The FCA has published a speech delivered at the Investment Association by Megan Butler (Executive Director of Supervision – Investment, Wholesale and Specialists, FCA). The speech is entitled Ending reliance on LIBOR: Overview of progress made on transition to overnight risk-free rates and what remains to be done.
Key messages in the speech include:
- there is increasing supervisory focus on firms’ readiness for the end of LIBOR;
- the FCA is reviewing the responses to its September 2018 Dear CEO letter on firms’ preparations for the transition from LIBOR to risk-free rates (our blog is here). The general observation is that UK banks and insurers are in different states of readiness for LIBOR transition. The majority of firms have provided good evidence about the work they are doing in order to prepare for transition. However, in some cases the Dear CEO letter has been a catalyst for action. Some firms held their first transition leadership meetings after receiving the letter. Some firms were unable to provide a lot of detail about the action they have taken to protect continuity of contracts. Others were unable to describe their progress on adoption of the new risk-free rates, their presence in the SONIA swap and future markets and the governance they are creating for new products;
- the profile of the transition from LIBOR to risk-free rates is lower on the buy-side than on the sell-side but the scale of the challenge is high;
- the back book is becoming a real focal point. Around US$170tn of the interest rate swap contracts cleared by LCH, reference LIBOR. A little under one-third of these, by notional, mature after end-2021; and
- many asset managers will have exposure to LIBOR in multiple areas. Two of the most obvious and extensive areas are hedging strategies using LIBOR-referencing interest rate derivatives, and investments in bonds or other securities in which interest payments reference LIBOR.
In the final part of her speech Megan Butler warns that inertia remains the biggest obstacle to a smooth transition. She raises the following questions that firms should be asking themselves:
- Do you know what you’ve got in terms of LIBOR exposures?
- Have you looked at your inventory?
- Where is LIBOR in your books?
- Is it hidden?
- Is it on the front page of the instrument?
Megan Butler also states that the FCA “strongly encourage asset managers to transition their hedges and positions over to SONIA before LIBOR disappears, and before liquidity in LIBOR-derivatives begins to decline. Firms can adopt different approaches to scenario planning and reviewing or re-papering contracts. There is nothing wrong with this. We’re not prescribing how you do it. But you need to do it.”