The Libor benchmark rate is in urgent need of replacement. For a start, it is increasingly inaccurate. The rate is based on the estimated cost of unsecured borrowing as established by 20 contributing banks. With few making such loans, Libor has grown detached from the realities of the market. And then there is the impact of the EU Benchmarks Regulation (BMR), which is tightening up the rules around how benchmarks are created. The days when rates could be determined on mere estimates is past: the market now requires rates based on rigorous, data-led methodologies.
So, what will replace Libor? There are several alternatives, and each is at a very different state in its readiness. The furthest advanced is the Secured Overnight Financing Rate (SOFR), which has achieved its first floating rate note and has now been approved by Standard & Poor’s as a benchmark for floating rate securities. Next is the Sterling Overnight Index Average (Sonia), which is also fairly advanced – in June, the European Investment Bank issued a note in its name.
The main cause for concern at present is in the Eurozone, where there is a need to replace the Euro OverNight Index Average (Eonia). The European Central Bank has not yet confirmed what the new benchmark will be, leaving this important matter far from resolution. Indeed, one key contender, the euro short-term rate (Ester) benchmark, has not yet been published and it is unclear how much of a lead-time firms will have to adapt to the new rate.
The benchmarks market has never been more turbulent, and nor has it been more difficult for firms to plan around future rates. If benchmark users are to manage the risk this turbulence engenders, they need to take a proactive approach to benchmark compliance and governance.
Key to this approach will be establishing a robust, accurate and agile benchmarks monitoring capability to keep on top of changes to the benchmarks market. Once the next generation of rates has been established, it is likely firms will have very limited time indeed to introduce the rate into their organizations and update relevant financial instruments and contracts.
For this reason, the speed and agility offered by managed compliance services makes sense. By using cloud-based ‘RegTech’ services designed for BMR compliance, firms can ensure their benchmarks universe is up-to-date and compliant without having to increase headcount in their compliance teams or invest in costly and disruptive in-house compliance technology updates.
BMR has overturned the established benchmarks market and much remains up in the air. Firms that adopt managed services will be best placed to weather this uncertainty and maintain optimum business operations.
Contact us to receive more information about RegFocus® BMR, the most advanced benchmarks validation solution on the market which solves all regulatory obligations under the new Benchmarks Regulation.
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