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LIBOR set to go and SOFR to replace it as new benchmark: Five questions answered

Indian banks have slowly started migrating to SOFR, the new reference rate that will replace LIBOR from next year onwards.

March 09, 2021 / 03:21 PM IST
LIBOR is the interest rate average submitted by leading UK banks.

LIBOR is the interest rate average submitted by leading UK banks.

 
 
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LIBOR, or London Inter-bank Offered Rate, is finally bidding farewell from global markets as the global banks are preparing for a transition to new alternative reference rate (ARR) such as the secured overnight financing rate (SOFR). The transition is already happening to the new benchmark. Here’s a short explainer about the whole concept.

What are LIBOR and SOFR?

These are benchmarks against which global banks mark their transactions. SOFR is linked to US treasury market transactions. LIBOR is the interest rate average submitted by leading UK banks. The transition from LIBOR is confirmed with, on March 5, the UK Financial Conduct Authority (FCA) issuing a statement announcing the cessation dates for all LIBOR settings.

So, what are the dates?

The FCA said the LIBOR will cease to exist immediately after December 31, 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 June 30, 2023, in the case of the remaining US dollar settings. After these dates, the representative LIBOR rates will no longer be available.

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But, what is FCA?

The FCA is the conduct regulator for nearly 60,000 financial services firms and financial markets in the UK and the prudential supervisor for 49,000 firms, setting specific standards for 19,000 firms. “This is an important step towards the end of LIBOR, and the Bank of England and the FCA urges market participants to continue to take the necessary action to ensure they are ready,” the FCA said. Further, the FCA has confirmed it does not expect any LIBOR settings to become unrepresentative before these intended cessation dates, given the undertakings received from the panel banks.

What triggered the SOFR transition?

SOFR is an identified replacement for USD LIBOR which is expected to be phased out at the end of 2021. The sunset for the LIBOR has been triggered by the decision of the Financial Conduct Authority (FCA) in the UK not to compel contributing banks for LIBOR calculation after December 2021.

Have Indian banks begun the shift?

Yes. Major Indian banks like State Bank of India have begun using SOFR instead of LIBOR. On January 20, SBI said it executed two inter-bank short-term money market deal with pricing linked to SOFR. “The transaction demonstrates SBI’s progress in aligning its systems and processes to embrace Alternate Reference Rates (ARRs). LIBOR Transition is a significant financial event for international financial markets, and these transactions by country’s largest bank, will set the pace for smooth transition of financial markets in ARR mechanism,” said Deputy Managing Director (International Banking Group), Shri C Venkat Nageswar. Similarly, on January 21, ICICI Bank said it executed the first interbank money market transaction linked with SOFR. The transaction, executed through the Bank’s Hong Kong branch, is part of the Bank’s Benchmark Transition Management plan to assess the preparedness towards a smooth transition to the new Alternative Reference Rates (ARRs), the bank said.
Dinesh Unnikrishnan
first published: Mar 9, 2021 03:21 pm
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