A Voice for Corporates: The AFP LIBOR Task Force

David Bowman with the Federal Reserve Board has asked the Association for Finance Professionals (AFP) to be the voice of Corporate Treasury in terms of addressing LIBOR for the Alternative Reference Rates Committee (ARRC) as part of the Coordination Subgroup.

This market driven task force includes industry experts, large corporations, financial institutions and other interested parties. Hedge Trackers will be serving on the task force as a voice for corporates. We met in mid-November to discuss LIBOR replacement, the state of the market place and to begin work on a comprehensive checklist on the impact of LIBOR replacement on different instruments.

As previously reported, the Secured Overnight Financing Rate (SOFR) has been designated as the LIBOR replacement in the US Market. Some of the challenges with SOFR are still being worked out including how to use a daily reference rate when Corporates typically rely on one, three and six month term rates. Thirty, ninety and one hundred eighty day averages for SOFR are expected to be widely reported and could potentially take the place of the “forward-looking” LIBOR rates currently used in many applications. The main difference is that the SOFR rates are in-arrears or set based on prior period rates whereas LIBOR rates are structured to be forward looking or predictive. One argument in favor of using the prior average rate method is that LIBOR has not been truly predictive in the past. Regardless, this will be a change and will impact forecasting. Instruments contemplating using the in-arrears reset may have to incorporate a payment lag which is a challenge for many current valuation and accounting systems.

As the alternatives are being discussed, most corporates continue to trade LIBOR based instruments – many of which will have to transition since they expire after the end of LIBOR. ARRC is working on the transition and has developed hardwired benchmark replacement waterfalls for the transition of many products. Their language includes triggers (events that cause the benchmark rate replacement), benchmark replacement definitions (which define the rate or waterfall of rates that would replace the current benchmark) and benchmark replacement adjustments (credit spreads to account for differences with the current benchmark rate). Fannie Mae and Freddie Mac announced late last month that they will use the ARRC’s recommended fallback language in their new contracts.

While the ARRC is working on the transition, the FASB, SEC, Department of Treasury and Internal Revenue Service have all been working to provide relief and insight into the transition. The FASB has approved elections designed to bring relief to those with anticipated contract amendment and hedge accounting relationships impacted by rate reform. The final accounting standard update on rate reform is expected to be issued in January of 2020. The SEC has provided guidance on expected disclosures during transition and the Department of Treasury and Internal Revenue Service have recently released proposed regulations providing tax relief related to the transition.

There is still work to be done by all parties involved but we will keep you posted as conditions change. Hedge Trackers recently made the necessary adjustments to its Capella Interest Rate and Foreign Exchanges software suite platform (which values derivatives and provides hedge accounting) in preparation for the transition to SOFR based pricing and inputs. Hedge Trackers’ consultants stand ready to assist companies and have developed a transition checklist designed to prepare corporates and institutions in developing an interest rate replacement transition plan.

If you need any help organizing your LIBOR transition, we can be contacted at HedgeTrackers.com.