Critical LIBOR Dates Are Approaching: Are You Ready?

In January of this year, Alissa Doherty of Citisoft published a blog regarding the LIBOR Transition and what this could mean for technology and operations at your firm. If you’re not up-to-speed on the fundamentals of what’s changing, I suggest reading What Does the LIBOR Transition Mean for Technology and Operations? for an overview. For those of us familiar and working to prepare for this transition, some upcoming critical dates are approaching. Investment  firms that hold EUR and USD denominated IRDs (Interest Rate Derivatives) as well as LCH (London Clearing House) cleared MXN swaps, and non-deliverable swaps in currencies KRW, CNY, INR, BRL, COP, CLP, THB, and TWD that are discounted against EFFR (Effective Fed Funds Rate) should take note of the deadlines I break down below. 

EUR denominated IRDs

On July 24, 2020, all EUR denominated IRDs cleared with CME (Chicago Mercantile Exchange), Eurex (Eurex Exchange) and LCH will switch discounting on all trades from EONIA to ESTR with a cash compensation to neutralize the NPV (net present value) impact of the discounting change and switch in PAI/PAA (Price Alignment Interest). 

USD denominated IRDs

On October 16, 2020, all USD denominated IRDs cleared with CME, LCH and Eurex will also undergo a switch in discounting from EFFR to SOFR. This switch will result in cash compensation to neutralize the NPV impact of the discounting change with CME and LCH issuing basis swaps or two fixed/float swaps to restore the original risk profile of the portfolio. Both CME and LCH are organizing auctions to sell off the offsetting swap positions for those clients that elect to close out these positions. Eurex, at this time, will not be issuing offsetting swap positions.  LCH cleared MXN swaps, and non-deliverable swaps in KRW, CNY, INR, BRL, COP, CLP, THB, and TWD will also participate in the EFFR to SOFR switch in discounting.

Next steps

Investment firms are preparing for these upcoming critical dates by doing the following:

• Contacting their clearing brokers to gain clarity in the impact this action has on their accounts, actions to be taken before and on the critical weekends by the clearing firm and internally within their firms
• Determining the methodology to be used to allocate cash compensation payments to their affected portfolios and how the cash payments can be validated
• Affirming they can take receipt of and account for the risk transfer swaps if they elect not to participate in the auctions
• Understanding the deadlines in place to ensure notification is provided to the clearing house on actions to be taken for the auctions
• Identifying internal operational impacts due to the switches in discounting from EONIA to ESTR and EFFR to SOFR

Information on the LIBOR transition is abundant and as there are still many unknowns, it is important that your firm consider setting up a LIBOR transition team to educate your employees, plan internal and external communications, conduct due diligence on LIBOR specific contracts, determine your firm’s exposure to LIBOR linked instruments, and identify operational and financial risks. Take action now as the critical dates will keep coming, the markets will keep adapting, and your firm needs to be prepared or face the risks.