August 2020 Issue
As a result of coronavirus (COVID-19)-related disruption, the transition from the London Interbank Offered Rate (LIBOR) to alternative reference rates – scheduled for the end of 2021 – may prove more challenging for firms than originally anticipated and potentially subject to delay, despite official announcements to the contrary.
A joint statement by the Working Group on Sterling Risk-Free Reference Rates (RFRWG), the Financial Conduct Authority (FCA) and the Bank of England set out the regulators’ response to the impact of COVID-19 on firms’ LIBOR transition plans, affirming that the timetable remains unchanged.
“We recognise the challenges presented by the current operating environment”, affirmed the statement. “We are therefore pleased to have seen continued progress on LIBOR transition through this difficult period. The transition from LIBOR remains an essential task that will strengthen the global financial system – the central assumption that firms cannot rely on LIBOR being published after the end of 2021 has not changed and should remain the target date for all firms to meet”.
Although the deadline would appear to be set in stone, many firms are nevertheless rethinking their transition plans. “The current pandemic has caused resources – both budgetary and personnel – that were focused on LIBOR transition to be redirected,” says Claire Hall, a partner at DLA Piper. “The natural impact of this is that firms’ internal deadlines are being rethought and the dates to achieve key milestones are being pushed back in some instances.
“Not surprisingly, an event that is scheduled to take place at the end of next year is no longer as high on the priority list as tackling the many day-to-day issues that are occurring with respect to COVID-19,” she continues. “This will likely cause a squeeze on internal and external resources as we get closer to the end of next year and raises the prospect that many firms will not be ready for the transition.”
Preparing for transition
Given the fluid state of COVID-19 and accompanying global markets volatility, firms are having to prepare for LIBOR transition against a backdrop of significant uncertainty. In such a context, and with regulators indicating that no delay to LIBOR transition will be entertained, firms need to be careful to not set too much stall by the timetable being extended.
“Given the fluid state of COVID-19 and accompanying global markets volatility, firms are having to prepare for LIBOR transition against a backdrop of significant uncertainty.”
“Regulators have been clear so far that they do not expect LIBOR to exist much beyond the end of 2021 notwithstanding the current pandemic,” says Ms Hall. “Of course, that view could change, but I do not think firms should rely on an extension or assume that one will come.
“The risk is that a firm is underprepared to transition when the time comes, exposing it to regulatory, price, business dislocation and litigation risks,” she continues. “Firms should continue to move forward with transition planning, including assessing which parts of their business will be impacted, what operational changes are needed, which alternative rates are available and, most appropriately, whether existing contracts satisfactorily address the transition or need to be amended.”
The FCA, the Bank of England and the RFRWG intend to support firms’ LIBOR transition plans by: (i) publishing the RFRWG’s analysis on, and considerations for, dealing with ‘tough legacy’ contracts; (ii) building on a strong consensus around how to calculate a fair credit spread adjustment in legacy cash products to assist transition from LIBOR in cash markets; and (iii) intensifying communications with customers that need to move away from LIBOR after working arrangements disrupted by COVID-19 begin to stabilise.
Desire for delay
To help ensure that LIBOR transition goes as smoothly as possible, the RFRWG, the FCA and the Bank of England, in concert with their international counterparts, have stated that they will continue to work with firms to assess the evolving impact of COVID-19 on transition efforts in the months ahead.
To this end, the regulators recommend that lenders should be in a position to offer non-LIBOR linked products to their customers by the end of Q3 2020. Furthermore, at the end of the same period, lenders, working with their borrowers, should include clear contractual arrangements in all new and refinanced LIBOR-referencing loan products to “facilitate conversion” ahead of the end of 2021. In addition, all new issuance of sterling LIBOR-referencing loan products that expire after the end of 2021 should cease by the end of Q1 2021.
“For many firms, the transition from LIBOR will be one of the largest and most far-reaching changes that business has faced, and being prepared by the end of next year will be an enormous feat,” concludes Ms Hall. “We are living in very unusual circumstances and many firms will breathe a sigh of relief if there is a delay, as it will enable them to be better prepared.”
© Financier Worldwide
BY
Fraser Tennant