FCA Compels Publication of Synthetic USD LIBOR
November 29, 2022
On November 23, the UK’s Financial Conduct Authority (FCA) announced it would compel LIBOR’s administrator, the ICE Benchmark Administration (IBA), to publish USD LIBOR on a synthetic basis for 1-, 3-, and 6-month tenors after June 30, 2023. The FCA’s aim is to provide a temporary, unrepresentative solution for tough legacy contracts referencing USD LIBOR outside of the United States. The FCA is proposing that synthetic USD LIBOR be published for 15 months, permanently ceasing at the end of September 2024.
- The publication of a synthetic USD LIBOR is intended to address tough legacy non-US contracts not covered by the Adjustable Interest Rate (LIBOR) Act, enacted by Congress earlier this year.
- The Federal Reserve Board (FRB) has been tasked with implementing the LIBOR Act but has not yet issued its final rulemaking.
- The use of synthetic USD LIBOR will be limited solely to legacy contracts. The FCA also designated the rate as a “permanently unrepresentative benchmark,” allowing it to change its methodology.
- Synthetic USD LIBOR will be calculated as CME Term SOFR plus the relevant ISDA fixed spread adjustment (i.e., the same formulation used in the ARRC fallback language).
- The FCA considers this calculation to be “a fair and reasonable approximation… and one that is consistent with the replacement rates recommended by the FRB in its proposed rule.”
- It is important to note that while IBA has its own version of term SOFR, the calculation of synthetic USD LIBOR will only use the CME version.
Market participants are concerned about the potential for synthetic USD LIBOR to interfere with certain tough legacy US contracts. In particular, the concern lies with older loans (generally originated before 2018) that designate a specific, non-LIBOR fallback rate (such as Prime) if LIBOR is unavailable.
- These loans could potentially move to synthetic USD LIBOR, which fully aligns with the ARRC fallback language (i.e., term SOFR plus a spread adjustment).
- Moving to synthetic USD LIBOR would benefit borrowers as they would avoid the (generally) higher Prime Rate, while lenders and servicers would benefit by using the same LIBOR screen after June 2023.
It should be noted that CREFC, in its comment letter to the FRB regarding its proposed rule for the LIBOR Act, specifically asked for clarification on the treatment of synthetic USD LIBOR. As mentioned earlier, the final rule was expected by mid-September but has yet to be released.
Please reach out to Raj Aidasani with any questions.