Fortunately, the path has become clearer in recent months, with abundant guidance and tools available in the market.
It's not even Memorial Day yet, and it seems like there have been more developments in the last four months than in the rest of the four years since the Financial Conduct Authority (FCA) announced that it would no longer compel panel banks in the London interbank market to sustain LIBOR after 2021.
Whether a lender has been testing the waters with SOFR loans since last year, adding benchmark replacement language in its loan agreements, or simply relying on old fallbacks to the prime rate (or no fallback), much work remains to be done to transition successfully from LIBOR. Fortunately, the path has become clearer in recent months, with abundant guidance and tools available in the market.
Set out below are some of this year's important announcements, directives and developments.
The March 5 Announcements
As the regulatory supervisor for LIBOR, the FCA announced that one-week and two-month U.S. dollar LIBOR will cease immediately after December 31, 2021, and all other tenors of U.S. dollar LIBOR will cease after June 30, 2023. All LIBOR tenors of other currencies will also cease after December 31, 2021. Any "zombie" LIBOR reported after those dates will no longer be representative of the underlying market and economic reality.
IBA Press Release
ICE Benchmark Administration (IBA), as the administrator of LIBOR, issued a press release and feedback statement that, in the absence of LIBOR panel bank support and intervention by the FCA to compel panel bank reporting of LIBOR data, it will cease reporting of LIBOR after the dates announced by the FCA. The IBA further confirmed that the FCA does not expect that any LIBOR settings prior to such dates will become unrepresentative.
The Alternative Reference Rates Committee of the Federal Reserve Bank of New York (ARRC) praised the FCA and IBA announcements and reminded market participants of the joint statement of the Board of Governors of the Federal Reserve System, the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation on November 30, 2020, that, subject to limited circumstances, banks should cease making new U.S. dollar LIBOR loans "as soon as practicable" and in any event by December 31, 2021.
The International Swaps and Derivatives Association (ISDA) confirmed that the FCA announcement constitutes an index cessation event for all LIBOR settings under the amendments to the 2006 ISDA Definitions and the ISDA 2020 IBOR Fallbacks Protocol that went into effect on January 25, 2021. The significance of this is that it fixed the interest rate spread adjustment between LIBOR and SOFR.
ARRC Updates Hardwired Language
On March 25, 2021, the ARRC released supplemental recommendations for hardwired fallback language for LIBOR syndicated and bilateral loans that incorporated the spread adjustment numbers published by Bloomberg and streamlined the prior language.
LSTA Concept Credit Agreements
Daily Simple SOFR
On April 13, 2021, the Loan Syndications and Trading Association (LSTA) published for the private use of its members updated sample forms of credit agreement for Daily Simple SOFR, Daily Compounded SOFR (compound the balance) and multicurrency loans.
Daily Compounded SOFR
On May 6, 2021, LSTA also refreshed its concept credit agreement for Daily Compounded SOFR (compound the balance), which involves more complicated calculations.
After encouraging signs last year that the ARRC was searching for a vendor to calculate and publish Term SOFR, the time frame for arrival has been a moving target. First it was anticipated before the end of 2020, then it was the "first half of 2021." On March 23, 2021, the ARRC announced that it will not be in a position to recommend a Term SOFR rate by mid-2021 since the trading in SOFR derivatives that is necessary to establish the rate is still very light. In a foreboding sign, the ARRC encouraged market participants not to wait for Term SOFR.
To help guide the market on when a Term SOFR rate might be recommended, the ARRC announced on April 20, 2021, three key principles that it will consider. The third principle, that it have a limited scope of use until there is a robust SOFR derivatives market to support it, could limit the availability and use of Term SOFR for quite some time.
On May 6, 2021, the ARRC provided more detail on the market indicators that it would consider in recommending a Term SOFR rate. The more SOFR loans and derivatives there are, the more viable a Term SOFR rate becomes.
Credit-Sensitive Alternatives to SOFR
Developed by the American Financial Exchange in Chicago, Ameribor reflects the actual borrowing costs of small, medium and regional banks across the country and is IOSCO compliant. Chatham Financial executed the first Ameribor swap in December 2020. The April 14, 2021, announcement by Zions Bancorporation that it will adopt Ameribor as its replacement rate is probably the most prominent one to date, but bigger announcements have been promised. On April 29, 2021, PNC Bank reportedly joined the exchange.
Bloomberg BSBY Index
On March 8, 2021, Bloomberg announced that its BSBY Short-Term Credit Sensitive Index is available. The BSBY rate is reportedly IOSCO compliant, and at least one swap was entered into on April 30, 2021.
IBA Bank Yield Index
The U.S. Dollar ICE Bank Yield Index is designed to be a forward-looking, credit-sensitive rate that measures the average yields at which investors are willing to invest U.S. dollar funds over one-, three- and six-month periods on a wholesale, senior unsecured basis in large international banks.
IHS Markit Credit Rate
This benchmark rate is designed to be a broad-based measure of average funding rates for banks in institutional markets on a senior unsecured basis.
On April 8, 2021, the LSTA issued sample language to its members as to how such rates could be documented in syndicated credit agreements.
What if a loan agreement or bond indenture does not have any fallback at all and the parties are not able to agree on a replacement rate? New York state and the federal government are addressing this issue.
New York Legislation
On January 19, 2021, Governor Andrew Cuomo included in Part PP of the Fiscal Year 2022 New York State Executive Budget for Transportation and Economic Development the ARRC's suggested legislative fix for contracts governed by New York law. In broad terms, as of the defined LIBOR replacement date, SOFR (the only recommended benchmark replacement) would by operation of law, without amendment, be the benchmark replacement for any contract, security or instrument that uses LIBOR and either contains no fallback provision or a fallback based on LIBOR. Senate Bill S297B was passed on March 24, 2021, and signed by the governor.
Draft legislation based on the ARRC language is also being discussed at the federal level. On April 15, 2021, the U.S. House Committee on Financial Services held a virtual hearing on the subject. Although the testimony by governmental regulators was largely positive, other observers noted the limitations of having SOFR as the only approved replacement rate.
On February 10, 2021, the OCC issued a LIBOR Self-Assessment Tool for banks, including community banks. The tool provides a useful checklist for banks to prepare for the coming transition and will likely be used by the OCC in its regulatory oversight meetings with banks.
With a start like this, it will be interesting to see what happens next. Maybe the first broadly syndicated SOFR loan? Or an ARRC-recommended Term SOFR "relatively soon" as teased in their recent announcement?
For More Information
If you have any questions about this Alert, please contact Roger S. Chari, Joel N. Ephross, Amelia (Amy) H. Huskins, Phuong (Michelle) Ngo, Han Wang, any of the attorneys in our Banking and Finance Industry Group or the attorney in the firm with whom you are regularly in contact.
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