'The LIBOR Transition' - in collaboration with the ICA
'The LIBOR Transition' - in collaboration with the ICA
  • Author: Dominic Hull
  • Date: 25 Nov 2019
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The LIBOR Transition is a process you will probably have heard about.  It’s difficult not to be aware of it as the process and the issues it is throwing up are gaining vast momentum currently in the market, particularly in the spheres of investment/asset management and banking. 

What is LIBOR? LIBOR is the ‘London Interbank Offered Rate’. This is the rate that financial organisations have used for years as the benchmark reference for determining interest rates for various debt instruments. It is also used for a variety of financial products, such as derivatives including interest rate or currency swaps.

LIBOR underpins over $350 trillion in contracts across global financial markets, including bonds & derivatives, loans & cash as well as the whole gamut of other financial instruments (FCA, 2019).   

The problem with LIBOR was that some banks – specifically traders within banks – could and did manipulate results.  The scandal first started to emerge after the 2007/2008 financial crisis.  Banks reported artificially low or high interest rates.  Because LIBOR is also used as an indicator of a bank's health, some banks were able to make themselves appear stronger than they actually were by reporting fictitious rates. The idea appears to have been to manipulate the LIBOR rate for profit.  Off the back of this activity many banks, some household names, were hit with huge fines.  Criminal charges have been brought against individual traders/brokers – not always successfully. 

Since 2013, the UK regulator – the Financial Conduct Authority (FCA) - has been responsible for LIBOR and has been working to transition to a new system.  As Andrew Bailey, FCA Chief Executive, said in 2017: “The underlying market that LIBOR seeks to measure – the market for unsecured wholesale term lending to banks – is no longer sufficiently active” so alternative benchmarking systems are needed. 

The FCA has ruled that banks and other financial institutions must transition away from Libor by the end of 2021.  Firms that fail to get their house in order may face enforcement and, potentially, fines in the future (FCA, 2019).

Andrew Bailey laid out the current state of play in a speech in July in New York, at the Securities Industry and Financial Markets Association's (SIFMA) LIBOR Transition Briefing.  He explained that he can foresee “that there will be no LIBOR publication after end-2021”.   In the unlikely event that LIBOR continued for a period after 2021 there is “a high probability it will no longer pass regulatory tests of representativeness. Markets for LIBOR-related contracts are likely to have become highly illiquid. It may not be usable in new contracts”.

He has been upbeat about the take up of a number of alternatives under consideration and already in use in some areas of the market in the UK and globally.  In the US, there’s SOFR – Secured Overnight Financing Rate.  In the UK many are looking towards SONIA – Sterling Overnight Index Average rate.  “The transition is happening.  Markets in the risk-free alternatives to LIBOR continue to develop,” he said, citing open interest in SOFR futures which has grown to close to half a trillion dollars and in SONIA futures, zero in April 2018, which has climbed to £129 billion (as of June this year). 

Whilst it seems relatively simple on the surface, transitioning away from LIBOR to alternatives brings with it a whole host of issues from a regulatory framework and operations standpoint. The larger firms are more equipped to deal with all of these changes, although still difficult.  However, we are finding that many smaller firms do not have the resources to effectively manage these projects.  And they matter.  As Andrew Bailey said: “I am often asked about how to manage the conduct risk associated with the coming end of LIBOR. I think the risk firms have in mind here is whether they will be seen to have done right by their customers. One part of my answer to that is that once FCA has determined LIBOR not to be representative, writing a new contract still referring to the rate involves more conduct risk than I would countenance.”

Broadgate Search is a specialist Governance Recruitment business with offices in London, Dublin, Manchester & more recently L.A. We are award-winning and part of an award-winning group, Trinnovo.  Our specialist areas cover Risk Management, Compliance, Financial Crime, Audit, Transformation & Change, Accounting & Finance. Dominic Hull – Senior Consultant at Broadgate Search, manages the Investments Compliance team. Knowledge for us is key to our client partnerships and we are helping many of our clients who operate within the banking & investments sector to hire experienced Permanent & Contract talent to effectively manage the LIBOR transition internally, to arrive at a successful outcome for the long term.

 

If you are a Regulatory Consultant working on a LIBOR Transition project we would like to hear from you. Equally if you are a client looking for SMEs to assist you with your own LIBOR Transition project, please get in touch so that we can help you find suitable candidates immediately.

www.broadgatesearch.com

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Visit the ICA’s website:

https://www.int-comp.org/