Move to risk free rates

Even before the FCA announcement, the financial services industries in the major international finance centres began work on new near risk free reference rates, known as RFRs, which are expected to replace IBORs in the majority of transactions.

RFRs are backward-looking rates calculated by reference to historical transaction data, are less susceptible to manipulation and reflect actual market funding costs.  Despite the obvious benefits of benchmarking against RFRs, the move away from IBORs to RFRs presents a number of issues, chief among them that they are not economically equivalent.

As a result, the amendments required to existing documentation to implement the change of benchmark are not trivial.

Practical challenges and where Appleby can help

From a practical and operational perspective, IBORs are forward-looking rates that are ascertained at the beginning of an interest period giving certainty both to lenders and borrowers.  RFRs on the other hand are backward-looking and could result in borrowers not knowing how much interest they are required to pay until it is due.  RFRs are also overnight rates rather than term rates quoted for a range of maturities (for example, three and six months).  In most scenarios it would be impractical to calculate interest on financial products using a rate that varies daily and the introduction of compounded backward looking term rates, such as compounded SONIA, should be of assistance here.

As we have seen it is not simply a case of all markets and jurisdictions transferring from LIBOR to a new favoured rate.  Financial firms will need to carefully navigate not only how they wish to approach new business but also how they transition their existing portfolio of contracts and agreements away from LIBOR.

Litigation risk

With no single replacement to LIBOR available, financial firms risk opening themselves to complaints or legal action if they do not select and recommend the “correct” replacement option in any given circumstance.  In a retail banking setting, if the change in rate results in an improved outcome for the financial firm, it could be accused of profiteering at the expense of its customer.

Operational challenges

Even if all parties to a contract agree on how to transition away from LIBOR, renegotiating such large numbers of contracts at the same time across a financial firm’s customer base is likely to be costly, administratively burdensome and complicated.  Financial firms will also face a serious communication challenge engaging with their retail customers.

A number of financial institutions and market participants are looking to Fintech solutions to assist with this exercise.  A range of data aggregation and AI based systems are available which connect into the vast amount of financial data already stored in structured, accessible format as well using optical character recognition and natural language processing to review thousands of contracts for key terms, LIBOR exposures and exit options.  These systems can quickly model the adoption of new benchmarks on a per contract or contract type basis and can offer a quick, scalable and cost effective solution to help mitigate risk.

Regardless of the systems used, transitioning away from LIBOR is likely to create considerable operational, reputational and legal risk.

The Appleby team

The Corporate, Technology and Innovation and Dispute Resolution teams at Appleby have a wide ranging experience in advising leading financial institutions on large reform projects, new product offerings, supplier contracts, regulatory compliance and litigation risk, including the impact of benchmark changes.  We are also able to deploy AI Solutions for large scale due diligence solutions.

If you would like to discuss any of the issues raised, please reach out to one of our experts below.

Key Contacts

James Gaudin

Managing Partner: Jersey

T +44 (0)1534 818 337
E Email James

Jared Dann

Partner: Jersey

T +44 (0)1534 818 313
E Email Jared

Paul Worsnop

Counsel: Jersey

T +44 (0)1534 818 227
E Email Paul

Gemma Palmer

Counsel: Jersey

T +44 (0)1534 818 163
E Email Gemma

Share
Twitter LinkedIn Email Save as PDF
More Publications
11 Jul 2023

Proposed Regulation of Consumer Credit in Jersey

Find out more about the Jersey Government’s suggested regulation of the consumer credit regime and...

1 Jun 2023

What is a Pre-Let Agreement?

Whether you're a landlord or tenant looking for pre-let advice, we can help. Our expert property law...

17 May 2023

More changes to Jersey's Anti-Money Laundering Regime (AML)

Our experts look at latest proposals to the legal and regulatory anti-money laundering framework in ...

10 May 2023

Establishing a single family office in Jersey

Want to know more about establishing a family office in Jersey? Find out what a family office is and...

27 Apr 2023

Change of control of regulated entities in Jersey

Find out how Appleby Jersey has advised upon a number of changes of control scenarios in different c...

20 Mar 2023

Trusts: Comparison between the Crown Dependencies

Our Private Client and Trusts specialists in Guernsey, Isle of Man and Jersey outline some of the ke...

15 Mar 2023

Changes to the Jersey Competition Law Framework

Following the launch of the Government of Jersey's consultation on proposed changes to the competiti...

14 Mar 2023

Jersey Property Unit Trusts and the Trust Regulation Service

Our Appleby team looks at HMRC's recently updated guidance on Jersey Property Unit Trusts (JPUTs) an...

23 Feb 2023

Enforcement of security under the Security Interests (Jersey) Law 2012

Find out more about why the Security Interests (Jersey) Law 2012 (2012 Law) makes Jersey popular as ...

22 Feb 2023

Listing Variable Funding Notes (VFNs) on The International Stock Exchange (TISE)

This article explores what a Variable Funding Note is and offers an introduction to what is required...