The US Alternative Benchmark Rates Committee (ARRC), the US trade body responsible for the Libor-to-dollar transition, put the colors on the mast and said the lending market should use a “hard-wired approach” to move away from the Libor.
This approach allows the borrower or its agent to replace the Libor with the guaranteed term or overnight guaranteed financing rate (Sofr) without the need to obtain the consent of the lender syndicate – although lenders are, of course, informed. The alternative is the “amendment approach”, which changes the terms and requires lenders to approve.
Cabling has undeniable advantages. If implemented well, it codifies the process, so everyone involved knows exactly what happens next at each step. It will also speed up the transition. With Libor due to be scrapped at the end of 2021 and regulators pushing for lenders to find a solution well ahead of that date, speed is a strong motivator in choosing a methodology.
However, all of this only works if the hard-wired approach is well thought out, and although all the major players in the loan market are involved in working groups for many months to resolve the issue, there are indications. that this will always end up being something of a rush.
The first major red flag is that a hard-wired approach has never been used in the lending market. Proponents of the cabling point to other comparable markets, such as that of variable rate notes, which have used the method successfully. But if FRNs and syndicated loans were the same, the two markets would not need to exist. The devil is in the details, and it would help if the lending market could at least have a few hard-wired transition data points to look into and see if there were any unforeseen issues that need to be addressed before they can be put on the market. Marlet .
The second flag is that not all conventions for a wired approach have been finalized. The main ones have – like the definition of daily Sofr, for example – but smaller conventions are still missing in the guidelines. ARRC plans to fill in the gaps before the deadline.
Without all the conventions in place, some level of interpretation will be required on the part of a loan officer and the borrower. The ARRC anticipates that these interpretations will be necessary and recommends that agents and borrowers make the decision without the union’s consent. Agents are happier doing this in the United States than in Europe, where banks are reluctant to make decisions without submitting them to the union at large.
This will likely lead to a different method adopted by dollar and pound lenders. Add to that that Euribor will continue to exist and that there are now at least three different methods that could be used on a multicurrency installation.
Those close to the topic point out that, from a documentation point of view, this will add another layer of complexity but is perfectly doable. But it touches on a seemingly largely forgotten part of any loan: the borrower.
The corporate market has shown little enthusiasm for the passage of the Libor. While the Libor scandal undoubtedly showed the benchmark to be susceptible to abuse, for the day-to-day needs of many businesses it was not broken and did not need to be fixed. The major trade bodies believe that this is a banking problem and that they are being drawn into something that businesses, as customers of banks, should not have to worry about. It’s hard not to agree with this point of view.
A likely medium-term event will be a UK bank, for example, explaining to a CFO that if it wants to withdraw sterling from its multi-currency facility, it will be priced different from any dollar or euro. the withdrawals they make. This is going to be the cause of many looks from CFOs at best, as they begin to wish their lender bankers had done better and sooner.