Where does the Swiss financial sector stand on the IBOR transformation journey?
FINMA has been actively guiding the IBOR transition process for supervised institutions. For 2020, FINMA already made clear its expectations regarding CHF LIBOR cash products, including the aim of substantially reducing CHF LIBOR contracts without robust fallbacks. Although guidance was targeted at the 26 most affected institutions, FINMA recommends all banks to take note.
FINMA’s LIBOR transition roadmap, issued in December 2020, sets out in the detail the steps that supervised institutions and market participants should take to enable a smooth and timely transition. Deadlines are staggered over the course of 2021 to encourage effective use of the remaining time until the end of 2021. Following FINMA’s recommendations enables relevant parties to safeguard operational readiness for discontinuation of LIBOR in CHF, EUR, GBP and JPY (in all tenors), and in USD (in the 1W and 2M tenors) across all product types.
FINMA will continue to closely monitor the development of the contract volume linked to LIBOR in 2021 and will take institution-specific measures to limit the risks of inadequate preparation where necessary.
What are the biggest issues, risks and challenges?
Unless managed effectively and in a timely manner, discontinuation of the LIBOR could pose a major operational risk for supervised institutions. FINMA’s main concerns for banks in Switzerland are operational readiness, legal risks and valuation risks.
FINMA estimates that even small to medium banks (supervisory category 3 to 5) face complex updates in response to the LIBOR phase-out. For banks of this size, LIBOR feeds on average into two to three internal systems, four to five outsourced systems and 11 reporting areas relying on accurate rates. Without targeted action, IT landscapes – from core banking systems and trading platforms to accounting software – will struggle to cope with alternative reference rates and fallbacks. As a result, banks could struggle post transition to deliver relevant reporting accurately and on time.
With technology key to the transition, it’s no surprise that FINMA is calling for early action. The regulator has recommended a deadline of 30 June 2021 for system and process changes. A year ago, the challenges were around which systems would be impacted and managing that complexity. This year, it is scale rather than complexity that is now seen as the biggest risk. Around half of EY’s survey respondents flagged the scale and extent of front-to-back testing as a high or very high risk. Against this background, there’s no time to lose in defining strategy, leadership and actions.
Client outreach still remains sporadic and, according to EY’s global survey, the current rate is running behind expectations. Based on FINMA’s timetable of actions, most Swiss banks should by now have ceased concluding new transactions based on CHF or EUR LIBOR that mature after end-2021 (without robust fallback clauses), and – where possible – GBP, JPY or USD LIBOR. Banks should be ready to grant loans that are not based on CHF, EUR, GBP, JPY or USD LIBOR. Swiss banks have responded positively, with many introducing mortgages based on the Swiss Average Rate Overnight (SARON) for the first time in 2020.
Considerations and recommendations
As FINMA emphasizes in its Guidance 10/2020, the time to act is now. Swiss banks should focus their transition efforts on three core work streams – technology, client outreach and contract repapering – to ensure readiness by the end of 2021.
