Stays on Termination Rights

The prospects for an orderly resolution of a failing financial institution (FI) will be seriously undermined if its counterparties terminate their contracts with the failing FI on a mass scale solely because of its entry into resolution or the exercise of resolution powers in respect of the FI. For this reason, the Financial Institutions (Resolution) Ordinance (FIRO) contains provisions that prevent certain default event provisions from being triggered solely by the entry into resolution or the exercise of resolution powers as long as the substantive obligations provided for in the relevant contract continue to be performed. Furthermore, a resolution authority is empowered by the FIRO to impose, by way of provision in a Part 5 instrument, a temporary stay on termination rights, for up to two business days.

However, where a contract is governed by non-Hong Kong law, there are uncertainties as to whether a court in a non-Hong Kong jurisdiction would give effect to a stay on termination rights imposed by the Monetary Authority under the FIRO unless the law of such jurisdiction expressly recognises the Monetary Authority’s action. These uncertainties have been identified as a barrier to resolvability internationally by the Financial Stability Board (FSB). To address this issue, the “Principles for Cross-border Effectiveness of Resolution Actions” published by the FSB in November 2015 suggests, among other things, the adoption of a contractual approach to support cross-border enforceability of resolution actions such as stays on termination rights.

The requirements under the Financial Institutions (Resolution) (Contractual Recognition of Suspension of Termination Rights—Banking Sector) Rules (Stay Rules), which came into effect on 27 August 2021, support the contractual approach to giving effect to cross-border resolution actions as advocated by the FSB. ST-1 “Resolution Planning – Contractual Recognition of Suspension of Termination Rights”, a chapter of the code of practice issued by the Monetary Authority under the FIRO, provides guidance on the operation of certain provisions of the Stay Rules.