The end of Libor: the biggest banking challenge you’ve never heard of

Some fear that if the new benchmark does not work, this could be the equivalent of PPI for the investment banks. (Shutterstock)
Updated 08 October 2019

The end of Libor: the biggest banking challenge you’ve never heard of

  • End is nigh for scandal-hit $340-trillion Libor benchmark
  • Users drag feet on transition amid costs, lawsuit concerns

LONDON: On June 30, British bank NatWest sent out an arcane-sounding press release — bus operator National Express had become the first company to take out a loan based on Sonia, a replacement for scandal-hit interest rate benchmark Libor.
It was billed as the first switch of thousands that British firms would make by end-2021, when the benchmark is set to be decommissioned.
Four months on, NatWest’s trailblazing Sonia switch has been followed by only one other loan, when the bank struck a deal with utility South West Water on Oct. 2.
The slow progress highlights the challenge banks and borrowers face as regulators attempt to end the use of Libor, a benchmark embedded in as much as $340 trillion financial contracts worldwide from home loans to complicated derivatives.
Libor, once dubbed the world’s most important number, was discredited after the 2008 financial crisis when authorities in the United States and Britain found traders had manipulated it to make a profit.
But replacing Libor is proving expensive and tricky with concerns that, if mishandled, it could trigger credit market confusion and waves of lawsuits, finance industry sources said.
With no obvious alternative, some countries are adopting their own benchmarks. The United States is leading the way with a booming trade in derivatives linked to its new Sofr rate, while the European Central Bank started publishing Estr, its new interest rate benchmark, earlier this month.
In Britain, professional investors such as hedge funds and pension insurance clients are also already writing and trading derivatives contracts linked to Sonia. But companies which make up the so-called Libor “cash” market of sterling-denominated loans are dragging their feet or are even not aware of the shift.
At least two banks in Britain have shifted staff from teams preparing for Brexit to specialist Libor taskforces in the past quarter as the issue becomes more pressing, industry sources said.
“Part of the market is very educated and smart on this and part of the market is not even aware that Libor is going,” said Phil Lloyd, head of market structure & regulatory customer engagement at NatWest Markets.
Lloyd said banks like NatWest are battling to allay concerns among corporate borrowers that the Sonia benchmark will make it harder for them to know how much interest they owe because the rate is backward looking.
Sonia, the sterling overnight index average, is based on the average of interest rates banks pay to borrow sterling from one another outside market hours, and is published at 9:00 a.m. local time (0800 GMT) daily, after the transactions have been vetted by the Bank of England.
Borrowers taking out Sonia loans will in effect not know exactly how much interest they owe until they are required to pay.
In contrast, loans linked to Libor can have forward-looking term rates, meaning borrowers have greater certainty over their future liabilities and can manage cash flows more easily.
Bankers and consultants said the market was exploring a forward-looking Sonia term rate by mid-2020 to appease borrowers but not everyone is in favor.
The overnight Sonia rate, based on actual transactions, is seen as more robust and less vulnerable to the kind of manipulation that affected Libor, which was based on rates submitted by banks.
The Libor rigging scandal saw billions of dollars in fines levied on major banks and jail sentences for traders convicted of manipulating the benchmark for profit.
Some banks and lawyers fear the creation of a Sonia term rate, which would likely be based on forward-looking estimates from banks as opposed to past transactions, could undermine the security of the benchmark and even spawn legal dangers for banks.
Murray Longton, a consultant at Capco who advises financial firms on Libor transition, said banks were fearful of lawsuits, as the proliferation of alternative Sonia term rates offered by different lenders could spark allegations of mis-selling.
“If you get this wrong, this is PPI for investment banking- if you haven’t communicated properly and you move a customer (on to Sonia) and benefit, there could be a case where this gets reviewed and you owe your client a lot,” he said.
The Payment Protection Insurance (PPI) mis-selling scandal in Britain has cost banks more than 43 billion pounds in compensation after the contracts were retrospectively deemed to have been mis-sold.
“A lot of the corporate market are waiting for a few things of which one is a term rate. And if they never get a term rate, then waiting will lead to them still executing Libor, and not being ready for Sonia. The clock is ticking,” Lloyd said.
“And the other point about having a term rate is you’re starting to get back into a world where you are really recreating a new version of Libor.”
But the reluctance of corporate borrowers to buy into Sonia is not the only reason for the slow progress.
Banks face large costs for adapting systems and educating thousands of relationship managers on the merits of Sonia over Libor.
Fourteen of the world’s top banks expect to spend more than $1.2 billion on the Libor transition, data from Oliver Wyman show, with the costs for the finance industry as a whole set to be several multiples of that sum.
Much of this cost is linked to the arduous task of changing the terms of contracts tied to Libor whose duration extend beyond the 2021 deadline. Progress has been held up not only by nervous borrowers but also by banks in loan syndicates which may not always agree on the new wording required to adapt existing loan agreements to the new benchmark.
“You need unanimous agreement to change the baseline product, so what are the chances if you’ve got 10-15 participants (in a syndicate) that they will all agree on the same thing?,” Capco’s Longton said.
Some corporate borrowers are also playing a wait-and-see game to see whether they can benefit financially from Libor’s slow death spiral. But this could have costly consequences, depending on the so-called “fallback” language in contracts for their existing loans.
These fallbacks — originally designed to kick in if Libor was temporarily unavailable — usually stipulate alternative rates, such as calling other banks for a quote or using the last published Libor rate. But the fallback clauses were not designed to cope with Libor ceasing to exist indefinitely.
That could create big risks for borrowers, for example, by potentially converting a “floating rate” loan, tied to the fluctuations of Libor into a fixed-rate one.
Serge Gwynne, a partner at consultant Oliver Wyman, said regulators could do more to help banks manage the transition away from Libor, starting with much harder deadlines on when it would formally cease to exist.
“Libor is embedded everywhere in the plumbing of the financial world, that’s why this is such a big challenge,” said Longton.
“You are changing a product that has been used to create markets for a long time. You are not just taking one thing out and putting one thing in but changing the whole dynamic of how this works.”


Saudi health teams invited to Moscow lab to assess Russia’s new coronavirus vaccine

Updated 15 August 2020

Saudi health teams invited to Moscow lab to assess Russia’s new coronavirus vaccine

  • In an exclusive interview with Arab News, CEO Kirill Dmitriev explained the reason for the rapid registration of the vaccine, and why he thinks the West has been less than welcoming to this potential breakthrough against the pandemic

DUBAI: Last week, Russia surprised the world by announcing that it had developed and authorized production of a vaccine — Sputnik V — to combat COVID-19. Many experts and media commentators criticized the Russians for being quick to claim credit for the first vaccine at the expense of sufficient testing, specifically phase 3 testing on humans.

The Russian Direct Investment Fund (RDIF) played a key role in developing Sputnik V. In an exclusive interview with Arab News, CEO Kirill Dmitriev explained the reason for the rapid registration of the vaccine, and why he thinks the West has been less than welcoming to this potential breakthrough against the pandemic.

AN: Have you been surprised by the reaction in some parts of the international media?

KD: We understood that the world would be divided. There has been a division between ordinary people who want the vaccine and who understand it’s good news in all countries. And also some politicians, some pharma companies and some media, there’s a division there.

Then there’s a division between countries. We’ve seen a very negative, I’d call it very jealous reaction in the US, the UK and some other places in Europe. But we’ve seen very positive reaction in the Middle East, in Asia, and extremely positive reaction in Latin America. I think the reaction is different in those geographies, and we were expecting this.

I think it’s very important to understand the position of Russia. We aren’t forcing our vaccine on anyone. As of now only Russians will be vaccinated, but we just want to share the fact we have this technology. There are some unique features. Maybe I can go into why we did it, how we did it so quickly and the science behind it.

We saw that some countries would want to explore it, would want to do it. But other countries, just because it’s Russian they have a mental block on anything that’s Russian. I have this analogy: If we were to offer to distribute water to the US, we’d get articles in the media that maybe it’s poisoned, or the recipe is stolen, or maybe it has some vodka in it.

AN: But some of the scientific criticism focused on the very rapid development of Sputnik V and lack of data.

KD: Some of the points are legitimate, and they’ll be answered by data we publish in August. In all the criticism, there’s a valid point about making data available, and I wish we could’ve done it earlier. But data will start to become available at the end of August, and it will be published — data about phase 1, phase 2, animal studies etc. And we’ve already started doing phase 3. So more data will be coming out, and it’s a fair criticism.

We know the technology works, and let me go into what’s unique about it. Russia has always been very strong in vaccines. Catherine the Great was vaccinated 30 years before the first American vaccine appeared — 1762 I think it was . And the Soviet Union was always strong in vaccines.

On this specific vaccine, basically our scientists had a head start. They were working on the Ebola vaccine, which got approved, then they used the same method — human adenovirus vector — on the MERS vaccine. When coronavirus appeared, they just happened to have this proven platform. MERS is very close to coronavirus, and they were able to use an already proven and researched platform. 

This adenovirus vector stuff is basically the human adenovirus vector. It has been studied in the world the last 20 years. There have been dozens of studies, tens of thousands of people, and it has been proven that human adenovirus is safe and doesn’t have long-term consequences.

It’s very different from mRNA, very different from monkey adenovirus, which haven’t been studied for 20 years and haven’t been the subject of dozens of clinical studies. Frankly they’re novel approaches, and we hope they work, but they’re much less studied approaches. So the fact we had this proven platform allowed us to move forward.

AN: Why not wait until the end of August to announce it when all the data could be made available?

KD: There’s an ethical responsibility that once you have a technology that you know works, to make it available to people in a safe manner. It’s irresponsible to delay something that you know works and then deny it to people who need protection.

We want all countries to do all the necessary checks. Our Ministry of Health has done it for Russia, and they determined that the vaccine is safe and efficient. And when they determined that, they wanted to make it available to Russian people right away. People are dying from coronavirus and we want to protect them. There was a clinical and human need.

AN: What about the lack of phase 3 tests?

KD: We have a law in Russia that at a time of epidemic you’re allowed to do phase 3 concurrently while administering the vaccine to people. Basically it’s invoked only for technologies that’ve been proven to be safe before.

So if we were to try to use mRNA or monkey adenovirus, it has never been shown to be effective before, and we’d never have done it without phase 3. But we have the vaccine already approved, based on Ebola, so we have data for the last six years and the world has data for the last 20 years of studying human adenovirus vectors.

Let me try to explain it very simply. You can think of vaccines as just coming in two parts. You have a code for the spike of coronavirus that needs to be delivered to cells so that antibodies get produced. Pretty much all the vaccines, simplified, more or less, have the same spike.

So the only thing that matters and is different is the delivery mechanism. Our delivery mechanisms are based on human adenovirus, which has been proven before to be safe long term. There have been studies for example that show it doesn’t cause cancer, over the past 20 years.

So we used technology safe and proven before to deliver the spike of coronavirus. So once you understand the science, you basically say, ‘OK, what could go wrong?’ Most of the problems that could go wrong come from the delivery mechanism.

For example, AstraZeneca (the multinational pharmaceutical group also working on a vaccine) uses monkey adenovirus, which has never been studied long term in the human population. So that’s very different, which the West is missing. mRNA (an alternative vaccine technique under development in the West) had never been studied before.

So it shows that the stuff that was approved in Russia, safe and chosen before, just delivers a spike of coronavirus. 

AN: Can you tell me more about the agreement you have with Saudi Arabia to do tests there?

KD: We have an agreement in principle to have clinical trials in Saudi Arabia. We’ll have a visit by the Saudi Health Ministry to the Gamaleya Institute, which is part of the process. We already have a partner in the Kingdom, a very good Saudi company. I shouldn’t name them. It’s an experienced pharma company that’s working with us, and we’ve already shared phase 1 and 2 data with our Saudi partners.

We believe in a real strategic partnership with Saudi Arabia on the vaccine. We know that lots of countries look up to the Saudi position and their approach, and we’ll really engage with Saudi scientists, the Saudi Health Ministry, in the very deep understanding of our technology. We believe that Saudi will be a very strong partner for our joint work on the Sputnik V vaccine.

We’ve also shared data with the UAE. We expect to start trials there in August.

We expect to have clinical trials in Saudi, the UAE, the Philippines and Brazil, as well as Russia.

AN: So you have your vaccine. Do you care whether the rest of the world takes it up or not?

KD: Of course, our priority is the safety and security of our people, and we have a safe vaccine. Vaccinating our people will start massively in October. If it’s just Russia that gets vaccinated, it’s a great accomplishment because we gave the vaccine earlier and saved more lives. It’s very important to save our people.

Our other responsibility is to share with the world, openly, what we have and what we know works. It’s up to individual countries to explore it. If they want to take it or not take it, we won’t care so much because we aren’t going to do this for profit.

It’s on a not-for-profit basis, just to cover our expenses on the vaccine and cover our costs. This isn’t a money maker. It’s a humanitarian initiative. It’s our responsibility to tell the world we have it, this is how it works, and you have Sputnik V that has all the information, and more will be published. With that, we feel our responsibility to the world is complete.

We have requests already for 1 billion doses of vaccine. It’s huge. If other people show interest, it’s our responsibility to make it available, then we’ll work with five other countries to produce the vaccine and make sure we distribute it to countries that want it.

We aren’t trying to convince the US. We aren’t trying to convince Europe. We fulfilled our responsibility by developing it, vaccinating Russian people, letting other people know we have it, and letting countries that want it manufacture it in partnership with them.

We’re trying to do as much as we can without forcing this on anybody or trying to convince anybody.

AN: How much will it cost per dose?

KD: We’ll be able to talk about that in September or October because we’re scaling up manufacturing outside Russia and we want to get to the lowest price point, and we need to get to manufacturing in scale. We need a couple more months to do this.

All I can say now is that pricing will be very competitive. From some other estimates we saw from other people, we expect our pricing will be lower than we saw others circulate.