March 5, 2021 - Today financial market participants received full clarity into the LIBOR endgame. The FCA has announced that all LIBOR settings will either cease to be provided by any administrator or no longer be representative. This will occur immediately after 31 December 2021, in the case of all sterling, euro, Swiss franc and Japanese yen settings, and the 1-week and 2-month US dollar settings; and immediately after 30 June 2023, in the case of the remaining US dollar settings. (Press release available here.) While most tenors of USD LIBOR will continue past year-end 2021 for legacy contracts, the US Banking Regulators have stated that they may not be used for origination after December 31. 2021. The US official sector and the ARRC has applauded the FCA’s statement. Their comments, together with remarks from UK regulators, have made it painfully clear – the end of LIBOR is certain and users of LIBOR need to ensure they have transitioned to alternate benchmarks in advance of the cessation dates.
The importance of the FCA announcement is huge.
First, the ISDA spread adjustments published by Bloomberg will be set today. The spread adjustment values are available here. This means that market participants now have economic certainty for the transition to risk-free rates. We note however that for the settings of USD LIBOR that will continue until the end of June 2023, this means that the spread adjustment set today will only be applied at the end of June 2023 – more than two years in the future. The ARRC has stated that it will match ISDA’s spread adjustment values for non-consumer products so cash market participants that use ARRC spread adjustments in their fallback language will also use the spread adjustment values set today.
Second, the FCA announcement may be a trigger event for ARRC recommended fallback language – both amendment approach and hardwired approach – as well as for many other variants of fallback language in credit agreements. For ARRC hardwired fallback language (i.e. the current business loans and securitizations recommendations), a trigger event (a “Benchmark Transition Event”) does not mean that anything “happens” today (other than perhaps an agent/sole lender notice requirement* in the case of business loans). The transition will not occur until LIBOR actually ceases or is declared non-representative by the FCA at the end of June 2023 (the “Benchmark Replacement Date”). For ARRC and many other variants of amendment fallback language in credit agreements, a trigger event may require notice of the event by the agent/sole lender* and would allow for the amendment process to begin. In the case of ARRC language, such an amendment could not take effect, however, until the 90-day window (or whatever number of days that parties agreed) commences starting on April 1, 2023. For typical amendment fallback language in CLO indentures, this statement would not be a trigger event and the indentures will continue to reference 3M LIBOR.
Third, the FCA has provided further insight into its proposed use of its expanded powers under the Benchmark Regulation, i.e. its ability to compel the IBA to publish “synthetic LIBOR” for a period of time. The FCA will consult in Q2 on using proposed new powers that the government is legislating to grant to it to require continued publication on a “synthetic” basis for some sterling LIBOR settings and, for 1 additional year, some Japanese yen LIBOR settings which will then cease at the end of 2022. It will also continue to consider the case for using these powers for 1M, 3M and 6M US dollar LIBOR settings. Any “synthetic” LIBOR will no longer be representative for the purposes of the BMR and is not for use in new contracts. It is intended for use in tough legacy contracts only and the FCA will also consult in Q2 on which legacy contracts will be permitted to use any ‘synthetic’ LIBOR rate. The FCA statements explain its intention to propose using, as a methodology for any ‘synthetic rate’, a forward-looking term rate version of the relevant risk-free rate plus a fixed spread aligned with the spreads in ISDA’s IBOR fallbacks.
* The LSTA has prepared a generic form of notice of the trigger event as a tool for members. Contact Tess Virmani for more information.