As this piece is being written (June 2026), market participants are once again watching developments in the Gulf and the Strait of Hormuz. Airlines, refiners, commodity traders, and energy-intensive businesses face a familiar question: how should they protect themselves against potentially violent movements in energy prices?
The answer, more often than not, involves derivatives. The global over-the-counter derivatives market runs into the hundreds of trillions of dollars of notional value and sits at the heart of modern financial markets.
At their best, derivatives are among the most important financial innovations ever developed. They allow risk to be transferred from those who do not wish to bear it to those who do. They help businesses plan, investors manage uncertainty, and markets function more efficiently.
Yet derivatives have a curious characteristic. Instruments designed to manage risk often generate some of the most complex disputes in commercial law.
I started my career as a junior derivatives trader at roughly the same time the House of Lords handed down its judgment in Hazell v Hammersmith and Fulham London Borough Council [1992] 2 AC 1. Over the next twenty-five years I watched variations on the same underlying theme play out repeatedly across interest rate, currency, and commodity markets. The details changed. The products became more sophisticated. The disputes became larger and more international. The underlying problem remained remarkably consistent: a hedge that appears sensible when it is entered into can become highly contentious when viewed through the lens of hindsight.
Article 1 of this series introduced the case for mediation in banking and finance disputes, anchored on private credit and on the arbitration between Standard Chartered and Ceylon Petroleum Corporation.¹ This piece moves to derivatives and structured products - a market I spent a career inside, and one where the case for mediation is, if anything, stronger still.
The first major lesson of derivatives litigation was that market sophistication does not eliminate legal uncertainty.
At one point, the London Borough of Hammersmith and Fulham accounted for half a per cent of all swaps trading across the world, and a total of 137 councils were involved in similar transactions, widely regarded at the time as legitimate treasury management tools. Hammersmith had entered into the swaps ostensibly as part of "debt management," taking positions that would benefit if interest rates fell and suffer if they rose.
The House of Lords declared in January 1991 that local authorities had no power to engage in interest rate swap agreements because they were beyond the council's borrowing powers, and that all the contracts were void. The consequences were profound. Thousands of transactions across the market were thrown into doubt. The banks that had sold the swaps - some of which I would go on to work with and in many cases to compete against - had relied on legal advice that the transactions were within the councils' powers. They found themselves holding void contracts and facing the unwinding of a vast book of positions. Some banks eventually recovered sums from the councils, but only after further years of litigation over restitution and loss allocation - itself bitterly contested, and in important respects, unsuccessful for the banks.
The constitutional question required judicial resolution. Much of what followed concerned the commercial consequences of the decision rather than the constitutional question itself. Hazell established a theme that remains relevant today: the most important dispute is often not the one market participants expected to have.
The second major category of derivatives disputes concerns product complexity, and it is the one I can speak to most directly from my own experience on the structuring and marketing side of the business.
Following the global financial crisis, a wave of litigation emerged concerning interest rate hedging products sold to SMEs. Many borrowers entered into swaps, collars, and structured hedging arrangements believing they were protecting themselves against rising rates. In one such case, Green & Rowley had a £1.5 million loan liability and entered into a matching interest rate swap in 2005 as a hedge; base rates remained largely flat until 2006, when they rose sharply, then fell steadily between October 2008 and March 2009 from 5% to 0.5%, leaving Green & Rowley as significant net payers under the swap. The High Court and Court of Appeal both rejected the mis-selling claim, finding that the bank had not made any misstatement that the customer had relied on to their detriment, and that the claimants had understood how the product worked. Not every case went the same way. In Crestsign, a family business alleged that an interest rate hedging product had been mis-sold. Although the court ultimately rejected the claim, the case focused attention on the role of contractual disclaimers, contractual estoppel, risk warnings and the limits of banks' advisory duties.
From my own experience on the structuring side of the market, the reality these cases reveal is often more nuanced than the language of "mis-selling" suggests. A genuine tension exists between what a client needs and what a client wants. A straightforward hedge - a vanilla swap or forward - may meet the client's underlying risk management objective perfectly. But a competitor bank is offering something more sophisticated, structured to offer a more attractive headline rate in exchange for a payoff profile that behaves very differently if the market moves against the client - a target redemption forward, say, rather than a simple cap. The client, often encouraged by the apparent sophistication of the structure, wants the enhanced economics. The bank faces a real commercial dilemma: decline to match the complexity on offer elsewhere, and the business goes to a competitor; match it, and the bank has sold a product that is harder for the client to understand, harder to value during its life, and harder to unwind cleanly if it goes wrong.
The products that generate the most disputes are rarely the simplest ones. They are the ones where the gap between what the client believed they were buying and what they actually held only becomes apparent after the market moves. These disputes are as much about communication, expectation, and understanding as they are about legal rights - and the same is true of the restructurings that often follow a hedge moving sharply out of the money, where a client facing a crystallising loss is offered the chance to extend the tenor or increase the notional rather than close out now. That can be a sensible commercial accommodation. It can equally compound a problem that was always going to surface eventually - and I watched both versions play out more than once.
If mis-selling disputes concern understanding, valuation disputes concern something even more difficult: determining what a derivatives position is actually worth, particularly once a market has stopped behaving normally.
The collapse of Lehman Brothers generated a vast body of litigation concerning the operation of ISDA documentation during genuine market dislocation. In the Firth Rixson litigation, several out-of-the-money corporate counterparties had declined to terminate their transactions governed by ISDA Master Agreements with Lehman Brothers International Europe, relying on Section 2(a)(iii) of the agreement to withhold payments that would otherwise have fallen due.
The Court of Appeal was ultimately required to resolve a dispute over whether that suspension of payment obligations was permanent or merely temporary, and whether the suspension could continue indefinitely regardless of the transaction's final payment date - a question on which leading counsel for the parties, and for ISDA itself, took directly opposing positions, and on which several first-instance judges had already reached conflicting conclusions before the Court of Appeal finally settled the matter.
At first glance, this appears to be a technical dispute about contractual drafting. In reality it raises a deeper question that recurs throughout this market: what does a derivatives contract require when the circumstances in which it operates were never contemplated by the people who drafted it? Reasonable, highly experienced lawyers and market participants read the same standard-form language and arrived at opposite answers. Litigation eventually supplied a single, binding answer - as it must, since the market needs certainty about how its core documentation works. But the years of conflicting judgments along the way are themselves a demonstration of how much genuine room for disagreement can exist inside language that looked, to everyone, perfectly clear at the point of signing.
If any body of litigation illustrates the importance of forum and governing law, it is the long-running disputes involving Italian municipalities and interest rate swaps.
Before the 2007–2008 financial crisis, scores of local authorities in Italy entered into derivatives contracts with counterparty banks to manage their financial risk, typically hedging exposure to interest rate rises on floating rate loans. Across Italy, 600 local governments bought derivative products worth €36 billion, which led to significant losses when the financial crisis hit.
The disputes that followed produced radically different outcomes from essentially the same underlying facts. In Milan, the matter went to the Italian criminal courts, and the sequence is instructive. In early 2012, the city reached a commercial settlement with the four banks involved: the swap was unwound and Milan recovered its mark-to-market value. Yet the criminal prosecution, brought by the state rather than the city, ran on regardless. In December 2012, the court convicted Deutsche Bank, JP Morgan, UBS, and Depfa Bank of aggravated fraud for mis-selling an interest rate swap to the city, imposing fines, ordering a substantial asset seizure, and handing suspended sentences to nine bank employees. In March 2014, an appeal court acquitted all of them, finding no case to answer. The commercial dispute, in other words, had proved capable of negotiated resolution - and was resolved - early on. The public, criminal dimension was not the parties’ to settle, and consumed two further years regardless.
Meanwhile, English courts have often upheld the validity of similar transactions when other Italian municipalities sought to challenge them. In one case, Busto Arsizio argued it lacked capacity to enter into its swaps because they were speculative and the bank had failed to disclose the mark-to-market value, probabilistic scenarios, and hidden costs of the transactions - but the Commercial Court found the swaps were a common form of hedging, that sufficient information had been provided to allow an informed decision, and upheld the validity of the transactions. Dexia Crediop v Provincia di Pesaro e Urbino [2022] EWHC 2410 (Comm) reached a similar result. But the line is not all one way: in Banca Intesa Sanpaolo v Comune di Venezia [2022] EWHC 2586 (Comm), the English court held the swap invalid under English law precisely because it was invalid under Italian law - a divergence that, on facts of the same broad character, sharpens rather than softens the point of this section.
The economic substance of these disputes was often remarkably similar: a bank selling complex interest rate hedges to an Italian public authority before the financial crisis. The outcomes were not - fraud convictions and asset seizures in one jurisdiction, validated and enforceable contracts in another, depending almost entirely on which court heard the case and which law governed it. Instead, years of litigation became focused on questions of jurisdiction, governing law, and capacity. The substantive commercial question - was this swap a genuine hedge, mis-priced or otherwise, and was the risk properly explained - has in most of these cases barely been reached. These cases demonstrate how profoundly forum and governing law can influence the outcome of otherwise similar disputes.
Not every derivatives dispute turns on legal liability. Some turn on reputation.
The cross-currency swaps transacted by Greece in the early 2000s remain among the most famous examples. Greece used off-market swaps, the largest with Goldman Sachs, to keep debt off its balance sheet from 2001 through 2007; Eurostat, the EU's statistics office, later found this practice had understated Greece's reported debt by 5.3 billion euros.
The underlying instrument was entirely conventional - cross-currency swaps are used throughout financial markets every day, for entirely legitimate purposes. What transformed this particular transaction into a global controversy was not the mechanics of the product but the context in which it was used and later disclosed. I raise it not to take a position on the underlying political question, which is well outside the scope of this series, but because it is an unusually clean illustration of an important point: a transaction can be legally valid, technically conventional, and commercially standard, yet still generate profound reputational exposure years later. Financial institutions often underestimate this category of risk precisely because it tends to emerge long after the original commercial decision has been made, and by people who had nothing to do with making it.
Many disputes in this market begin with a misunderstanding of what a hedge is intended to achieve.
A hedge does not eliminate risk. It transforms it.
An airline hedging jet fuel costs through long-dated forward contracts has not removed its exposure to oil prices. It has exchanged one risk - the risk that fuel costs rise - for another: the risk that fuel costs fall, and the airline is left paying above the prevailing market price while its unhedged competitors are not. Both outcomes are genuinely "risk." The question is not whether risk exists. It is which risk the organisation prefers to bear, and that is a judgment, not a calculation - the right answer depends on assumptions about future prices that are unknowable at the time the hedge is put on.
This matters because disputes are almost always assessed with hindsight, by people judging a decision under conditions of certainty that did not exist when it was made. A hedge that looks prudent in one market environment can look reckless in another, purely because the market moved a particular way. Litigation tends to ask whether the hedge was right. The more useful, and more honest, question is whether it was a reasonable decision given what was known and reasonably foreseeable at the time.
The recurring theme across all of these disputes is uncertainty. Uncertainty about capacity. Uncertainty about understanding. Uncertainty about valuation. Uncertainty about jurisdiction. Uncertainty about reputation.
Courts are essential where legal principles require authoritative determination, and the derivatives market depends on legal certainty and robust contractual enforcement - Firth Rixson needed an answer, and so did Hazell. But many of the disputes described in this piece arose, or persisted, only after parties had already incurred substantial costs and suffered significant damage to commercial relationships in pursuit of an answer that mediation could have helped them reach far sooner, and on terms tailored to their specific commercial circumstances.
Mediation addresses a different question: not simply who is right, but whether a commercially preferable outcome is available before value is destroyed. Disputes turning on whether margin calls and termination events under ISDA agreements were properly triggered, and whether close-out valuations were conducted appropriately, are exactly the kind of dispute generated by extreme commodity volatility - and they are unfolding again right now, as energy markets absorb the consequences of the disruption in the Strait of Hormuz. In disputes involving technical products, competing expert views, and ongoing relationships, the distinction between those two questions can be the most powerful thing mediation has to offer.
Derivatives were invented to manage uncertainty. Yet the disputes they generate are often among the most uncertain in commercial law.
The challenge is not merely legal. It is commercial. For many market participants, the objective is not simply to establish who was right after years of litigation. It is to preserve value, manage relationships, and find workable solutions in situations where certainty is unattainable. Derivatives were built to help parties live with that condition rather than resolve it. The disputes they generate deserve a process built on the same principle.