Eurozone and EUR rates
Despite 2021 being a landmark year for benchmark reform, the Working Group on Euro Risk Free Rates (EUR RFR WG) published its Work Programme for 2022/23 in which it announced that it will continue to contribute to reform efforts in the euro area and facilitate coordination between private sector and public sector efforts in this respect.
The EUR RFR WG will focus on fostering the use of €STR in a diverse range of financial products given that an increased use of €STR in 2022 will be beneficial to further develop liquidity of derivatives products referencing €STR, which will also support the publication of a forward-looking term rate based on €STR to be used for fallback provision. Indeed, as part of its Work Programme for 2022/23, the EUR RFR WG is launching a new call for expressions of interest from administrators for the creation of a €STR-based forward looking term structure as a fallback in EURIBOR-linked contracts. Candidates will be invited to formally present their projects in June 2022 to the EUR RFR WG.
Further, the EUR RFR WG announced it will assess the level of implementation and potential impediments to the timely adoption of EURIBOR fallback provisions by EU supervised entities. Following this, the EUR RFR WG will assess progress on the implementation of its EURIBOR fallback recommendations as well as perform a “lessons learnt” analysis. It is possible that a revised and refined set of recommendations may be issued.
Going forward, the EUR RFR WG will continue to monitor issues related to the impact of LIBOR discontinuation in the EU, notably monitoring potential financial stability risk arising from the planned USD LIBOR cessation on 30 June 2023 as well as the risks associated with the cessation of synthetic LIBOR settings in the EU. The EUR RFR WG will propose mitigating actions and solutions to any issues or risks identified. Whilst many have completed their transition following end-2021, the EUR RFR WG urge market participants to recognise the necessity for continued progress in the benchmark reform across the EU over the coming years.
US and USD rates
As we near the end of Q1 2022, we have observed increased momentum towards SOFR. According to the readout from the Alternative Reference Rates Committee’s (ARRC) most recent meeting, the use of SOFR has accelerated in both cash and derivatives markets. In the cash market, the pipeline of new loans and securitizations reflects a shift away from LIBOR towards SOFR. Further, it has been reported that sales of corporate loans tied to SOFR have continued to increase in 2022, with borrowers accelerating the shift away from issuing new debt tied to LIBOR. Large US financial institutions have also largely replaced LIBOR with SOFR for low-rated corporate loans on future debt sales. Finally, it is also expected that companies with loans that expire before the June 2023 deadline—when products both existing and new must cease referencing USD LIBOR—will likely look into refinancing debt at a SOFR rate. The shift in the derivatives market, notably in interest rate swaps and futures, also shows an acceleration in SOFR use this year. Indeed, it has been reported that efforts to remove USD LIBOR had a knock-on effect in the derivatives market where SOFR futures have achieved record levels. However, despite SOFR futures achieving such record levels, Eurodollar futures and options, which reference the 3-month USD LIBOR, continue to remain the largest US interest-rate derivatives market. Further, despite the ban from regulators, USD LIBOR has been actively traded at almost $9.8 trillion of swaps traded on USD LIBOR from 1 January 2022 to 4 February 2022 whilst only $3.4 trillion notional was pegged to SOFR.