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ISDA Provides Assistance in Dealing with Discontinued LIBOR Rates

On 25 March 2013, ISDA published a guidance note and amendment letter  for use by firms in amending the terms of transactions which refer to LIBOR rates for currencies and maturities which are due to be phased out by the British Bankers’ Association’s (BBA) following the Wheatley Review into possible reforms to the methodology for setting LIBOR.

Recommendation number 6 of the Wheatley Review required the number of currencies and maturities for which submissions are made to be “cut substantially” so as to improve the ability to corroborate submissions and to achieve a sharper focus on more popular benchmarks.  As a result, the BBA has proposed to discontinue the following rates:

End of

LIBOR Rates Affected

Maturities to be   Removed

Maturities Remaining

December 2012

Sterling Repo

All

None

February 2013

NZD

All

None

March 2013

DKK, SEK

All

None

May 2013

AUD, CAD

All

None

May 2013

CHF, EUR, GBP,   JPY, USD

2wk, 4m, 5m, 7m,   8m, 9m, 10m, 11m

Overnight/spot-next,   1wk, 1m, 2m, 3m, 6m, 12m

 The Amendment Letter applies only to transactions that reference discontinued LIBOR rates for currencies where some maturities will be retained (referred to in the Amendment Letter as “Discontinued Rates”).  It does not apply to transactions that reference LIBOR rates for discontinued currencies where there will not be any remaining maturities.  The letter details an approach which supersedes any existing fallback determination and under which:

  • If the Discontinued Rate is the actual Floating Rate Option referred to in the confirmation: the Discontinued Rate is replaced with an interpolated rate which uses the closest longer and closest shorter Designated Maturities for relevant rate; and
  • If the Discontinued Rate is used as part of an interpolation process in order to calculate a required rate: the interpolation will continue to apply, but the Discontinued Rate will be replaced by the closest shorter and/or closest longer designated maturity for the relevant rate (depending on exactly which rate(s) in the interpolation calculation have been discontinued).

As mentioned above, transactions which reference a LIBOR rate which has been discontinued without any maturities remaining fall outside of the scope of the Amendment Letter.  In these circumstances, market participants will be required to agree an approach to transactions and amend their terms accordingly, unless they are satisfied that any existing fallback determinations adequately address the situation.  Possible options include:

  • using a substitute rate in lieu of the discontinued rate; or
  • terminating affected trades.

Fortunately, the amendments to documentation required as a result of the Wheatley review are not as complex or voluminous as those required by Dodd-Frank and EMIR.  Nonetheless, firms should already have begun the process of identifying transactions which reference rates which are due to be discontinued and where adequate fallbacks do not already apply, defining a policy towards the amendment of such transactions and calculating the economic impact of the proposed amendments.  It will also be necessary to allocate sufficient resource to the production and negotiation of amendment letters with clients and to create a process whereby the results of the negotiation process are fed back into trading and risk systems.  With more popular rates due to be discontinued in May 2013, a proactive approach now will pay dividends in the longer-term.

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