# Why Was the First Method of Payment Abolished in the 2002 ISDA Agreement? ▴ Question

**Published:** 2025-08-05
**Categories:** Question

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## Concept

The operational framework of the over-the-counter derivatives market rests upon the foundational architecture of the [ISDA Master Agreement](https://prime.greeks.live/area/isda-master-agreement/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite). Within this architecture, the rules governing the termination of transactions are paramount, defining the allocation of risk and financial obligation when a counterparty defaults. The abolition of the “First Method” of payment in the [2002 ISDA Master Agreement](https://prime.greeks.live/area/2002-isda-master-agreement/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) was a critical system upgrade, driven by a market-wide recognition that the original protocol was structurally unsound. It represented a direct response to the systemic risks exposed by its design, which, under certain conditions, permitted a non-defaulting party to retain a windfall at the expense of a defaulting party’s creditors.

At its core, the First Method, also known as “[Limited Two-Way Payments](https://prime.greeks.live/area/limited-two-way-payments/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite),” stipulated that if a default occurred, the [non-defaulting party](https://prime.greeks.live/area/non-defaulting-party/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) would calculate the net value of all terminated transactions. Should that net value be positive ▴ meaning the non-defaulting party was “in-the-money” ▴ it could claim that payment from the defaulter. However, if the net value was negative, placing the non-defaulting party “out-of-the-money,” the First Method protocol allowed it to make no payment at all.

This created a scenario where a non-[defaulting party](https://prime.greeks.live/area/defaulting-party/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) had no obligation to pay what it owed on the terminated trades. This provision was essentially a “[walkaway clause](https://prime.greeks.live/area/walkaway-clause/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite).”

> The First Method’s design created an asymmetric payment obligation that was ultimately deemed incompatible with principles of fairness and legal enforceability in insolvency proceedings.

This mechanism was engineered with a specific, albeit flawed, logic in mind. It was intended to act as a powerful deterrent against default. The prospect of a counterparty being able to terminate losing trades without any payment obligation was thought to create a strong incentive for all market participants to maintain their financial health and honor their commitments.

The design viewed default not as a neutral credit event but as a breach of contract so severe that it justified a punitive financial outcome. The protocol was built on the premise that the stability of the system was best served by imposing a harsh penalty on any entity that failed to perform.

However, this theoretical deterrent proved to be a source of profound instability in practice. The primary issue arose in the context of bankruptcy and insolvency law. Many legal jurisdictions, particularly in the United States, viewed these walkaway clauses with deep suspicion. The principle of pari passu, which dictates that all unsecured creditors in a bankruptcy should be treated equally, was directly challenged by the [First Method](https://prime.greeks.live/area/first-method/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite).

An insolvency administrator for a defaulted entity would see a valuable asset ▴ the net amount owed to the estate by an out-of-the-money counterparty ▴ vanish simply because that counterparty had elected the First Method. This was seen as an unjust enrichment of one creditor at the expense of all others, and courts were increasingly unwilling to enforce such outcomes. The result was legal uncertainty, a condition that is toxic to the smooth functioning of financial markets. The very mechanism designed to deter default was now creating significant legal risk, undermining the certainty that the ISDA [Master Agreement](https://prime.greeks.live/area/master-agreement/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) was created to provide.

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## Strategy

The strategic decision to abolish the First Method and standardize the close-out process under a single, unified framework in the 2002 ISDA Master Agreement was a direct consequence of its predecessor’s structural failures. The market required a system that was not only [commercially reasonable](https://prime.greeks.live/area/commercially-reasonable/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) but also legally robust across different jurisdictions, particularly in the crucible of a major counterparty’s insolvency. The evolution from the 1992 Agreement’s optionality to the 2002 Agreement’s singular approach reflects a maturation in the market’s understanding of [systemic risk](https://prime.greeks.live/area/systemic-risk/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite).

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## Comparing the 1992 Payment Methodologies

The [1992 ISDA](https://prime.greeks.live/area/1992-isda/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) Master Agreement presented counterparties with a choice that had profound implications upon default. This choice was between two distinct payment protocols, the First Method and the [Second Method](https://prime.greeks.live/area/second-method/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite). Understanding their operational differences is essential to grasping the strategic imperative for the 2002 reforms.

### Table 1 ▴ Comparison of 1992 ISDA Payment Methods

| Feature | First Method (Limited Two-Way Payments) | Second Method (Full Two-Way Payments) |
| --- | --- | --- |
| Payment Obligation | The non-defaulting party pays only if the net close-out amount is in its favor. If the non-defaulting party is out-of-the-money, it has no obligation to pay the defaulting party. | Payment is required regardless of which party is in-the-money. The net amount owed is always paid, ensuring a full two-way exchange of value. |
| Core Principle | Acts as a punitive measure and deterrent against default. Often described as a “walkaway clause.” | Focuses on a fair and equitable settlement of terminated transactions based on their market value at the time of close-out. |
| Insolvency Treatment | Legally contentious. Often viewed as unenforceable in jurisdictions (like the U.S.) where it violates the principle of equal treatment for creditors in bankruptcy. | Legally robust and generally enforceable in insolvency. It aligns with bankruptcy principles by preserving the net value of the derivatives portfolio for the defaulting party’s estate. |
| Systemic Risk Impact | Increases systemic risk by creating legal uncertainty and the potential for disorderly unwinds. It could incentivize races to terminate and lead to value destruction. | Reduces systemic risk by providing a clear, predictable, and enforceable mechanism for settling obligations, thereby promoting market stability. |

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## The Catalyst for Change the Enron Default

While banking regulators and legal experts had long been wary of the First Method, the collapse of Enron in 2001 served as the definitive real-world stress test that exposed its flaws in spectacular fashion. Enron was a party to thousands of derivatives contracts governed by ISDA Master Agreements. When it filed for bankruptcy, its many counterparties initiated the close-out process.

Those counterparties who were in-the-money sought payment from the Enron estate. Conversely, those who were out-of-the-money and had elected the First Method attempted to invoke their “walkaway” right, refusing to pay the millions they owed to the estate. This created a chaotic and inequitable situation. Enron’s bankruptcy administrators vigorously challenged the enforceability of these walkaway clauses, arguing they constituted an impermissible forfeiture of estate assets under the U.S. Bankruptcy Code.

The ensuing legal battles were costly, time-consuming, and created profound uncertainty for all market participants. It became clear that the First Method was not a stable foundation upon which to build a global market. It undermined the very predictability that the ISDA framework was designed to deliver.

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## What Is the Close out Amount Framework?

The drafters of the [2002 ISDA](https://prime.greeks.live/area/2002-isda/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite) Master Agreement responded to this crisis by completely overhauling the termination payment mechanism. They eliminated the First and Second Methods, along with the associated “Market Quotation” and “Loss” valuation methods, and replaced them with a single, unified concept ▴ the “[Close-out Amount](https://prime.greeks.live/area/close-out-amount/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite).”

The Close-out Amount is a single, net figure representing the non-defaulting party’s total gains and losses, plus costs, arising from the termination of all transactions under the agreement. Its calculation is guided by a principle of “[commercial reasonableness](https://prime.greeks.live/area/commercial-reasonableness/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite).” The determining party must act in good faith and use procedures that are commercially reasonable to arrive at a fair value. This new framework was a strategic masterstroke for several reasons:

- **Flexibility and Robustness** ▴ It provides flexibility in valuation, allowing the use of various sources. This includes obtaining quotes from third-party dealers, using internal pricing models, or considering the cost of entering into replacement trades. This flexibility is particularly valuable for illiquid or complex transactions where obtaining firm market quotes might be impossible.

- **Legal Certainty** ▴ By mandating a full two-way payment based on a fair valuation, the Close-out Amount aligns with the principles of insolvency law in major jurisdictions. It eliminates the contentious “walkaway” feature, making the outcome of a close-out predictable and enforceable.

- **Fairness and Equity** ▴ The core of the Close-out Amount is to produce a result that reflects the genuine economic value of the terminated trades. It prevents a non-defaulting party from reaping a windfall at the expense of a defaulting party’s other creditors, thereby promoting a more equitable distribution of assets in bankruptcy.

> The introduction of the Close-out Amount represented a fundamental shift from a punitive model to a compensatory one, prioritizing market stability over individual counterparty advantage.

This strategic pivot to the Close-out Amount was a definitive statement by the industry. It acknowledged that the stability of the financial system depends on predictable, fair, and legally sound protocols. The abolition of the First Method was the necessary removal of a faulty component that threatened the integrity of the entire derivatives market architecture.

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## Execution

The transition from the bifurcated system of the 1992 ISDA to the unified Close-out Amount framework of the 2002 ISDA was more than a legal refinement; it was a fundamental re-engineering of the market’s operational protocol for managing counterparty default. Executing a close-out under the 2002 Agreement requires a disciplined, systematic approach grounded in the principle of commercial reasonableness. This section provides a detailed operational playbook for this process, including quantitative analysis and a scenario-based examination of its systemic impact.

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## The Operational Playbook for Close out Execution

Upon the occurrence of an Event of Default, the non-defaulting party must execute a series of precise steps to ensure the close-out process is effective, defensible, and compliant with the 2002 ISDA Master Agreement. The following serves as a procedural guide for a financial institution’s operations and legal teams.

- **Verification and Designation of [Early Termination Date](https://prime.greeks.live/area/early-termination-date/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite)**

<li>**Action** ▴ Immediately upon learning of a potential Event of Default (e.g. Bankruptcy filing, Failure to Pay), the legal and credit risk teams must verify the event against the definitions in Section 5(a) of the ISDA Agreement.

- **Execution** ▴ A formal, internal record must be created, documenting the specific default event and the time it occurred. The non-defaulting party must then designate an Early Termination Date by serving a notice to the defaulting party. This notice must be delivered in accordance with the notice provisions of the agreement. The timing is critical; the designation crystallizes the portfolio of transactions to be terminated.

</li>
- **Portfolio Reconciliation and Valuation Snapshot**

<li>**Action** ▴ The trading and middle-office teams must perform an immediate and complete reconciliation of all outstanding transactions under the governing Master Agreement.

- **Execution** ▴ Generate a definitive list of all trades, including their notional amounts, maturity dates, and key economic terms. Concurrently, risk management systems must take a valuation snapshot of the entire portfolio at the time of the Early Termination Date. This forms the baseline for the Close-out Amount calculation.

</li>
- **Determination of The Close Out Amount**

<li>**Action** ▴ The determining party (typically the non-defaulting party) must calculate its total losses and costs associated with the termination. This calculation must be performed in good faith and using commercially reasonable procedures.

- **Execution** ▴ This is a multi-faceted process. The firm must gather valuation data from one or more sources, as outlined below. The choice of sources must be justifiable.

<li>**Replacement Trade Costs** ▴ Solicit firm quotes from other market makers for entering into transactions that would replace the terminated ones.

- **Indicative Quotes** ▴ If firm quotes are unavailable (e.g. for illiquid products), obtain indicative quotes from dealers.

- **Internal Model-Based Valuations** ▴ For highly bespoke or complex derivatives, the firm may use its own internal, validated pricing models. The inputs and methodology for these models must be thoroughly documented and defensible.

- **Hedging Costs** ▴ All costs associated with unwinding any hedges related to the terminated transactions must be calculated and included. This includes any bid-ask spreads paid, brokerage fees, or market impact costs.

</li>

</li>
- **Preparation and Delivery of The Calculation Statement**

<li>**Action** ▴ Prepare a detailed statement showing the calculation of the Close-out Amount.

- **Execution** ▴ The statement must be delivered to the defaulting party (or its insolvency administrator). It should clearly show, in reasonable detail, the gross valuations for each terminated transaction, any costs incurred, and the final net amount payable. Transparency is key to demonstrating commercial reasonableness and mitigating legal challenges.

</li>
- **Netting and Final Payment**

<li>**Action** ▴ The calculated Close-out Amount is netted against any other amounts owed between the parties under the agreement (Unpaid Amounts).

- **Execution** ▴ A single net payment is made. If the Close-out Amount is payable to the non-defaulting party, a claim is lodged with the defaulting party’s estate. If the amount is payable to the defaulting party, the non-defaulting party makes the payment, fulfilling its obligation under the full two-way payment system.

</li>

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## How Is a Close out Amount Quantitatively Modeled?

The principle of commercial reasonableness is underpinned by rigorous quantitative analysis. Consider a hypothetical scenario where a bank (“Global Consolidated Bank”) must close out its portfolio with a defaulted hedge fund. The portfolio consists of several vanilla and exotic derivatives. The bank, as the determining party, must construct a defensible Close-out Amount.

### Table 2 ▴ Hypothetical Close-Out Amount Calculation

| Transaction ID | Product | Notional (USD) | Mark-to-Market (to Bank) | Valuation Source | Unwind/Replacement Cost | Net Economic Impact |
| --- | --- | --- | --- | --- | --- | --- |
| IRS-001 | 5Y Interest Rate Swap | 100,000,000 | + $1,500,000 | Replacement Quotes (3 Dealers) | – $50,000 | + $1,450,000 |
| FXO-002 | EUR/USD Call Option | 50,000,000 | – $750,000 | Internal Volatility Surface Model | – $25,000 | – $775,000 |
| CDS-003 | Credit Default Swap | 25,000,000 | + $2,200,000 | Consensus Dealer Quotes | – $75,000 | + $2,125,000 |
| SWPT-004 | Bespoke Inflation Swaption | 75,000,000 | – $1,200,000 | Internal Model (Documented) | – $150,000 | – $1,350,000 |

In this model, the bank synthesizes information from multiple sources. For the liquid interest rate swap, it obtains firm replacement quotes. For the exotic inflation swaption, where no market exists for a replacement, it relies on its internal, audited pricing model.

The key is the documentation and the consistent application of a reasonable methodology. The bank must be prepared to defend each input and calculation as commercially reasonable in a court of law.

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## Predictive Scenario Analysis a Tale of Two Defaults

To fully appreciate the systemic upgrade of the 2002 Agreement, we can analyze a single catastrophic event through the lens of both the old and new protocols. Let us imagine the default of a large, systemically important commodity trading house, “Mercuria Trading,” in a volatile market.

**Scenario A ▴ The 1992 ISDA with First Method Elected**

Mercuria defaults, and its thousands of derivatives contracts are subject to termination. A significant portion of its counterparties, particularly aggressive hedge funds, had negotiated for the First Method to be applied. The immediate aftermath is chaos. Counterparties who are in-the-money immediately file claims against the Mercuria bankruptcy estate.

However, a large number of counterparties find themselves deeply out-of-the-money. One such counterparty, “Apex Capital,” is out-of-the-money to Mercuria to the tune of $250 million on a series of oil swaps.

Citing the First Method, Apex Capital sends a termination notice stating that no payment is due. Mercuria’s bankruptcy trustee immediately files a lawsuit against Apex, arguing the walkaway clause is an unenforceable penalty under [bankruptcy law](https://prime.greeks.live/area/bankruptcy-law/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite). This legal battle freezes the $250 million. Now, multiply this scenario by dozens of other counterparties in a similar position.

The total value of Mercuria’s legitimate claims against its counterparties is trapped in litigation. This has severe consequences. First, it depletes the assets available to Mercuria’s other creditors, including its employees and bondholders. Second, it creates massive uncertainty across the market.

No one knows if these walkaway clauses will be upheld. Rumors fly, credit lines are pulled from firms perceived to have large exposures to Mercuria, and the market instability deepens. The First Method, designed as a deterrent, has become an accelerant for systemic contagion.

**Scenario B ▴ The 2002 ISDA and the Close-out Amount**

Now, let us replay the same default, but assume all of Mercuria’s agreements are 2002 ISDAs. When Mercuria defaults, the process is orderly and predictable. Apex Capital, still out-of-the-money by $250 million, knows its legal position is clear. It cannot walk away.

It is obligated to perform a commercially reasonable valuation of the terminated trades, a process which it knows will be scrutinized by the trustee. Apex calculates the Close-out Amount, which confirms its $250 million liability. It delivers a calculation statement and pays the $250 million into the Mercuria bankruptcy estate.

> The 2002 ISDA framework transforms a chaotic, value-destructive legal battle into an orderly and predictable operational process.

The result is profoundly different. The Mercuria estate is not deprived of its assets. The funds are available for a fair distribution to all creditors. There are no protracted legal battles over the fundamental payment obligation.

Market participants have clarity. They can accurately assess their financial position and the credit risk of their counterparties. The system works as intended, containing the impact of the default rather than amplifying it. The execution of the Close-out Amount protocol proves to be a powerful mechanism for preserving value and maintaining market stability, demonstrating why its adoption was a critical step in the evolution of [financial market infrastructure](https://prime.greeks.live/area/financial-market-infrastructure/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite).

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## References

- ISDA. “2002 Master Agreement.” International Swaps and Derivatives Association, Inc. 2002.

- Flavell, Antony. “Sovereign Default and the ISDA Master Agreement.” Journal of International Banking and Financial Law, vol. 27, no. 3, 2012, pp. 109-112.

- Rook, Matthew. “Close-out Netting Under the ISDA Master Agreement ▴ A Comparison of the 1992 and 2002 Versions.” Latham & Watkins White Paper, 2003.

- Mengle, David. “The Importance of Close-out Netting.” ISDA Research Note, Series 1, No. 1, 2010.

- Henderson, Schuyler K. “Henderson on Derivatives.” LexisNexis, 2nd ed. 2011.

- Go-Aco, Jose. “An Analysis of the ISDA Master Agreement.” Journal of Financial Regulation and Compliance, vol. 15, no. 4, 2007, pp. 395-409.

- Werner, Simon. “The ISDA Master Agreement and the Financial Crisis.” Capital Markets Law Journal, vol. 5, no. 1, 2010, pp. 84-102.

- International Swaps and Derivatives Association. “Collateral and the ISDA Master Agreement ▴ A Guide for Corporates.” ISDA, 2013.

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## Reflection

The systemic shift from the First Method to the Close-out Amount framework offers a permanent lesson in financial market architecture. It demonstrates that the long-term stability of a system is a direct function of the fairness and legal durability of its core protocols. The perceived strategic advantage of a punitive, one-sided clause ultimately gave way to the operational necessity of a predictable, equitable, and robust settlement mechanism.

This evolution compels us to ask a critical question of our current market structures ▴ where do we still allow for ambiguity or perceived short-term advantages that could, under stress, undermine the integrity of the entire system? The principles that led to the abolition of the First Method ▴ the prioritization of legal certainty, systemic stability, and commercial reasonableness ▴ remain the essential blueprint for building resilient financial markets for the future.

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## Glossary

<a href="https://prime.greeks.live/area/2002-isda-master-agreement/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
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## 2002 Isda Master Agreement

Meaning ▴ The 2002 ISDA Master Agreement is the foundational legal document published by the International Swaps and Derivatives Association, designed to standardize the contractual terms for privately negotiated (Over-the-Counter) derivatives transactions between two counterparties globally. </a><a href="https://prime.greeks.live/area/isda-master-agreement/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
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## Isda Master Agreement

Meaning ▴ The ISDA Master Agreement, while originating in traditional finance, serves as a crucial foundational legal framework for institutional participants engaging in over-the-counter (OTC) crypto derivatives trading and complex RFQ crypto transactions. </a><a href="https://prime.greeks.live/area/limited-two-way-payments/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
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## Limited Two-Way Payments

Meaning ▴ Limited Two-Way Payments describes transactional systems or channels permitting value transfer in both directions between participants, yet subject to constraints on transaction types, magnitudes, or frequencies, or necessitating specific pre-authorization or settlement protocols. </a><a href="https://prime.greeks.live/area/non-defaulting-party/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
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## Non-Defaulting Party

Meaning ▴ A Non-Defaulting Party refers to the participant in a financial contract, such as a derivatives agreement or lending facility within the crypto ecosystem, that has fully adhered to its obligations while the other party has failed to do so. </a><a href="https://prime.greeks.live/area/defaulting-party/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
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## Defaulting Party

Meaning ▴ A Defaulting Party is an entity that fails to satisfy its contractual obligations under a financial agreement, such as a loan, a derivatives contract, or a margin requirement. </a><a href="https://prime.greeks.live/area/walkaway-clause/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![Central institutional Prime RFQ, a segmented sphere, anchors digital asset derivatives liquidity. Intersecting beams signify high-fidelity RFQ protocols for multi-leg spread execution, price discovery, and counterparty risk mitigation](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-cross-asset-rfq-execution-hub.jpg)

## Walkaway Clause

Meaning ▴ A Walkaway Clause, also known as a limited two-way payment provision, is a contractual term permitting a non-defaulting party in a derivatives or financing agreement to terminate the contract upon a counterparty's default. </a><a href="https://prime.greeks.live/area/first-method/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A precision-engineered metallic cross-structure, embodying an RFQ engine's market microstructure, showcases diverse elements. One granular arm signifies aggregated liquidity pools and latent liquidity](https://options.greeks.live/wp-content/uploads/2025/07/institutional-rfq-engine-microstructure-for-atomic-settlement.jpg)

## First Method

Meaning ▴ The "First Method" refers to a specific approach within the context of trade allocation and execution in financial markets, where the earliest submitted orders from clients are prioritized for execution against available market liquidity. </a><a href="https://prime.greeks.live/area/master-agreement/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A sleek, futuristic apparatus featuring a central spherical processing unit flanked by dual reflective surfaces and illuminated data conduits. This system visually represents an advanced RFQ protocol engine facilitating high-fidelity execution and liquidity aggregation for institutional digital asset derivatives](https://options.greeks.live/wp-content/uploads/2025/07/prime-os-digital-asset-options-rfq-liquidity-aggregation-interface.jpg)

## Master Agreement

Meaning ▴ A Master Agreement is a standardized, foundational legal contract that establishes the overarching terms and conditions governing all future transactions between two parties for specific financial instruments, such as derivatives or foreign exchange. </a><a href="https://prime.greeks.live/area/commercially-reasonable/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![An institutional-grade platform's RFQ protocol interface, with a price discovery engine and precision guides, enables high-fidelity execution for digital asset derivatives. Integrated controls optimize market microstructure and liquidity aggregation within a Principal's operational framework](https://options.greeks.live/wp-content/uploads/2025/07/proprietary-institutional-digital-asset-derivatives-rfq-protocol-engine-facilitating-high-fidelity-execution-and-granular-market-microstructure-analysis-for-prime-os.jpg)

## Commercially Reasonable

Meaning ▴ "Commercially Reasonable" is a legal and business standard requiring parties to a contract to act in a practical, prudent, and sensible manner, consistent with prevailing industry practices and good faith. </a><a href="https://prime.greeks.live/area/systemic-risk/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![An advanced digital asset derivatives system features a central liquidity pool aperture, integrated with a high-fidelity execution engine. This Prime RFQ architecture supports RFQ protocols, enabling block trade processing and price discovery](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-rfq-protocol-execution-system-architecture.jpg)

## Systemic Risk

Meaning ▴ Systemic Risk, within the evolving cryptocurrency ecosystem, signifies the inherent potential for the failure or distress of a single interconnected entity, protocol, or market infrastructure to trigger a cascading, widespread collapse across the entire digital asset market or a significant segment thereof. </a><a href="https://prime.greeks.live/area/second-method/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A central teal sphere, representing the Principal's Prime RFQ, anchors radiating grey and teal blades, signifying diverse liquidity pools and high-fidelity execution paths for digital asset derivatives. Transparent overlays suggest pre-trade analytics and volatility surface dynamics](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-rfq-and-market-microstructure.jpg)

## Second Method

Meaning ▴ The "Second Method" refers to an alternative or supplementary approach utilized for computation, valuation, or process execution, distinct from a primary method. </a><a href="https://prime.greeks.live/area/1992-isda/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A central glowing core within metallic structures symbolizes an Institutional Grade RFQ engine. This Intelligence Layer enables optimal Price Discovery and High-Fidelity Execution for Digital Asset Derivatives, streamlining Block Trade and Multi-Leg Spread Atomic Settlement](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-rfq-engine-microstructure-core.jpg)

## 1992 Isda

Meaning ▴ The 1992 ISDA Master Agreement, a foundational contractual framework developed by the International Swaps and Derivatives Association, provides a standardized bilateral legal and operational structure for privately negotiated over-the-counter (OTC) derivatives transactions. </a><a href="https://prime.greeks.live/area/close-out-amount/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A marbled sphere symbolizes a complex institutional block trade, resting on segmented platforms representing diverse liquidity pools and execution venues. This visualizes sophisticated RFQ protocols, ensuring high-fidelity execution and optimal price discovery within dynamic market microstructure for digital asset derivatives](https://options.greeks.live/wp-content/uploads/2025/07/principal-rfq-aggregation-digital-asset-derivative-execution-optimization.jpg)

## Close-Out Amount

Meaning ▴ The Close-Out Amount represents the aggregated net sum due between two parties upon the early termination or default of a master agreement, encompassing all outstanding obligations across multiple transactions. </a><a href="https://prime.greeks.live/area/2002-isda/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![Central polished disc, with contrasting segments, represents Institutional Digital Asset Derivatives Prime RFQ core. A textured rod signifies RFQ Protocol High-Fidelity Execution and Low Latency Market Microstructure data flow to the Quantitative Analysis Engine for Price Discovery](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-rfq-execution-core-system-high-fidelity.jpg)

## 2002 Isda

Meaning ▴ The 2002 ISDA, or the 2002 ISDA Master Agreement, represents the prevailing global standard contractual framework developed by the International Swaps and Derivatives Association for documenting over-the-counter (OTC) derivatives transactions between two parties. </a><a href="https://prime.greeks.live/area/commercial-reasonableness/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![Stacked precision-engineered circular components, varying in size and color, rest on a cylindrical base. This modular assembly symbolizes a robust Crypto Derivatives OS architecture, enabling high-fidelity execution for institutional RFQ protocols](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-rfq-protocol-architecture-optimized-for-high-fidelity-execution.jpg)

## Commercial Reasonableness

Meaning ▴ Commercial Reasonableness, in the context of crypto institutional options trading and RFQ systems, signifies the objective standard by which the terms, conditions, and pricing of a transaction are evaluated for their alignment with prevailing market practices, economic rationality, and prudent business judgment among sophisticated participants. </a><a href="https://prime.greeks.live/area/early-termination-date/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A sophisticated metallic mechanism with integrated translucent teal pathways on a dark background. This abstract visualizes the intricate market microstructure of an institutional digital asset derivatives platform, specifically the RFQ engine facilitating private quotation and block trade execution](https://options.greeks.live/wp-content/uploads/2025/07/systemic-framework-for-institutional-digital-asset-derivatives-rfq-price-discovery-and-atomic-settlement.jpg)

## Early Termination Date

Meaning ▴ An Early Termination Date refers to a specific, contractually defined point in time, prior to a financial instrument's scheduled maturity, at which the agreement can be concluded. </a><a href="https://prime.greeks.live/area/bankruptcy-law/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![Precisely engineered circular beige, grey, and blue modules stack tilted on a dark base. A central aperture signifies the core RFQ protocol engine](https://options.greeks.live/wp-content/uploads/2025/07/core-prime-os-rfq-engine-digital-asset-derivatives-trading-system-execution.jpg)

## Bankruptcy Law

Meaning ▴ Bankruptcy Law constitutes the legal framework governing the resolution of financial insolvency for individuals and entities, providing a structured process for debtors to discharge debts or reorganize, and for creditors to receive a distribution of assets. </a><a href="https://prime.greeks.live/area/financial-market-infrastructure/?utm_source=options.greeks.live&utm_medium=referral&utm_campaign=satellite" class="glossary-item-box">
![A sophisticated RFQ engine module, its spherical lens observing market microstructure and reflecting implied volatility. This Prime RFQ component ensures high-fidelity execution for institutional digital asset derivatives, enabling private quotation for block trades](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-rfq-engine-for-best-execution-protocol.jpg)

## Financial Market Infrastructure

Meaning ▴ Financial Market Infrastructure (FMI) encompasses the intricate network of systems and organizational structures that facilitate the clearing, settlement, and recording of financial transactions, forming the foundational backbone of global financial markets. </a>

**Tags:** [Close-Out Amount](https://options.greeks.live/area/close-out-amount/), [Close-Out Netting](https://options.greeks.live/area/close-out-netting/), [Systemic Risk](https://options.greeks.live/area/systemic-risk/), [Master Agreement](https://options.greeks.live/area/master-agreement/), [First Method](https://options.greeks.live/area/first-method/), [ISDA Master Agreement](https://options.greeks.live/area/isda-master-agreement/)	

## Discover More

- 
### [What Are the Primary Legal Protections for Netting Agreements during a Counterparty’s Bankruptcy?](https://options.greeks.live/question/what-are-the-primary-legal-protections-for-netting-agreements-during-a-counterpartys-bankruptcy/)
![A symmetrical, angular mechanism with illuminated internal components against a dark background, abstractly representing a high-fidelity execution engine for institutional digital asset derivatives. This visualizes the market microstructure and algorithmic trading precision essential for RFQ protocols, multi-leg spread strategies, and atomic settlement within a Principal OS framework, ensuring capital efficiency.](https://options.greeks.live/wp-content/uploads/2025/07/precision-execution-engine-for-institutional-digital-asset-derivatives-rfq.jpg)

The primary legal protections for netting agreements are statutory safe harbors that exempt them from the automatic stay in bankruptcy.

- 
### [Why Was the “First Method” or One-Way Payment System Removed in the 2002 ISDA Master Agreement?](https://options.greeks.live/question/why-was-the-first-method-or-one-way-payment-system-removed-in-the-2002-isda-master-agreement/)
![A central toroidal structure and intricate core are bisected by two blades: one algorithmic with circuits, the other solid. This symbolizes an institutional digital asset derivatives platform, leveraging RFQ protocols for high-fidelity execution and price discovery. It optimizes market microstructure for capital efficiency, managing multi-leg spreads and latent liquidity within a Principal's operational framework.](https://options.greeks.live/wp-content/uploads/2025/07/digital-asset-derivatives-rfq-execution-hub-integrating-algorithmic-intelligence-for-high-fidelity-price-discovery-and-liquidity-aggregation.jpg)

The First Method was removed to enforce equitable two-way payments, align with regulatory capital rules, and enhance overall market stability.

- 
### [What Are the Primary Differences in the Close-Out Calculation between the Two Agreements?](https://options.greeks.live/question/what-are-the-primary-differences-in-the-close-out-calculation-between-the-two-agreements/)
![Two robust, intersecting structural beams, beige and teal, form an 'X' against a dark, gradient backdrop with a partial white sphere. This visualizes institutional digital asset derivatives RFQ and block trade execution, ensuring high-fidelity execution and capital efficiency through Prime RFQ FIX Protocol integration for atomic settlement.](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-rfq-protocol-optimized-execution.jpg)

The 2002 ISDA Agreement replaces the 1992's subjective rationality with an objective, commercially reasonable standard for close-out.

- 
### [How Does the 2002 ISDA Master Agreement Differ from the 1992 Version regarding Netting?](https://options.greeks.live/question/how-does-the-2002-isda-master-agreement-differ-from-the-1992-version-regarding-netting/)
![A cutaway reveals the intricate market microstructure of an institutional-grade platform. Internal components signify algorithmic trading logic, supporting high-fidelity execution via a streamlined RFQ protocol for aggregated inquiry and price discovery within a Prime RFQ.](https://options.greeks.live/wp-content/uploads/2025/07/high-fidelity-execution-for-digital-asset-derivatives-via-rfq-protocols.jpg)

The 2002 ISDA Agreement enhances netting by replacing rigid valuation with a commercially reasonable standard for greater certainty.

- 
### [What Are the Strategic Implications of the Set off Provision in the 2002 Isda Agreement?](https://options.greeks.live/question/what-are-the-strategic-implications-of-the-set-off-provision-in-the-2002-isda-agreement/)
![A sophisticated metallic mechanism with a central pivoting component and parallel structural elements, indicative of a precision engineered RFQ engine. Polished surfaces and visible fasteners suggest robust algorithmic trading infrastructure for high-fidelity execution and latency optimization. Circular depressions imply aggregated inquiry points, facilitating price discovery for institutional digital asset derivatives within a Prime RFQ.](https://options.greeks.live/wp-content/uploads/2025/07/precision-engineered-mechanism-for-institutional-digital-asset-derivatives-rfq-and-high-fidelity-execution.jpg)

The 2002 ISDA set-off provision is a critical credit defense mechanism, enabling a single net settlement upon counterparty default.

- 
### [How Does the ISDA Master Agreement Mitigate Counterparty Risk?](https://options.greeks.live/question/how-does-the-isda-master-agreement-mitigate-counterparty-risk/)
![A transparent blue sphere, symbolizing precise Price Discovery and Implied Volatility, is central to a layered Principal's Operational Framework. This structure facilitates High-Fidelity Execution and RFQ Protocol processing across diverse Aggregated Liquidity Pools, revealing the intricate Market Microstructure of Institutional Digital Asset Derivatives.](https://options.greeks.live/wp-content/uploads/2025/07/digital-asset-derivatives-rfq-execution-system-microstructure-principal-framework.jpg)

The ISDA Master Agreement is an operating system for mitigating counterparty risk via legally enforceable netting and collateralization.

- 
### [How Does the ISDA Master Agreement Attempt to Mitigate Cherry Picking Risk?](https://options.greeks.live/question/how-does-the-isda-master-agreement-attempt-to-mitigate-cherry-picking-risk/)
![Translucent, overlapping geometric shapes symbolize dynamic liquidity aggregation within an institutional grade RFQ protocol. Central elements represent the execution management system's focal point for precise price discovery and atomic settlement of multi-leg spread digital asset derivatives, revealing complex market microstructure.](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-derivatives-rfq-protocol-driving-optimal-liquidity-aggregation-for-precise-price-discovery-and-atomic-settlement.jpg)

The ISDA Master Agreement treats all transactions as one indivisible contract, enabling a net settlement that contractually defeats cherry-picking.

- 
### [How Does the 2002 ISDA’S Close-Out Amount Calculation Differ from the 1992 Version’s Loss Method?](https://options.greeks.live/question/how-does-the-2002-isdas-close-out-amount-calculation-differ-from-the-1992-versions-loss-method/)
![Abstract geometric forms converge at a central point, symbolizing institutional digital asset derivatives trading. This depicts RFQ protocol aggregation and price discovery across diverse liquidity pools, ensuring high-fidelity execution. The structure reflects a robust Prime RFQ optimizing capital efficiency for multi-leg spreads.](https://options.greeks.live/wp-content/uploads/2025/07/institutional-digital-asset-rfq-execution-microstructure-core-liquidity-hub.jpg)

The 2002 ISDA's Close-Out Amount mandates an objective, commercially reasonable process using diverse inputs, replacing the 1992's subjective Loss calculation.

- 
### [Can Parties Still Use a 1992 ISDA Master Agreement and How Do They Incorporate 2002 Provisions?](https://options.greeks.live/question/can-parties-still-use-a-1992-isda-master-agreement-and-how-do-they-incorporate-2002-provisions/)
![Abstract geometric forms depict a sophisticated Principal's operational framework for institutional digital asset derivatives. Sharp lines and a control sphere symbolize high-fidelity execution, algorithmic precision, and private quotation within an advanced RFQ protocol. This visualizes market microstructure optimization and robust capital efficiency.](https://options.greeks.live/wp-content/uploads/2025/07/prime-os-architecture-for-optimized-digital-asset-derivatives-rfq-protocols.jpg)

Parties can use the 1992 ISDA but incorporate 2002's superior risk provisions via bilateral amendment or the ISDA Protocol.

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---

**Original URL:** https://options.greeks.live/question/why-was-the-first-method-of-payment-abolished-in-the-2002-isda-agreement/
