Companies Still Working on Libor Changeover

By Julia-Ambra Verlaine, Mark Maurer and Anna Hirtenstein

Regulators are pressuring Wall Street to do away with the London interbank offered rate by year-end. Companies are still making the switch.

Chief financial officers at major U.S. companies such as Motorola Solutions Inc. and Ralph Lauren Corp. said they are working on issues including choosing between alternatives to the troubled borrowing benchmark, used for decades to help set rates on corporate debt, and discussing the timing and financial implications.

Jason Winkler, Motorola's finance chief, said the communications-equipment provider plans to use the replacement preferred by the Federal Reserve -- the Secured Overnight Financing Rate, or SOFR. But without any immediate financial arrangements in need of adjustment, the company was still gauging when to transition to the new rate.

"We're working through it like many other companies and evaluating our choices," Mr. Winkler said.

Libor is a key reference rate for corporate borrowing, underpinning trillions of dollars in financial contracts ranging from loans to interest-rate swaps. But financial firms and regulators world-wide are scheduled to abandon the rate at the end of this year after it fell into disrepute a decade ago following a manipulation scandal.

The Fed warned banks Tuesday that they could face regulatory consequences if robust plans aren't in place to move away from the benchmark before Dec. 31. That is when it expires for some shorter-dated dollar rates.

The U.K. regulator in charge of overseeing Libor, the Financial Conduct Authority, said March 5 that Libor would cease for sterling, the euro, Swiss franc and yen at the end of the year, building on its mandate that market participants transition to other benchmark rates. The remaining dollar rates will end after June 30, 2023.

The use of Libor is still strong in the futures and options markets, data from CME Group showed. Daily trading volume reached the highest level for Eurodollar futures, which use Libor as a benchmark, since 2014 on Feb. 25 at 10.7 million contracts and averaged three million daily for the month. By comparison, average daily volume for SOFR futures in February was 122,872 contracts.

"Examiners should consider issuing supervisory findings and other supervisory actions if a firm is not ready to stop issuing Libor-based contracts by December 31, 2021," said Michael Gibson, a director in the division of supervision and regulation at the Fed.

CFOs said they have been examining contracts linked to Libor and are discussing replacement options with lenders who bankroll them to fund operations or other expenses. Many corporations' credit lines and loans have interest rates based off Libor. If they don't change over, or otherwise prepare, legal fallbacks in their contracts could raise their debt payments.

Banks have put resources and cash into programs to transition to SOFR, which is based on the cost of transactions in the market where financial companies borrow cash overnight using U.S. government debt as collateral. That was developed by a committee of major banks, insurers and asset managers that has joined the Fed in rallying users of Libor to adopt SOFR.

One factor they cite: its resilience during the coronavirus pandemic, when swings in the bond market forced Fed intervention. The SOFR rate, which is published by the Federal Reserve Bank of New York, has in recent months stayed within a range close to zero.

SOFR-linked debt has picked up over the past year as more companies use the rate. Debt tied to the new rate totaled over $900 billion through February, up from $64.9 billion in February 2019, according to data from the CME Group and Bloomberg. Housing-finance firms Fannie Mae and Freddie Mac boosted the benchmark's reputation as the preferred rate last year when they said they would stop accepting adjustable-rate mortgages tied to Libor in favor of mortgages tied to SOFR.

Alternatives to SOFR include Ameribor, a rate set on the American Financial Exchange, where banks lend to each other through mutual lines of credit. Launched by Richard Sandor, who helped create futures markets in the 1970s, the rate is favored by some small and medium-size banks because it is sensitive to their funding costs.

Jane Nielsen, Ralph Lauren's CFO, said the New York-based fashion retailer has a credit line pegged to Libor that it plans to keep in place in the event of future liquidity needs. The company has held preliminary discussions with its consortium of banks about selecting the right benchmark, she said.

"We're waiting for some of the dust to settle before we focus on what the benchmark will be," Ms. Nielsen said.

One of the biggest hurdles holding up the transition: so-called tough legacy contracts. These include floating-rate notes that require holders to agree on a new reference rate. Reaching such agreements can be hard, according to lawyers at companies advising banks and companies.

To minimize the disruption, regulators have tried to make the new benchmark rate as similar to Libor as possible. This was done by adding a premium to bring it closer to Libor's level, known as a fallback. Lawyers are working to update contracts to take into account the change.

The U.S. is running behind the U.K. and Europe, where investment firms and companies have been faster to transition to alternative rates. Smaller markets and clearer guidance from regulators prompted more investors to make the switch and resulted in higher trading activity in markets linked to the new benchmarks, analysts said.

Since 2019, floating-rate covered-bond issuances and securitizations have largely used the Sterling Overnight Index Average, or Sonia, instead of Libor, according to S&P Global.

John Wraith, head of U.K. rate strategy at UBS, said about half the transactions he is aware of have been benchmarking Sonia, a U.K. alternative reference rate.

"People are quoting swaps in the U.K. using Sonia," said Mr. Wraith. "This will now accelerate."

Write to Julia-Ambra Verlaine at [e-mail], Mark Maurer at [e-mail] and Anna Hirtenstein at [e-mail]

Corrections & Amplifications

This item was corrected at 5:20 p.m. ET to show that debt tied to the new SOFR rate totaled over $900 billion through February, up from $64.9 billion in February 2019, according to data from CME Group and Bloomberg. An earlier version incorrectly said up from $64.9 billion the same time last year.

(END) Dow Jones Newswires

03-12-21 0544ET