The Association for Financial Professionals (AFP) recently hosted a webinar, “LIBOR Transition: Preparing for the End Game,” with three corporate finance experts who spoke on the transition of the London Inter-bank Offered Rate (LIBOR), the current benchmark interest rate at which major global banks lend to one another.
The speakers included Peter Phelan, president of Phelan Advisory LLC and former (as of March) deputy assistant secretary for Capital Markets at the U.S. Department of the Treasury; Mack Makode, vice president and treasurer at Under Armor; and Matt Johnson, vice president and treasurer at Genesco.
Phelan began the webinar by providing a comprehensive report of where we’d been and where we are in the transitional process. Since June 2017, it has been the recommendation of the Alternative Reference Rates Committee (ARRC) that the Secured Overnight Financing Rate (SOFR) be used as the alternative rate and, at that stage, it published its Paced Transition Plan — a timeline to migrate from LIBOR-based reference rates to SOFR.
So, where do we stand now? And how prepared are we for “the end game”? The poll at the beginning of the webinar suggests that the majority of organizations have some work yet to do, with the majority (41%) “still beginning phases of scoping out work” for the transition.
It became clear during the discussion that even if organizations wanted to be fully prepared, it’s not feasible in the currently murky waters by which they’re navigating. “If I had to answer the question to my CFO: ‘What do you think our new rate is going to be?’ The answer is: I don't know, because the discussions about what the index might be have been very general,” said Makode. “But that in communicating would it be an increase or a decrease to the rates that I have at the time? The answer is: I don't know. And that's my frustration: Things are staying a little bit more generic than I'd like for a little bit longer than I'd like.”
One big concern voiced first by Phelan, and later discussed by Makode and Johnson is the concern that banks have regarding the lack of credit sensitivity. “This concern primarily focuses on the topic of loans to corporations like the attendees here, and in particular, standby funding facilities or revolvers. Last year, there was an appreciable increase in draws on revolvers from the corporate sector, primarily as a defensive measure against an unknown business environment that we were entering into with global lockdowns on activity and consumers' ability to transact essentially disappearing overnight for most companies,” said Phelan.
“Banks raised concerns that corporations will be opportunistic in draws if SOFR is the underlying reference rate,” said Phelan. “In essence, that the lack of credit sensitivity will incentivize non-financial corporates to borrow funds when market conditions create an opportunity to finance themselves more cheaply. In my conversations with companies, I have generally found this to be inconsistent with the liquidity management of most corporates.”
“There are really two things we are asking for,” said Makode. “We want a reference rate plus corporate spread. Our spread, no third spread, just the reference rate plus corporate credit spread, the credit spread for us. And then the second thing is that we should be able to hedge the reference rate in the derivatives market. Those are the two big asks for corporate borrowers.”
There has also been a lot of concern about the fact that banks are not communicating with their customers about the transition. When asked what the most important thing your bank could do to help you in this transition, Johnson laid it out in no uncertain terms: “I would say answer the phone call or the email, because for a lot of people it's incumbent upon you to reach out to them. Banks are being too passive on this … I would also say: Contact your bankers and see what they have. And if you contact your bankers and they don't have anything, mark that off high on your risk list, because they should have at least a preliminary answer or some materials or somebody they can put you in touch with.”
Added moderator, AFP Vice President and Chief Operating Officer Jeff Glenzer, CTP, “It's pretty clear that this isn't something you can stick your head in the sand over. And so, I really appreciate having access to experts like yourselves on a panel like this.”
For more information about LIBOR, visit AFP’s LIBOR resource page.