Fallback compounding in arrears won't work

For more than a year I have been saying that "compounding fixing in arrears" is not an acceptable fallback mechanism for IBOR rates. In the answers to the ISDA consultation, it appears that I was the only respondent to indicate that he was totally opposed to this methodology. My answer to the consultation can be found on my advisory site. I have published a blog about my question on the mechanism when the consultation was announced in July 2018 and detailed the problems in my quant perspective on IBOR fallback consultation results.

Since then I have blogged about it and spoke about it at different seminars and conferences. To date, no public (or private that I'm aware of) comment indicating that there is actually a plan or a workaround to solve the important issues I'm demonstrating have been provided.

Following my presentation at the Quant Summit last Wednesday, Risk.net has published yesterday an article on the subject. From the article, I gather that the other experts they have interviewed, including experts close to the EUR RFR working group, agree with my analysis. The article does not provide comment by ISDA.

Just to summarise my argument, the IBOR term rate fallback problem is a term rate problem, not an overnight problem, even if the fallback answer is overnight-based. Term sheets for existing instruments may take advantage of the term fixing feature, a fallback cannot ignore that feature. The problem with the dates is illustrated in the figure below extracted from my presentations, with the dates lacking clarity in ISDA proposal in red.

The article can be found on Risk.net (subscription required) under the title

FRAs won’t work with standard Libor fallback, experts say

Feel free to contact me for analysis and advisory related to the LIBOR fallback.


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