The LIBOR transition opens the door to a fundamental rethink of the use of data and technology, and how firms provide products and services to customers, says Bloomberg’s Bing Li.
A number of important initiatives, such as the Fundamental Review of the Trading Book (FRTB), have been delayed due to Covid-19 but the global transition away from the London Inter-Bank Offered Rate (LIBOR) is not one of them.
In June, the U.S. Alternative Reference Rates Committee (ARRC) recommended that firms should cease using USD LIBOR in new floating rate notes by the end of 2020 and stop the use of USD LIBOR in new derivatives and business loans by June 2021. In the UK, the Financial Conduct Authority (FCA) has been asked to be ready to offer Sterling Overnight Interbank Average Rate (SONIA) loans by the end of Q3 2020 and to cease using GBP LIBOR in loan products by Q1 2021.
Growing urgency and disparity in Asia
LIBOR is critical to trillions of dollars of flow across financial products globally, including in Asia. In the region, it is used for a wide range of financial products and valuations across different markets including loans, mortgages, securitisation and derivatives. Bloomberg data shows Asian companies have at least USD 600 billion of outstanding USD LIBOR linked loans and bonds, about two-thirds of which mature after the date at which LIBOR will be discontinued.
The transition from LIBOR to risk free rates (RFRs), which are overnight reference rates with a liquid underlying market, has been fragmented across Asia. While the European Union has a centralised regional rulebook, Asia currently does not.
In developed markets such as Japan, Hong Kong and Singapore, clear, consistent, proactive regulatory engagement may have driven banks to move away from LIBOR much more quickly than their regional peers. Bloomberg Intelligence analysis has shown that markets such as Malaysia and Indonesia have not received the same degree of regulatory guidance, potentially exposing them to higher legal risks and loss of regional market share. The Monetary Authority of Singapore (MAS) has issued the inaugural Singapore Overnight Rate Average (SORA) floating rate notes and will shortly start publishing compounded SORA indices.
Some would argue however, that the transition is not happening as fast as it should. As of June 2020, Bloomberg data shows that only two products linked to SOFR have been issued by the Bank of China and the Asia Development Bank so far.
In fact, a survey by the Hong Kong Monetary Authority (HKMA) conducted in Q4 2019 revealed that fewer than half of banks have quantified their LIBOR exposures, and only 38% have a bank-wide transition plan in place. In Japan, a regulators’ survey in March 2020 showed that banks are still in the early stages of preparation such as identifying which IT systems need upgrading.
While jurisdictions around the world have identified alternative RFRs – SOFR in the United States, SONIA in the UK, SORA for Singapore, AIOR in Malaysia, INDONIA for Indonesia, and Japan’s TONA, for example – financial services firms face the daunting task of needing to reconfigure major elements of their market data management to be ready for the transition, including daily reset mechanisms, compounding calculations, generation of forward curves and new or altered risk management systems.
Many jurisdictions will likely adopt a multiple rate approach with, for example, cash and derivatives referencing different benchmarks. Those dealing with multiple currencies will face fragmented scenarios. Firms will need data for new interest rate curves to be built and analytics to help to re-paper or amend transactions before fallbacks are triggered.
Covid-19 and smart data solutions
Unfortunately, in the current environment, financial firms are under enormous additional operational pressure as a result of the Covid-19 fallout, creating new and urgent regulatory compliance, pricing, risk and business imperatives.
Of the 180 market participants who participated at a recent Bloomberg/APLMA webinar, 60% said that Covid-19 has impacted their transition plans while 11% said they have not started planning for the transition.
Amid the Covid-19 crisis, one thing has been apparent – that technology has helped ensure that the financial world does not stop moving. Likewise, robust data solutions and technology-driven automation will be fundamental to a successful transition away from LIBOR. These will remove the burden of manual workflows through automating data tasks for regulatory reporting and compliance purposes.
Recently, we worked with a Japanese bank to tackle this issue by creating new workflows involving the input of trade data using several channels and new calculation methods. Indeed, the ability to collect and harness various types of data and make sense of it, for complex pricing and risk calculations, will prove to be crucial to the transition.
Ultimately, the LIBOR transition opens the door to a fundamental rethink of the use of data and technology, and how firms need to provide products and services to customers more competitively, with reduced costs, higher accuracy, faster deployment and improved compliance and risk management.
The financial services industry, regulatory working groups and regulators are working hard to help firms identify priorities for their transition plans, while data and technology providers support the industry through access to relevant data, analysis and calculation tools.
As the world adjusts to a new normal., the financial services sector needs to recognise the LIBOR transition as an opportunity to reassess their data and technology practices in order to thrive beyond 2021.
Bing Li is APAC Head of Bloomberg. Bloomberg is helping banks, corporations and the buyside navigate benchmark index transition.