US companies' switch from Libor slowed by reluctance to issue bonds tied to alternative, JP Morgan executive says

10 Mar 2020 12:39 pm by Neil Roland

US corporations’ transition from Libor has been retarded by their hesitation to issue bonds linked to the official alternative, a JPMorgan Securities managing director said.

Alex Roever, a research strategy chief at the firm, said companies have told him that their systems are geared to the kind of interest rates used in the Libor benchmark, not in the Secured Overnight Financing Rate substitute.

“Many lenders and corporates are struggling to implement SOFR on their existing systems and may not be able to get that done by the end of 2021,” the official deadline for Libor’s cessation, Roever said in a recent public forum.

He urged US authorities to accelerate introduction of a major SOFR interest-rate change that would give companies and banks more time to adjust their tax, accounting and other systems to meet the Libor deadline.

The SOFR change could be introduced early next year, Roever said, if authorities give it high priority. But the US Federal Reserve panel overseeing the Libor transition has set a goal of the end of 2021 — the same time that thinly traded Libor is to be discontinued — to introduce the SOFR change.

— Crux of issue —

The crux of the issue for corporations is that their systems are accustomed to the “forward-looking” rates of Libor. These are projected rates — or “term” rates — that companies and investors prefer to estimate payments.

SOFR is a “backward-looking” rate that relies on market-based overnight rates.

The Fed’s Alternative Reference Rates Committee has set a goal of converting SOFR to forward-looking rates by the end of next year.

“We'd urge regulators to provide stronger support for term rates and provide more clarity around their use,” Roever said at the US Securities and Exchange Committee advisory panel.

“Lack of term rates and inconsistent messaging from regulators across jurisdictions has created confusion and has become an impediment to transition,” he said.

The senior Fed official overseeing the Libor transition, David Bowman, was seated next to Roever. He didn’t respond to Roever’s suggestion. A Fed spokesman didn’t respond to a request for comment.

Roever said he hears “constantly” from multinational companies that they are confused by having to work in multiple currencies to try to get their systems ready for Libor’s cessation.

“And different currencies are moving at different paces,” he said. The UK is able to move fast, Roever said, because its preferred alternative, the Sterling Overnight Interbank Average rate, is an existing rate.

— SOFR futures —

Roever said the recent success of the SOFR futures market shows that the alternative benchmark also could work for corporate bond issuance.

“Existing SOFR derivatives markets have progressed much faster than anticipated in terms of market depth and liquidity,” he said.

Last October, a Fed official said SOFR futures volume still wasn't sufficient to create a forward-looking rate tied to SOFR, according to minutes of the ARRC meeting.

Newly issued corporate bonds tied to SOFR plunged from $55.7 billion in August 2019 to $4.0 billion in December. They rebounded to $48.1 billion — the second highest monthly total — at the end of February 2020, according to the CME Group, citing Bloomberg data.

Meanwhile, SOFR futures have been steadily soaring in popularity.

Open interest in aggregated one-month and three-month SOFR futures nearly doubled from 283,321 contracts last August to 505,758 in December. Traders’ interest in these contracts have continued to rise this year, growing to 540,331 at the end of February 2020.

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