Arbitration in Finance(German Version)
Since the financial crisis of 2008/2009, a change of heart has been taking place with regard to the acceptance and use of arbitration to resolve financial disputes involving commercial customers. While businesses in the real economy have recognized the advantages of arbitration over dispute resolution in national courts for many decades, the financial services industry has met this and other forms of private, extrajudicial dispute resolution with indifference, if not suspicion. Arbitration in finance has simply not been a topic for many decades.
As a result and in the absence of an out-of-court settlement, domestic banking disputes with commercial customers have been decided almost exclusively in national courts. The same is true for disputes arising from international loan agreements. There, the parties would agree to the jurisdiction of state courts, typically in London or New York, and this choice of forum would be coupled with a corresponding choice of law clause. Frequently, parties would agree to a unilateral jurisdiction ("split") clause that would allow only the financing bank to choose between state court jurisdiction and arbitration. In some jurisdictions, such unilateral jurisdiction clauses are considered invalid, in others their validity has not yet been tested. For many decades, disputes arising out of standard Master Agreements, such as the one used by the International Swaps and Derivatives Association (ISDA), upon which the worldwide trade of over-the-counter (OTC) derivatives was and is based, or - in case of syndicated lending - the Master Agreements of the London-based Loan Market Association (LMA) and the New York-based Loan Syndications and Trading Association (LSTA) were also exclusively settled by state courts in London or New York. Both jurisdictions are perceived as "bank-friendly" and as having commercially-minded judges. The choice between the two jurisdictions depends on the substantive law which the parties had chosen to govern their contract.
The situation was and is different in loan contracts with sovereign borrowers. In those contracts, in light of the political considerations and issues of state sovereignty, the state would not submit itself to the jurisdiction of foreign courts, nor would the bank subject itself to the jurisdiction of the domestic courts of the sovereign borrower. Instead, the parties would agree to submit their disputes to international arbitral tribunals sitting in a neutral country. As a result, arbitral proceedings have played and will play an important role in the renegotiation of sovereign debt.
However, recourse to arbitration is not limited to financial contracts with sovereign parties. In lending, derivative, project financing, and in other financial agreements with commercial parties from "emerging markets", e.g. in Africa or Asia, parties would also agree on arbitration instead of dispute resolution before domestic courts. One reason for pursuing this approach is the interest of those parties to shield themselves from existing legal uncertainties in those countries and problems with the reliability, expertise and efficiency of the local courts there. Another reason for resorting to arbitration is to benefit from the worldwide and highly efficient enforcement regime of the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards in scenarios when awards rendered in their favor need to be enforced against assets in various jurisdictions around the globe. This may be the case when those parties have concluded a contract with a counterparty that has assets in multiple jurisdictions or a contract with multiple counterparties having assets in a variety of jurisdictions, e.g. in project finance scenarios. For the judgement of domestic courts only bilateral and regional, but no such worldwide enforcement system exists.
Today's financial markets disputes require expert-judges
Examples from recent practice, both in the area of commercial and investment arbitration, show that there is nowadays no reason for banks and other financial institutions to avoid arbitration in favour of state court jurisdiction as a matter of principle. In many instances arbitration has shown itself even as a superior method of dispute resolution. Of the many advantages of arbitration, the ability of the parties to select an arbitrator with specialized legal know how and market expertise, sticks out. In few other areas is this classical advantage of arbitration as evident as in the field of national and international banking and capital markets law. It seems hardly possible to explain to most domestic judges the market understanding and functioning of terms like “backstop facility”, “convertible preferred equity certificates”, “collateralized debt obligation”, “MAC-clause”, “parallel debt”, “senior facilities agreement”, “pari passu clause”, “gun jumping” or “contractual subordination” within a reasonable period of time. The same applies to the need for a special approach to the interpretation of standardized contract documentation for complex financial transactions such as the ISDA Master Agreement:
“Complex financial transactions agreements place a premium on the knowledge and expertise of those using them. They are, literally and by definition, complex. They are also full of what might be called 'code'-words, expressions and usages, as well as legal underpinnings, known and understood [only] by those who use them…..To some extent, the difficulties [in interpreting and understanding the ISDA Master Agreement] also arise from the fact that the ISDA Master Agreement is necessarily a compromise between brevity and the requirement for an agreement that is effective and enforceable under at least two governing laws, as well as under other laws that may be chosen as its governing law.” (Ross, Capital Markets Law Journal 2012, 221, 256)
The choice of specialized arbitrators with a thorough understanding of the meaning of the highly technical language used in such complex financial transactions agreements and the functioning of the banking and finance industry ensures that documentations of complex financial transactions like the ISDA and LMA/LSTA Master Agreements are not treated in the same way as any other contract in case of dispute, but are construed and applied with the specialized legal know how and market knowledge of their drafters.
The financial crisis and its aftermath have helped the financial sector to better understand the benefts which arbitration has to offer, rather than reflexively resorting to the decades-long established practice of dispute resolution by state courts, without considering alternatives and associated efficiency gains. Already today, a considerable percentage of the case load administered by some arbitral institutions involves international banking and finance disputes or disputes where such issues are in the background. It is not surprising that this increased acceptance of arbitration in the financial industry goes along with the increased complexity of disputes involving financial products. Three major reasons account for this increased use of arbitration in finance:
- access to the legal and financial market expertise of highly qualified arbitrators selected by the parties;
- confidentiality of the arbitral procedure, at least in commercial as opposed to investment arbitrations; and
- worldwide enforceability of arbitral awards under the 1958 New York Convention.
These, as well as other advantages of arbitration in finance, are listed in the "2013 ISDA Arbitration Guide" and have led ISDA to recommend to its members the use of arbitration clauses in the 2002 and 1992 ISDA Master Agreement. However, the significance of arbitration goes well beyond the area of derivatives transactions. It may even be relevant in cases that involve straightforward and undisputed claims for the payment of a sum of money, e.g. for the repayment of a loan. For such disputes, the parties may benefit from the rules for expedited proceedings ("fast track rules") which have been issued in recent years by a variety of arbitral institutions and which allow for a speedy resolution of disputes through arbitration.
Some of these developments have been evaluated at the 2nd GAR Live Frankfurt in 2015. Arbitrators, bankers and counsel discussed the current state of arbitration in finance and pointed to areas and means of improvement.
In the future, the changed mindset of banks and other financial institutions towards the use of arbitration as an alternative means of conflict resolution in their financial transactions with commercial customers or other banks will influence other formulating agencies in the field of international banking and finance such as LMA and LSTA as well as the organization of litigation departments of banks and other financial institutions and their internal litigation risk management systems.