QFC stands for Quality Food Centers, the American supermarket chain based in Bellevue, Washington, east of Seattle. It is a subsidiary of Kroger, which owns and operates QFC’s 62 stores in western Washington and northwestern Oregon. QFC is also the acronym used to describe the Federal Deposit Insurance Corporation’s (“FDIC”) resolution stay rules, which require global systemically important banks (GSIBs) to amend a wide range of “qualified financial contracts” (“QFCs”). The regulations are effective January 1, 2019 and will have a significant impact on the credit market as a whole.
In broad terms, the Resolution Stay Regulations require GSIBs to amend all in-scope QFCs to limit their default rights to what the FDIC would have under the special resolution regimes established by the FDI Act and Title II of Dodd-Frank in the event of the failure of such a bank. These regimes allow a failed institution to enter into a short stay period, during which time its counterparties cannot terminate their QFCs with it or exercise any other default rights with respect to collateral (such as setoff and netting rights), and the bank’s creditors can transfer those contracts and associated obligations and collateral to other solvent entities.
To comply with the Regulations, GSIBs have two options to bring their existing agreements into compliance: (i) bilateral amendment on a contract-by-contract basis or (ii) counterparty adherence to an industry “protocol” that has been published by the International Swaps and Derivatives Association, Inc. (“ISDA”) and specifically approved under the Resolution Stay Regulations (the “ISDA protocol”). Bilateral amendments must adhere to the letter of the Resolution Stay Regulations, and ISDA and other industry groups have published or are working on standardized “bilateral amendment” language. ISDA’s protocol contains certain dispensations from the Resolution Stay Regulations and is designed to be a one-stop shop for affiliated groups of counterparties to amend all their QFCs between them, but it is an instrument that may be too broad in specific circumstances.
By adhering to the ISDA protocol, counterparties agree to waive their rights to invoke their own default remedies in the event of an affiliate bankruptcy proceeding and to transfer their covered QFCs and any related collateral (including guaranties and security interests in assets) to an ISDA-approved resolution transferee. In addition, they agree to limit their cross-default remedies in the event of an affiliate bankruptcy proceeding, subject to a few exceptions. It is not yet clear how many parties will opt-in to the ISDA protocol, and it will be particularly important for GSIBs to carefully consider their choice of method for complying with the Regulations. A number of other industry protocols have also been proposed, including those developed by a variety of trade associations and the Securities Investor Protection Corporation. All of these alternative methods are expected to have significant impact on the credit markets and require further study.