Derivatives in Bankruptcy: Some Lessons from Lehman Brothers

Abstract

When it filed for bankruptcy, Lehman Brothers had nearly one million derivative contracts outstanding. This article tells the story of some of those contracts, and the lessons that can be drawn from their fate. Lehman’s counterparties faced a dangerous choice after its Chapter 11 filing: terminate their contracts early—and potentially face large termination payments—or await the uncertain judgment of a bankruptcy court. In adjudicating the cases of those counterparties who chose the latter option, the court overseeing Lehman’s bankruptcy has answered some questions about what happens to derivatives in bankruptcy, while leaving others unresolved. As derivatives, particularly swaps, are central to structured finance, Lehman’s story should be of interest to any structured finance practitioner. <b>TOPICS:</b>Interest-rate and currency swaps, credit default swaps, options