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What to expect now the trigger has been pulled for LIBOR transition and the need to actively manage your exposure

On March 5, 2021, the administrator of the London Interbank Offered Rate (LIBOR), ICE Benchmark Administration (IBA), published its feedback statement following the consultation announced on December 4, 2020 on the proposed cessation of certain currencies and tenors of LIBOR. IBA’s consultation closed for public feedback on January 25, 2021, after which it shared the results with the FCA before issuing its statement. The Financial Conduct Authority (FCA) also published its own announcement.

It’s clear that firms of all sizes, across the spectrum, including sell-side lenders/issuers, buy-side asset managers/hedge funds and corporates, must now review their documents to ascertain the actions that need to be taken in the months ahead. In this blog, we look at the consequences of these announcements, what to expect in terms of increased regulator engagement and how we can help.

The trigger has been pulled

Critically, the FCA’s announcement is a public statement from LIBOR’s administrator that LIBOR will cease to be published by the deadline of December 31, 2021 for all tenors except Overnight, 1-, 3-, 6- and 12-month USD LIBOR, which will cease on June 30, 2023. This means that the FCA announcement may have activated fallback clauses which may be contained in certain financial instruments. For example, the Alternative Reference Rates Committee (ARRC) has confirmed that documents which use its recommended fallback language will have been triggered because the March 5, 2021 announcements constitute a ‘Benchmark Transition Event’.

This may be the trigger for certain actions which will need to be taken promptly; for example, administrative/facility agents noted in credit agreements may now be under an obligation to notify parties that such an announcement has been made. Another example is where parties to US syndicated loans have agreed fallbacks in line with the ARRC’s ‘amendment approach’ recommended language; there may now be a requirement for parties to start the process of agreeing a successor rate. Whether or not immediate action needs to be taken will depend on precisely what is written into the relevant contracts and can only be established by reviewing those documents.

ISDA has separately stated that the FCA announcement constitutes an index cessation event under the IBOR Fallbacks Supplement and the ISDA 2020 IBOR Fallbacks Protocol for all 35 LIBOR settings. The result being that spread adjustments used in its IBOR fallbacks will be fixed as of March 5, 2021.

USD LIBOR tenors push out to mid-2023, but there’s no time to waste

With the majority of USD denominated LIBOR tenors not ceasing until June 2023, you could be forgiven for thinking that market participants who use USD LIBOR don’t need to be ready just yet. This is not the case. As stated by many market commentators, this should not be seen as a reprieve for USD LIBOR transition efforts.[1] Contracts being entered into now should either reference an alternative rate or have robust fallback language included.

The supervisory guidance from the Federal Reserve Board, Federal Deposit Insurance Corporation (FDIC) and Office of the Comptroller of the Currency (OCC) also noted that new use of USD LIBOR after the end of 2021 should be limited.[2] Similarly, the FCA highlighted that its proposed new powers (subject to consultation during Q2-21) could mean that it will have the power to restrict new use of a benchmark known to be ceasing. The FCA also noted that they would look to coordinate with other authorities (including in the US) to develop any policies on USD LIBOR.[3]

The extended publication time for certain USD LIBOR tenors should not be seen as a grace period, and we can expect close regulatory cooperation to be a running theme in 2021 and beyond. Indeed, a recent article in Bloomberg suggests that this may already be happening.[4]

It is very likely that regulators around the world will seek to ensure adequate transition progress by asking, or requiring, market participants to provide evidence that this is the case. Such data could also serve to inform the ongoing regulatory, legislative and policy discourse.

Increased regulator engagement expected

Now that a clear determination on permanent LIBOR cessation has been made and key deadlines have been set, it can be expected that regulators will be keeping a very keen eye on market participants’ transition efforts.

While these efforts may already be underway for most of the market, the recent announcements from various regulators will serve to focus minds. With important milestones still to come in many key jurisdictions this year,[5] it is likely that regulators across the world will request or compel market participants to provide hard data in order to inform key upcoming regulatory decision-making and legislative processes.

We take a look below at some of the key jurisdictions.

United States

Efforts continue at pace to provide for a legislative means to deal with tough legacy contracts – those that mature after mid-2023, do not contain any (or no effective) fallback provision and cannot otherwise be amended. Earlier this year, New York Governor, Andrew Cuomo, included proposals for dealing with tough legacy contracts (originally proposed by the ARRC) in his state budget plan.

While this has been welcomed,[6] it is likely that regulators will want to assess the legislation’s likely impact continually during 2021, and beyond. Therefore market participants may wish to prepare for regulator engagement on a regular cadence from now.

In addition, the Federal Reserve Board, the FDIC and the OCC have also encouraged banks to cease entering into new contracts that use USD LIBOR as a reference rate ‘…as soon as practicable and in any event by December 31, 2021.’[7] The ARRC have gone even further by recommending that no new USD LIBOR business loans be issued past the end of Q2 2021.[8] The OCC has also issued a LIBOR self-assessment tool for banks in its recent Bulletin,[9] which serves as a checklist to help guide banks during this critical year.

All of these point to a pattern of key regulators needing to ensure the market is making tangible strides in the transition. As part of this, regulators will undoubtedly want to ensure that the market is heeding this advice. Market participants should expect routine regulatory activity to keep track of transition efforts.

United Kingdom

In the UK, the FCA is obligated to consult on its proposed new powers as set out in the Finance Bill. While these powers would deal with the issue of tough legacy contracts in a different way to the proposed New York legislation (by affording the FCA the ability to create a ‘synthetic’ LIBOR rate),[10] market participants could expect to be asked for regular updates on transition progress so that the FCA can track the likely effect of such powers. Coupled with the fact that the Working Group on Sterling Risk-Free Reference Rates (RFRWG) has recently recommended a deadline of the end of Q1 2021 for ceasing initiation of new GBP LIBOR-linked loans, bonds, securitizations and linear derivatives that expire after the end of 2021, as well as complete the identification of all legacy GBP LIBOR contracts expiring after end 2021 that can be actively converted,[11] it is easy to imagine that hard, actionable data from market participants will be critical for regulators and legislators to chart the best path to an orderly transition to RFRs in 2021 and beyond.

Market participants can therefore expect their regulators to be more ‘hands on’ from now. However, this should not necessarily be seen as an additional burden; if such regulatory engagement is approached with the right mindset, it may well help act as the catalyst needed to shape and galvanize a firm’s response to the challenge.

How our Document AI platform can help

Our award-winning Document AI solution has helped ING deliver time and cost savings of up to 75% on their LIBOR transition program. We’ve also supported numerous other clients with their LIBOR transition, including buy-side financial firms and corporates. Regardless of the size of the firm, our solution can deliver time and cost savings compared to manual processing. During the course of our work, we’ve noted LIBOR references beyond financial contracts. We have come across contracts as diverse as employment agreements that reference LIBOR and will need to be factored into a firm’s remediation strategy. Our solution offers unparalleled flexibility and can analyze a wide range of documents with speed and accuracy.

As well as saving firms’ time and money on their LIBOR transition project, one of the benefits of using Document AI technology is the long-term effect. LIBOR cessation necessitates a wholesale review of documents on a scale previously unknown. Which means those choosing to use technology to automate their in-house document review capabilities for LIBOR have also taken a giant leap forward with their digital transformation efforts. Eigen is equally effective at reviewing large document sets from big banks looking to identify and categorize fallback language, as it is helping smaller institutions such as asset managers with smaller document volumes to understand their exposures to better manage their risk profile.

[1] See comments from Tom Wipf, chair of the ARRC (available at https://www.bloomberg.com/opinion/articles/2021-01-28/libor-s-endgame-in-the-u-s-requires-urgent-preparation)

[2] https://www.federalreserve.gov/newsevents/pressreleases/bcreg20201130a.htm

[3] https://www.fca.org.uk/news/statements/fca-response-iba-proposed-consultation-intention-cease-us-dollar-libor

[4] https://www.bloomberg.com/news/articles/2021-03-02/the-fed-is-dialing-up-the-pressure-on-wall-street-to-ditch-libor?sref=x7ZJPh4u

[5] See, for example, the Sterling Risk Free Rate Working Group 2021 Roadmap in respect of Sterling LIBOR, and the target dates contained in the ARRC’s recommended best practices document.

[6] “Legislation is the best option to determine what happens to these contracts after Libor’s end” - Tom Wipf, chair of the ARRC (available at https://www.bloomberg.com/opinion/articles/2021-01-28/libor-s-endgame-in-the-u-s-requires-urgent-preparation)

[7] Statement on LIBOR Transition, November 30, 2020 (available at https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20201130a1.pdf)

[8] ARRC recommended best practices for completing Transition from LIBOR (available at https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2020/ARRC-Best-Practices.pdf)

[9] https://www.occ.gov/news-issuances/bulletins/2021/bulletin-2021-7.html

[10] The FCA has also issued an updated statement of policy in relation to its proposed new powers.

[11] RFRWG Top Level Priorities – 2021 (available at https://www.bankofengland.co.uk/-/media/boe/files/markets/benchmarks/rfr/rfr-working-group-roadmap.pdf)

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