Firms need to take action now. The pace of change is picking up and we expect boards, investors, borrowers and other stakeholders to increasingly press for updates on how prepared businesses are for the transition.
So what should your firm be doing today to get ready for the change? Here are seven steps to preparing your business for the end of IBOR:
1. Assemble an IBOR transition team
Start by identifying and nominating a senior executive who will be responsible for assessing, planning and coordinating all IBOR transition activities across the firm. Their focus should be on making sure the company is proactively delivering a smooth and orderly transition to ARRs for new business and monitoring and managing exposures to legacy contracts.
To support them, select sponsors from all impacted core lending, investing, trading and hedging business lines, as well as enterprise functions such as legal, finance, risk, analytics, and technology. Together, this cross-functional team can coordinate transition activities across the enterprise, identifying and allocating resources where necessary.
2. Conduct a comprehensive impact assessment
The IBOR transition team should begin with an impact assessment covering all areas of the business that are exposed to IBOR. This should start with a product assessment – identify any products linked to IBOR and assess their exposure and maturity profile. From a legal perspective it also will be critical to analyze the contractual language of the impacted products – especially their fallback triggers and rates.
The team should also carry out an impact assessment of business processes. Some processes and applications – from pricing, hedging and risk models to end-user computing tools – will require updating, redevelopment, testing and re-validation. If your firm is dependent on a third-party provider for any of these, you also need to find out what IBOR transition plans they have in place.
Finally, the team should identify what impact the shift to ARRs will have on the risk profile of the firm. Will it increase your business’ operational, reputational, or legal risk? Could it impact your existing and future financial resources – earnings, capital, funding and liquidity?
3. Create a plan for legacy contracts and start developing new products
With your impact assessment complete, you should compile an inventory of legacy contracts that mature after the 2021 deadline (or 2019 for those linked to Euribor). Start by addressing the risk of an ongoing exposure to IBOR, especially by working with clients and counterparties to update the fallback language and risk disclosure documents.
To support new products, you will need to start developing the necessary contract and fallback language, build new models for pricing and risk, and undertake the required operations and technology changes.
Where possible, seek to minimize your IBOR exposure by moving new products to ARRs early. Indeed, being in a position to offer new products and financial instruments linked to ARRs could give your business a commercial advantage during this transition period.
4. Define an enterprise-wide governance framework
Your IBOR transition team should provide regular updates on the firm’s existing exposure to IBOR-linked products to both the board and executive management, as well as keeping them abreast of progress in shifting to ARRs.
For this to be effective, the board and management will need a framework to evaluate progress. The transition team therefore should seek to define the terms of reference and develop key milestones and performance indicators, as well as a transition roadmap, and preliminary resource and cost estimates.