LIBOR fallback and term sheets

Ever since the publication of the ISDA consultation related to IBOR fallback, I have claimed that the approach that ended to be selected, the compounded setting in arrears, was ill-defined and a bad choice for many instruments.

My favorite example was the FRA. I choose the FRA because it is a simple liquid instrument where the flaws of the proposal are obvious. Following my notes and seminars on the subject, the market has also noticed the problem. Several articles have been published on the subject in Risk.Net and different market participants have commented on it. If this awareness of the problem by market participants is a good thing, the absence of ISDA comments is worrisome.

There are discussion to change the FRAs standard term sheet or to transition to single period swaps instead of FRA. That solution, which was among the possibilities that I mentioned in the past (see for example this blog), is worth discussing. Nevertheless, the solution proposed seems at the moment attacking an obvious symptom of the disease, not the disease itself. The disease, to my opinion, is to replace a term rate by a non-term rate. The term sheet change proposal refers only to FRAs, not to others like LIBOR in-arrears. Even the FRAs and plain vanilla swaps are not fully solved. Due to non-good business days, the solution (which still lack details) will fall short by one day in many cases (roughly 2 coupons out of 7).

It is good to have those discussions. The best approach would be to bring a couple of willing and knowledgeable people around a table and write workable detailed proposals with all the pros and cons of each option. The details should include at the very least precise formulas with precise dates schedules (fixing, payment, accrual, etc.). Such a proposal should not take more than a couple of days to devise (or to be shown impossible to devise). I'm volunteering to act as an independent advisor if such a working group is created. Any other quant or association ready to join?

Comments

Popular posts from this blog

Rigged: part 1 - Will there be a part 2?

A personal statement on the IOSCO Statement on Alternatives to USD Libor

X dominates the world