Last year, ISDA established the Digital Assets Legal Group and, in December, the Association published a paper that explores the key issues that need to be addressed in any contractual standards for OTC derivatives, including disruption events, valuation and documentation.
Until now, institutions have largely traded digital asset derivatives using amended versions of existing ISDA definitions and templates, or using their own bespoke documentation. That not only leads to a lack of standardization; it may mean that certain unique events that may occur in the crypto assets market are not directly covered by the documentation used for derivatives linked to those assets. We think there is a need for standard derivatives documentation that is tailored to reflect the unique features of this asset class.
There are several distinctive features and events that need to be considered in any standard derivatives documentation. These include forks, where a blockchain is upgraded or modified, which can change the nature of the blockchain or lead to the creation of two distinct crypto assets. These types of disruption events can impact the valuation, settlement, collateral and legal viability of a transaction, so it’s important the documentation clearly identifies and defines the relevant events, as well as the potential consequences.
“Working on contractual standards and documentation templates for digital asset derivatives is a priority for ISDA this year. We’ll start by developing standard terms for products that are already traded in the market today, such as cash-settled forwards and options referencing Bitcoin and Ether. We will then consider how we might add value for other types of products, including those traded on decentralized and hybrid trading venues,” O’Malia wrote.
To enable broad-based adoption of these standards, it is vital that they are produced in a form that reflects the unique characteristics of this market. ISDA will therefore create templates and definitions that support the development of on-chain smart contracts for crypto derivatives. These standards will be designed to integrate seamlessly within the infrastructure being developed to support this market, and in a manner that promotes interoperability between different distributed ledgers and platforms.