The ECB working group on euro risk-free rates launched consultations on the €STR-based EURIBOR fallback rates and the EURIBOR fallback trigger events. As part of the consultation on EURIBOR fallback rates, feedback is being invited on fallback rates based on the euro short-term rate (€STR) and spread adjustment methodologies to produce the most suitable EURIBOR fallback measures per asset class. If the feedback received suggests market consensus being achieved, this would support the final recommendations from the working group. However, the working group advises all market participants that their application of the recommendations from the working group is on a voluntary basis. The comment period for both consultations ends on January 15, 2021 while a final recommendation by the working group on euro risk-free rates is expected to be published during the first quarter of 2021.
The consultation paper on €STR-based EURIBOR fallback rates covers the most appropriate EURIBOR fallback rate based on €STR-based term structure methodology for each financial product assessed against a list of key criteria and spread adjustment methodology used to avoid potential value transfer if a fallback is triggered. The consultation covers the market conventions that should be used to calculate the compounded term rate based on the €STR. The working group has considered two types of €STR-based term structure methodology as a component of EURIBOR fallback measures:
- Forward-looking rates, which are based on the derivatives markets referencing the €STR and which reflect market expectations of the evolution of the €STR. These rates are known at the start of the interest rate period.
- Backward-looking rates, which are based on simple mathematical calculations of the value of past realized daily fixings of the €STR over a given period of time. These rates are known and available at the end of the interest rate period.
The working group is seeking feedback from market participants as to which methodology—forward-looking or backward-looking lookback period—would be most appropriate for building a €STR-based term structure that could function as a EURIBOR fallback provision for benchmarking purposes for investment funds. Based on the analysis and the international standards and practices in place, the working group acknowledges that for a more sophisticated and globally operating market participants the most appropriate EURIBOR fallback measure would be based on backward-looking rates. However, the working group also acknowledges that there may be some use cases for certain products or for less sophisticated and locally operating market participants where it is necessary to know the interest rate in advance and, therefore, the forward-looking rates could be applied. As these rates do not exist at this stage and should such rates not be available in due time, the working group proposes a waterfall structure according to product types, thus allowing users to know what rates can be used, depending on circumstances and/or preferences.
The consultation paper on EURIBOR fallback trigger events identifies and provides recommendations on a generic set of potential permanent EURIBOR fallback trigger events that market participants could consider, including in future fallback provisions in their contracts and financial instruments referencing EURIBOR. The date from which the fallback rate would apply after one or more of the trigger events has occurred should also be specified clearly in fallback provisions. In the consultation, the working group has identified the following permanent cessation events that market participants could consider:
- A public statement or publication of information by or on behalf of the regulatory supervisor of the EURIBOR administrator stating that said administrator has ceased or will cease to provide EURIBOR permanently or indefinitely provided that, at the time of the statement or publication, there is no successor administrator that will continue to provide EURIBOR.
- A public statement or publication of information by or on behalf of the EURIBOR administrator stating that said administrator has ceased or will cease to provide EURIBOR permanently or indefinitely provided that, at the time of the statement or publication, there is no successor administrator that will continue to provide EURIBOR.
- A public statement by the supervisor of the EURIBOR administrator that, in its view, EURIBOR is no longer representative, or will no longer be representative, of the underlying market it purports to measure and no action to remediate such a situation is taken or expected to be taken as required by the supervisor of the EURIBOR administrator.
- The EURIBOR administrator determines that EURIBOR should be calculated in accordance with its reduced submissions or other contingency or fallback policies or arrangements and either the circumstance(s) or event(s) leading to such determination are not temporary or EURIBOR is calculated in accordance with any such policy or arrangement for a period of no less than one month.
- It has become, for any reason, unlawful under any law or regulation applicable to relevant parties to the agreement to use EURIBOR.
- EURIBOR is permanently no longer published without a previous official announcement by the competent authority or the administrator.
- Material change is made to EURIBOR methodology.
Comment Due Date: January 15, 2021
Keywords: Europe, EU, Banking, Securities, €STR, Interest Rate Benchmarks, Fallback Provisions, Derivatives, ISDA Protocol, EURIBOR, Derivatives, ECB
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