As we await the Federal Reserve Board to finalize the LIBOR transition regulations set forth in its notice of proposed rulemaking - Regulation Implementing the Adjustable Interest Rate (LIBOR) Act,1 we are grateful2 that on 23 November 2022 the Financial Conduct Authority ("FCA") published Consultation Paper CP22/21: Consultation on 'synthetic' US dollar LIBOR and feedback to CP22/11 ("CP22/21"), in which it (a) proposes to require continued publication, under an unrepresentative "synthetic" methodology, of 1-, 3-, and 6-month USD LIBOR until the end of September 2024 and (b) announced that 3-month synthetic GBP LIBOR will continue to be published until the end of March 2024, after which each will cease permanently. Comments are requested on or prior to 6 January 2023.
On 30 June 2022, FCA published Consultation Paper CP22/11: Winding down 'synthetic' sterling LIBOR and US dollar LIBOR ("CP22/11"), and on 29 September 2022 announced that, as a result of feedback received to that date, (i) existing synthetic JPY LIBOR settings would end as originally planned after publication on 30 December 2022, (ii) 1- and 6-month synthetic GBP LIBOR settings would continue to be published for an additional 3 months and would cease permanently after publication on 31 March 2023, (iii) additional time was needed to consider consultation feedback with respect to the appropriate date for the orderly cessation of 3-month synthetic GBP LIBOR, and (iv) further consultation was necessary to assess the case for, and consequences of, a decision to compel publication of a synthetic USD LIBOR for a period of time. CP22/21 addresses the latter two points.
Based on responses received to CP22/11, which are discussed in some detail in CP22/21, FCA expects that there will be a pool of outstanding legacy contracts governed by UK or other non-US law, that will not be transitioned by operation of law by the US Adjustable Interest Rate (LIBOR) Act ("LIBOR Act"), and that have no realistic prospect of being amended to transition away from the 1-, 3-, and 6-month US dollar LIBOR settings by the end of June 2023.
With that in mind, CP22/21 makes three key proposals with respect to USD LIBOR: (A) to require ICE Benchmark Administration Limited, LIBOR's administrator, to continue publication of the 1-, 3- and 6-month US dollar LIBOR settings on a synthetic, and "permanently unrepresentative," basis until the end of September 2024, (B) to use the sum of CME Term SOFR Reference Rate plus the ISDA fixed spread adjustment for the corresponding settings as the methodology to construct such synthetic US dollar LIBOR settings, and (C) to permit use of these synthetic US dollar LIBOR settings during the proposed limited time period in all contracts except cleared derivatives. With respect to the latter proposal, FCA stated, "the bulk of derivative transactions should be based on underlying overnight index swaps (OIS) and futures markets, as these are a necessary foundation for constructing and sustaining robust term RFRs." Other than the restriction on the use of synthetic USD LIBOR in derivatives transactions, FCA concluded, after discussion of consultation feedback, that no additional limitations or conditionality should apply to the above proposed permitted uses.
A question acknowledged by the FCA relates to a possible unintended conflict between interpretations of the effect of an unrepresentative synthetic USD LIBOR and the LIBOR Act. Specifically, multiple respondents noted that contracts with fallbacks based on LIBOR publication cessation only, and not unrepresentativeness, might use a synthetic US dollar LIBOR setting for as long as such a setting were to be published and move to their intended fallback rate under the contract only when the synthetic setting ceases. This is an issue requiring clarification that has been raised by respondents to the Federal Reserve notice of proposed rulemaking.3 We hope to see clarification with respect to the treatment of a synthetic USD LIBOR when the final rules are published, and would expect that clarification to be reflected in the final FCA determination regarding synthetic USD LIBOR.
FCA noted that its proposals for a synthetic USD LIBOR are intended to promote the maintenance of international consistency (i.e., with the methodology used to construct synthetic GBP and JPY LIBOR) to avoid market fragmentation or unwanted basis risk. Specific questions relating to these proposals are set forth in Annex 1 to CP22/21.
Additional consideration of the responses to CP22/11 have allowed FCA to confirm that most contracts using 1- and 6-month GBP LIBOR settings will be able to transition away from LIBOR by the end of March 2023, and that the vast majority of contracts using the 3-month GBP LIBOR setting likely will be able to transition to alternative rates by the end of March 2024. After a discussion of specific considerations affecting mortgages, Private Finance Initiative Loans, and bonds and securitization transactions, FCA concluded that these timelines remain appropriate and that the volume of contracts unable to transition by those dates is "unlikely to be sufficient . to cause widespread disorder in financial markets."
Assuming that the results of CP22/21 are finalized as proposed, the following is a summary of the relevant dates for the cessation of LIBOR publication:
- 1-, 3-, and 6-month synthetic JPY LIBOR settings will cease after publication on 30 December 2022;
- 1- and 6-month synthetic GBP LIBOR settings will cease after publication on 31 March 2023;
- Overnight and 12-month USD LIBOR settings will cease after publication on 30 June 2023;
- 3-month synthetic GBP LIBOR will cease after publication on 29 March 2024; and
- 1-, 3-, and 6-month synthetic USD LIBOR settings will cease after publication on 30 September 2024.
We end by highlighting the continuing direction from FCA regarding the use of synthetic LIBORs: "While we consider synthetic LIBOR a fair and reasonable approximation of what LIBOR might have been, it will no longer be representative [of the markets that the original LIBOR settings were intended to measure] for the purposes of the Benchmarks Regulation. It is not for use in new contracts. It is intended for use in certain legacy contracts only." Market participants are encouraged to step up efforts to transition their portfolios as soon as possible.4
1. For a full discussion of the proposed rules, see our 2 August 2022 blog post, Switching to SOFR: Proposed Rule Published to Implement the 2022 Federal LIBOR Act.
2. For non-US readers, this is a reference to the Thanksgiving holiday being celebrated in the US and some other parts of the World, including Norfolk Island.
3. See, e.g., the 29 August 2022 response submitted by the Securities Industry and Financial Markets Association. SIFMA states in Section C, "The clear intention of Congress was that all US dollar contracts move to a representative, non-LIBOR-based rate following the LIBOR Replacement Date, and the Statute is specifically designed to facilitate the replacement of a non-representative LIBOR (or still non-representative reformulation thereof, such as synthetic LIBOR) for all in-scope contracts."
4. According to the summary results of a 9 August 2022 Remediation Survey published by the US Alternative Reference Rates Committee on 13 October 2022, over half of responding lenders expect that the majority of their loans would not be transitioned until the end of the second quarter of 2023 or later, with almost 15 percent expecting to transition the majority of their loans after LIBOR has ended.
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