Following the discussion and status set out in our September 2020 blog post, Proposal for a Governmental IBOR Transition in the European Union, the proposed amendment to the EU Benchmark Regulation (“BMR”) has been developed further and a consolidated version published reflecting the text agreed by the Council of the European Union and the European Parliament.
Following the implementation of the EU Benchmark Regulation (“BMR”), the Euro Interbank Offered Rate (“EURIBOR”) was modified to a hybrid methodology that relies on a three-level waterfall that prioritises the use of real transaction data when available from a group of 18 quoting European banks. As a result, EURIBOR is considered compliant under the BMR, and its administrator, the European Money Markets Institute (“EMMI”), is authorized and registered under Article 34 of the BMR. Therefore, the use of EURIBOR is expected to continue, subject to periodic reassessment in accordance with the BMR, and the financial and capital markets do not need to transition to a replacement benchmark, as is the case with many other IBORs.
Nonetheless, in January 2019 and November 2019 the Working Group on Euro Risk-Free Rates (“Euro Working Group”) published general principles and recommendations to the market with respect to the inclusion of fallback provisions in contracts that reference EURIBOR, to mitigate the risks of a temporary or permanent cessation and to make these contracts future proof. This action was in line BMR requirements that EU supervised entities provide robust written plans to address the unavailability of benchmarks including EURIBOR and implement such plans in new contracts.
Many IBOR remediation projects raise a basic question: How do you find, collect, review, and remediate the right contracts? A company might have thousands of contracts that need to be repapered, and those contracts might be scattered throughout electronic file systems and hardcopy records.
Fortunately, litigators have spent the past few decades wrestling with very similar questions, which crop up in the discovery process in any large-scale modern litigation. As the number of discoverable electronic documents exploded over time, litigators began developing sophisticated processes for finding, collecting, and reviewing them so that they could be produced to opposing counsel or used at trial. Those time-tested e-discovery techniques can be applied to IBOR remediation projects.
As preparation for the transition from the London Interbank Offered Rate and similar interbank offered rates to replacement benchmark interest rates quickly accelerates, we explore a number of recent core global developments affecting structured finance products.
On November 30, 2020, ICE Benchmark Administration (“IBA”), the administrator of U.S. Dollar LIBOR (“USD LIBOR”) and other IBORs, lowered the pressure with respect to the upcoming cessation of USD LIBOR. IBA announced that, following a consultation in December and January, (i) it intends to cease publication of 1-week and 2-month USD LIBOR at the end of 2021 and (ii) subject to compliance with applicable regulations, including as to representativeness, it does not intend to cease publication of the remaining USD LIBOR tenors until June 30, 2023. This IBA announcement followed an earlier IBA announcement on November 18, 2020, that all GBP, EUR, JPY, and CHF IBOR tenors would cease publication after December 31, 2021. We analyze the effect of these well-received statements on the FRN, syndicated loan and CLO markets.
In response to the UK Financial Conduct Authority’s proposed discontinuation of LIBOR, Japan, like other countries that rely on LIBOR as the preferred reference rate, has had to consider alternatives for its reference rate that uses USD LIBOR as a component.
In 2019, the Cross Industry Committee on Japanese Yen Interest Rate Benchmarks, together with the Bank of Japan, held a public consultation on the choice of alternative benchmarks to JPY LIBOR, the results of which revealed an industry preference for two alternatives: the Tokyo Interbank Offered Rate (“TIBOR”) and the Tokyo Overnight Average Rate (“TONAR”).
Read the full article (PDF).
Hong Kong Monetary Authority (“HKMA”) is the front-line regulator for licensed banks and deposit-taking companies (“AIs” or “authorised institutions”) in Hong Kong. LIBOR is used extensively in the Hong Kong banking sector. According to survey results released by HKMA in July 2020, LIBOR-linked products represented 30% and 11% respectively of the banking system’s total assets and total liabilities denominated in foreign currencies as of March 2020. In addition, there were about HK$35 trillion worth of derivative contracts referencing LIBOR.
The reform of the benchmark interest rate has significant implications for AIs in Hong Kong. HKMA has issued a number of Circulars to AIs regarding benchmark rate reforms since March 2019, requiring AIs to get ready for the transition. Similar to the regulators in other jurisdictions, HKMA mainly focuses on bank conduct and treat-customer-fairly principles, and readiness of systems and operations ahead of the transition.
On 23 November 2020, the LMA published various documents with the aim of assisting market participants looking to include active LIBOR transition mechanisms in their loan documentation. These documents are a mix of new and revised versions of existing drafts, comprising:
- a revised version of the exposure draft multicurrency term and revolving facilities agreement incorporating rate switch provisions (lookback without observation shift);
- a new exposure draft multicurrency term and revolving facilities agreement incorporating rate switch provisions (lookback with observation shift);
- a revised commentary document relating to both rate switch facilities agreements referred to above;
- a new term sheet for use in conjunction with the two exposure draft rate switch facilities agreements; and
- new supplemental wording intended as an option for parties using the LMA’s Revised Replacement of Screen Rate wording published in August 2020, which includes a placeholder for pre-agreed terms in a process of renegotiation. This supplementary wording is designed as a starting point for parties looking to populate this placeholder by specifying pre-agreed terms in relation to the RFR.
On November 30, 2020, ICE Benchmark Administration Limited (“IBA”) announced its intention, in early December 2020, to consult on the proposed cessation of the publication of:
- the one-week and two-month USD LIBOR settings immediately following the LIBOR publication on December 31, 2021; and
- the overnight and one-, three-, six- and 12-month USD LIBOR settings immediately following the LIBOR publication on June 30, 2023.
IBA expects to close the consultation for feedback by the end of January 2021. IBA also noted that any publication of the overnight and one-, three-, six- and 12-month USD LIBOR settings based on panel bank submissions beyond December 31, 2021, will need to comply with applicable regulations, including as to representativeness.
As 2021 quickly approaches, market participants are well on their way toward addressing the IBOR transition issues specific to their product portfolios. Structured finance products present additional levels of complexity that must be tackled.