Transition from LIBOR to Risk-Free Rates
Transition from LIBOR to Risk-Free Rates by Katie Kelly and Charlotte Bellamy
Synthetic sterling and yen LIBOR In June 2021, the FCA published a consultation paper on its proposal to require the administrator of LIBOR, ICE Benchmark Administration, to change the way one month, three month and six month sterling and Japanese yen LIBOR settings are determined after 2021 to secure an orderly wind-down. This would be the first exercise of the FCA’s new powers introduced through amendments to the UK Benchmarks Regulation (UK BMR) under the Financial Services Act 2021. The exercise of these powers will transition the six identified sterling and yen LIBOR settings from their current “waterfall methodology” based on panelbank submissions to an alternative methodology. LIBOR based on this alternative methodology is commonly referred to as “synthetic LIBOR”. ICMA responded to the FCA’s consultation in August noting and elaborating upon the following points. • Following the announcement by the FCA on 5 March 2021 that the six identified sterling and yen LIBOR settings will no longer be representative and representativeness will not be restored immediately after 31 December 2021, ICMA supports the exercise by the FCA of its powers under Article 23D(2) in order to introduce “synthetic LIBOR” for the six identified LIBOR settings. • In order for synthetic LIBOR to meet its aim of supporting an orderly wind-down of LIBOR, all parties will need to take the same view as the FCA that “synthetic LIBOR remains LIBOR”. The legislation that HM Treasury is expected to introduce (and has since introduced) in order to support contract continuity further will therefore be very important. • It will also be very important for synthetic LIBOR to be published in the same manner (using the same screens and at the same time) as LIBOR.
1. See further Fallbacks for LIBOR floating rate notes. PAGE 57 | I SS U E 63 | FOURTH QUARTER 2021 | ICMAGROUP.ORG
Following the consultation, the FCA announced that it had published notices confirming its decisions to compel the continued publication of the six identified sterling and Japanese yen LIBOR settings for a limited time period after end-2021 using a “synthetic” methodology. This is intended to help ensure an orderly wind-down. The FCA announcement also confirmed that the FCA will decide and specify before year-end which legacy contracts are permitted to use these synthetic LIBOR rates. This is needed because UK supervised entities will be prohibited from using synthetic LIBOR (within the meaning of the UK BMR), unless the FCA permits some or all legacy use. The FCA published a consultation on its proposed decision, which closes on 20 October. For further information on the context of these announcements and key issues for the bond market, please see the Quarterly Assessment in this Quarterly Report. Contact: Charlotte Bellamy charlotte.bellamy@icmagroup.org
The role of Independent Advisers in LIBOR-referencing bonds In LIBOR-referencing bond documentation, Type 2 fallbacks (for which the trigger events are typically the permanent cessation of LIBOR and certain other events such as a prohibition on use of LIBOR) and Type 3 fallbacks1 (for which the trigger events are typically the same as Type 2 fallbacks but also include an announcement of the non-representativeness of LIBOR by the supervisor of the administrator of LIBOR) often require the appointment by the issuer of an Independent Adviser to make certain determinations.
