IBOR Transition Update and Legacy Contracts (Dec 20) I
John Ewan
20 years: Interest rate benchmarks
In the previous 2 videos of this series, John and Keith explained what LIBOR is and why it exploded from being an obscure number published in London at 11am every day by a small trade association, to being a focus for central banks and regulators everywhere. In this video John talks about the timelines published by regulators and central banks, their expectations for market participants, and the differences between the game plans to replace IBOR rates in various major markets.
In the previous 2 videos of this series, John and Keith explained what LIBOR is and why it exploded from being an obscure number published in London at 11am every day by a small trade association, to being a focus for central banks and regulators everywhere. In this video John talks about the timelines published by regulators and central banks, their expectations for market participants, and the differences between the game plans to replace IBOR rates in various major markets.
IBOR Transition Update and Legacy Contracts (Dec 20) I
12 mins 53 secs
Key learning objectives:
Understand the timelines issued by regulators and central banks and their expectations for market participants
Outline the differences between the game plans to replace IBOR rates in various major markets
Describe an ISDA fallback protocol
Overview:
LIBOR applies to a wide variety of financial instruments, from structured over-the-counter derivatives to listed futures, bonds, commercial loans and retail mortgages. As we know regulators and central banks have concluded that LIBOR can not be made into a benchmark that is appropriate for markets in this age, despite heroic efforts to reform. They have given us a countdown to move away from LIBOR by the end of 2021. LIBOR, or its equivalent is used in every financial market in the world, which is one reason why its replacement is being driven at the highest levels globally.
What are the timelines issued by regulators and their requirements upon firms?
Regulators in the United Kingdom and the United States have made a number of public statements suggesting that they expect all the firms they oversee to work on LIBOR transition plans and that there will be specific inquiries about this in the course of their day-to-day and formal interactions with the firms they oversee.
Because LIBOR is based in London and the contributing banks are all regulated by the FCA, it is the FCA that is driving this change, although it does so hand-in-glove with other regulators, particularly the Federal Reserve Bank of New York, which is the lead regulator for LIBOR transition in the US.
New changes to the UK Benchmark Regulation were issued by the British Government on 21 October 2020. This will allow the FCA to prohibit UK regulated firms from using LIBOR after 2021.
On 30 November, ICE Benchmark Administration-the owner and administrator of LIBOR announced a consultation on the termination of most LIBOR calculations by the end of 2021. This was completely embraced by regulators in the United Kingdom, Europe and the United States. The aim of the consultation is to obtain market views on the cessation of almost all LIBOR calculations after publication on 31 December 2021.
What is ISDA fallback protocol?
SDA, the International Swaps and Derivatives Association, published the protocol on the 23rd of October 2020, saying it “will enable market participants to incorporate the revisions into their legacy non-cleared derivatives trades with other counterparties that choose to adhere to the protocol”.
The protocol notes that, if LIBOR is to become inaccessible, companies should use the official ISDA fallback rate, which is the local Risk Free Rate plus a spread to account for the real-world credit premium that would have to be charged at a risk-free rate.
According to FSB by Mid 2021, what should the firms do?
- On the basis of a full assessment of their stock of legacy contracts, have determined which can be amended in advance of end-2021 and establish formalised plans to do so in cases where counterparties agree
- Where LIBOR linked exposure extends beyond end-2021, make contact with the other parties to discuss how existing contracts may be affected and what steps firms may need to take to prepare for use of alternative rates
- Have implemented the necessary system and process changes to enable transition to robust alternative rates
- Aim to use robust alternative reference rates to LIBOR in new contracts wherever possible
- Take steps to execute formalised plans, where realistic, to convert legacy LIBOR-linked contracts to alternative reference rates in advance of end 2021
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