On 29 September 2021, the FCA announced that it was exercising certain powers granted to it under the Benchmarks Regulation (BMR) to assist with the orderly wind-down of LIBOR and in order to reduce risks to market integrity and consumer protection.
LIBOR settings affected
The FCA has designated 6 LIBOR settings as critical benchmarks under Article 23A of the BMR:
- 1 month sterling
- 3 month sterling
- 6 month sterling
- 1 month yen
- 3 month yen
- 6 month yen (together the Article 23A Settings)
It will compel the benchmark administrator, ICE Benchmark Administration (IBA), to continue publishing these 6 critical benchmarks for a period of 12 months, i.e. to 31 December 2022. While the FCA has indicated that it will not compel IBA to continue to publish the JPY settings after the end of 2022, the position thereafter for the GBP settings remains unclear.
The FCA recognises that there will be a need for the continued publication of the Article 23A Settings because of the inability to transition a significant number of contracts to alternative rates before the end of this year. It has therefore confirmed it will use its powers under the BMR to require IBA to change the methodology to calculate the Article 23A Settings. Following its consultation, the FCA has confirmed that the new methodology for calculating Synthetic LIBOR rates will be:
- forward-looking term version of the Article 23A Settings (eg 1 month Term SONIA published by ICE Benchmark Administration), plus
- the respective fixed spread adjustment (that is published for the purpose of ISDA’s IBOR Fallbacks for the Article 23A Settings).
We have known for some time that certain “tough legacy” contracts would be permitted to use synthetic LIBOR (with the recently introduced Critical Benchmarks (References and Administrators Liability) Bill making amendments to the BMR to the effect that any reference to LIBOR shall automatically become a reference to synthetic LIBOR after 31 December 2021), but until now what would constitute a tough legacy contract has been unclear.
The FCA has announced that it intends to permit all contracts, except cleared derivatives to rely on synthetic LIBOR with no other limitations or conditions that use before the end of 2022. (the consultation closes on 20 October 2021).
The FCA has made it clear in its announcement and in the consultation paper that it still expects firms to focus on transitioning contracts away from LIBOR rather than relying on synthetic LIBOR. The BMR requires the FCA to review the use of its powers to compel publication of a critical benchmark at least annually (up to a maximum period of 10 years). In relation to the 3 JPY settings the FCA has already indicated that it does not intend to continue to compel IBA to publish the rates after 2022.
The consultation sets out some of the practical difficulties it faces in setting any future limitations or conditions on the continuing use, suggesting the position in respect of the GBP settings may be maintained beyond 2022. However, the FCA’s consultation paper gives a clear warning to firms that if they keep postponing efforts to reduce their exposure to LIBOR where there are practicable alternatives available, then the FCA will reconsider whether it needs to impose limitations, such as a time limit for the permitted legacy use for some classes of contracts.
What about US dollar LIBOR?
As previously announced, all US dollar LIBOR settings (apart from 1 week and 2 months which will not be published after 31 December 2021) are set to continue to be published in their current form until 30 June 2023.
Whilst legacy contracts using US dollar LIBOR will therefore be unaffected at this time, the FCA is proposing to prohibit the new use of USD LIBOR, after the end of 2021, pursuant to Article 21A of the BMR, save in a very limited number of exceptions. This re-affirms previous guidance and regulatory expectations both in the UK and in the US, that new USD LIBOR loans should not be issued after the end of this year.
This latest announcement by the FCA is welcome in circumstances where there has been significant uncertainty about the management of tough legacy contracts. There is a significant volume of contracts that have, for a variety of reasons, yet to be transitioned as we approached the end of Q3 which was the Working Group on Sterling Risk Free Reference Rates target date for completing the transition of legacy contracts. It provides the market with clarity regarding legacy contracts, at least for the next 12 months.
That said, is the can simply (albeit perhaps inevitably given the size and complexity of the task) being kicked down the road? After 4 years to prepare for the end of LIBOR already, there must be some doubt whether another 12 months will be sufficient to ensure contracts are transitioned such that the continued publication of synthetic LIBOR is no longer required.