LIBOR Transition
This section is intended to provide Arab Bank’s customers and relevant stakeholders with an update and overview of the transition from the London Interbank Offered Rate (LIBOR).
It was published that LIBOR will cease to be a market-wide benchmark interest rate by 31 December 2021. As a result, banking regulators across the globe are instructing the market to transition away from LIBOR to an alternative benchmark. Currently banks are setting the stage for alternative benchmark interest rates which have been published earlier.
What is LIBOR?
The London Interbank Offer Rate (LIBOR) is a series of market-wide benchmarks used since 1986. LIBOR is currently calculated for five currencies (USD, GBP, EUR, CHF and JPY) and for seven tenors in respect of each currency (Overnight/Spot Next, One Week, One Month, Two Months, Three Months, Six Months and 12 Months). This results in the publication of 35 individual rates (one for each currency and tenor combination) every London business day. The LIBOR methodology is designed to produce an average rate that is representative of the rates at which large, leading and internationally active banks with access to the wholesale unsecured funding market could fund themselves in such markets according to relevant currencies and tenors. LIBOR is currently used as a benchmark for >$350tn of financial products and derivatives.
Why is LIBOR being replaced?
With LIBOR rates being based on “best estimate” rather than actual transactions, the central banks of the five LIBOR currencies sponsored a migration from LIBOR to alternative benchmark interest rates which are based on actual overnight transactions.
What will replace LIBOR?
LIBOR will initially be succeeded by benchmark interest rates which will be based on actual overnight transactions from highly liquid markets, as reported to the local regulators, and will in some cases be based on secured, rather than unsecured, overnight transactions. These rates are collectively known as Risk Free Rates (RFRs), and unlike LIBOR, which is privately administered, RFRs are mostly regulated by central banks.
The following table shows the RFRs for the five LIBOR currencies:
|
Jurisdiction
|
Working Group
|
Alternative Rate
|
Rate Administration
|
Available Since
|
|
United States of America
|
Alternative Reference Rates Committee
|
SOFR (Secured Overnight Financing Rate)
|
Federal Reserve
Bank of New York
|
3 April 2018
|
|
The United Kingdom
|
Working group on Sterling Risk-Free Reference Rates
|
SONIA (Sterling Overnight Index Average)
|
Bank of England
|
23 April 2018
|
|
Switzerland
|
The National Working Group on Swiss Franc Reference Rates
|
SARON (Swiss Average Rate Overnight)
|
SIX Swiss Exchange
|
25 August 2009
|
|
Japan
|
Study Group on Risk-Free Reference Rates
|
TONAR (Tokyo Overnight Average Rate)
|
Bank of Japan
|
1 November 1997
|
|
Euro Area
|
Working Group on Euro Risk-Free Rates
|
€STR (Euro Short-Term Rate)
|
European Central Bank
|
2 October 2019
|
Whereas it is true that regulators other than those for the five LIBOR currencies are considering a migration to RFRs for their local currencies, none so far have clearly defined a deadline for such migration.
Recent Updates
On 5 March 2021, the FCA announced that formal publication of the following Libor rates will stop immediately after 31 December 2021:
• All EUR, GBP, JPY and CHF Libor
• 1 Week and 2 Months USD Libor only
The market has further agreed to adopt spread adjustments to be added to the existing spread over Libor when the reference rate changes from Libor to an overnight Risk Free Rate (RFR). The LIBOR includes a premium for interbank credit risk which is not included in RFRs. To account for this difference, a Credit Adjustment Spread (CAS) was introduced and will be added to the Risk-Free Rate (RFR).
How this transition will impact Arab Bank customers?
This transition will entail changes to the contractual terms and conditions of the current facilities by replacing the benchmark interest rate in the facility agreement by the new proposed alternative references benchmark of the relevant currency through an addendum to the facility agreement, while the alternative benchmark will be used for new facilities at such time as decided by the Bank. Subsequently this will have an impact on how the interest rate and margin payable amount under the facility will be calculated.
For facilities linked to LIBOR and maturing beyond December 2021, your designated Relationship Manager will be in touch with you to present the addendum and any changes to your contract that reflect the transition to the Risk Free Rate.
In order for Arab Bank customers to better understand the changes taking place, it is recommended that facility agreements linked to LIBOR are reviewed. Additionally, professional advice should be considered.
Public Resources and Questions
For more news and updates, please visit the Bank of England monthly publication at the following link:
https://www.bankofengland.co.uk/markets/transition-to-sterling-risk-free-rates-from-libor
You can also contact your designated Relationship Manager.
Disclaimer
The information presented here is a general overview intended for information purposes only as on its publishing date and is not intended to be a complete or exhaustive overview and should not be construed as a form of legal advice. You should observe updates and assess its effects on you from time to time and obtain independent legal, financial and other advice in this regard. Arab Bank shall not be responsible for any direct or indirect damages or losses resulting from use or reliance on such information whether an independent advice was obtained or not.
