UK regulators started the final countdown to Libor, ordering banks to be prepared for the end date of a highly malicious benchmark that has been at the center of the international financial system for decades.
The UK's Financial Conduct Authority confirmed Friday that final readings for most rates will take place by the end of this year, with only a few key tenors remaining for another 18 months.
The move comes after major manipulation scandals and the drying up of the trading data used to inform about the interest rates associated with everything from credit cards to leveraged loans. Regulators have made a concerted effort to tear it down in 2021, with the Federal Reserve and others pushing market participants for alternatives.
"Outside of the US dollar markets, this is the endgame," said Claude Brown, partner at Reed Smith LLP in London. "The rate that connected the world and then shocked the world will leave this world in 2021."
Libor is deeply embedded in the financial markets. Around $ 200 trillion in derivatives are tied to the US dollar benchmark alone, and most major global banks will spend more than $ 100 million preparing for the switch. Smaller companies – from hedge funds to non-financial corporations – could also get caught in the crossfire, many only at the beginning of the transition from legacy contracts.
Bank of England Governor Andrew Bailey said this was now the "final chapter" and there was no excuse for delay. "With limited time remaining, my message to companies is clear: act now and complete your transition," he said.
Progress in replacing benchmarks such as the Secured Overnight Financing Rate in the US and the Tokyo Overnight Average Rate in Japan has been slow, and there is hope that Friday's announcement could accelerate the process.
"This was the much anticipated final clarity the market needed to really gain a foothold," said Kari Hallgrimsson, co-head of EMEA rates at JPMorgan Chase & Co. "We would expect liquidity to trade with the new interest rates continue to increase from here. " on out. "
The potential lag in the most widely used dollar Libor tenors – especially the three-month benchmark – is an admission to market concerns, but regulators continue to insist that dollar Libor should not be used on new contracts after 2021. Companies should expect further commitment from their supervisors to ensure deadlines are met, the FCA warned.
Similar regulatory pressures are building up in the US. The Fed is stepping up its scrutiny of banks' efforts to stop relying on Libor and has begun collecting more detailed evidence of their progress.
Friday's decision locks in the benchmark's fallback spread calculations, which are added to SOFR, the main US replacement, for dollar Libor.
While speculation about the timing of the announcement rocked the Eurodollar market in December, the market reaction on Friday was subdued. The spread between June 2023 and September 2023 Eurodollars increased by one basis point, as did the difference between December 2021 and March 2022 Short Sterling Contract.
"The most important finding is that the calculation of the fallback spread is fixed, which in turn gives market participants security in their transition," said Antoine Bouvet, Senior Rate Strategist at ING Groep NV.
The FCA also made proposals to address the most problematic loans and securitisations that cannot be converted to replacement rates. The regulator will consult the synthetic Libor – which does not rely on bank panel data – for the sterling and yen benchmarks and will continue to consider whether these powers can be used for some dollar Libor adjustments.