libor transition a practical guide · alternative reference rates (arrs) for the five major...

SH-Presentations Client Guide (UBS Format) UNAPPROVED v6.0.2 - PA BIB.docx

August, 2020 1

LIBOR Transition

A practical guide

August 2020 Edition


2

Table of Contents

LIBOR Transition __________________________________________________________________________________ 1

A practical guide _________________________________________________________________________________ 1

August 2020 Edition ______________________________________________________________________________ 1

1. LIBOR Transition: Executive Summary __________________________________________________ 4

What does this document seek to do? _________________________________________________ 4

Summary _________________________________________________________________________ 4

Practical considerations checklist ______________________________________________________ 4

Key highlights _____________________________________________________________________ 4

What's next? ______________________________________________________________________ 4

2. LIBOR Transition: Facts and Figures ____________________________________________________ 5

What is LIBOR? ____________________________________________________________________ 5

Where is LIBOR used? _______________________________________________________________ 5

What is happening to LIBOR and by when? _____________________________________________ 5

What has the response been to date? __________________________________________________ 5

What are the main Alternative Reference Rates? _________________________________________ 6

How do these ARRs differ to LIBOR? ___________________________________________________ 7

Are these ARRs secured or unsecured? _________________________________________________ 7

Will the ARRs have forward looking term structures? _____________________________________ 7

What are ARR Compounded Index Rates? ______________________________________________ 7

What about the other IBOR benchmark Rates? __________________________________________ 7

Summary and Practical Considerations _________________________________________________ 8

3. LIBOR Transition: Discounting Risk _____________________________________________________ 9

What is discounting risk? ____________________________________________________________ 9

What are the implications for CSAs? ___________________________________________________ 9

How are the CCPs approaching the change? ____________________________________________ 9

Why will these changes drive an increased Bilateral Negotiation of CSAs? ___________________ 10

When will UBS be ready to open CSA negotiations? _____________________________________ 10

What is the impact on swaption contracts? ____________________________________________ 10

What is the UBS current stance on swaption voluntary compensation? _____________________ 10

Summary and Practical Considerations ________________________________________________ 11

4. LIBOR Transition: Forecasting Risk ____________________________________________________ 12

What is Forecasting Risk? ___________________________________________________________ 12

What are the Fallback Provisions? ____________________________________________________ 12


3

What are some examples of differing fallback methods? _________________________________ 13

How will the LIBOR transition affect contracts executed under the updated Definitions? _______ 13

How will the LIBOR transition affect the existing contracts? _______________________________ 13

What is expected to happen to cleared contracts? ______________________________________ 13

How will the LIBOR transition affect products other than OTC derivatives? __________________ 14

How could hedge effectiveness across asset classes via linked transactions be affected by the LIBOR transition? _______________________________________________________________________ 14

What is the ISDA LIBOR to ARR adjustment? ___________________________________________ 14

What are the ARRC's recommended best practices? _____________________________________ 14

What is Pre-Cessation? _____________________________________________________________ 15

What is 'Synthetic LIBOR'? __________________________________________________________ 15

What are the implications of 'Synthetic LIBOR' on Transition? _____________________________ 15

What has been the reaction to the HM Treasury announcement so far? ____________________ 16

Why is the Transition challenging for certain products? __________________________________ 16

Why might these Forecasting Risk changes drive increased bilateral/ multilateral negotiation? __ 16

What are the main drivers that may determine the impact on Forecasting Risk? ______________ 16

Summary and Practical Considerations ________________________________________________ 17

5. From 2017 to Date: Regulatory and Market Milestones ______________________________ 18

6. Upcoming Regulatory and Market Milestones ______________________________________ 19

7. Appendix _______________________________________________________________________ 20

From 2017 to Date: Regulatory and Market Milestones __________________________________ 20

Upcoming Regulatory and Market Milestones __________________________________________ 23

Other IBORs Benchmark Rates _______________________________________________________ 26

Overnight Index Swap Industry Definitions _____________________________________________ 27

ARR detailed information ___________________________________________________________ 27

8. Bibliography ____________________________________________________________________ 28

9. Glossary ________________________________________________________________________ 29

10. Disclaimer _______________________________________________________________________ 30

11. Contact information _____________________________________________________________ 31


4

1. LIBOR Transition: Executive Summary

What does this document seek to do?

This guide aims to give UBS clients an understanding of the LIBOR transition and highlights the practical considerations that should be taken into account. This communication is not sent to you in connection with any wealth management, corporate or institutional client or asset management relationship you may have with UBS.

Summary

Regulators have announced that by the end of 2021 the market should stop relying on LIBOR. Each of the Alternative Reference Rates (ARRs) for the five major currencies (USD, EUR, GBP, CHF, JPY) involved is at a different stage in terms of development and liquidity. In due course other currencies' alternative rates may be developed but the initial focus has been on these five. The industry needs to understand, prepare and execute with respect to this market change.

LIBOR is used as a reference rate in a multitude of products and links, for example between a derivative and an underlying asset, need to be considered in order to understand potential basis risk between LIBOR and the new ARR. In addition to migration of transactions, industry changes in discounting methodology are planned and changes in technology systems may be required.

UBS aims to keep clients informed of these changes and is running an extensive internal change programme focussed on this transition. Note that EURIBOR and TIBOR are expected to remain into medium term so industry focus is on the other rates.

Practical considerations checklist

Understand what this change means for you:

– Analyse the exposure you currently have to LIBOR and assess the potential financial impact

– Ensure you know where you have transactions which you believe to be linked (see Forecasting Risk Section)

– Review the fallback language in your Legal Documentation (see Forecasting Risk Section)

Review your readiness:

– Evaluate whether you need to make any changes to your risk management systems

– In addition, consider any operational processes you may need to update, for example ensuring all reference data sources are updated accordingly

– Consider consolidating your LIBOR exposure to reduce the number of bi-lateral transitions required

Key highlights Facts and Figures Discounting Risk Forecasting Risk

5 ARRs have been identified to replace the 5 LIBOR currencies

Each ARR is an overnight rate

The ARRs are backward looking rates

Adjustment methodology

agreed to address the differences (term and credit) between LIBOR and ARRs.

Discounting rate and interest paid on collateral usually aligned

Switch in discounting rates to

ARRs by CCPs is likely to be a key driver for increased adoption of ARRs across the industry

Any changes to the margin annex

for a derivative contract should reference the new ARR to replace existing cash margin rate

Updated ISDA Definitions due to be published in Q3 2020

Differences in fallback methodology

across different product types may impact hedge effectiveness across transactions believed to be linked

Evaluation of current contractual fallback provisions may lead to increased bilateral discussion

What's next?

When relevant, UBS will be contacting you in due course on the following topics:

Trades with UBS referencing LIBOR;

Contracts with UBS which reference a transitioning benchmark.

If you have any further questions, in the first instance please contact your sales representative. Alternatively, please get in touch via [email protected].

mailto:UBS-IB-LIBOR


5

2. LIBOR Transition: Facts and Figures

What is LIBOR?

The London Interbank Offered Rate (LIBOR) is calculated from submissions by selected "panel" banks1 of the rates they either pay or would expect to pay to borrow from one another.

LIBOR is a widely-used interest rate benchmark. Rates are determined daily by the LIBOR administrator, the ICE Benchmark Administration (IBA), for various currencies (USD, EUR, GBP, CHF, JPY) and tenors (Overnight, 1w, 1m, 2m, 3m, 6m and 12m).

Where is LIBOR used?

According to IBA, LIBOR is used to determine periodic interest payments for many hundreds of trillions of notional of financial products globally, and is used for example in derivatives, bonds, structured products, securitised products and loans.

What is happening to LIBOR and by when?

Just over a decade ago, the market's perception of an increase in inter-bank credit risk inherently contained within LIBOR led to a widening of the basis between LIBOR and short-term interest rate futures. Financial institutions began to switch from using LIBOR to Overnight Index Swap rate (OIS) for discounting purposes, which was seen as being closer to a risk-free rate. At the same time, liquidity in the unsecured lending market, which underpins LIBOR, declined as banks became increasingly unwilling to lend to one another on an unsecured basis. The concern was that a lending rate, based on an increasingly less liquid market, was being used to reference many multiples of financial contracts. As a result, in 2017, the FCA announced that the market should transition to alternative reference rates based firmly on transactions, with panel bank support for current LIBOR agreed only until the end of 2021.

The end-2021 deadline has been reiterated by regulatory bodies around the world and, despite market-driven transition challenges triggered by the COVID-19 pandemic, the FCA2 has stated that the transition away from LIBOR still needs to happen by the end of 2021.

What has the response been to date?

In response to these concerns on LIBOR, the Financial Stability Board's (FSB) review produced the basis for the 19 principles developed by the International Organization of Securities Commissions (IOSCO) 3. One of the key IOSCO

1 https://www.theice.com/iba/libor#methodology

2 https://www.fca.org.uk/news/statements/impact-coronavirus-firms-libor-transition-plans

3 https://www.iosco.org/library/pubdocs/pdf/IOSCOPD415.pdf


6

principles was that a new "representative" benchmark reference rate should wherever possible be based on transactions and not expert judgement.

Since the initial FCA statement in 20174, national working groups (see Forecasting Risk section) have been set up with the support of regulators and central banks with broad industry and market representation. These working groups have recommended alternative benchmarks for each of the LIBOR currencies. These alternatives are viewed as more robust benchmarks, compliant with IOSCO principles and are underpinned by larger volumes of observable transactions.

What are the main Alternative Reference Rates?

Different jurisdictions have developed different methodologies for their new ARRs, and as illustrated in the timelines in the appendix, these are all at different stages in terms of market liquidity and development. These ARRs are managed by different administrators, as outlined below.

Jurisdiction Working Group

Legacy Reference Rate Target ARR

Underlying transactions

Secured vs Unsecured

Rate Administrator Comments

US Alternative Reference Rates committee (ARRC)

USD LIBOR Secured Overnight Financing Rate (SOFR)

Secured Federal Reserve Bank of New York

UK Working group on Sterling Risk-Free Reference Rates

GBP LIBOR Sterling Overnight Index Average (SONIA)

Unsecured Bank of England

Euro Area Working Group on euro risk-free rates

EONIA1 Euro Short Term Rate (€STR)

Unsecured European Central Bank

Reformed EURIBOR is expected to continue alongside €STR as a multiple rate approach. The European Commission has expressed confidence in EURIBOR for the medium term

Switzerland The National Working Group on Swiss Franc Reference Rates

CHF LIBOR Swiss Average Rate Overnight (SARON)

Secured SIX Swiss Exchange

Japan Study Group on Risk-Free Reference Rates

JPY LIBOR Tokyo Overnight Average Rate (TONA)

Unsecured Bank of Japan Multi rate approach planned with TIBOR (but Euroyen TIBOR may discontinue)

Note:

1 This is not an IBOR, however it is being replaced by an ARR. EUR LIBOR has not been referenced as its role as a benchmark is dwarfed by the

use of EONIA or EURIBOR.

Please see the Appendix for ARR detailed Information.

4 https://www.fca.org.uk/news/speeches/the-future-of-libor

https://www.fca.org.uk/news/speeches/the-future-of-libor


7

How do these ARRs differ to LIBOR?

The ARRs are structurally different from LIBOR and are not economic equivalents.

Components LIBOR ARRs

Methodology Based on a waterfall methodology incorporating real transactions but also expert judgement

SOFR, SONIA, €STR, SARON and TONA are anchored in real transactions

Term Published for 7 maturities from overnight up to one year

Currently only available overnight

Credit Risk

Adjustment

Includes a risk adjustment to account for

interbank credit spread and tenor

There is minimal credit spread adjustment as the

ARRs are overnight rates and some ARRs are secured

Rate The rate is set at the beginning of the period The rate is based on daily observations and is

only known at the end of the period

Settlement Conventions

Paid at end of period There are a variety of conventions used in the calculation of cashflows dependent on backward looking rates:

Compounding of the overnight ARR over the

payment period

Averaging of the overnight ARR over the

payment period

Lockout

Backward Shift or Lookback

Please see Appendix Overnight Index Swap

Industry Definitions for further information on

the above

These differences may mean your risk management systems may require enhancements to manage the different methodology of curve construction.

Are these ARRs secured or unsecured?

Some of the ARRs are secured rates, i.e. calculated from observed repos collateralized by government bonds. This applies to SARON for CHF and SOFR for USD. The others are unsecured like LIBOR, i.e. based on unsecured borrowing with no actual underlying security. LIBOR differs from these unsecured ARRs in that it is based not only on observed interbank borrowing transactions but also expert judgement.

Will the ARRs have forward looking term structures?

The ARRs developed to date are overnight rates. There are several ongoing efforts by the ARR working groups looking to develop forward looking term structures for the ARRs (except for SARON). However, a forward looking term rate requires sufficient depth in the ARR derivatives market in order to be able to calculate the rate, so they may not be fully available for use by 2021.

What are ARR Compounded Index Rates?

An alternative to forward looking term structures is to provide the result of compounding a rate over a period (such as 30, 90, 180 days) and publishing these as indices. This may assist some market participants to adopt these rates as it can limit the amount of daily compounding calculations required.

In March 2020 both the Federal Reserve and SIX began publishing 30-, 90-, and 180-day SOFR averages (as well as a SOFR Index) and 1-, 3- and 6-month compounded SARON indices, (calculated in arrears) respectively. Such compounded indices for SONIA have been published by Bank Of England from 3rd August 2020.

What about the other IBOR benchmark Rates?

The initial focus has been on the five ARRs detailed above. In due course other alternative rates may be developed. See appendix Other IBORs Benchmark Rates for selected examples of those currently under review.


8

Summary and Practical Considerations

Below are some of the practical considerations clients should take into consideration for this LIBOR transition

Summary Practical Considerations include

5 ARRs have been identified to replace the 5 LIBOR

currencies

Evaluate whether you need to make any changes to

your risk management systems, specifically to ensure

that you are able to trade, manage and settle

transactions referencing a backward looking

compounded (or simple averaged) rate as opposed

to a forward looking term rate

The ARRs are currently only overnight rates

The ARRs are generally published the following day

The methodology to calculate an adjustment to

replace LIBOR with an ARR (to address the term and

credit differences) has been agreed by ISDA

If you have any further questions, in the first instance please contact your sales representative. Alternatively,

please get in touch via [email protected].

mailto:UBS-IB-LIBOR


9

3. LIBOR Transition: Discounting Risk

What is discounting risk?

The derivative contracts portion of the hundreds of $trillions of contracts are held in portfolios of trades that were either executed bilaterally between market participants (under ISDAs and if collateralized with a Credit Support Annex (CSA)) or intermediated by Central Clearing Counterparties (CCPs). Many of these bilateral CSAs reference Effective Federal Funds Rate (EFFR) or EONIA as the benchmark used to determine the interest paid on cash collateral posted. The CCPs currently use EFFR to determine the margin interest rate (known as Price Aligned Interest5 (PAI) rate) for USD activity (and prior to a switch to €STR in late July 2020 used EONIA for PAI for EUR.

Whilst the expected value of LIBOR drives the expected payments referencing LIBOR, the cashflows themselves need to be discounted back to the present value / price for a contract or security respectively. In this case, the change in the discounting curve on the valuation is referred to as Discounting Risk. Prior to the financial crisis, in the derivatives market, the rate used to discount these cashflows was LIBOR. Subsequently many market participants adopted an approach that aligned the discounting rate used with the interest rate paid (cash margin rate) on the type(s) of collateral specified (known as Eligible Collateral) in the underlying CSA. Any change in the discounting curve will not only change the Discounting Risk but also create a value transfer.

What are the implications for CSAs?

To reflect the eligible collateral, the current overnight benchmarks for the major currencies are used to pay PAI. For example the EFFR is used as the PAI rate on the posting of USD cash collateral. This rate is generally used as the discount rate to value the trade. Similarly, when it comes to posting of EUR cash collateral, EONIA is the PAI rate and the discount rate. EMMI has announced that EONIA will be withdrawn at end of the 2021. CSAs referencing this rate can be updated before that date, for example, by replacing with €STR.

For CSAs where non cash collateral is used, e.g. government bonds, margin interest is not transferred between counterparties, therefore there is no need for any renegotiation to change the discounting rate used to value the trade. The discounting rate used to value the underlying derivative contracts of these CSAs is aligned to the funding rate for this collateral in the secured funding market. As an example, if US Treasuries are the only eligible collateral, this could currently mean that the discount rate used is EFFR for the CSA. This rate could change to SOFR once the secured funding market adopts SOFR as the funding rate instead of EFFR.

The CSA changes are likely to accelerate post the switch from EFFR to SOFR and from EONIA to €STR when the CCPs make the change in 2020. The switch in discounting rates is a significant milestone for LIBOR transition as it is expected that market participants will look to switch their discounting risk thereby establishing hedging and re-hedging requirements in transactions referencing these ARRs: a key driver for adoption of ARRs as the market standard floating rate.

How are the CCPs approaching the change?

LCH and CME have disclosed their plans to adopt SOFR in place of EFFR as the PAI rate and discounting rate for all USD discounted contracts held in the exchange. In order to minimize the resulting discounting risk basis, it is expected that some market participants will seek to renegotiate their CSAs referencing EFFR to SOFR as close as possible to the CCP timelines. For details on the switch from EFFR to SOFR as the PAI rate and discounting of USD activity at LCH and CME, please see the table below:

5 https://www.theotcspace.com/content/price-alignment-interest-pai

https://www.theotcspace.com/content/price-alignment-interest-pai


10

EFFR->SOFR LCH6 CME7

Date of Change

16th October 2020 16th October 2020

Scope All USD discounted products All USD discounted products

Proposal

Summary Cash and Risk compensating

(EFFR/SOFR Basis) swaps for Members

Clients can opt for Cash only & an

auction process will take place to ensure LCH remains flat risk/cash

All Participants take Cash and Risk compensating

(EFFR/SOFR Basis) swaps

OR

For participants that do not want Basis swaps,

CME intends to engage third party providers to facilitate an auction and/or transfer mechanism

As of 27th July 2020, €STR replaced EONIA as the PAI rate and discounting rate for all EUR discounted contracts held EUREX, CME and LCH. As the spread between EONIA and €STR is fixed at 8.5bps, only announced cash compensation was transferred.

Why will these changes drive an increased Bilateral Negotiation of CSAs?

In addition to the negotiations mandated by the "Margin requirements for non-centrally cleared derivatives" regulations8 (with the first phase effective 1st September 2016 and final phase due 1st September 2021), CSA renegotiations driven by LIBOR transition are expected to be a major exercise. Given the majority of OTC contracts referencing LIBOR are cleared, there is an expectation that market participants may want to ensure that both current regulatory mandated and non-mandated bilateral CSAs are in line with CCP discounting and PAI. The industry has largely been through the transition from using LIBOR to overnight rates for discounting. The expectation is that the transition from current overnight rates (EONIA, EFFR) to ARRs (€STR, SOFR) will not be as challenging as the transition from LIBOR to ARR for forecasting. Forecasting changes will be discussed in the next section.

When will UBS be ready to open CSA negotiations?

UBS commences CSA negotiations after the current CCP transition dates. For CSAs currently referencing EONIA, UBS opened negotiations to effect the change of PAI to €STR at the end of July 2020. Similarly once the switch from EFFR to SOFR is completed at the CCPs on the 16th October 2020, UBS aims to open CSA negotiations for those CSAs referencing EFFR. Please contact your Sales representative directly to start the process.

What is the impact on swaption contracts?

The change in CCPs’ PAI for cleared swaps has a corresponding impact on swaptions that reference the price of cleared swaps as the underlying instruments. Depending on the extent to which the swaption is in or out of money changes following on from switch in PAI benchmark, either party of the swaption contract may experience a significant windfall gain or loss.

In order to recompense market participants for a windfall gain or loss in the price of a swaption due to the change in the underlying price of cleared swap, both the ECB9 and ARRC10 recommended that market participants should exchange voluntary compensation with their swaption counterparties.

What is the UBS current stance on swaption voluntary compensation?

UBS agrees in principle with the ARRC's recommendation for industry-wide compensation for the legacy swaption contracts affected by the discounting transition from EFFR to SOFR and would support an industry-wide implementation of a process which ensures that the payment of compensation is widespread and includes counterparties both with net compensation payments and receipts. We are not yet aware of industry formal working group discussions taking place to determine the mechanics of implementing the Committee's recommendation, and note that voluntary compensation was not possible in the transition from EONIA to ESTR,

6 https://www.cftc.gov/media/2421/MRAC_LCHSOFRDiscountingLetter090919/download

7 https://www.cmegroup.com/education/articles-and-reports/sofr-price-alignment-and-discounting-proposal.html

8 https://www.bis.org/bcbs/publ/d475.htm

9 https://www.ecb.europa.eu/pub/pdf/other/ecb.recommendation_swaptions_impacted_by_discounting_switch_to_EuroSTR~a64f042ed9.en.pdf

10 https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2020/ARRC-swaptions-recommendations.pdf

https://www.cftc.gov/media/2421/MRAC_LCHSOFRDiscountingLetter090919/download

https://www.cmegroup.com/education/articles-and-reports/sofr-price-alignment-and-discounting-proposal.html


11

however continue to speak to regulators and ISDA on this. If you wish to share your views on the matter, please contact your sales representative or alternatively, get in touch via [email protected].

Summary and Practical Considerations Below are some of the practical considerations clients should take into consideration for this LIBOR transition


Discounting rate and interest paid on cash collateral

usually aligned

Review eligible collateral terms in your CSAs

(specifically cash interest rate on margin)

Assess the economic impact of switching your

interest rates

Switch in discounting rates to ARRs by CCPs is likely

to be a key driver for increased adoption of ARRs

across the industry

Be mindful that once CCP switches are made, basis

risk may exist between your cleared and bilateral

portfolios

Consider which CSAs you may need to prioritize

renegotiation for in order to reduce this potential

basis risk

Any changes to the margin annex for a derivative

contract should reference the new ARR to replace

existing cash margin rate.

A change to the cash margin rate in the agreement

will result in a change in margin interest flows and

potentially the discounting curve used for the

underlying derivative portfolio

Consider there may be a value transfer with your

bilateral counterpart for this change that will need to

be agreed

If you have any further questions, in the first instance please contact your sales representative. Alternatively, please

get in touch via [email protected].

mailto:UBS-IB-LIBOR


12

4. LIBOR Transition: Forecasting Risk

What is Forecasting Risk?

LIBOR is widely applied as the floating interest rate benchmark referenced in a derivative (such as a swap floating leg), coupon on a bond or used to determine the interest rate on a loan. The valuation of such contracts or securities is driven by the change in the expected value of LIBOR—this is expressed as Forecasting Risk.

Active LIBOR transition is where market participants switch out of LIBOR referenced contracts into ARR referenced contracts as market liquidity allows, rather than waiting until the end of 2021. This activity would see ARR forecasting risk gradually replace LIBOR forecasting risk.

The ARR forecasting curve is generally lower than the LIBOR equivalent.

What are the Fallback Provisions?

For any contracts referencing LIBOR when it is discontinued, the parties will, in the absence of changes to the terms, have to rely on the contractual terms that exist to determine the post-cessation rate. The effectiveness and prevalence of these fallback provisions varies across products and markets. These provisions, depending on when drafted, may have the components listed in the following table. Market participants should review existing derivative contracts and current positions in all LIBOR-referencing financial contracts (that expect to be held beyond 2021) for provisions that determine the reference rate in the absence of LIBOR, or confirm the steps to be taken to frame an alternative. Various groups (specifically ISDA for derivative contracts) are coordinating inputs from the industry to arrive at fallback language for impacted financial products addressing permanent LIBOR cessation.

Term Definition

Fallback

Language

Fallback language refers to the legal provisions in a contract that apply if the underlying

reference rate (e.g. LIBOR) in the product is not published (whether on a temporary or permanent basis).

Fallback Rate The reference rate replacing LIBOR upon the Fallback Trigger Event. There are multiple approaches adopted in existing contracts to calculate a fallback rate, including replacing a floating rate with the last LIBOR setting for all post-cessation fixings or referencing the lenders' costs of funds.

Spread Adjustment

As noted LIBOR is different to the ARR applicable in each jurisdiction and there may need to be a spread adjustment applied to the ARR replacing LIBOR to account for differences in the construction of LIBOR and the ARR.

Fallback Trigger Event

Set of events relating to the original reference rate which may trigger the fallback to a new Reference Rate.

Clients should consider the economic and financial impact of the fallback provisions in their own contracts.


13

For example, the Federal Reserve Bank of New York's Alternative Reference Rate Committee has published language for cash products like securitized products and loans. The Loan Market Association has also focused on fallbacks for loans. ISDA is due to publish an update to its definitional booklets which incorporate updated fallback language (known as the IBOR fallback) in Q3 2020.

The preference of the FCA11 is for market participants to pro-actively switch to new alternative ARRs as soon as possible (as a primary approach), rather than to rely on fallback language (acting, in effect as a ‘seatbelt’). However, there are various aspects which may hinder this process—for example liquidity in an ARR.

What are some examples of differing fallback methods?

There are different defined triggers and fallbacks for different products. In bonds, for example, a common fallback in existing documentation is to use the last available published rate. Thus in the event of LIBOR cessation, these securities would essentially become fixed rate products. In loans, a common ultimate fallback is to lenders' costs of funds. In a derivative, on the other hand, the alternative to LIBOR may be subject to calculation by agents (e.g. a dealer poll undertaken by calculation agent or to some other method).

How will the LIBOR transition affect contracts executed under the updated Definitions?

For OTC derivatives, ISDA has consulted widely on updated Definitions to incorporate fallback language for implementation in derivative contracts, with the final form due Q3 2020.These changes will become effective for new contracts traded four months after the publication date. These updated Definitions will include pre-defined ARR based fallbacks for LIBOR and certain IBOR replacement rates and new trigger definitions.

An alternative approach may be to implement ISDA's Benchmark Supplement12, which sets out a contractual process aiming to agree an alternative rate, but does not pre-define the actual rate. The Benchmark Supplement does not therefore provide economic certainty.

How will the LIBOR transition affect the existing contracts?

ISDA is currently scheduled to publish an IBOR Fallback Protocol in Q3 2020 that when adhered to by market participants, will apply the updated Definitions to existing derivative contracts. The ISDA Protocol is expected to be drafted deliberately broad to cover transactions governed by ISDA Master Agreement or other forms of master agreement (e.g. Federation Bancaire Francaise, Swiss Master Agreement).

If market participants choose not to sign up to protocol or do not adopt the provisions through a bilateral negotiation then the existing contracts will remain on the current fallback provisions as stipulated in the contract which when written probably did not envisage a permanent cessation of LIBOR.

ISDA's Benchmark Supplement also provides the option to implement a contractual process for existing contracts. However, both parties to the contract need to elect to implement for existing contracts for this to take effect.

It is expected that regulated entities such as UBS would adhere to the protocol within 3-4 months of its publication.

It should be noted that even in ARRs where liquidity and volumes are most developed (i.e. SONIA), this is concentrated in linear derivatives such as swaps. For non-linear derivative contracts there is comparatively little liquidity and volumes currently e.g.in swaptions where an outright SONIA volatility surface has not yet developed. With respect to the ISDA IBOR Fallback protocol, reliance on this to achieve LIBOR transition may not provide the same level of economic certainty for non-linear derivative contracts that it does for linear derivatives. In a transaction, the replacement of LIBOR references with an ARR plus an adjustment spread may affect the moneyness of the transaction and affect its efficacy relative to when originally traded as a LIBOR referencing derivative.

What is expected to happen to cleared contracts?

CCPs have indicated they will look to apply the updated ISDA Definitions for all contracts (new contracts executed under updated Definitions as well as existing contracts)13.

11 https://www.fca.org.uk/news/speeches/libor-preparing-end

12 https://www.isda.org/book/isda-benchmarks-supplement/

13 https://www.isda.org/a/md6ME/FINAL-Pre-cessation-issues-Consultation.pdf

https://www.fca.org.uk/news/speeches/libor-preparing-end


14

How will the LIBOR transition affect products other than OTC derivatives?

It is hoped that products other than OTC derivatives referencing LIBOR may also include fallback language or other provisions aimed at easing the transition to the relevant replacement rate as and when industry standards develop.

How could hedge effectiveness across asset classes via linked transactions be affected by the LIBOR transition?

Differences in fallback methodology across different product types have added more complexity to the transition for linked transactions. For example the hedge effectiveness of a swap hedging the LIBOR component of a bond or loan may lose some efficacy upon the triggering of differing fallback methodologies. Market participants may need to discuss any linked or hedged transactions and evaluate contractual fallbacks in place. The market uncertainty in entering into new contracts referencing LIBOR beyond 2021 are summarized by the Commodities, Futures Trading Commission (CFTC)14.

What is the ISDA LIBOR to ARR adjustment?

ISDA has consulted with the industry to determine a market consensus on the methodology used to calculate the adjustment spread to address the term and credit differences between LIBOR and the ARR and other factors such as liquidity and fluctuations in supply and demand.

These consultations15 have established that market participants prefer to use the compounded setting in arrears rate to address differences in tenor between IBORs and overnight RFRs, and the historical median over a five-year lookback period approach.

Note that Bloomberg has begun to publish these LIBOR fallback rates as per ISDA's agreed methodology as of 21st July 2020. The real time data can be accessed via FBAK <GO> on Bloomberg Terminals, and is publicly available on the Bloomberg website on a delayed basis.

What are the ARRC's recommended best practices?

ARRC published its best practices16 for completing transition from LIBOR to provide date-based guidance, including when no new LIBOR activity should be conducted.

Product Hardwired Fallbacks Incorporated by

IT/Operational

Vendor

Readiness

Target for No New USD LIBOR (maturing beyond 2021)

Anticipated Fallback Rates to be selected by

Floating Rate

Notes

30th June 2020 30th June 2020 31st Dec 2020 6 months before the first reset/fixing scheduled after

LIBOR cessation

Business Loans 30th Sept 2020 30th Sept 2020 30th June 2021 6 months before the first reset/fixing scheduled after

LIBOR cessation

Consumer Loans Mortgages:

30th June 2020

Student Loans: 30th Sept 2020

Mortgages:

30th Sept 2020

Mortgages:

30th Sept 2020

Specific consumer regulations

Securitizations 30th June 2020 31st Dec 2020 CLOs: 30th Sept 2021

Other: 30th June 2021

6 months before the first reset/fixing scheduled after

LIBOR cessation

14 https://www.cftc.gov/media/2491/MRAC_IBORDisclosures090919/download.

15 https://www.isda.org/a/WhXTE/Adoption-of-Risk-Free-Rates-Major-Developments-in-2020.pdf

16 https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2020/ARRC-Best-Practices.pdf

https://www.cftc.gov/media/2491/MRAC_IBORDisclosures090919/download.


15

Product Hardwired Fallbacks Incorporated by

IT/Operational

Vendor

Readiness

Target for No New USD LIBOR (maturing beyond 2021)

Anticipated Fallback Rates to be selected by

Derivatives Up to 4months after IBOR ISDA Protocol and New definition are published

Dealers to act to deliver a liquid

SOFR derivatives

markets to clients

30th June 2021

What is Pre-Cessation?

Cessation and Pre-Cessation Definitions Terms Definition

Cessation Event Event whereby a reference rate is discontinued or unavailable permanently, triggering

Fallback. A typical LIBOR cessation event would occur if there were no longer sufficient panel banks contributing to calculation of LIBOR

Pre-Cessation Event An event which impacts the reference rate but does not prevent its publication. With respect to LIBOR, such an event could be where the FCA deems LIBOR unrepresentative per IOSCO principles (via EUBR legislation) thus preventing EU regulated market participants from entering into new contracts referencing LIBOR

ARRC17 recommended the industry to include Pre-Cessation as a Fallback Trigger event in the Fallback Provisions for Floating Rate Notes.

The forthcoming ISDA Definitions will include both pre-cessation fallbacks (based on a 'non-representativeness' determination) and permanent cessation fallbacks to apply to all new derivatives referencing LIBOR that incorporate the amended 2006 ISDA Definitions. For Legacy trades (i.e. those transacted prior to the effective date of the updated Definitions) these updated Definitions are expected to be incorporated via adherence to the ISDA Fallback Protocol.

What is 'Synthetic LIBOR'?

On 23rd June HM Treasury18 announced that it intends to bring forward legislation to amend the Benchmarks Regulation (BMR) to give the FCA enhanced powers. These could help manage and direct an orderly wind-down of critical benchmarks such as LIBOR. The proposed changes will create a possible way of reducing disruption by enabling continued publication of a LIBOR rate using different and more robust methodology and inputs.

The legislation would allow the FCA to direct the benchmark administrator to change the methodology, if doing so would better protect consumers and the integrity of the market than cessation of the rate. By acting via the administrator, the LIBOR rate (including the screen rates) would be preserved and remain in place.

We will refer to this continued publication of LIBOR under a different methodology as 'Synthetic LIBOR'.

What are the implications of 'Synthetic LIBOR' on Transition?

Regulators still expect the same focus and urgency from market participants to transition from LIBOR by primarily actively switching from LIBOR contracts into ARR contracts or failing that, to insert robust and workable fallback.

These new powers may allow the continued publication of LIBOR (including the screen rates) with a more robust methodology and inputs. However the exact format of Synthetic LIBOR is unknown and will be set with market input. It is expected to be based on some form of ARR and an adjustment spread.

The use of Synthetic LIBOR is also expected to be limited to what the FCA19 term as "Tough Legacy". These are contracts that have no or inappropriate/unviable alternatives and no realistic ability to be renegotiated or amended.

Also note that any continued publication of LIBOR is dependent on the proposed legislation being passed and that the FCA will exercise such powers, none of which is certain.

17 https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2019/FRN_Fallback_Language.pdf

18 https://www.fca.org.uk/markets/transition-libor/benchmarks-regulation-proposed-new-powers

19 https://www.fca.org.uk/news/statements/fca-statement-planned-amendments-benchmarks-regulation

https://www.fca.org.uk/news/statements/fca-statement-planned-amendments-benchmarks-regulation


16

What has been the reaction to the HM Treasury announcement so far?

Prior to the HM Treasury announcement, the FCA outlined some scenarios to accelerate the transition from LIBOR to ARRs perhaps to address the counter-active effect that the possibility of LIBOR continuing may have on certain market participants.

These scenarios include the possibility of a pre-cessation or cessation announcement ahead of end 2021. This announcement would be in advance of the event or effective data but would have the effect of fixing the adjustment spread between LIBOR and the corresponding ARR which would apply at either pre-cessation or cessation date.

The GBP LIBOR market (at time of publication) is pricing such an announcement in early Q1 2021. It is not clear how such a cessation would fit with the enhanced powers proposed in the HM Treasury announcement.

Why is the Transition challenging for certain products?

Certain contracts which reference LIBOR (including bonds, structured products, securitized products, loans and a subset of existing contracts) may have characteristics that impede smooth transition such as product mechanics for material amendments, non-linearity, illiquidity or because they act as hedges to products with different fallback methods.

Non-Protocol Covered agreements and confirmations may need to be reviewed to determine an approach. Generally, this approach is likely to involve market participants being requested to sign documentation agreeing to the transition to the relevant replacement rate.

Why might these Forecasting Risk changes drive increased bilateral/ multilateral negotiation?

Due to the increased complexity introduced by the differences between asset class fallbacks and product amendment mechanics, the industry is expected to need to perform a significant review of contractual documentation before agreeing to change terms on their existing trades. Amendments to existing trades will be a challenging exercise if market participants have to amend a significant volume of trades across different products on a bilateral or multilateral basis.

What are the main drivers that may determine the impact on Forecasting Risk?

The level of impact on value and Forecasting Risk will be driven by but not limited to the following:

The specific legacy reference rate

Whether term rates become available

The specific fallback trigger provisions in existing contract(s)

Fallback rate to include an adjustment required to reflect the credit and term differences agreed by industry groups

The maturity of the contract(s)

The date when changes are expected to happen

The type of product as there are potentially differing industry solutions

There is no industry consensus on how the change in the value of contracts between parties will be handled.


17

Summary and Practical Considerations

Clients should study existing contracts that reference LIBOR and consider future trading and risk management requirements and seek professional advice (if applicable) on the economic, legal, and operational implications. Clients may also consider their specific capital, accounting, and tax consequences of LIBOR transition.

Below are some of the practical considerations clients should take into consideration for this LIBOR transition.


Increased complexity may be introduced by the

differences between asset class fallbacks

You should perform a review of contractual

documentation before agreeing to change terms on

existing trades keeping in mind that current fallback

provisions may create, upon cessation, a fallback to a

rate inconsistent with the economics of the original

deal

Acknowledge that in any new fallback provisions

that specify an ARR to replace LIBOR, there may be

an adjustment (to address the term and credit

differences)

Updated ISDA Definitions published Q3 2020

Be aware of the changes required to incorporate the

updated ISDA Definitions for new contracts and the

ISDA IBOR Fallback Protocol for existing trades

Differences in fallback methodology across different

product types may impact hedge effectiveness across

transactions which you believe to be linked

Identify all transactions which you believe to be

linked and evaluate contractual fallbacks in place in

order to determine an approach to mitigate potential

differences in fallback methodology across these

transactions

Evaluation of current contractual fallback provisions

may lead to increased bilateral discussion

You may be requested to sign documentation

agreeing to the transition to the relevant

replacement rate or adopt the ISDA Benchmark

Supplement. However the latter is an alternative

path that does not provide certainty of economic

outcome

Stay up to date with the industry announcements

related to cessation or pre-cessation announcement

dates as these will fix fallback rates spreads. Also be

aware of how Synthetic LIBOR methodology

develops as some 'Tough Legacy' contracts may end

up referencing this rate

Categorize your in-scope population of trades in

relation to possible transition activities. Note any

dependencies you require such as market readiness

or internal system/operational development.

If you have any further questions, in the first instance please contact your sales representative. Alternatively,

please get in touch via [email protected].

mailto:UBS-IB-LIBOR

18


18

5. From 2017 to Date: Regulatory and Market Milestones


6. Upcoming Regulatory and Market Milestones


20

7. Appendix

From 2017 to Date: Regulatory and Market Milestones

Date

Industry/

Regulatory update

Impacted

Rate Impact

April 2017 SONIA selected as preferred GBP

ARR

SONIA

June 2017 ARRC selects SOFR as its

recommended alternative to USD

LIBOR

SOFR

July 2017 A. Bailey (FCA) speech on panel

banks not being compelled to

submit to LIBOR post 2021

LIBOR

October

2017

The National Working Group on

Swiss Franc Reference Rates

recommends SARON as the

alternative to CHF LIBOR

SARON

April 2018 SONIA (reformed) begins

publication

SONIA Underpinned by £40-50 billion daily transactions. The Bank of

England assumes end to end administration; coverage

broadens to include bilaterally negotiated overnight

unsecured transactions and the averaging methodology

changes to reflect a trimmed mean.

April 2018 SOFR published SOFR The Federal Reserve Bank of New York begins publishing

SOFR, which is underpinned by the U.S. Treasury overnight

repurchase (repo) market, for which the pool of eligible

transactions is ~$750 billion per day.

May 2018 CME launches SOFR futures SOFR CME Group launches 1-month and 3-month SOFR futures

contracts.

June 2018 €STR methodology announced €STR

June 2018 First-ever SONIA-based floating

rate note issued

SONIA

July 2018 First-ever SOFR-based floating rate

note, issued by Fannie Mae

SOFR Issuance Size USD 6 billion.

September

2018

€STR recommended as alternative

EUR ARR & replacement for

EONIA

EONIA,

€STR

Reformed EURIBOR is expected to continue alongside €STR as

a multiple rate approach. The European Commission has

expressed confidence in EURIBOR for the medium term. As

with other LIBORs, EUR LIBOR is expected to cease.

March 2019 ECB WG recommends transition

from EONIA to €STR

EONIA,

€STR

ECB WG advises market participants to gradually replace

EONIA with the €STR as a reference rate for all products and

contracts and make all the necessary adjustments for using

the €STR as their standard benchmark.

June 2019 1st FRN Reference Rate switch

from GBP LIBOR to SONIA

GBP

LIBOR,

SONIA

Associated British Ports becomes first borrow to secure

bondholder approval to switch from LIBOR to SONIA.

July 2019 EURIBOR authorized under

Benchmarks Regulation

Euribor The Financial Service and Markets Authority (FSMA) of

Belgium authorize EMMI as administrator of EURIBOR and

hybrid EURIBOR is confirmed as EU benchmark regulation

(BMR) compliant.


21

Date

Industry/

Regulatory update

Impacted

Rate Impact

Aug 2019 Identifies SORA as the ARR to

replace SOR

SOR /

SORA

ABS-SFEMC issued consultation on 30th August 2019. As

SOR is dependent on USD LIBOR, the likely discontinuation of

LIBOR post 2021 impacts future sustainability of SOR.

2nd October

2019

EONIA becomes €STR + spread

(8.5bps)

€STR EONIA still available but published as €STR + 8.5bps

The European Central Bank started publishing €STR from 2

October 2019, reflecting the trading activity of 1 October

2019.

4Q 2019 International Accounting

Standards Board (IASB) Guidance

All ARR

January

2020

Letter to Senior Managers – Next

steps on LIBOR transition

All LIBOR

January

2020

UK RFR WG 2020 Top Level

Priorities

GBP

LIBOR /

SONIA

24th January

2020

ARRC Releases Recommendations

for Interdealer Cross-Currency

Swap Market Conventions

All ARR

March 6th

2020

ARRC Releases a Proposal for New

York State Legislation for U.S.

Dollar LIBOR Contracts

USD

LIBOR /

SOFR

March 2020 Path to

discontinuation of new

GBP LIBOR lending by end Q3

2020

GBP

LIBOR /

SONIA

March 2020 Statement on bond market

conventions

SONIA

25th March

2020

Statement on the impact of

coronavirus on firms’ LIBOR

transition plans

ALL

LIBOR /

All ARR

8th April

2020

ARRC Announces

Recommendation of a Spread

Adjustment Methodology for

Cash Products

USD

LIBOR

9th April

2020

FINMA send second "Dear CEO"

Letter

CHF

LIBOR /

SARON

Outlines steps that FINMA expect banks and securities firms

to undertake by end of 2020.

7th May

2020

Draft template for a SARON /

SOFR Cross Currency Basis Swap

confirmation

SARON /

SOFR

May 2020 Paper on the identification of

Tough Legacy issues

GBP

LIBOR

26th May

2020

Statement regarding Calculation

and Publication of Prototype Rates

for Term Reference Rates

JPY LIBOR QUICK Corp. selected as a calculating and publishing entity

of prototype rates (which are not presumed to be used in

actual transactions) for Term Reference Rates (term structures

based on Japanese yen [JPY] overnight index swap).

27th May

2020

ARRC Announces Best Practices

for Completing Transition From

LIBOR

USD

LIBOR /

SOFR

1st June

2020

Dear CEOs letter to Major

Financial Institutions regarding

LIBOR Transition (BoJ/FSA)

JPY LIBOR


22

Date

Industry/

Regulatory update

Impacted

Rate Impact

1Q 2020 Decided on Adjusted SOR as

contractual fallback for derivatives

SORA

1Q 2020 Published ISDA definition for

compounded SORA

SORA

1Q 2020 Established market conventions

for SORA OIS, CCS, SOR-SORA

Basis-Swaps

SORA

16th June

2020

Recommendation on swaptions

affected by the central clearing

counterparties’ discounting

transition from EONIA to the €STR

EONIA /

€STR

23rd June

2020

HM Treasury 'Tough Legacy'

Guidance

All LIBOR

30th June

2020

ARRC Announces Further Details

Regarding Its Recommendation of

Spread Adjustments for Cash

Products

USD

LIBOR /

SOFR

30th June

2020

ARRC Releases Updated

Recommended Hardwired Fallback

Language for Syndicated Loans

USD

LIBOR /

SOFR

10th July

2020

Letter to Authorized Institutions

(AIs) from HKMA

All LIBOR

/ All ARRs

Key Milestones that AIs should endeavor to achieve in the

transition to ARRs

July 2020 The UK RFR Working Group’s

latest priorities and roadmap for

2020-2021

GBP

LIBOR /

SONIA

July 2020 Q&A for UK RFR Working Group’s

end-Q3 2020 loans milestone

GBP

LIBOR /

SONIA

22nd July

2020

ISDA letter on IBOR Fallback

protocol

All LIBOR

/ All ARR

ISDA expects to facilitate a process whereby regulated entities

and other key market participants can adhere to the IBOR

Fallback Protocol ‘in escrow’ prior to the launch date.

22nd July

2020

ARRC Releases Conventions

Related to Using SOFR in Arrears

for Syndicated Loans

SOFR

27th July

2020

LCH, CME & EUREX switch from

EONIA to €STR for PAI and EUR

discounting

EONIA,

€STR

CSA renegotiation to move from EONIA to €STR for

discounting on EUR to align to cleared contracts.

3rd August

2020

SONIA compounded index

published

SONIA

19th August

2020

ARRC Updates Best Practices to

Encourage Adherence to ISDA

Protocol During Escrow Period

All LIBOR


23

Upcoming Regulatory and Market Milestones

Date

Industry/

Regulatory update

Impacted

Rate Impact

3Q 2020 Updated ISDA Definitions and

IBOR Fallback Protocol to

address existing contracts

published

All ARR/LIBOR

3Q 2020 Loan market conventions

proposed (BoE)

GBP LIBOR

3Q 2020 No new USD LIBOR residential

mortgage maturing after end

of 2021 (ARRC)

USD LIBOR

3Q 2020 Launch SORA-based bilateral /

syndicated loans

SORA

3Q 2020 Pilot SORA retail loans SORA

3Q 2020 Publish guidance on product

conventions

SORA

3Q 2020 Publish customer guide on

using compounded-in-arrears,

term rates, fixed rates; Pilot

retail loans

SORA

3Q/4Q 2020 Statement on credit spread

methodology for cash &

successor rates published

(BoE)

GBP LIBOR /

SONIA

4Q 2020 Widespread sign up to the

ISDA protocol achieved ahead

of effective date (FCA/ARRC)

All ARR/LIBOR

4Q 2020 Operationally ready to support

the development & market

making of nonlinear SONIA

derivatives (FCA)

SONIA

4Q 2020 Progress active conversion of

cash products where viable to

reduce legacy volume (BoE)

GBP LIBOR

4Q 2020 Updated ISDA Definitions

effective date + 3-4 months

from publication

All ARR/LIBOR Adherence to the Protocol across the client base will require

client contact and agreement.

19th

October

2020

LCH, CME & EUREX Group

switch from EFFR to SOFR for

PAI and USD discounting

SOFR CSA renegotiation to move from EFFR to SOFR for

discounting on USD to align to cleared contracts.

4Q 2020 Transition to TONA for

standard inter-dealer

derivative trades

TONA

4Q 2020 Transition to TONA for

standard inter-dealer

derivative trades

JPY LIBOR

4Q 2020 No new USD LIBOR FRNs

maturing after end of 2021

(ARRC)

USD LIBOR


24

Date

Industry/

Regulatory update

Impacted

Rate Impact

4Q 2020 Reduction of CHF LIBOR-

based cash products without

fallback or a written

agreement for defining the

alternative reference interest

rate after 2021 (FINMA)

CHF LIBOR

4Q 2020 Introduction of robust fallback

clause for new CHF LIBOR-

based cash products expiring

after 2021

CHF LIBOR

4Q 2020 Making markets in SOFR-

linked interest rate volatility

products

SOFR

4Q 2020 Amend inter-dealer CSAs to

use SOFR (ARRC)

SOFR

1Q 2021 SONIA term rate available SONIA

1Q 2021 Cease new issuance of

Sterling LIBOR referencing

products (Bonds &

Securitisations) maturing after

2021

GBP LIBOR

1Q 2021 Cease initiation of new

Sterling LIBOR linked linear

derivatives expiring after 2021

(except for risk management

of existing positions) (FCA)

GBP LIBOR

1Q 2021 Accelerate active conversion

where to reduce legacy

volume (FCA)

GBP LIBOR

1Q 2021 Complete assessment of all

post 2021 cash contracts to

identify those that can be

actively converted (FCA)

GBP LIBOR

1Q 2021 Dealers change market

convention quoting from USD

LIBOR to SOFR (ARRC)

USD LIBOR /

SOFR

2Q 2021 SGD – Term-SORA expected SORA

2Q 2021 Guidance on cessation date

for new SOR originations and

transition mechanisms

SOR/SORA

2Q 2021 No new USD LIBOR business

loans maturing after end of

2021

USD LIBOR

2Q 2021 No new USD LIBOR

securitization maturing after

end of 2021 (except CLOs)

USD LIBOR

2Q 2021 No new derivatives trades

maturing end 2021 (ARRC)

USD LIBOR


25

Date

Industry/

Regulatory update

Impacted

Rate Impact

Q2/Q3 2021 Cease trading of LIBOR linked

non-linear derivatives, and

cross currency derivatives with

a sterling leg, expiring after

2021 (except for risk

management of existing

positions) (FCA)

GBP LIBOR

Q2/Q3 2021 Assess and actively convert

where viable (e.g. auction /

compression mechanisms for

derivatives). (FCA)

GBP LIBOR

Q2/Q3 2021 Complete active conversion of

cash products. Where active

conversion is not possible for

loans, ensure robust fallbacks

are adopted (FCA)

GBP LIBOR

3Q 2021 No new USD LIBOR CLOs

(corporate or CRE) (ARRC)

USD LIBOR

4Q 2021 SOFR forward looking term

rate expected

SOFR

4Q 2021 Final recommendations on

EURIBOR fallbacks and related

solutions to amend EURIBOR

legacy contracts

EURIBOR

Dec 2021 Assumed cease of LIBOR

publication

All

Dec 2021 EONIA ceases to exist EONIA, €STR

Note: Accurate as of time of publication, dates may be subject to change pending further regulatory & industry feedback.


26

Other IBORs Benchmark Rates

The other IBOR benchmark rates are detailed in the below table. .

Jurisdiction Reference Rate Administrator Commentary

Euro Area EURIBOR EMMI The most widely used benchmark of the other IBORs; the European Commission has expressed confidence in EURIBOR for the medium term. A new hybrid methodology is in the process of being implemented.

The ECB RFR WG proposed roadmap20 (published in late 2019) suggests that 2020 work focus are on:

i) EONIA transition to ESTR, particularly on building liquidity for ESTR and the CCP discounting switch that occurred on Monday 27 July, and

ii) Development of ESTR-based fallbacks for EURIBOR, however the final recommendation has been deferred to Q1 2021 due to COVID 19 impact per the May ECB RFR WG minute.

A list of key milestones and publications can be found from the ECB RFR WG website21

Japan TIBOR JBA BoJ consultation on JPY Interest Rate Benchmarks: Following results of 1st Consultation (Integrating Japanese Yen TIBOR and Euroyen TIBOR), the most likely option as at 30 May 2019, is retaining Japanese Yen TIBOR and discontinuing Euroyen TIBOR ('retaining Japanese Yen TIBOR').

Australia BBSW ASX RBA22 statement on BBSW: At an ISDA Forum in May 2019,

RBA said BBSW is a robust benchmark that can continue. Notice advising ASX Market participants that ASX Benchmarks will deliver a number of external facing enhancements to BBSW and AONIA, effective 28th October 2019. No cessation notices.

China SHIBOR NIFC Shanghai No significant notices on cessation or change to the benchmark noted (further research required).

Hong Kong HIBOR TMA TMA consultation HIBOR ARR: AGM June 2019 - TMA Confirmed HKD Overnight Index Average (HONIA) as the alternative reference rate for HIBOR and completed a consultation on a few technical refinements to HONIA early this year.

Singapore SIBOR ABS SIBOR discontinuation announcement is expected by end Q4

2020. The ABS is consulting on the discontinuation timelines and replacement approach.

Note: This information has been sourced from administrator websites and is accurate as of 1st July 2020.

20 https://www.ecb.europa.eu/paym/initiatives/interest_rate_benchmarks/WG_euro_risk-free_rates/shared/pdf/20191204/2019_12_04_WG_on_euro_RFR_meeting_Item_2_Planning_for_the_WG_H1_2020.pdf

21 https://www.ecb.europa.eu/paym/initiatives/interest_rate_benchmarks/WG_euro_risk-free_rates/html/milestones.en.html

22 https://www.rba.gov.au/speeches/2019/sp-dg-2019-04-11.html

https://www.rba.gov.au/speeches/2019/sp-dg-2019-04-11.html


27

Overnight Index Swap Industry Definitions Terms Definition

Compounding Daily compounding of the ARR (current standard in the Overnight Index Swap market)

Averaging Daily averaging of the ARR

Lockout The rate is taken from a set day for the remainder of the period E.g. a 4 day lockout period takes the rate on payment day minus 4 and uses this same rate

for the remainder of the term The rate used to calculate a rate for each day in an interest period is based on the rate that

represents transactions from a prior day e.g. with a 2 day shift / lookback the observation period starts and ends 2 days prior to

interest period start and end dates

The rate is taken from a set day for the remainder of the period e.g. a 4 day lockout period takes the rate on payment day minus 4 and uses this same rate

for the remainder of the term

Backward Shift / Lookback

The rate used to calculate a rate for each day in an interest period is based on the rate that

represents transactions from a prior day E.g. with a 2 day backward shift / lookback the observation period starts and ends 2 days

prior to interest period start and end dates

ARR detailed information Jurisdiction Target ARR Publication Transaction Data Sources Available as of

US Secured Overnight Financing Rate (SOFR)

Around 8am EST next business day

Tri-Party, General Collateral Financing, Bilateral Treasury repos

3 April 2018

UK Sterling Overnight Index Average (SONIA)

At 9am GMT next business day

Unsecured overnight bilateral transactions

23 April 2018 (reformed)

Euro Area Euro Short Term Rate (€STR)

At 9am CET next business day

Volume weighted average based exclusively on the eligible data from the unsecured market segment of the Money Market Statistical Reporting to the ECB

2 October 2019

Switzerland Swiss Average Rate Overnight (SARON)

At 6pm CET same business day

Interbank repo 25 August 2009

Japan Tokyo Overnight Average Rate (TONA)

At 10am JST next business day

Money Market brokers 1 November 1997


28

8. Bibliography

1 ICE Benchmark Administration Methodology, available athttps://www.theice.com/iba/libor#methodology

2 Impact of the coronavirus on firms’ LIBOR transition plans available at

https://www.fca.org.uk/news/statements/impact-coronavirus-firms-libor-transition-plans

3 IOSCO Benchmark Principles, available at https://www.iosco.org/library/pubdocs/pdf/IOSCOPD415.pdf

4 Andrew Bailey, The future of LIBOR (July 7, 2017), available at https://www.fca.org.uk/news/speeches/the-

future-of-libor

5 Definition of Price Aligned Interest available at https://www.theotcspace.com/content/price-alignment-

interest-pai

6 LCH SOFR Discounting Letter, available at


7 SOFR Discounting and Price Alignment Transition—Proposal for Cleared Swaps, available at

https://www.cmegroup.com/education/articles-and-reports/sofr-price-alignment-and-discounting-

proposal.html

8 "Margin requirements for non-centrally cleared derivatives" regulations available at

https://www.bis.org/bcbs/publ/d475.htm

9 Recommendation by the working group on euro risk free rates – On swaptions affected by the central

clearing counterparties' discounting transition from EONIA for the €STR, available at

https://www.ecb.europa.eu/pub/pdf/other/ecb.recommendation_swaptions_impacted_by_discounting_swi

tch_to_EuroSTR~a64f042ed9.en.pdf

10 ARRC Recommendations for Swaptions Impacted by the CCP Discounting Transition to SOFR available at

https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2020/ARRC-swaptions-

recommendations.pdf

11 Andrew Bailey, LIBOR Transition Briefing (July 15. 2019), available at

https://www.fca.org.uk/news/speeches/libor-preparing-end

12 ISDA Benchmark Supplement, available at https://www.isda.org/book/isda-benchmarks-supplement/

13 "CME and LCH have each also communicated to ISDA and regulators that they may elect to consider pre-

cessation triggers for fallbacks if LIBOR was found to be non-representative, even if the 2006 ISDA

Definitions do not include them", available at https://www.isda.org/a/md6ME/FINAL-Pre-cessation-issues-

Consultation.pdf

14 CFTC's Market Risk Advisory Committee approved plain English disclosures for new derivatives referencing

the London Interbank Offered Rate (LIBOR) and other IBORS, available at


15 ISDA adoption of risk free rates major developments available at https://www.isda.org/a/WhXTE/Adoption-

of-Risk-Free-Rates-Major-Developments-in-2020.pdf

16 ARRC Recommended Best Practices for Completing the Transition from LIBOR available at

https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2020/ARRC-Best-Practices.pdf

17 ARRC recommendations on Pre-Cessation in Fallback provisions for FRNs, available at

https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2019/FRN_Fallback_Language.pdf

18 Benchmarks Regulation – proposed new powers – available at https://www.fca.org.uk/markets/transition-

libor/benchmarks-regulation-proposed-new-powers

19 FCA statement on planned amendments to the Benchmarks Regulation available at

https://www.fca.org.uk/news/statements/fca-statement-planned-amendments-benchmarks-regulation

20 The ECB RFR WG proposed roadmap, available at

https://www.ecb.europa.eu/paym/initiatives/interest_rate_benchmarks/WG_euro_risk-

free_rates/shared/pdf/20191204/2019_12_04_WG_on_euro_RFR_meeting_Item_2_Planning_for_the_WG

_H1_2020.pdf

21 The ECB RFR WG list of key milestones and publications, available at

https://www.ecb.europa.eu/paym/initiatives/interest_rate_benchmarks/WG_euro_risk-

free_rates/html/milestones.en.html

22 RBA speech to Bloomberg - Progress on Benchmark Reform – 11/04/2019, available at


https://www.theice.com/iba/libor%23methodology

https://www.fca.org.uk/news/statements/impact-coronavirus-firms-libor-transition-plans

https://www.iosco.org/library/pubdocs/pdf/IOSCOPD415.pdf








https://www.bis.org/bcbs/publ/d475.htm




29

9. Glossary

Term Definition

€STR Euro Short Term Rate

ARR Alternative Reference Rate

ARRC Alternative Reference Rate Committee

CCP Central Clearing Counterparty

CFTC Commodities, Futures Trading Commission

CME Chicago Mercantile Exchange

CSA Credit Support Annex

EFFR Effective Fed Funds Rate

EMMI European Money Markets Institute

FBF Federation Bancaire Francaise

FCA Financial Conduct Authority

FRBNY Federal Reserve Bank of New York

IBA ICE Benchmark Administration

ICE InterContinental Exchange

IOSCO International Organization of Securities Commissions

ISDA International Swaps and Derivatives Association

LCH London Clearing House

LIBOR London Interbank Offered Rate

OTC Over-the-Counter

PAI Price Aligned Interest

SARON Swiss Average Rate Overnight

SMA Swiss Master Agreement

SOFR Secured Overnight Funding Rate

SONIA Sterling Overnight Index Average

TONA Tokyo Overnight Average Rate


10. Disclaimer

These materials are for distribution only under such circumstances as may be permitted by applicable law. They have not been prepared with regard to the specific investment objectives, financial situation or particular needs of any specific recipient. They are published solely for informational purposes and are not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments or to participate in any particular trading strategy. Options, derivative products and futures are not suitable for all investors, and trading in these instruments is considered risky. The recipient should not construe the contents of these materials as legal, tax, accounting, regulatory, or other specialist or technical advice or services or investment advice or a personal recommendation.

No representation or warranty, either express or implied, is provided in relation to the accuracy, completeness or reliability of the information contained herein except with respect to information concerning UBS, nor is it intended to be a complete statement or summary of the securities markets or developments referred to in these materials or a guarantee that the services described herein comply with all applicable laws, rules and regulations. They should not be regarded by recipients as a substitute for the exercise of their own judgment. Any opinions expressed in these materials are subject to change without notice and may differ or be contrary to opinions expressed by other business areas or groups of UBS as a result of using different assumptions and criteria. UBS is under no obligation to update or keep current the information contained herein, and past performance is not necessarily indicative of future results.

UBS, its directors, officers, employees or clients may have or have had interest or long or short positions in the securities or other financial instruments referred to herein and may at any time make purchases and/or sales in them as principal or agent. UBS may act or have acted as market-maker in the securities or other financial instruments discussed in these materials. Furthermore, UBS may have or have had a relationship with or may provide or have provided investment banking, capital markets and/or other financial services to the relevant companies. Neither UBS nor any of its directors, officers, employees or agents accepts any liability for any loss or damage arising out of the use of all or any part of these materials or reliance upon the information contained herein. Additional information may be made available upon request. Clients wishing to effect transactions should contact their local sales representative.

Country-specific information

For further important country-specific information, please see the following link:

https://www.ubs.com/global/en/investment-bank/us-sales-trading-country-specific.html


11. Contact information

If you have any further questions, please contact your sales representative. Alternatively, please get in touch via [email protected].

UBS 5 Broadgate London, EC2M 2QS Tel. +44-20 7567 8000

www.ubs.com/libortransition-ib

UBS Europe SE is a subsidiary of UBS AG

libor transition a practical guide · alternative reference rates (arrs) for the five major...

Documents