In what has become a steady stream of advisories from regulators globally about the financial institution’s preparedness for LIBOR transition, the Bank of England (the Bank), on February 26, announced further measures designed to “turbo-charge sterling LIBOR transition” in a speech by Andrew Hauser, Executive Director of Markets at the Bank. The Bank recognises the progress made in 2019, particularly in the sterling wholesale markets towards sterling transition from the LIBOR risk-free reference rate to its replacement SONIA, which is due to take effect at the end of 2021. Good progress was made in 2019 in relation to derivatives, especially swaps, and the Bank and FCA have strongly encouraged market makers to use SONIA as the standard reference rate for sterling interest rate swaps from 2 March 2020. However, there is a further call to action for the financial services industry, with 2020 being a critical year to ensure that there is much more progress in driving transition in the sterling cash markets and, in particular, that there are no new issuances of term LIBOR-linked cash instruments after the third quarter of 2020.
To support the further development of the SONIA-related markets and the transition, the Bank has announced the following two measures:
- The Bank is intending to publish a compounded SONIA index, anticipated to commence by July 2020. It is expected that the index will provide a flexible tool to help market participants construct compounded SONIA rates in an easy and consistent way, supporting achievement of the 2020 Q3 target for new issuance.
- From October this year, the Bank will begin increasing haircuts progressively on LIBOR-linked collateral, thereby further encouraging the market to transition sooner rather than later.
The Bank of England is clearly signalling its support for the LIBOR transition, and UK regulators have been keen to stress to financial institutions that a lot remains to be done in less than two years. Firms across the financial sector would be well advised to make sure their preparations for transitioning away from LIBOR are well underway, including planning for issues such as:
- Review of legal contracts and documentation to identify where customer contracts will need to be amended and renegotiated
- Identification of technology changes necessary to facilitate the transition
- Consideration of accounting and valuation impacts
- Assessment of the potential conduct risk impacts on customers arising from the change in rate, pricing decisions and the way these changes are communicated to customers
It is clear that this industry-wide challenge is significant, and firms would be wise not to underestimate the scale and scope of the changes required. The markets will be changing, and the regulators have a strong desire to see progress.