IBOR
Introduction
Major central banks and regulators have decided to transition from the existing Interbank Offered Rates (IBORs) to Alternative Reference Rates (ARRs). This may be the biggest change that financial markets will undergo in recent times.
Maisarah is closely following the course of action global regulators, industry working groups, and trade associations are taking to facilitate a smooth transition. Customers are updated throughout the various stages of this transition.
Maisarah has established an initiative to identify, assess, and monitor risks associated with the discontinuation or unavailability of benchmarks, including LIBOR, and the transition to ARRs. We are also evaluating existing contracts across all products to determine the impact of the discontinuation of LIBOR and other benchmarks and to address potential changes. This reform may impact the products and services currently made available to customers and those which we will provide in the future.
For further guidance on how to prepare for this transition, please consult your Relationship Manager. You may also consult your own legal, tax, financial, and other professional advisors for more specific guidance.
Background
The currently ongoing LIBOR transition in the global financial markets involves the replacement of the reference rate/ benchmark known as LIBOR (London Inter Bank Offered Rate) used for pricing of financing transactions with alternative risk-free rates (RFR). Maisarah Islamic Banking Services is a diverse financial entity that offers different products and services through a wide range of delivery channels and with multi-currency offerings that meet the needs of its customers. Maisarah has a substantial exposure to the USD currency - with deals mostly linked to USD LIBOR.
Why is LIBOR being replaced?
The underlying market that LIBOR is derived from is no longer used in any significant volume. Therefore, the submissions made by banks to sustain the LIBOR rate are often based (at least in part) on expert judgement rather than actual transactions.
The UK’s Financial Conduct Authority (FCA) has concluded that the way in which LIBOR is calculated in practice means that it no longer complies with internationally accepted principles for robust interest rate benchmarks. As such, in 2017, the FCA announced its intention to stop compelling banks to submit the rates required to calculate LIBOR after the end of 2021.
What are the implications?
The transition from LIBOR will bring considerable costs and risks for financial firms. Since the proposed alternative rates are calculated differently, payments under contracts referencing the new rates will differ from those referencing LIBOR. The transition will change firms’ market risk profiles, requiring changes to risk models, valuation tools, product design and hedging strategies.
LIBOR may become unavailable even though products referencing it remain in force. These contracts typically include “fall-back provisions” which specify contract terms in case LIBOR is unavailable. If the period of unavailability is brief, as envisaged when the contracts were drafted, the resulting losses and gains are manageable. However, if fall-back terms are used for the remaining life of the contract, the economic impact is likely to be significant, with one side a winner and the other a loser.
FAQ
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What is LIBOR?
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London Interbank Offered Rates (LIBOR) are commonly used as benchmark/reference rates used in the financial markets globally. It is the basic rate of interest used in lending between banks on the London interbank market. LIBOR is also used as a reference for setting the interest rate on other loans. It is unsecured interbank rate, quoted on a daily basis by panel banks for five major currencies for seven different terms based on expert judgement for their submissions.
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What is the impact of the transition?
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Migrating from LIBOR will have a direct impact on many aspects of financial institutions’ operations and documentation among others. This would, among other things, impact the following:
- Loan originations,
- Derivatives contracts,
- Bond & capital markets transactions,
- Islamic Financing, Sukuk and Capital Market transactions.
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What will replace LIBOR?
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In July 2017, the UK Financial Conduct Authority (FCA) reported that LIBOR will be phased out. After the end of 2021, the FCA has indicated that it does not intend to persuade or compel panel banks to submit the rates required to calculate LIBOR.
The publication of 24 LIBOR settings as below is set to cease after December 2021:
- All 7 EUR LIBOR settings,
- All 7 Swiss Franc LIBOR settings,
- Spot Next, 1 week, 2 months and 12 months Japanese Yen LIBOR settings,
- The Overnight, 1 week, 2 months and 12 months Sterling Pound LIBOR settings,
- The 1 week and 2 months US Dollar LIBOR settings,
- The publication of the rest for the remaining tenors such as (USD LIBOR for 1 month, 3 months, and 6 months) will cease after 30th June 2023.
These rates will be replaced by the following alternative benchmarks:
- In the US, the Alternative Reference Rates Committee (ARRC) has chosen Secured Overnight Funding Rate (SOFR) as the replacement.
- In the UK, SONIA, Sterling Overnight Index Average has been chosen.
- SONIA is the most actively traded replacement RFR.
- CHF LIBOR: Swiss National Bank working group on Swiss franc reference rates.
- JPY LIBOR: Bank of Japan cross-industry committee on Japanese yen interest rate benchmarks.
- EURIBOR: European Central Bank working group.
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Does the bank still offer products that reference LIBOR?
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As per the guidelines Central Bank of Oman (CBO), no new financial contracts will be offered with LIBOR as the reference rate. Instead, we will be offering widely accepted ARR such as SOFR for USD contracts.
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What does LIBOR transition mean for our customers?
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Customers with LIBOR exposures due to mature beyond 2021 (or June 2023, for certain USD LIBOR settings) are exposed to the risk of the permanent cessation of LIBOR. Upon the cessation of LIBOR, customers with LIBOR exposures could find their contracts and hedges no longer operate as intended. Furthermore, delaying the transition could lead to increased exposure to liquidity risk if market volumes are reduced, impacting contract repricing.
Customers should consider the transition of any contracts referencing LIBOR to the relevant RFR or an alternative rate as agreed between parties. This could be achieved by way of active conversion or including appropriate fallback language or otherwise in the relevant contracts.
We are in discussions with our customers in this regard to determine appropriate next steps. In the same time, we also encourage our customers to perform an assessment of their LIBOR-related exposures and take steps to understand the risks and impacts associated with LIBOR transition on their contracts and respective businesses, including any accounting, tax and operational implications.
Wide-ranging impacts:
- Financial impacts
- Operational impacts
- Systems
- Accounting
- Tax
- Models
- Processes
- Policies
- Customer
- Legal and Contractual
