The Central Bank of the Philippines, ‘Bangko Sentral en Pilipinas’ (BSP), has admonished local financial institutions to quickly resort to alternative referencing rates pending the termination of the London Inter-Bank Offered Rate (Libor) as a preferred benchmark.
The Libor which is scheduled to enter a phased process of cessation beginning 1st January 2022, has over the years served as a benchmark for a wide range of financial transactions.
Mr. Benjamin Diokno, an Economist and the Governor of the BSP, disclosed that his outfit will continue to work with financial institutions to help with the transition to other reference rates.
“As the discontinuation of Libor as reference rate approaches, the BSP will continue to engage the industry and individual banks to facilitate a smooth transition.”Benjamin Diokno
The proposed transition from the Libor, which was initially announced in 2017, is finally becoming a reality. Already, the United Kingdom’s Financial Conduct Authority in March 2021, announced a formal timeline for the discontinuation of the benchmark.
As disclosed by the central bank, local financial institutions currently use the Libor as a reference rate for foreign currency denominated transactions.
Mr. Diokno disclosed that “the cessation of Libor will affect not only products that are directly referenced to Libor” but also the Philippine Interbank Reference Rate (Phiref) which is computed using US dollar Libor.
As a result, the use of the Phiref will need to be truncated once the Libor ceases functioning as a reference rate.
The Governor disclosed that if prudent actions are not taken immediately, valuation and repricing of financial exposures will become a problem.
“The inability to establish replacement rates for outstanding Libor referencing contracts when Libor ceases will render financial institutions and their counterparties or clients incapable of repricing and valuing their financial exposures.”Benjamin Diokno
The BSP as of November 2020, issued a directive that outlined the requirements for transitioning away from the Libor-related exposures for local banks.
Local banks must be future ready to adopt alternative reference rates, the Governor disclosed. However, the central bank has not presented a particular alternative reference rate to the banks.
“The BSP does not intend to prescribe specific alternative reference rates to LIBOR for use by Philippine banks, as we expect the choice to be market-driven.”Benjamin Diokno
In the meantime, the Governor stated that “based on continuous engagements with the market, Philippine banks intend to adopt the rates widely accepted in international markets as successors to Libor”.
The Bank of America for instance has begun advertising its first leveraged loan tied to the interest rate that is set to replace the Libor.
The Secured Overnight Financing Rate (Sofr), an alternative reference rate to the Libor was selected in 2017 by the Alternative Reference Rates Committee (ARRC), created by the Federal Reserve.
Despite US banks already securing loan facilities tied up to the Sofr, as well as corporation such as Ford Motor Company which plans on securing a loan tied to the Sofr, the loan industry has been slow to adopt to the Libor’s replacement.
The Libor stood for decades as a preferred benchmark for financial markets including the loan industry.
However, its reign came to a halt almost a decade ago, with issues surrounding a rigging scandal which tarnished its credibility.
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