Do you lay awake at night wondering, “What will I do when LIBOR ends?” No? Me either. But if you have any financial instruments tied to LIBOR, you probably should pay a little attention to this issue.
First, what is LIBOR? LIBOR is the London Interbank Offered Rate. It is a benchmark rate that indicates borrowing rates between banks. It is published daily. There are actually 35 different LIBORS, based on five currencies and seven maturities. The most commonly used LIBOR is the three-month U.S. dollar rate.
LIBOR was established in 1986. In 2008, the Wall Street Journal disclosed rigging of LIBOR by major banks. There were huge fines against the institutions involved, but the ease of manipulating the rate was the beginning of the end. LIBOR will (probably) cease to be calculated as of the end of 2021.
Why should you care? LIBOR is used to set rates for many business and consumer loans. For example, many long-term, floating rate loans on real estate are tied to LIBOR. There are trillions of dollars of financial instruments pegged to LIBOR.
A replacement for LIBOR was selected in 2017. It is called SOFR, standing for Secured Overnight Financing Rate. While that rolls right off the tongue (hah!), SOFR has not yet become a household name, much less something most executives are aware of or used to.
What should you do? I’d suggest checking the interest rates on any long-term floating rate debt you or your company has. If the rate is tied to LIBOR, read carefully the language in your loan documents about a replacement rate, if LIBOR is no longer available. Most loan documents have such language. Really.
If you find that language, determine what effect the change will have on the rate you pay. It should be minimal.
If you don’t find such language, and the loan matures after 2021, it would be wise to have a conversation with your lender sooner rather than later.
And what if you can’t find the loan documents, especially the Promissory Note, at all? Time to ask the lender for a copy of the documents you can’t find. Better to be safe than sorry. And better to get this all figured out before the mad panic at the end of 2021.
If you’re tracking rates and calculating interest with software, be sure your software can accommodate the use of SOFR. Many softwares can’t, because the software was written before SOFR was created.
One final thought: Some trades which use LIBOR as a benchmark (think hedging) are not amendable and the end of LIBOR was never anticipated. I don’t know the answer to this situation, but there are likely to be winners and losers in the transition. Better to be prepared.
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