Stay on Track for LIBOR Transition

Manipulation of the LIBOR market during the financial crisis has resulted in billions of dollars in fines and related enforcement actions levied by the global regulatory agencies. As confidence in LIBOR rate setting and governance declined, it was clear a transition to a new benchmarking rate was needed—but the questions of what/how remained.

Initial efforts focused on strengthening LIBOR oversight, but during their review global regulators saw that LIBOR was actually supported by far too few actual market transactions and, considering the increased liability banks were now facing, the project’s goal shifted from how to fix LIBOR to finding an alternative reference rate.

Since then, central banks around the world have been scrambling to develop alternatives to LIBOR. In June 2017, the U.S. Alternative Reference Rates Committee (ARRC) announced their preferred rate, the Secured Overnight Financing Rate (SOFR). In December 2017, the Fed announced their final plans for the production of three new reference rates with the most comprehensive of the rates, SOFR, to begin in 2Q18. Whether or not market participants choose to use SOFR or some other reference rate is something that will continue to play out in the months and years to come.

While the ARRC has proposed a path forward in their Paced Transition Plan—with a total transition to a reference rate based on SOFR set for the end of 2021 (but currently running ahead of schedule)—the transition is still underway and not without risk. As an invited member of the ARRC’s Business Loan Working Group, AFS is keeping abreast of the transition timeline, and has identified four key action items to make sure banks stay on track for the LIBOR transition.

1.    Know how your contracts are written

In order to get a sense of activity and general awareness in the market, AFS conducted a brief survey on the topic of U.S. Dollar LIBOR replacement, focused primarily on what individual bank efforts are underway to replace or update credit agreement language to address a future without LIBOR. 

An overwhelming majority of respondents indicated they are in process of preparing for the transition, but there is still much work to be done in identifying changes in contract language going forward, adding fallback language to new LIBOR transactions, and amending legacy business loan contracts.

Action: Research your own unique fallback language and amend any contract language to be prepared for the transition.

2.    Create an action plan/internal timeline for the LIBOR transition

The transition will affect more than contracts. Back office support and processing systems will also need to be ready to handle changes in data—both historical and going forward. Knowing how your systems record and process key items of information will be paramount in ensuring the transition goes smoothly.

Action: Identify what processing in your current loan systems will be affected and if any changes are needed in order to ensure a seamless transition. AFS is actively working to ensure that all clients running on our platforms have a full understanding of how they already have the functionality and agility required to support changes in the industry—be they benchmarking rates or regulatory changes.

3.     Stay current on the latest LIBOR transition updates

The transition is a continuously evolving project, with new developments coming out of ARRC and the Business Loan Working Group on a regular basis. The Working Group is in discussions to define contract language and identify operational processes for the transition. Additionally, while ARRC has identified SOFR as the preferred rate, there are still discussions on how SOFR will be calculated; the Business Loan Working Group is currently working on defining use cases for Forward-Looking Term SOFR, SOFR Rate Compounded in Advance, SOFR Compounded in Arrears, and Simple Daily SOFR Arrears. Finally, while there is a suggested timeline for the transition (Paced Transition Plan), timing and requirements are always subject to change.

With so much still in discussion, it is critical to stay up-to-date with AARC guidance to ensure your organization is working to make the correct changes, and on the latest timeline.

Action: Bookmark the AARC LIBOR Transition page and sign up for their email alerts. You can also sign up for the AFS LIBOR Updates mailing list and attend the AFS Best Practices Leadership Council (BPLC) LIBOR Transition webinars to hear the latest updates on ARRC and the Business Loan Working Group discussions.

4.    Make sure your systems are ready

As mentioned in #2 above, more than just contract language will be affected by the transition. It’s vital that you know exactly how your internal loan processing systems are set up and the extent to which they are capable of handling the coming changes. 

Action: Work with your technology provider to ensure that your system has the fields/processing capabilities/agility necessary to accommodate any changes. The good news for AFS Level III™ and AFSVision® clients is that AFS systems are capable of supporting most of the transition based on what we know today and we will support additional requirements as they are defined. Recently, AFS communicated that AFSVision, Release 3.2 will fully support SOFR, and our detailed roadmap of support, culminating in full code updates to AFS Level III in 1Q20, well before the 4Q21 transition deadline.

And, as always, AFS is here to lend support in any of the transition activities.

If you have any questions or would like to hear how AFS can help your organization be ready for the LIBOR transition, please contact Dean Snyder at dsnyder@afsvision.com. 

About the AARC

The Alternative Reference Rates Committee (ARRC) is a group of private-market participants convened by the Federal Reserve Board and the New York Fed to help ensure a successful transition from U.S. dollar (USD) LIBOR to a more robust reference rate, its recommended alternative, the Secured Overnight Financing Rate (SOFR). The ARRC is comprised of a diverse set of private-sector entities that have an important presence in markets affected by USD LIBOR and a wide array of official-sector entities, including banking and financial sector regulators, as ex-officio members. 

About the Business Loan Working Group

The ARRC Business Loan Working Group was created on January 30, 2019 to enable constituents to develop technology requirements and processes to support SOFR transition, form requirements as to what information, calculations, and process are likely to be necessary to implement SOFR, and gather feedback from various organizations and vendors regarding key milestones (including technology deliverables).