Can companies afford lethargy in replacing discharged interest rates?

• Autor(a) principal: Tebbe, Alexander
• Data de Publicação: 2023
• Tipo de documento: Dissertação
• Idioma: eng
• Título da fonte: Repositório Científico de Acesso Aberto de Portugal (Repositórios Cientìficos)
• Texto Completo: http://hdl.handle.net/10400.14/42564
• topic: LIBOR; SOFR; LIBOR cessation; ISDA Fallback USD LIBOR; Term SOFR; BSBY; Domínio/Área Científica::Ciências Sociais::Economia e Gestão

Traditional interbank-offered rates are on the verge of discontinuation and will be replaced by currency-specific risk-free interest rates. For US Dollar, SOFR is chosen as successor to LIBOR post June 2023. SOFR is conceptually different from LIBOR as daily publication only consists of a backward-looking overnight rate that does not inherit a credit component. While publication of LIBOR rates will cease immediately in July 2023, existing financial contracts will still reference LIBOR beyond cessation. A fallback mechanism will become effective for contracts that had not been switched proactively to any available replacement rate. This analysis outlines if a proactive shift away from LIBOR had offered advantages in the past by comparing spreads between LIBOR and the available replacement options, resulting cash flows from the different rates and the impact on derivative valuation. Especially the fixing of a Spread Adjustment in the fallback rate computation and the overall level of interest received have been identified as the main drivers impacting such decision. While the fallback rate is more robust to outliers in the underlying rate, the Spread Adjustment can be identified as not representative of market reality after its ultimate fixing. The cash flow analysis underlines that the fallback rate had been disadvantageous to borrowers in the past and particularly in an environment of low market interest.