On January 28, 2021, the UK Loan Market Association (LMA) published exposure drafts of two multicurrency term and revolving facilities agreements which incorporate, among others, backward-looking compounded risk-free rates (the Exposure Drafts). In addition, the LMA published commentary on the Exposure Drafts, which aims to assist market participants in understanding the terms thereof. The Exposure Drafts are based on the LMA’s exposure draft switch rate agreements discussed in our earlier blog post. The LMA hopes that their publication will facilitate awareness of the issues involved in structuring multicurrency syndicated loans which use backward-looking compounded risk-free rates (RFRs).
ISDA’s IBOR Fallbacks Supplement and Protocol came into effect today. These fallbacks, which are discussed in more detail here, will be incorporated with immediate effect into all new derivatives contracts which incorporate the 2006 ISDA Definitions, and in all legacy non-cleared derivatives where both parties have adhered to ISDA’s IBOR Fallbacks Protocol. To date, over 12,000 parties have adhered to the Protocol, which remains open for adherence for the foreseeable future.
With the end of LIBOR in sight, on January 11, 2021 the Bank of England, FCA and Working Group on Sterling Risk-Free Reference Rates (the Working Group) published a joint statement on the final countdown to the ceasing of publications of all GBP LIBOR settings at the end of 2021 and an updated 2021 Roadmap to assist business in their preparations for the LIBOR transition. Market participant are encouraged to take the Working Group’s updated roadmap into consideration in the transition plans for 2021.
With the end of LIBOR drawing closer, the FCA, Bank of England and the Working Group on Sterling Risk-Free Reference Rates (the Working Group) are encouraging market participants to actively transition from referencing LIBOR rates in their loan agreements to risk-free rates (such as SONIA). In this respect, one important aspect that market participants need to consider is the credit spread adjustment (CAS) that will be required. Market participants use a CAS to mitigate the risk of value transfer when transitioning to risk-free rates due to the difference between LIBOR rates and the risk-free rates, caused by the lack of a credit risk premium in risk-free rates.
Following years of consultations, ISDA published its long-awaited IBOR Fallbacks Supplement to the 2006 ISDA Definitions (the Supplement) and Protocol on October 23, 2020. The Supplement and Protocol provide a standardized and efficient means of transitioning derivatives contracts currently referencing IBORs to risk-free rates (more information on which can be found in our earlier blog post).
Market participants are reminded that the Supplement and Protocol will become effective on January 25, 2021 (the Protocol Effective Date). At present over 5,300 parties have adhered to the Protocol.
The IRS recently released Revenue Procedure 2020-44 (“Rev. Proc. 2020-44”) which provides helpful relief to taxpayers by providing that if a contract referencing an IBOR is modified to incorporate specific ISDA or AARC fallback language for the replacement of IBORs, such modification will not cause certain adverse tax consequences, such as exchange treatment under Section 1001 of the Tax Code, or the legging out or termination of integrated transactions under Treasury Regulation Sections 1.1275-6, 1.988-5(c) or 1.148-4(h).
On Monday, November 30, 2020, ICE Benchmark Administration (“IBA”), as administrator of LIBOR, announced that it will consult in early December 2020 on its plan to cease publication of the overnight and one-, three-, six- and 12-month U.S. Dollar LIBOR (“USD LIBOR”) settings immediately following the LIBOR publication on June 30, 2023. This announcement represents an effective extension of the end date for USD LIBOR, which previously was expected to cease following 2021.
On November 23, 2020, the Loan Market Association (the “LMA”) announced the publication of several new and revised documents, with the purpose of helping market participants incorporate appropriate transition mechanisms into their loan documentation.
Several remarks and releases by public officials and significant regulatory bodies in the first weeks of November garnered significant attention by financial institutions trying to discern next steps in the wind-down of USD LIBOR.
On November 18, 2020, the LIBOR administrator ICE Benchmark Administration (IBA) announced that they will consult on their intention to cease publication of GBP, EUR, CHF and JPY LIBOR settings across all tenors. Their announcement also indicated that IBA remain in talks with the FCA, other official sector bodies and panel banks regarding the future of USD LIBOR. On the same date, the FCA announced that they will publish consultations about their proposed amendments to the Benchmarks Regulation that, if passed, will give the FCA enhanced powers to direct methodology changes to critical benchmarks (more information on which can be found in our earlier blog post).
The exclusion of USD LIBOR from the IBA’s consultations may reflect the fact that the dollar market is further behind in its transition efforts, which may be due to the fact that SOFR is a new rate (unlike other replacement rates that have existed for decades). However, IBA have advised that further announcements are to be expected in respect of USD LIBOR, and that market participants should not expect USD LIBOR to continue to be published beyond December 31, 2020.
The FCA’s consultations, published on the assumption that the Financial Services Bill (in which their proposed amendments are included) is passed in its current form, cover:
- how the FCA would use the proposed new power to require continued publication of critical benchmarks on the basis of a changed methodology in certain circumstances; and
- the circumstances in which those powers would potentially become relevant.
Following these consultations, the FCA will set out their approach in Statements of Policy. In their announcement, the FCA advise that they envision using their proposed enhanced powers where:
- LIBOR currency-tenor settings are widely used in outstanding contracts and/or instruments that cannot practicably be transitioned away from the benchmark rate by actions or agreements by or between contract counterparties themselves (i.e. ‘tough legacy’ contracts); and
- using the powers would contribute to protecting consumers or preserving market integrity.
Following the publication of the IBA and FCA’s statements, ISDA published a statement clarifying that neither statement constitutes an Index Cessation Event under the IBOR Fallbacks Supplement or Protocol, and so will not trigger the fallbacks thereunder, nor have any effect on the calculation of the spread adjustment.
Please contact any of the authors of this briefing or your regular McGuireWoods contact if you have questions about, or would like assistance with, the LIBOR transition