The transition to the “sunsetting” of long-standing LIBOR benchmarks — initially slated for 31 December 2021 — has been fraught with delays and uncertainty, thanks in no small part to the ongoing COVID-19 crisis. There has been progress, however. A number of recent developments reinforce the commitment by regulators and central banks to wean market participants off their reliance on IBORs (interbank offered rates) and to embrace alternative reference rates.
The UK FCA announcement
- On March 5, the UK’s Financial Conduct Authority (FCA) officially announced the eagerly anticipated cessation and non-representation dates on 35 LIBOR benchmarks across various tenors and currencies. The announcement follows a recent consultation by ICE Benchmark Administration1 with its panel banks.
- Notably, certain widely used US dollar (USD) LIBOR rate settings (overnight, 1-, 3- ,6-, and 12-month) will continue to be published in representative forms until 30 June 2023, enabling a smoother transition to alternative reference rates by allowing more time for “difficult-to-amend” legacy contracts/securities to mature.
The FCA is still considering the case around its potential use of powers proposed under the new Financial Services Bill, subject to passage by the UK parliament and consultations with authorities/stakeholders. The Bill would enable the FCA to compel publication of critical currency tenors under a new methodology in certain circumstances. These “synthetic” rates would not be representative of underlying market transactions and would be used to ensure the orderly transition away from LIBOR, while protecting consumers and market integrity around legacy contracts that remain difficult to amend.
Spread-adjustment fixing dates
This FCA announcement was followed by confirmation from the International Swaps and Derivatives Association (ISDA) that 5 March 2021 would mark the ”Spread Adjustment Fixing Date” for all LIBOR tenors and currencies. Contracts that adhere to or incorporate the ISDA 2020 IBOR fallbacks protocol will apply fixed spreads to automatically adjust risk-free rates on specified dates:
- After 31 December 2021 for outstanding derivatives referenced to all euro, sterling, Swiss franc, and yen LIBOR settings.
- After 30 June 2023 for outstanding derivatives referenced to all USD LIBOR settings.
On the legislative front
The extension of certain USD LIBOR settings would also offer more runway to pass potential legislative reliefs that are in process at the New York State and federal levels, in the form of statutory fallbacks for LIBOR contracts and securities with inadequate or missing benchmark fallback language. New York’s proposed legislation would apply the recommended fallback provisions from the Alternative Reference Rates Committee to those securities with inadequate or missing fallback language that did not envision a permanent cessation of LIBOR. If signed by Governor Cuomo through passage of the State’s budget on 31 March 2021, the law would take immediate effect.
Admonitions to stop using IBORs
Meanwhile, central banks and regulators remain steadfast in their admonitions to market participants to stop issuing securities tied to IBORs and to speed up their pace of adoption of alternative reference rates. US Fed Chair Jerome Powell recently expressed doubt that the private sector would make this transition on its own, instead suggesting that “federal legislation creating a path for a backup would be the best solution.” The Fed has already informed banks that it will not permit them to enter into new contracts tied to LIBOR after 2021.
I expect this announcement and future restrictions on the use of LIBOR to accelerate the use and liquidity of contracts and derivates tied to the Secured Overnight Financing Rate (SOFR), which is one of the leading candidates to replace USD LIBOR. Such liquidity would aid in the development of an SOFR term curve, although I do not expect that to be achieved this year. With market demand for credit-sensitive alternatives to LIBOR having increased, the recent extension provides more runway to develop some of the leading credit-sensitive alternatives, including:
- AMERIBOR: overnight and 30-day rates that reflect the borrowing costs paid by members of the self-regulated American Financial Exchange (AFX).
- ICE Bank Yield Index (BYI): 1-, 3-, and 6-month rates underpinned entirely by transaction data representing short-term, unsecured bank investment yields.
- Bloomberg Short Term Bank Yield Index (BSBY): overnight, 1-, 3-, 6-, and 12-month rates constructed using data that is anchored in transactions of commercial paper, certificates of deposit, USD bank deposits, and short-term bank bonds.
The official announcement of LIBOR’s demise and extension of key tenors is a positive outcome that should allow for a smoother transition in the months ahead. As the market for alternative reference rates develops, more legacy securities will mature and a potential legislative solution could pass.
1ICE Benchmark Administration (IBA) is the official administrator of LIBOR benchmarks.