FINANCIAL BENCHMARK REFORM - WHAT’S CHANGING

Globally, financial benchmarks are being reformed. In many jurisdictions, Risk-Free Rates (RFRs) are replacing certain Interbank Offered Rates (IBORs) — including the London Interbank Offered Rate (LIBOR). In other jurisdictions, reformed IBORs continue to exist alongside the new RFRs.

  • On 5 March 2021 various industry and regulatory bodies made key statements on the future cessation of certain IBORs. In particular, the UK Financial Conduct Authority (FCA) noted that all 35 LIBOR tenors would either permanently cease, or continue in an unrepresentative manner.
  • Since 1 January 2022, 24 of the 35 LIBOR settings which related to specific currencies and time periods are no longer available. Six sterling and yen LIBOR settings will continue for the duration of 2022 on a ‘synthetic’ basis. These settings are unrepresentative and cannot be referenced in new transactions.

The next IBOR change will occur on 30 June 2023, when USD LIBOR overnight and one, three, six and 12 month settings will cease to be available.

ONGOING USE OF USD LIBOR

The FCA has prohibited the new use of these USD LIBOR settings as at the end of 2021. This guidance has been consistently applied by global regulators including ASIC, APRA, US Federal Reserve and others.

It's important that you consider how benchmark reforms, and restrictions imposed by global regulators could impact any products you hold or may acquire, as well as any transactions that you have or may enter into with us (or any of our group companies) where such a product or transaction references an impacted IBOR.

Impacted IBORs may be subject to methodological or other changes, which could modify the value of the IBOR. In some instances, they could cease to exist (in the event of the LIBOR). In other cases, the IBORs may not be reformed enough — meaning they can no longer be used in certain jurisdictions (for example under the European Union Benchmark Regulation).

These consequences will impact products and transactions that you may hold or enter into with us or any of our group companies.

Product disclosures

In addition to the information and general disclosure above, please consider the following specific disclosures:

  • Derivatives disclosure
  • Floating Rate Notes (FRNs) disclosure
  • Finance disclosure

Derivatives disclosure

The International Swaps and Derivatives Association (ISDA) has published benchmark fallbacks that apply in the event of a benchmark ceasing or no longer being available.

ISDA has done this by publishing a supplement to the 2006 ISDA definitions, which updates the relevant definitions to include the new fallback language.

The updated 2006 ISDA definitions apply to all new trades entered into after 25 January 2021.

ISDA also published a protocol that parties can use to include the new fallbacks into certain IBOR legacy trades in existence before 25 January 2021. You can exclude certain legacy trades from your adherence and this should be accounted for when considering your adherence to the protocol.

If you entered into a derivative contract prior to 25 January 2021, which references an impacted USD LIBOR tenor (see above) that has an expiry date after June 2023 and have not yet adopted the protocol, the transaction will need to be amended to include a new benchmark or transitioned prior to end June 2023.

These changes will affect your derivative and may impact the value, cost or the performance of your derivative.

You should carefully consider the contents of Supplement to the “Plain English” Disclosures for Derivatives Referencing LIBOR and other IBORs and each risk set out therein.

Floating Rate Notes (FRNs) disclosure

If a FRN is not transitioned, it is likely that the FRN will fall back to the last available interest rate and will be fixed at that rate for the duration of the FRN. It is also possible that synthetic LIBOR may apply to GBP, CHF and JPY FRNs after 31 December 2021 in respect of those settings for which synthetic LIBOR will apply. Where the FRN transitions to a new rate, it’s likely that the methodology of the new rate will differ from the impacted IBOR — this may result in unpredictable and material consequences for you.

If you purchase FRNs with coupon payments calculated from an impacted benchmark (especially LIBOR and your FRN has an expiry date after December 2021 for GBP, CHF and JPY, and after June 2023 for USD), then you should review the product disclosure information to understand how the issuer proposes to manage the transition and that you understand the fallback language included in the documents.

You should also consider any mismatch there may be with the IBOR fallback provisions in the FRN versus the IBOR fallback provisions in any related hedge arrangements you have entered into. If there’s a material interest rate mismatch, it may result in basis risk or undermine the effectiveness of the hedge.

Finance disclosure

Ensure that you are familiar with the provisions of any finance agreement that you have with us, including the interest rate fallback provisions or any replacement of screen rate clause that may appear therein.

The existing interest rate fallback provisions in finance agreements were generally not designed to deal with a permanent benchmark cessation, as opposed to a benchmark’s temporary cessation.

The interest rate fallback provisions in your finance document, therefore, may not be robust enough to survive a permanent cessation. This could see the benchmark fall back to a rate that you didn't anticipate at the time you entered into the finance agreement, or it could go to a rate that is materially different to the current rate of the finance.

In finance agreements, the ultimate fallback rate is often what is known as the financier’s cost of funds.

A finance agreement may also include provisions to replace the benchmark in certain instances. The Loan Market Association (LMA), as well as the Asia Pacific Loan Market Association (APLMA), have published what is known as a 'Replacement of Screen Rate clause'.

This clause permits flexibility in the choice of a replacement benchmark upon certain trigger events and specifies which consent level will be required from the majority financiers. The LMA has also published a multicurrency agreement incorporating rate switch provisions, which aims to facilitate conversion from LIBOR through pre-agreed conversion terms. The APLMA has also published an Australian version of the rate switch agreement.

Whether and when your finance agreement will fall back to an agreed fallback depends on the fallbacks included in your finance agreement and whether it includes fallback triggers when LIBOR ceases permanently or prior to that when LIBOR becomes unrepresentative.

To date, the interest on finance is based on term rates and calculated in arrears. RFRs are backwards-looking meaning that the benchmark which your finance references may be replaced with a backwards-looking rate.

The LMA has published a consultation paper setting out the structuring issues to consider when basing finance on a backwards-looking RFR or when including the pre-agreed conversion terms. You should consider the issues raised in these LMA consultation papers.

Certain forward-looking term RFRs have been developed and may be suitable for use in your finance agreement.

You should also consider any mismatch there may be with the IBOR fallback provisions in your finance agreement or any new rate which you transition to versus the IBOR fallback provisions in any related hedge arrangements you have entered into. If there’s a material interest rate mismatch, it may result in basis risk or undermine the effectiveness of the hedge.

Important information

This does not constitute legal advice relating to the use, change or reform of an IBOR. You should conduct your own investigations to ensure you understand the IBORs referenced in any product or transaction that you may use, the reforms, and the consequences thereof.

The replacement of an IBOR (or potentially the change of value in an IBOR) in any product or transaction may also carry tax, accounting and regulatory risks.

We encourage you to seek independent expert advice, which may include legal, financial, tax, accounting or regulatory guidance.

Working with you through the transition

We are committed to working with you throughout the transition to risk-free rates (RFR) by listening to your needs and providing insights into industry developments. You should seek your own independent advice before making any decisions in respect of the transition.

IBOR Fallbacks Supplement (PDF, 875KB).

IBOR Fallbacks Protocol PDF, 670KB).

ISDA – Understanding IBOR Benchmark Fallbacks (PDF, 104KB).

See the latest articles about LIBOR reform from the UK’s regulator, the Financial Conduct Authority (FCA).

Learn how the Bank of England is working with market participants to transition to SONIA as the primary interest rate benchmark in pound sterling.

Read this speech about interest rate benchmark reform for the Australian dollar given by the former deputy governor of the Reserve Bank of Australia.

Visit the LIBOR transition: Important questions for directors and corporate treasurers.

Read about when Regulators expect Australian institutions to cease the use of LIBOR in new contracts.

Visit the European Securities and Markets Authority for information on the benchmark regulations in the European union.

Visit the industry-leading International Swaps and Derivatives Association (ISDA) to see their latest developments on robust contractual fallbacks for derivatives.

Read about the Alternative Reference Rates Committee, a group of private-market participants who are helping ensure a successful transition from USD LIBOR to a more robust reference rate, the Secured Overnight Financing Rate.

Visit the Loan Markets Association for the latest updates regarding their work on the transition for loans with the market, regulators and other trade associations.

Contact us

If you have any questions about the transition to the alternative reference rates, please contact your relationship manager.

We also have a dedicated Financial Benchmarks Reform team, please feel free to email us.