How will new interbank reference rates – ESTER, SONIA, SOFR and SARON – affect your business?

Since 2nd October 2019, ESTER (or €STR), the new Euro Short-Term rate calculated by the European Central Bank, has been progressively replacing EONIA.  The transition will be complete by 3rd January 2022.

In America, LIBOR (London Interbank Offered Rate), which was directly implicated in one of the biggest scandals in banking history between September 2005–May 2008, will be replaced by 1st January 2022 with the new SONIA, SOFR and SARON reference rates.

Given that €150 trillion have been exposed to EONIA rates since the transition was announced, and that $350 trillion of financial products remain directly tied to LIBOR (PWC), it is clear that the ongoing transition from these historic reference rates towards new entrants needs to be painstakingly managed by businesses and financial institutions.

The new reference rates — ESTER, SONIA, SOFR, SARON

As the EU Benchmarks Regulation (BMR) comes into force at the beginning of 2022, reference and interbank rates will be subject to increased regulatory control in an attempt to quash any new attempts at manipulation.

Consequently, some interbank reference rates like EURIBOR (Euro Interbank Offered Rate) have already reviewed their calculation methodology to respond to the requirements of the new regulation, while others like EONIA and LIBOR will be superseded by new references.

EONIA will be replaced by the ESTER rate for the Euro, and the LIBOR will be replaced by SONIA for sterling, by SOFR for the American dollar and by SARON for the Swiss franc.

What are the consequences for your business?

The end of EONIA and LIBOR represents a seismic shift for the big banks. But this wholesale reform of the interbank market does not only concern the banks who calculate them. This change also affects your business and the totality of your direct and indirect relationships with the financial market.

Which areas particularly impact your business?

Any business with financial contracts that are linked to the money market needs to assess their situation to successfully negotiate the transition away from EONIA and LIBOR to the new references.

Any investment, financing and hedging instruments that your business uses need to be audited to evaluate the level of business exposure and to anticipate the possible consequences of the transition:

  • Changes in the value of your financial contracts
  • Impacts on clauses in your contracts (particularly loan covenants)
  • Updates to your financial reporting, etc.

For a detailed analysis of the financial impacts, download the complete study: “The end of the LIBOR, EONIA and EURIBOR reference rates. Preparing for the transition”

Be proactive to secure a smooth transition

As is customary in financial risk management, it is best not to wait until the last minute or to navigate these things using guesswork. To begin your preparations, group all your financial contracts into a single reference document with filters to clearly identify those that continue to be linked to EONIA and LIBOR.

As well as this preliminary audit, you also need to make the right decision about all of your exposures.

Do you anticipate a transition clause for the new reference indices?

Do you need to replace some of your contracts with new updated contracts?

Prediction and simulation tools like Univers Simulation developed by 3V Finance can be used to reach the right decision, by allowing you to evaluate different scenarios and analyse their present and future implications. .

Finally, both your internal and external reporting needs to be reviewed so it provides data that is up to date to deliver insights into how the situation could unfold at the beginning of 2022.

Although differences can be minimised between the old reference rates and their replacements, the amounts involved mean that things shouldn’t be left to chance.

As always, be particularly vigilant and use the right tools to manage your interest rate risk.

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