Consultation on Libor cessation expected in September

IBA must consult market before formal announcement can be made at year-end

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The market could get its first hint of which Libor benchmarks will be killed off at the end of 2021 in a consultation expected to take place as early as September.

The UK’s Financial Conduct Authority (FCA) has indicated the market may get as much as a year’s notice of the discontinuation of any individual Libor rate. Edwin Schooling Latter, the FCA’s director of markets policy, said last month an announcement – either from the regulator or Libor’s administrator – could come as early as November or December

Before that can happen, Ice Benchmark Administration is required to consult the market on any “proposed material change” to the rates – though this could turn out to be a purely ceremonial affair, with the FCA under no obligation to take the responses into account.

IBA’s consultation policy states the process could last “for several weeks or even months”, with a standard timeframe of one month. In urgent cases, the consultation could be shortened to two weeks, or even done concurrently with the changes. 

Rates strategists say the consultation could take place in September to leave enough time to gather responses before a final decision on cessation is made.

“Normally in the US, we tend to have 45- to 60-day consultations for any regulatory change, so it feels like it should be a September time period for any such consultation from the IBA,” says Priya Misra, global head of rates strategy at TD Securities, and a member of the Federal Reserve-convened Alternative Reference Rates Committee.

A September timeframe would also avoid any overlap with two crucial transition milestones in the fourth quarter: LCH and CME will begin using the secured overnight financing rate (SOFR) to discount the future cashflows of cleared US dollar interest rate swaps in mid-October; and the International Swaps and Derivatives Association’s fallback protocol for swaps, due to be published later this month, will take effect in November.  

“The two things the market should get out the way before any formal announcement are the CCP ‘big bang’ and the sign-up to the Isda protocol,” says Joshua Younger, head of US interest rate derivatives strategy at JP Morgan. “So, any consultation could be made in September, with results in by October, but an announcement isn’t likely until later in the year. But some time in 2020 is certainly plausible.”

It will be interesting as to what currencies and tenors they consult upon, or perhaps even more importantly, which currencies and tenors might be excluded
Mark Cabana, Bank of America

The end of 2021 remains the earliest point at which Libor rates could stop publishing. But, under the Isda protocol, a pre-cessation announcement would trigger the calculation of fallback spreads designed to smooth the transition to new benchmarks. Traders have been placing bets on which Libor currencies and tenors will be discontinued first since Schooling-Latter’s remarks in June.

IBA, which administers the 35 Libor settings across five currencies and seven tenors, declined to comment.

The consultation will be watched carefully for clues on which Libor settings will be discontinued – and whether any will get a reprieve. “It will be interesting as to what currencies and tenors they consult upon, or perhaps even more importantly, which currencies and tenors might be excluded,” says Mark Cabana, head of US rates strategy at Bank of America.

He expects the FCA’s announcement, when it comes, to include all settings. However, he does not rule out the possibility of some benchmarks continuing to publish until a fix is found for so-called tough legacy contracts, which cannot be transitioned to replacement rates.   

Mark Cabana
Mark Cabana

“I think that if they discontinue tenors in a bit of a piecemeal manner, that may create some confusion in the market,” says Cabana.  

Article 13 of the European Union’s Benchmark Regulation requires a benchmark administrator to consult the market on any “material change” to a critical reference rate. Article 5 also states that an “oversight function” must review and approve the procedures for cessation, “including any consultation about a cessation”.

This role will be performed by the 16-member Libor Oversight Committee of independent experts and representatives from Ice, banks, trade associations, central banks.

A preview of the consultation will be shared with the FCA before it is released for comment, according to the IBA’s policy.   

The responses to the consultation may influence the FCA’s decision on whether to retire certain Libor settings at the end of 2021. In a survey conducted in March 2019, IBA asked end-users which settings they would most like to see continue publishing beyond 2021. Most respondents chose one-, three- and six-month US dollar and sterling Libor, with the least popular rates being those linked to Swiss franc and yen Libor.

TD’s Misra says the consultation could turn on how widely certain Libor settings are used in tough legacy contracts that cannot be amended to reference replacement rates. “It is not just total usage, but usage by product,” she says. “For example, a Libor setting is being used in cleared derivatives, but there is a well-laid out process for fallbacks – so yes, it’s used a lot, but it has a fallback. If it’s being used in tough legacy or consumer products, then it becomes a lot harder.”

Regardless of what the IBA does, it sounds like the FCA is going to pull the trigger at the end of the year
Adam Schneider, Oliver Wyman

The result of the consultation may also sway banks torn on whether or not to continue submitting quotes for certain Libor settings. IBA is said to be open to maintaining some rates after 2021 as a safety net provided they are representative and compliant with relevant regulations.

Others argue the consultation will have little effect on the outcome. The UK government plans to introduce legislation that will give the FCA sweeping powers to change the methodology or prohibit the use of a benchmark that it deems is no longer fit for purpose. That would allow the regulator to force the discontinuation of Libor regardless of whether banks or users want certain settings to continue.  

“Regardless of what the IBA does, it sounds like the FCA is going to pull the trigger at the end of the year,” says Adam Schneider, a partner at Oliver Wyman’s digital and banking practices in the Americas. “The consultation is a well-defined process within what the IBA can do, but I don’t think it will affect what the FCA will or won’t do at all.”

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