Commerzbank was out last Wednesday with a note on the ongoing LIBOR transition.
They expect an official cessation announcement could come as soon as next week with ICE’s consultation round on discontinuing Libor set to end on Jan 25th.
Such an announcement could either come from the Intercontinental Exchange (ICE), who published Libor or the Financial Conduct Authority (FCA), ICE’s regulator.
Recall, the cessation announcement is critical for the calculation of ISDA fallbacks, i.e. substitute rates for use in legacy contracts referencing the benchmark after it is no longer published.
This fallback spread is calculated as the sum of compounded overnight rates and a constant ‘Spread Adjustment’, which will be fixed on the announcement date.
Fallbacks will become relevant for market participants who have Libor exposure after end-2021 (June 2023 for the major USD tenors), assuming they have signed up for the ISDA fallback protocols.
The ‘Spread Adjustment’ component of the fallback rates can be calculated by assuming a cessation announcement date and then finding the median spread of Libor vs. compounded overnight rates over a five year lookback period.
For USD L tenors, a late January ‘snap’ would put the ‘Spread Adjustment’ at ~26.2 bps for the 3M USD tenor and 42.9 bps for the 6M USD tenor.
Reminder, USD Libor end date was extended from end 2021 out to June 2023 due to implementation issues amid the slower acceptance of SOFR and the lack of preparedness of market participants.
Nevertheless, the cessation announcement should affect the USD tenors in the same way as they will affect all others, meaning that the ‘Spread Adjustment’ will be fixed indefinitely on that day for fixings after June 2023.
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