Preparing for the transition from IBOR to risk free rates.
Interbank Offered Rates (IBORs), such as the London Interbank Offered Rate (LIBOR), have been used to set interest rates on a global basis for a wide variety of financial products, including derivatives, loans, bonds and structured products. However, as you may be aware, a number of central banks and international financial authorities have taken the view that these interest rate benchmarks represent a potential systemic risk and therefore need to be replaced or reformed. In particular:
- LIBOR “is expected to cease after end-2021”, following the announcement by the UK Financial Conduct Authority (FCA) that it would no longer persuade or compel LIBOR panel banks to continue making LIBOR submissions after 2021 (see: https://www.bankofengland.co.uk/-/media/boe/files/markets/benchmarks/rfr/factsheet-calling-time-on-libor-why-you-need-to-act-now.pdf );
- EONIA (Euro Overnight Index Average) was reformed in October 2019 and will no longer be published after 31 December 2021; and
- EURIBOR (Euro InterBank Offered Rate) was reformed in 2019 and is now compliant with the European benchmark regulation.
Regulators in a number of key jurisdictions (including the US, the EU and the UK) have a strong preference for IBORs to be replaced by rates based on overnight risk-free rates (RFRs).
Given the short timeline, the differences between IBORs and RFRs, the complexity of transitioning and the variety of products impacted, regulators around the world have been sending clear messages that market participants should prepare for the IBOR transition now.
Societe Generale is fully aware of these challenges and we are actively involved in industry efforts to manage the transition. We focus, in particular, on identifying and addressing the impacts on our clients’ transactions and on our operational capabilities.
As always, Societe Generale is committed to accompanying you throughout this transition period. We will continue to monitor industry developments and will keep you informed on the progresses and conclusions of the industry regarding the IBOR transition process.
Contact for any queries: firstname.lastname@example.org
What are IBORs?
"IBOR" stands for InterBank Offered Rates. These interest rate benchmarks reflect the average interest rate of transactions on the unsecured interbank lending market, in different currencies and tenors. They are used to set interest rates on a global basis for a wide variety of financial products, including derivatives, loans, bonds and structured products.
LIBOR (the London interbank offered rate) and EURIBOR (the Euro interbank offered rate) are both examples of commonly used IBORs.
Why are IBOR rates being replaced?
Further to the 2007 financial crisis, in particular, there was a decline in the volume of transactions on the unsecured interbank lending market. These transactions underpin IBOR rates. Due to the disappearance of these transactions, today’s daily publication of IBOR rates relies heavily on "expert judgement" instead. The public sector is concerned that this situation represents a potentially serious source of vulnerability and a systemic risk. Therefore, such IBOR rates need to be replaced or reformed. The UK Financial Conduct Authority (FCA) announced that it would no longer persuade or compel LIBOR panel banks to continue making LIBOR submissions after 2021. Market participants should not rely on LIBOR being available after 1 January 2022.
What are the alternative solutions for IBOR rates?
The public sector, industry bodies and trade associations have identified risk-free rates ("RFRs") as possible replacements for IBORs. These alternative RFRs are at different stages of implementation, depending on their currency.
What are Risk Free Rates (“RFR”)?
The table below lists the historical IBOR rates for major currencies and the corresponding alternative RFRs:
What are the main differences between RFRs and IBORs?
The main differences between RFRs and IBORs are the following:
- Whereas IBORs are forward looking term rates that can apply across multiple tenors: overnight, 1 week, 1 month, 2 months, 3 months, 6 months and 12°months, RFRs are overnight rates with no term element. The only possibility to use RFRs with tenors, as of now, is on a backward looking basis, as averages over a given past period. The methodology recommended by public authorities and working groups to calculate such averages is with compounded interests.
- IBORs contain a premium for bank credit risk (and potentially other premiums – liquidity, term and funding) whereas, in general, RFRs contain little or no such additional premiums;
- Whilst IBORs rely also on expert judgement, RFRs rely exclusively on transactions.
Will there be forward-looking RFR term rates and, if so, when will these be introduced?
As of now, no forward-looking term rate is available in respect of any of the RFRs. The desire to develop forward-looking RFR term rates has been expressed by a number of industry working groups or private companies. However, so far:
- GBP: The Bank of England working group is the only one that has indicated that it planned making available forward-looking term rates complementing SONIA, possibly by the end of Q3 2020;
- USD: The ARRC (the working group with the NY Federal Reserve Bank) is working on a forward-looking SOFR term rate that could perhaps become available by late 2021;
- JPY: The Bank of Japan’s working group is assessing the possibility to provide a forward looking TONA term rate;
- CHF: The working group of the Swiss National Bank has made it known that there would be no forward-looking term rate for SARON;
- EUR: The European Central Bank working group is assessing the possibility to provide a forward looking €STR term rate.
Links to central bank working groups
- New York Federal Reserve (USD) : Alternative Reference Rates Committee (ARRC)
- Bank of England (GBP) : Working Group on Sterling Risk-Free Reference Rates
- Swiss National Bank (CHF) : National Working Group on Swiss Franc Reference Rates
- European Central Bank (EUR) : Working Group on Euro Risk-Free Rates
- Bank of Japan (JPY) : Study Group on Risk Free Rates
This webpage dedicated to the IBOR reform, including the Q&A, has been prepared by Societe Generale (SG). The information it contains is general and does not constitute advice. It was first prepared prior to the date it is sent and may not have been updated to reflect recent market developments. It contains information on IBOR reform that is intended for the use of SG clients only and it should not be shared with third parties. SG accepts no responsibility or liability to you with respect to the use of this webpage or its contents. If you have questions in relation to the contents of this webpage, you should consider seeking independent professional advice (legal, tax, accounting, financial or other) as appropriate.