Compliance Alliance is committed to bringing you the latest developments in federal banking regulation and the resources to stay compliant. As we get closer and closer to the end of the year more questions keep getting asked about LIBOR, which is scheduled to sunset on the very last day of the year. With the end of the year, and end of LIBOR, now being less than five months away, there has been a remarkable period of silence from regulators on the topic but now there is finally news to report on the anticipated transition. The Office of the Comptroller of the Currency (OCC) and Federal Deposit Insurance Corp. (FDIC) each issued FAQs on the transition in recent weeks and the Federal Reserve’s Alternative Reference Rates Committee (“ARRC”) released its anticipated announcement on a recommended replacement index. Here, I want to share with you the relevant highlights of these releases and what they mean for you and your institution.
On July 29th the ARRC announced, as expected, that it is formally recommending the Secured Overnight Financing Rate (“SOFR”) as LIBOR’s replacement. The decisions confirm what most expected and you can anticipate SOFR becoming the dominant index in the marketplace. With this decision, banks and other market participants can now utilize the recommended best practice materials previously released a week prior by the ARRC when using the SOFR Term Rates in contracts that have adopted ARRC fallback language and new contracts to prepare for LIBOR’s end. Soon, the ARRC will release a factsheet outlining key steps leading to this point, SOFR’s strengths, and upcoming milestones.
The FDIC and OCC, in their separate announcements to their supervised institutions, stated that they do not view replacing or revising a capital instrument with the sole purpose of replacing a reference rate linked to LIBOR with another reference rate as constituting an issuance of a new capital instrument under their capital rules. For purposes of the capital rule, they said, the replacement or amended instrument would retain the maturity of the original instrument. This was an important announcement as banks consider how to adjust current instruments with soon to be outdated reference rates.
The agencies also noted that the replacement or amendment would not create an incentive to redeem, as long as the replacement or amended capital instrument is not substantially different from the original instrument from an economic perspective. “For example, amending the credit spread solely to reflect the difference in basis between Libor and the replacement reference rate and not adjusting for changes in the credit quality of the issuer would not result in creating an incentive to redeem the capital instrument,” according to the FAQs.
Lastly, the agencies said a bank making such adjustments solely to address the move way from LIBOR “should support its determination with an appropriate analysis that demonstrates that the replacement or amended instrument is not substantially different from the original instrument from an economic perspective.” The OCC stated that they may ask banks to provide that analysis.
The above information should help banks plan for their futures in a post-LIBOR world. We anticipate the release of more guidance in the coming weeks.