In July 2017, the UK’s Financial Conduct Authority (FCA) announced that the London Inter-Bank Offered Rate (LIBOR) should be phased out by the end of 2021 and replaced by risk-free rates (RFR).
RFRs are considered good interest rate benchmarks, as they have been active and reliable even during recent times of stress. Examples include SONIA (GBP), SOFR (USD), SARON (CHF), €STR (EUR) and TONAR (JPY).
Asset management firms operating funds and other products, which have benchmarks or performance fees linked to LIBOR, should have ceased issuing new products linked to LIBOR by the end of Q1 2021. Asset management firms should also consider not making any new investments in GBP LIBOR-based cash products maturing beyond 2021.
The FCA expects firms to:
- Have robust documentation and not just rely on industry standard templates
- Complete their transition ahead of the end of LIBOR, and
- Have clear plans for the reduction of legacy LIBOR exposure.
The FCA has identified that exposure to LIBOR is not just found in the obvious places such as the asset and liability structures of firms, but also in a wide range of areas such as valuation, pricing, performance evaluation and risk management.
It is important that all firms do a stock take of exposure to LIBOR and quantify that exposure. From a risk management and governance perspective, senior manager oversight would be prudent, as well as the allocation of the necessary resources to ensure that the full breadth of the firm’s activities are captured in the review.
Recommended next steps for asset managers
- Identify an appropriate senior manager to take responsibility for overseeing the transition from LIBOR if they have not done so already
- Establish a working group, which should include the Compliance Officer, General Counsel and Chief Investment Officer or their equivalents
- Seek to identify and quantify the firm’s LIBOR exposure. Potential areas of exposure are:
- Derivative documentation such as clearing agreements, as well as over-the-counter agreements such as ISDAs and CSAs
- Interest rate swaps that reference LIBOR and other financial instruments held that reference LIBOR, e.g. structured products, collateralised loan obligations (CLOs), collateralised debt obligations (CDOs) and other asset-backed securities
- Loans made by the firm to borrowers, potentially including secured financing
- Loan facilities used by or available to the firm
- Performance benchmarks
- Inputs for risk analytics
- The firm’s own liabilities in general.
- Establish a transition plan and assign responsibility for areas such as:
- The review and update of derivative and loan documentation
- Client and counterparty communication, if appropriate
- Financial promotions, client agreements and fund documents
- Consider potential liability mismatches which may arise
- Strategy for reducing or trading out of legacy products, if appropriate
- Updating of ICAAP and risk management policies and procedures and all other relevant policies and procedures.
- Consider contingency plans if appropriate, for example if the market and regulatory consensus on the acceptability of individual RFRs changes
- Consider the implications for market abuse and conduct risk, provide appropriate training and review surveillance procedures.
Get in touch
If you’d like to discuss your LIBOR transitioning requirements and find out more about the support available from IQ-EQ’s in-house compliance consulting and technical regulatory reporting teams, please contact me or your usual relationship manager.
E: [email protected]
T: +44 786 027 0567
- IBOR transitioning: Time to switch – are you ready? by Gautier Despret, Head of Debt Services