New LIBOR guidance gives providers transformation deadlines

In a joint effort, the Bank of England (the Bank), Financial Conduct Authority (FCA) and the Working Group on Sterling Risk-Free Reference Rates (RFRWG) have released new guidance on the 2020 LIBOR transition.

As part of this guidance, The RFRWG urges banks to reduce LIBOR exposure, putting a deadline goal to stop issuing cash products linked to sterling LIBOR by September 2020. These new documents complement the guidance set out in December 2019 by the Bank’s Financial Policy Committee on LIBOR.

“In most products, market participants have made impressive progress In moving away from LIBOR,” said Christopher Woolard, Executive Director of Strategy and Competition at the FCA. “The time has come to draw to a close its remaining use.

“The Bank and the FCA have written to major banks and insurers to set out our expectations for transition progress during 2020 and to reaffirm our support for the Working Group’s targets. Firms must act now to help meet these targets and ensure a smooth transition to alternative rates by end-2021.”

Joint recommendations on phasing out LIBOR

Alongside this deadline goal, the RFRWG also urged the industry to take steps to shift from LIBOR to SONIA in derivative markets, while also creating a transition plan for legacy LIBOR products.

The Bank and FCA have supported these recommendations, publishing additional documents supplementing the transition. Major banks and insurers have received a letter from the two bodies, setting out the expectations that should be met during the 2020 transition.

Additionally, market participants are being pushed to switch their sterling interest rate swaps to SONIA, with a 2 March deadline.

Andrew Hauser, Executive Director for Markets at the Bank of England, said: “Today’s suite of publications helps provide greater clarity to the market on a number of issues central to LIBOR transition as we head towards the 2021 deadline.

“I am particularly encouraged by the ambitious goals that market participants have set for themselves this year—including the aim to cease issuance of cash products linked to sterling LIBOR by 2020 Q3—and by the steps already taken towards those goals, including the creation of new SONIA-linked loans and the conversion of legacy bonds.”

According to the FCA, LIBOR panel banks can continue to submit to LIBOR until the end of 2021; however, all banks and other market participants need to have removed any remaining dependences on LIBOR by that point.

The shift to SONIA

Around the world, $350tn (£268.2tn) of financial products are supported by LIBOR, and the move to SONIA (Sterling Overnight Index Average) is complex. While the switch was recommended by RFRWG in 2017, several countries have supported their financing with LIBOR.

However, SONIA’s risk-free rate (RFR) for sterling markets is being administered by the Bank, and is anchored to an underlying market. As providers phase out LIBOR in favour of SONIA, they will also need to provide “clear evidence of engagement” to the FCA by 2021.

Moving forward, the Financial Stability Board’s Official Sector Steering Group (OSSG) is continuing its efforts to find fair replacement rates for LIBOR in the five currencies which are currently using it. While the UK’s answer is SONIA, other jurisdictions have their own particular alternative rates.

For example, the US has SOFR (Secured Overnight Financing Rate), Switzerland will use SARON (Swiss Average Rate Overnight), Japan has TONAR (Tokyo Overnight Average Rate) and Europe has €STR (Euro short-term rate). All of these will use overnight interest rates as an alternative to LIBOR.

The Bank and FCA have advised that any firms who have not made plans to transition away from LIBOR do so immediately, while offering proposed Q1 targets of product development, infrastructure renewal, and discussing the change with affected clients.