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The 'London Interbank Offered Rate,' short: LIBOR, is to be replaced. LIBOR reference interest rates in Swiss francs, British pounds, Japanese yen and US dollars will be replaced from the end of 2021. LIBOR is an interest rate benchmark used in financial markets. The change will affect a large number of financial instruments.
According to estimates, global bank funding transactions amount to about 500 million US dollars per day. This seems small when compared with the 200 trillion US dollars in financial contracts based on the USD LIBOR as the reference interest rate. Typical financial contracts or products include derivatives, bonds, loans, securitizations, and deposits.
The determination of the LIBOR rate by the panel banks on a daily basis was based on quotes. The reliability of these panel bank quotes represents more of an estimate by an expert or money market trader of the panel bank, and is not based on an actual commercial transaction.
Who is involved in the transition?
In each case, national financial bodies are developing new concepts assisted by the central bank.
For example, the private banking sector in the US is collaborating with the Federal Reserve in switching LIBOR to the SOFR (Secured Overnight Financing Rate) in order to increase the reliability of US dollar reference rates.
This grouping consists of the Alternative Reference Rates Committee (ARRC), a group of private market participants convened by the Federal Reserve Board and the New York Fed.
In the UK, the banking industry is active in the 'Working Group on Sterling Risk-Free Reference Rates' on the transition from LIBOR to SONIA (Sterling Overnight Index Average) in the sterling markets. The Bank of England and the Financial Conduct Authority (FCA) are participating as ex-officio members and providing administrative support to the group.
What are the expected effects?
The expected end of LIBOR quotes in 2021 for various maturities may result, among other things, in the following:
- a need for change for critical benchmarks
- a possible requirement for fallback projections for reference interest rates with compounding or markups
- LIBOR fixings for futures and options may be subject to distortions in the spreads of the contracts for the transition
- historical back-testing with reference interest rate changes will become more complex
- the source of the fixing in the future will tend to be the national central bank
Time horizon
'The ICE Benchmark Administration (IBA), which oversees LIBOR and its compliance, is conducting a market consultation on the elimination of the 1-week and 2-month maturities for the US dollar LIBOR as of the end of 2021 and the more widely used US dollar LIBOR benchmarks as of the end of June 2023. In the meantime, two consultations have been initiated by the ECB Working Group on Euro Risk-free Rates, inviting stakeholders to comment on default solutions for EURIBOR or possible triggers.' (cf. Alternative reference interest rates - preparing for fallback [theice.com])
An example of pricing from the dollar area
The designated USD LIBOR successor SOFR is prepared by the New York Fed in cooperation with the Office of Financial Research. The New York Fed publishes the SOFR every business day at approximately 8:00 a.m. Eastern Time.
The SOFR is a much more reliable interest rate than LIBOR because it is determined by its method of creation and the depth and liquidity of its underlying markets. As a secured overnight rate, the SOFR better reflects the way financial institutions finance themselves today.
We also provide the respective replacement for the previous LIBOR rates via Infront solutions as follows:
Previous LIBOR rates for the following currencies | Replacement | Maturity | Example O/N symbol |
LIBOR CHF | SARON (Swiss Average Rates Overnight) | ON up to 1 year; longer via Gottex Brokers | SAR® ON SARON.CH |
LIBOR USD | SOFR (Secured Overnight Finance Rate) from the Federal Reserve Bank | ON up to 1 year | Secured ON Financing Rate SOFR.FED |
LIBOR GBP | SONIA (Sterling Overnight Interbank Average lending rates) of the Bank of England | ON, then from 1st year | Daily SONIA lending rate SONIAGBP.SONIA |
LIBOR JPY | TONAR (Tokyo Overnight Average Rate) of the Bank of Japan | Maturity ON up to 1 year | TONAR Final TONAR_FIN.NBJP.FIX |
LIBOR EUR | (€STR average rates) of the ECB | ON (up to 1 year) | ESTR ESTR.EZB |
We are happy to support you in mapping the new IBOR rates in the data feed and terminal.
By Tobias Hartmann, Infront
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Infront ASA published this content on 21 April 2021 and is solely responsible for the information contained therein. Distributed by Public, unedited and unaltered, on 21 April 2021 12:27:06 UTC.
