As you are aware, LIBOR (London Interbank Offered Rate) is due to phase out by the end of 2021. Currently, many companies in the United States use LIBOR as a benchmark for various commercial and financial contracts, including corporate and municipal bonds and loans, floating rate mortgages, asset backed securities, consumer loans, and interest rate swaps and other derivatives. In transitioning away from LIBOR, the Alternative Reference Rates Committee (ARRC), a committee comprised of a group of market participants to identify an alternative reference rate for use primarily in derivative contracts, has selected Secured Overnight Financing Rate (SOFR) as the proposed representative rate. See https://www.theice.com/iba/libor for a more in depth look at LIBOR and the transition.
The onset of coronavirus (COVID-19) disrupted the world as we know it. The transition away from LIBOR is already a difficult process posing multiple risks. Now throw in a pandemic. A report done by Moody’s Investors Services, states COVID-19 has delayed the efforts of transitioning. They further report that market participants have been addressing other needs rather than LIBOR transition efforts. For example, the U.S. Fed used LIBOR instead of an alternative reference rate for the Main Street Lending Program during COVID-19. The Main Street Lending Program supports lending to small and medium-sized for profit businesses and nonprofit organizations that were in sound financial condition before the onset of the pandemic. LIBOR was used because “quickly implementing new systems to issue loans based on SOFR would require diverting resources from challenges related to the pandemic.” If market participants and firms are addressing their efforts elsewhere it makes sense that an already difficult transition exacerbated by COVID-19 demands a delay, right? Not so much.
The ARRC published the following response in July, 2020 with respect to how COVID-19 influenced the end of the 2021 expiration date: “The ARRC recognizes that near-term, interim steps may be delayed given the current economic environment with the global pandemic…it remains clear that the financial system should continue to move to transition by the end of 2021.” But, how does something like a pandemic not yield an extension or delay? The Financial Conduct Authority (FCA) already extended the use of the LIBOR benchmark to be used in new loans until the end of March, 2021, originally set to expire in September 2020. So will there be another extension? As of now there has been no mention of any further delays. Some believe there is no excuse to not have an alternative reference rate in place since the world has been on notice since 2017. In May, 2020, Chris McHugh, director, Centre for Sustainable Finance, London Institute of Banking and Finance discussed how banks were advised in 2017 to begin transition and “unless there is some systemic or prudential reason as to why it makes sense for regulators to delay, then the transition should continue as planned.” This statement suggests the notion that a pandemic is not a systemic or prudential reason for a delay. Furthermore, the Financial Stability Board (FSB) released a press statement on July 1, 2020 that encourages going forward with plans to transition away from LIBOR. While the FSB recognizes that some firms will encounter temporary delays, they stipulate that “financial and other firms should continue to ensure that their transition programs enable them to transition to LIBOR alternatives before end-2021.” Hence, institutions should continue their efforts in moving toward adopting alternative reference rates, if they have not already.
In the age of COVID-19 nothing is certain. Only time will tell how market participants are using their resources. In the meantime, institutions should continue their efforts in moving toward an alternative reference rate since it looks like the pandemic will not allow Libor to stay around much longer than planned.