LIBOR transition is ‘not fast enough’ says FCA exec
13 July 2018 London
Image: Shutterstock
The “pace of change” when it comes to transitioning from the London Interbank Offered Rate (LIBOR) is “not fast enough”, according to Andrew Bailey, chief executive of the Financial Conduct Authority (FCA).
In a recent speech, Bailey said that the industry ought to be well prepared for LIBOR’s discontinuance and discussed the reasons for transitioning from LIBOR to alternative interest rate benchmarks.
“Financial markets have changed, and LIBOR has not been able to keep up with that change”, Bailey explained.
“The international interbank marked has dwindled substantially, and one of the reasons for this is in that eurocurrency markets no longer exist as a distinct entity.”
“Banks do not lend to each other much these days on an unsecured basis, and the market is not returning.”
According to Bailey, since the system for quoting rates and thus constructing LIBOR is fragile, it is more vulnerable for misconduct.
Bailey added: “But let me be clear, I do not believe there is misconduct today. My point is that the system is more vulnerable to it. This is the case for acting to replace LIBOR.”
In terms of progress, across all the LIBOR currencies, important and encouraging progress has been made, Bailey noted.
But it is still early days, he warned, as the the Bank of England’s Financial Policy Committee has noted, the amount of contracts referencing LIBOR but maturing beyond end-2021 continues to grow.
The next step of for the transition will explore the potential to create forward-looking term rates based on the risk free rates (RFRs).
Bailey said: “The sterling Risk Free Rate Working Group will next week launch a landmark consultation on this. Switzerland’s National Working Group is also discussing options for term rates based on SARON.”
“And the ARRC in the United States has included the production of this kind of term rate as the final step in its paced transition plan.”
Commenting on how transitioning to a world without LIBOR may pan out, Bailey said: “Fall back language to support contract continuity or enable conversion of contracts if LIBOR ceases is an essential safety net– a 'seat belt' in case of a crash when LIBOR reaches the end of the road.”
“But fallbacks are not designed as, and should not be relied upon, as the primary mechanism for transition.”
“The wise driver steers a course to avoid a crash rather than relying on a seatbelt. That means moving to contracts, which do not rely on LIBOR and will not switch reference rates at an unpredictable time.”
Bailey advised: “The smoothest and best means for this transition is to start moving away from LIBOR in new contracts.”
Concluding his speech, Bailey said:| The absence of ways to remedy the current underlying weakness in LIBOR—the lack of transactions, the unattractive prospect of LIBOR limping on with fewer panel banks, and the significant problems associated with a synthetic LIBOR, all lead to the same conclusion.
“The best option is actively to transition to alternative benchmarks. The most effective way to avoid LIBOR-related risk is not to write LIBOR-referencing business,” he said.
In a recent speech, Bailey said that the industry ought to be well prepared for LIBOR’s discontinuance and discussed the reasons for transitioning from LIBOR to alternative interest rate benchmarks.
“Financial markets have changed, and LIBOR has not been able to keep up with that change”, Bailey explained.
“The international interbank marked has dwindled substantially, and one of the reasons for this is in that eurocurrency markets no longer exist as a distinct entity.”
“Banks do not lend to each other much these days on an unsecured basis, and the market is not returning.”
According to Bailey, since the system for quoting rates and thus constructing LIBOR is fragile, it is more vulnerable for misconduct.
Bailey added: “But let me be clear, I do not believe there is misconduct today. My point is that the system is more vulnerable to it. This is the case for acting to replace LIBOR.”
In terms of progress, across all the LIBOR currencies, important and encouraging progress has been made, Bailey noted.
But it is still early days, he warned, as the the Bank of England’s Financial Policy Committee has noted, the amount of contracts referencing LIBOR but maturing beyond end-2021 continues to grow.
The next step of for the transition will explore the potential to create forward-looking term rates based on the risk free rates (RFRs).
Bailey said: “The sterling Risk Free Rate Working Group will next week launch a landmark consultation on this. Switzerland’s National Working Group is also discussing options for term rates based on SARON.”
“And the ARRC in the United States has included the production of this kind of term rate as the final step in its paced transition plan.”
Commenting on how transitioning to a world without LIBOR may pan out, Bailey said: “Fall back language to support contract continuity or enable conversion of contracts if LIBOR ceases is an essential safety net– a 'seat belt' in case of a crash when LIBOR reaches the end of the road.”
“But fallbacks are not designed as, and should not be relied upon, as the primary mechanism for transition.”
“The wise driver steers a course to avoid a crash rather than relying on a seatbelt. That means moving to contracts, which do not rely on LIBOR and will not switch reference rates at an unpredictable time.”
Bailey advised: “The smoothest and best means for this transition is to start moving away from LIBOR in new contracts.”
Concluding his speech, Bailey said:| The absence of ways to remedy the current underlying weakness in LIBOR—the lack of transactions, the unattractive prospect of LIBOR limping on with fewer panel banks, and the significant problems associated with a synthetic LIBOR, all lead to the same conclusion.
“The best option is actively to transition to alternative benchmarks. The most effective way to avoid LIBOR-related risk is not to write LIBOR-referencing business,” he said.
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