While every participant in the financial markets knows that the London Interbank Offered Rate (LIBOR) is not guaranteed after 2021, few have taken steps to prepare for LIBOR’s end. Many variable rate notes are pegged to LIBOR as the reference rate; many notes executed today which reference LIBOR will nonetheless continue to be effective and will ultimately mature in a LIBOR-less world.
In 2015, the U.S. Federal Reserve established a committee comprised of key market participants, the Alternate Reference Rate Committee (“ARRC”), to develop a plan to ease the transition away from LIBOR and towards alternate interest rate options.1 In June of 2017, ARRC identified the Secured Overnight Financing Rate (“SOFR”) as the recommended alternative to SOFR
While use of SOFR is not mandatory, the U.S. Federal Reserve is urging market participants to begin incorporating “fall back” language into financial contracts.2 The fall back language allows for the use of successor rates, chosen by the Lender, upon the occurrence of a contractually-defined trigger event.
Incorporating the fall back language into financial contracts will initially require some thoughtful effort, but the U.S. Federal Reserve is discouraging market participants from taking the “wait-and-see” approach. Taking steps towards a transition now will minimize future risk and provide certainty and stability in a post-LIBOR financial environment.
1 Alternative Rates Reference Committee. Transition from LIBOR. Retrieved from https://newyorkfed.org/arrc/sofr-transition on January 21 2020.
2 Alternative Rates Reference Committee.