Bloomberg launches Short-Term Bank Yield Index: one more reason for not signing the fallback protocol

Over the last couple of years, I have publish several technical working papers and opinion about the LIBOR fallback. The proposed ISDA fallback mechanism is composed on two parts: a floating rate and an adjustment spread.

As demonstrated for a long time, the floating rate mechanism is ill-designed. I refer to my post on CCPs steering away from it.

I have also for a long time warned about the spread in the LIBOR fallback, e.g. in an opinion published in Risk.Net: Signing the LIBOR fallback protocol: a cautionary tale. The spread is a technical mechanism to have a rate, but is certainly not fair in any sense of the term for legacy contract.

Unfortunately up to now it was difficult to have a direct reference to make the spread more fair in USD. In EUR one could refer to EUR-EURIBOR and in JPY one could refer to JPY-TIBOR. In USD there is since a couple of years the IBA Bank Yield Index but it is not yet an official benchmark, only an indicative information.

Today, Bloomberg has announced the launch of their Short-Term Bank Yield Index (BSBY). This means that there will be soon a direct way to avoid the spread with ISDA proposed historical median and used a spread with the same economical meaning than the original LIBOR. Obviously this is not a prefect match, there is a basis between LIBOR and BSBY, but the spread is a lot more relevant than any fixed arbitrary spread. Following the beta period, Bloomberg plans to launch BSBY in Q2 2021 via Bloomberg Index Services Limited, i.e. an authorized benchmark administrator.

End-users who have not signed the ISDA fallback protocol are now in a stronger position than ever to discuss with their counterparties.

They should discuss

  1. The floating rate option: see for example CME steers away from ISDA fallback for some hints
  2. The spread: if you have not sign the protocol you are long the Fallback option: ISDA Fallback as an option. The option may be worth many basis points and there should be soon an explicit mechanism to monetize it.

Don't hesitate to visit my consulting pages for more details about how I can help in the transition: muRisQ LIBOR transition.

Note added 2021-01-21: IHS Markit announced it will also publish a credit spread adjustment from Q2 2021.

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