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US banks welcome delay to Libor switch affecting $200tn in assets

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A surprise reprieve from regulators has spread relief around banks, asset managers and borrowers that were struggling to figure out how to wean themselves off the tainted and outdated US dollar Libor benchmark.

The rate, which measures the cost of unsecured borrowing between banks, is due for extinction in most currencies at the end of 2021. But embedding an alternative in the US is particularly tricky, given the sheer size of the task. The New York Fed estimates $200tn of derivatives, loans and bond contracts are tied to dollar Libor — far more than for any other currency version.

Reflecting the scale of the challenge, IBA, which compiles and oversees the rate, this week said it planned to publish daily rates for the most widely used dollar benchmarks until the end of June 2023 — 18 months later than originally planned.

The move, supported by global authorities including the Federal Reserve and the UK’s Financial Conduct Authority, formed a marked contrast to the previous hardline stance against shifting the end-2021 deadline.

“I was very surprised by it. I think everybody was. They had been adamant about 2021 being the actual end date,” said Dan Krieter, an analyst at BMO Capital Markets.

Regulators have repeatedly warned the financial sector that Libor, which formed the heart of a trading scandal in 2008, must die. Concerns among banks that flipping to a new rate could cause disruption have largely been swatted away.

In part, that is due to regulators’ frustration with traders who had previously attempted to manipulate Libor to their own advantage. But it also reflects a concern that Libor represents a market that no longer exists. Daily rates are compiled largely by estimates, not real market transactions. 

Authorities have left it to banks to figure out how to make the switch without leaving customers short-changed or with contracts they did not want, such as receiving fixed-rate instead of floating-rate payments.

Line chart of Proportion of interest rate derivatives in alternative reference rates showing Global adoption of Libor alternatives remains low

That has left the market needing to change thousands of contracts to use a different lending rate, or add fallback terms including a clearly defined alternative rate after Libor’s demise. 

US dollar Libor has been particularly problematic. It needs to move to an entirely new rate — such as the Secured Overnight Financing Rate (Sofr) — rather than an enhanced existing rate, which has been the case in other currencies. Take-up has been slow.

The authorities’ leniency on Monday was a “prudent step”, said the Bank Policy Institute, a US financial services lobby group. It was also a shock: hedge funds that had placed bets in short-term lending markets to exploit profitmaking opportunities during the switchover were left scrambling to unwind them.

Many are hoping the extension period will mean most existing Libor contracts simply expire before they need to be converted. Deepak Sitlani, a lawyer at Linklaters in London, called it a “mini-reprieve”.

“The sting in the tail is that it’s only for legacy positions,” he said. “The grey area is: ‘how hard do you want to try to move off US dollar Libor positions?’”

The Federal Reserve said “most” contracts would mature before this kicks in.

Barclays estimated 41 per cent of the $330bn of outstanding US investment grade dollar floating-rate notes mature before the end of next year. The delay would raise the proportion that mature before the deadline to 80 per cent. Of the remaining $66bn in notes that mature after June 2023, nearly 72 per cent include language that provides better fallback language for investors, the bank said.

In the loan market, 90 per cent of existing US leveraged loans have a maturity after 2023, according to the Loan Syndications and Trading Association. The extension gives time for those loans to be refinanced and set against a new interest rate.

“We had concerns that we had tens of thousands of loans that needed to transition from Libor to Sofr in a short period of time,” said Meredith Coffey, executive vice-president of the LSTA. “What we hope now, with this longer window, is that more loans will refinance into Sofr organically.”

A delay buys time. Only 400 out of 2,800 corporate groups had taken up the new derivatives industry protocol that incorporated fallback language into contracts, the Commodity Futures Trading Commission, the US regulator, said last month. Politicians will also have leeway to pass legislation that covers Libor contracts that extend beyond June 2023.

Meanwhile, derivatives of Sofr — crucial to setting its level — remain poorly used. In October less than 10 per cent of US interest rate swaps deals used it, according to data from Isda and ClarusFT, a UK consultancy. In contrast 40 per cent of sterling swaps used an overnight rate, they found.

Andreas Wilgen, an analyst at rating agency Fitch, said the slow take-up reflected a “wait-and-see” approach from some market participants and a recognition that Sofr, being an overnight rate, was fundamentally different to Libor, which combines borrowing costs with a measure of banks’ creditworthiness. An extension would not automatically mean a smooth transition in mid-2023, Mr Wilgen said.

Authorities were keen to stress they did not want market participants to slacken the pace of preparation for the Libor switchover, warning that they would be watching closely for signs banks were embedding Libor in new contracts beyond the end of 2021.

The toughened language “if anything marginally added to the urgency around the transition process”, said Blake Gwinn, head of short-term rates at NatWest Markets.



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Analysis

Iranian TV action thriller delivers warning to Zarif

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It is hardly surprising that Mohammad Javad Zarif, Iran’s foreign minister and nuclear negotiator, is not a fan of Gando, a popular television drama that depicts an incompetent minister who scuppers nuclear talks with world powers by hiring dual nationals who turn out to be spies for MI6.

The series — made by an institute believed to be affiliated to the elite and hardline Revolutionary Guards — “is a lie from the beginning to the end” that “damages foreign policy more than me” by fuelling public mistrust, Zarif said.

By focusing on the nuclear talks, the Guards’ motive goes beyond creating compelling drama, reformist analysts say. Iran is in discussion with western powers about reviving the nuclear deal, a key reformist achievement, and hardliners want to deter the popular foreign minister from declaring his interest in the presidency in what is a crucial election year.

“I’ll be grateful to Gando-makers to let us continue our current job,” Zarif said this month, and commented that he would not run for the presidency.

The possibility of nuclear talks with the US and other powers has complicated an already fraught Iranian political scene ahead of the June election. Many reformists are pinning their hopes on Iran’s top diplomat to reinvigorate the nuclear deal and boost support at the ballot box. Hardliners might prefer to negotiate the deal themselves after the election. The polls are also seen as particularly crucial in case supreme leader Ayatollah Ali Khamenei, 81, dies during the next president’s term.

Pendar Akbari, left, and Ashkan Delavari, right, in a scene from ‘Gando’
Pendar Akbari, left, and Ashkan Delavari, right, in a scene from an episode of ‘Gando’. The series title refers to an Iranian crocodile able to distinguish its friends from its enemies © Bahar Asgari/Shahid Avini Cultural and Artistic Institute via AP

The purpose of Gando, which refers to an Iranian crocodile able to distinguish its friends from its enemies, “is to tell Zarif that should he dare to announce his candidacy, he will be destroyed immediately,” said one reformist analyst. “When the intelligence service of the Guards truly believes in the Gando plot lines, it means even if Zarif decides to defy such warnings, he will not be allowed to run.”

Centrist president Hassan Rouhani is due to step down this year after two terms and it is not yet clear who the presidential candidates will be. Politicians register as late as May and then have to be vetted by the Guardian Council, the hardline constitutional watchdog, which can disqualify nominees. Potential hardline candidates include Mohammad Bagher Ghalibaf, the parliament speaker and a former guards commander; Ebrahim Raisi, the judiciary chief; and Ali Larijani, a former speaker of parliament. On the reformist side, speculation has centred on Es’haq Jahangiri, first vice-president, Hassan Khomeini, a grandson of the founder of the Islamic republic, and Zarif.

A US-educated career diplomat widely respected in the west for his pragmatism, Zarif was instrumental in the historic deal in 2015, under which Iran curbed its nuclear activity in exchange for the lifting of sanctions. But Donald Trump abandoned the accord in 2018, imposed sanctions, including on Zarif, and said he would pursue a new accord to contain Iran’s regional and military policies. The US move emboldened hardliners, confirming to them the untrustworthiness of the US.

Zarif’s background in the US both as a university student and as Iran’s head of mission at the UN — during which he met US politicians including then senator Joe Biden — has long made him a source of suspicion for hardliners.

This wariness of both Zarif and the west is evident to viewers of Gando, as is the heroism of the Revolutionary Guards. Mohammad, the action hero protagonist, warns that western negotiators may sabotage refineries as part of nuclear talks. Mohammad works out of elaborate facilities akin to those in a James Bond film. The fictional foreign minister is advised by a media adviser, the main culprit, “to enter into direct talks with the US and accept the conditions of the leader of the global village”.

Vahid Rahbani in a scene from an episode of ‘Gando’
Vahid Rahbani in a scene from an episode of ‘Gando’. State TV abruptly stopped broadcasting the series that was less than halfway through its 30-episode run © Hassan Hendi/Shahid Avini Cultural and Artistic Institute via AP

The dramatic scenes reflect, in part, the worldview of some of Zarif’s critics. “Reformists, Mr Zarif and his lobby group in Washington [Iranian dual nationals] should be wiped out from Iran’s politics,” said an aide to a senior hardline politician who is a potential presidential candidate. “We have to get rid of this cancerous tumour once for good.”

Gholamali Jafarzadeh, a former conservative member of parliament, said Zarif “is not a good statesman and should not run for president” while “reformists should know that their choices have no chance to be allowed to run”. 

This month, state TV abruptly stopped broadcasting the series that was less than halfway through its 30-episode run. Local media said broadcasts would resume when the presidential race was over. Iran’s centrist president Hassan Rouhani, whose signature achievement is the nuclear deal — alluded to the show on Wednesday and said “people’s money” should not be spent on “fabrication of the truth” and “distortion of facts”.

After three years of sanctions, many voters are disillusioned by the infighting and the prospect of real change, whatever the outcome of the election. “Whether Zarif or a figure more senior than him runs or not, I’m not going to vote,” said Hamid, a 40-year-old engineer. “Let the Guards win the election as they are the ones who are running the country anyway. Why shall I make a fool of myself?” 



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Rising inflation complicates Brazil’s Covid-19 crisis

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After seven months in lockdown, Michele Marques received some unwelcome news when she returned to work: while she was away the prices of almost all the products she uses as a hairdresser had soared.

“A box of gloves rose 200 per cent. Colouring products increased at least 100 per cent,” said the 37-year-old from São Paulo, underlining how costs were rising while her revenue had collapsed. “I had to raise the price of my services, too.”

It is a dynamic that is playing out across Brazil, adding an extra layer of complexity to the country’s coronavirus crisis, which has already claimed the lives of almost 350,000 individuals and pushed hospital services to the brink.

With much of Latin America’s largest economy being shuttered, inflation is surging to its highest level in years, fuelling a silent scourge of hunger among poorer citizens that has run in parallel to the Covid-19 pandemic.

“The high price of staple foods — rice and beans, for example — has led to the disappearance of these items from the table of millions of Brazilians,” said Ana Maria Segall, a researcher at the Brazilian Research Network on Food and Nutritional Sovereignty and Security. In the 12 months to the end of March, the price of rice increased 64 per cent and black beans 51 per cent.

“In Brazil currently food inflation has penalised the very poorest, preventing them from having adequate access to food and in many situations leading to hunger,” she said, adding that rising unemployment and the curtailment of social programmes were also contributing factors.

Volunteers hand out food in São Paulo © Alexandre Schneider/Getty Images

Less than half of Brazil’s population of 212m now has access to adequate food all the time, with 19m people, or 9 per cent of its inhabitants, facing hunger, according to a recent report by Segall’s group.

“I’m doing some odd jobs, but it’s not enough to keep us going,” said Jonathan, a 28-year-old who lost his job in the kitchen of a Chinese restaurant in São Paulo when the pandemic began. He said he now struggles to provide enough food for his three young children and pregnant wife.

On a 12-month basis, inflation in June is expected to surpass 8 per cent, far above earlier estimates. In the 12 months to March, food prices jumped 18.5 per cent, while the price of agricultural commodities in local currency surged 55 per cent and the cost of fuel increased almost 92 per cent.

Line chart of Percentage increase over past 12 months showing The price of rice in Brazil is soaring

The developments pose a fresh challenge to President Jair Bolsonaro, who is already under fire for his handling of the Covid-19 pandemic. Across Brazil’s biggest cities, graffiti has sprung up labelling the populist leader “Bolsocaro” — a portmanteau of his name and the Portuguese word for expensive.

The rising prices are also likely to provide useful ammunition to leftist former president Luiz Inácio Lula da Silva, who returned to the political fray last month and may challenge Bolsonaro in elections next year.

“Bolsonaro is to blame for the increase in food prices, he is to blame for everything. They have to remove this guy,” said Maria Izabel de Jesus, a retiree from São Paulo.

Armando Castelar, a researcher at the Brazilian Institute of Economics, said the government had underestimated inflation both in terms of the numbers and also “how much a concern it should be”.

He attributed the rising prices to the devaluation of the Brazilian currency, triggered in part by the stimulus packages passed by the US government — which helped to bolster the dollar and led to higher Treasury yields — and the brighter economic outlook outside Latin America.

“You have a situation where commodity prices are going up because the global economy is going to grow a lot this year. With the growth in the US, interest rates are going up and the dollar is strengthening. This puts a lot of pressure on the exchange rate in Brazil and emerging markets in general,” he said.

As the spectre of inflation loomed last month, the Brazilian central bank raised its key interest rate by 75 basis points, higher than the half-percentage point many economists had expected. A further rate rise is expected next month.

“The central bank acted correctly, but it cannot stop there. It is important not to be too lenient in dealing with this,” said Castelar.

Silvia Matos, a co-ordinator at the Brazilian Economy Institute, also pointed to Brazil’s weakening currency as a contributing factor to inflation. But she said the slide in the real was triggered by investor concerns over Brazil’s deteriorating public finances.

Following the creation of two separate stimulus packages to mitigate the impact of Covid-19, government debt has risen to about 90 per cent of gross domestic product, a high level for an emerging market economy.

The rollout of the second of these packages began this month, with 45m Brazilians set to receive $50 a month for four months.

Critics said, however, these stipends were not nearly enough to keep people both fed and at home in lockdown.

“It is essential that the emergency aid is of a greater value, so that people do not leave the house but no one also stays at home starving,” said Marcelo Freixo, a federal lawmaker with the leftwing PSOL party.

“We need to reduce the circulation of the disease. Brazil is already experiencing 4,000 deaths per day. We will reach 500,000 total deaths by the middle of the year.”

Matos says that inflation had hit poorer citizens much harder than middle-class and rich Brazilians because a larger portion of their income was dedicated to food, the price of which has increased substantially.

“The only thing that could help right now is to get out of this pandemic,” she said.

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Can CVC pull off a $20bn ‘deal of the century’ at Toshiba?

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Proposed management buyout looks like an improbable win for the Japanese conglomerate’s embattled CEO



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