Half of companies lack LIBOR phase-out plan: Duff & Phelps

Dive Brief:

Fifty percent of companies have not drawn up a firm plan for replacing the London Interbank Offered Rate (LIBOR), the reference rate for trillions of dollars in mortgages, business loans, derivatives and other financial contracts worldwide, according to a Duff & Phelps survey.
Only 34% of financial institutions said they are on track for the Dec. 31 end of many LIBOR tenors, while 31% said they have “just started thinking about it,” according to Duff & Phelps.
Less than half of financial services firms have set a date for ending the use of LIBOR in new financial contracts, Duff & Phelps said.

Dive Insight:

Despite warnings from regulators since 2017, many companies in recent years have failed to switch to new reference rates, Federal Reserve Vice Chair Randal Quarles said in March, noting that use of U.S. dollar LIBOR has increased to nearly $223 trillion in outstanding financial contracts from about $200 trillion in 2018.

“If supervised firms are not making adequate progress in transitioning away from LIBOR, examiners should consider issuing supervisory findings or taking other supervisory actions,” Quarles said.

A botched transition from LIBOR to alternatives such as the Secured Overnight Financing Rate (SOFR) could trigger market turmoil, the Financial Stability Oversight Council of U.S. regulators said in its annual report.

The Fed “is increasing supervisory attention on banks’ efforts to transition away from LIBOR,” the Fed said in an April 30 report on supervision and regulation that cited the transition among “key supervisory priorities.” “Examiners will confirm that firms are adequately planning for the transition,” it added.

The proportion of firms lacking a LIBOR transition plan fell to 50% in March from 65% in September, Duff & Phelps said. Also, respondents with plans to switch to an alternative reference rate before the Dec. 31 decline rose to 45% from 30%.

Duff & Phelps, a Kroll business, surveyed 110 U.S. and U.K. firms involved in finance and other industries on March 23-24.

The U.K. Financial Conduct Authority, the administrator for LIBOR, announced on March 5 that it will delay to mid-2023 the sunsetting of some of the most commonly used tenors of the benchmark rate.

The final fixings for most LIBOR rates — including 1-week and 2-month U.S. dollar LIBOR — will be made on Dec. 31, 2021, but other U.S. dollar tenors may continue until June 30, 2023.

Companies face big challenges in phasing out the reference rate. LIBOR is woven into core operations such as valuation, accounting, tax and debt management. Some debt instruments are held by hundreds of investors who will need to agree on any modifications.

Adoption of SOFR, the alternative reference rate favored by the Fed and other U.S. regulators, has accelerated during the past several months but, because of some disadvantages, is far from eclipsing LIBOR.

SOFR is based on overnight repurchase agreements secured by Treasuries and, unlike LIBOR, does not enable treasurers to make forward-looking rate calculations. LIBOR is based on London banks' estimates of what they would be charged when borrowing from other banks.

“The transition away from LIBOR will require significant attention over the next year,” the Fed said in its supervision and regulation report.

“Banks that write new LIBOR-based contracts should include robust fallback language and define an alternative reference rate in such contracts after LIBOR is no longer available,” the central bank said. “In addition, banks should identify other potential risks related to the change and work to mitigate those risks ahead of the anticipated end to LIBOR.”

Editor's note: The story has been updated with the detail that Duff & Phelps is a Kroll business.