ISDA published a research paper that examines several major upcoming developments on the adoption of risk-free rates in 2020. These developments include the publication of new benchmark fallbacks for derivatives contracts and central counterparty changes in discounting and price alignment interest for certain currencies. The transition from London Interbank Offered Rate (LIBOR) and other interbank offered rates (IBORs) is critical because of the issues associated with the robustness and viability of some IBORs, particularly LIBOR, given the sharp decline in activity in the unsecured interbank funding market.
The paper notes the following key developments:
- Calculation and publication by Bloomberg of IBOR fallback rates based on adjusted risk-free rates for key IBORs in the first half of 2020. Additionally, ISDA will publish amendments to the 2006 ISDA Definitions incorporating the adjusted risk-free rate fallbacks in new contracts referencing the covered IBORs. ISDA will also publish a protocol that will enable market participants to include the amended 2006 ISDA Definitions with fallbacks in legacy IBOR contracts.
- Change of discounting and price alignment interest/price alignment amount by central counterparties for cleared euro-denominated derivatives from the Euro Overnight Index Average (EONIA) to the Euro Short-Term Rate (€STR) in June 2020.
- Change of discounting and price alignment interest/price alignment amount by central counterparties for cleared US dollar-denominated interest rate derivatives from the Effective Federal Funds Rate (EFFR) to the Secured Overnight Financing Rate (SOFR) in October 2020.
- Expected change of the market convention for sterling interest rate swaps from sterling LIBOR to Sterling Overnight Index Average (SONIA) on March 02, 2020.
- Expected continued growth in the issuance of risk-free rate based cash products that will likely propel the need for hedging activity and increase the demand for risk-free rate based derivative products.
Keywords: International, Banking, Securities, ISDA Definitions, ISDA Protocol, Risk-Free Rates, LIBOR, IBORs, Interest Rate Benchmark, Benchmark Fallbacks
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