LIBOR Transition: What You Need to Know
UPDATED April 6, 2022 AT 12:00 PM
LIBOR, which stands for the London Interbank Offered Rate, is being phased out as the lending rate benchmark for banks worldwide. During this transition period, we want to keep you informed about the latest developments and how they may affect your Lakeland Bank loan.
Effective September 1, 2021, Lakeland has stopped issuing new loans with LIBOR as an interest rate index. In addition, any modification to a loan based upon LIBOR requires that a replacement interest rate index be implemented immediately.
Lakeland continues to monitor activity with the SOFR and BSBY indices and will be determining a replacement index for existing LIBOR-based loans that mature after June 30, 2023. We expect that well before that date the markets will have grown and stabilized so that we can choose the appropriate replacement index, with adjusting credit spread, if necessary, that will mirror the economics of the existing loan structure.
Below you will find additional information and frequently asked questions to help you stay up to date.
What is LIBOR?
LIBOR, an interest rate benchmark, has been used globally to gauge funding costs and investment returns for financial contracts. LIBOR is the base interest rate index on many loans, swaps, bonds, credit cards, adjustable rate mortgages, and other products offered by financial institutions.
Why is LIBOR being phased out?
LIBOR is based upon the anticipated cost of borrowing for certain global banks on an unsecured basis. In July 2017, British regulators, who have primary responsibility for supervising LIBOR, announced their intention to phase out LIBOR by the end of 2021. This phase out date was subsequently modified to June 30, 2023 for most LIBOR rates. The stated goal is to transition from LIBOR to a new interest rate index that is based primarily on actual borrowing transactions.
How is Lakeland Bank preparing for the LIBOR transition?
The ICE Benchmark Administration (IBA) announced on 3/5/21 that the 1-week and 2-month LIBOR rates will cease as of 12/31/21. IBA also announced that the overnight, 1-month, 3-month, 6-month, and 12-month LIBOR rates will continue until 6/30/23. The United States Federal regulators announced they do not want banks to enter into new LIBOR contracts after 12/31/21.
The results of these announcements for Lakeland Bank borrowers are as follows:
- Lakeland Bank has stopped offering new or renewed conventional loans based on LIBOR as of 9/1/21.
- Loans based on LIBOR that mature before 6/30/23, and are approved for renewal or extension, will be transitioned to an alternate rate index.
- Loans based on LIBOR that mature after 6/30/23 will be transitioned to an alternate rate index with an adjusting spread, if necessary, so that the resulting new rate will be as comparable to the original LIBOR based interest rate.
- Swap loans based on LIBOR that mature after 6/30/23 will be transitioned to an alternate rate index, with an adjusting spread, so that the fixed rate obtained through the swap transaction will essentially remain intact.
Frequently Asked Questions
There several Alternate Rate Indices to LIBOR being considered as follows:
- SOFR- Secured Overnight Financial Rate is the official replacement index selected by the IBA and is based on transactions in the Treasury Repurchase market. During 2017 SOFR was recommended by the Alternative Reference Rates Committee (ARRC) of the Federal Reserve Board and Federal Reserve Bank of New York. SOFR is based on a secured rate and forward-looking SOFR term rates were just recently made available. LIBOR is based on an unsecured rate with forward term rates. Currently, several forms of calculated SOFR are being considered.
- BSBY- Bloomberg Short-Term Bank Yield Index is very similar to LIBOR, being unsecured, has the same maturities and is credit sensitive. The index is based on transactions which large global banks access USD senior unsecured marginal wholesale funding.
- Effective Fed Funds Rate- as published daily by the NY Federal Reserve Bank- is a volume weighted median of overnight excess reserve funds lent between banks on an unsecured basis.
- WSJ Prime Rate- Managed by the Wall Street Journal - The consensus prime rate is established among the 30 largest banks.
- Ameribor- Managed by the American Financial Exchange- This rate correlates closely to LIBOR, being unsecured and with the same maturities. However, it is not as widely accepted or used by banks nationwide. Its popularity as an alternative to LIBOR is currently growing.
SOFR is a measure of the cost of borrowing cash overnight, collateralized by U.S. Treasury securities.
Both SOFR and LIBOR indices reflect short-term borrowing costs, however they are calculated very differently:
- LIBOR is an unsecured rate that has a credit risk premium component, is set by panel banks, and may be derived using estimated rates.
- SOFR is a secured daily (overnight) rate, considered to be risk free, and is based entirely on actual transaction data from the repo market. Because SOFR is a secured rate, it does not have the credit premium that’s incorporated in LIBOR. As a result, LIBOR spikes during stress because it includes a bank credit spread; while SOFR is secured, a “near risk-free” rate, and therefore not expected to spike in stress.
This transition will impact all loans that reference LIBOR, especially those with a maturity date beyond 6/30/23. Loan documentation generally contains a Fallback clause which provides that if LIBOR is no longer available, a new reference rate will be chosen with any spread necessary to account for the differences between LIBOR and the new reference rate. Some older documents had no Fallback clause or specified a replacement index like WSJ Prime, US Treasury or FHLBNY, which would increase your costs considerably. These documents that are deficient need to be modified and Modification Agreements have been sent to those borrowers to be executed.
We encourage you to periodically visit LakelandBank.com/LIBOR to stay up-to-date with key developments and our team will be in touch with more information as it becomes available.