LIBOR Trigger Events – what does it cover and why do we need to know

Summary

The LIBOR Trigger Event (or its equivalent definition) is a key concept as it is a reference to a list of potential events or circumstances that precipitate the transition from LIBOR to Risk Free Rates. 

It is important to examine and compare this concept across the fallback provisions published by ARRC, ISDA and APLMA/LMA before you adopt it into your loans, derivatives and bonds documentation. 

Any inconsistency may create both operational and basis risks across different asset classes when these contracts are transitioned.

---

Introduction

As we start the year in 2021, the pace to transition the London Inter-bank Offered Rate ("LIBOR") to Risk Free Rates ("RFR") will intensify. 

A number of regulators and trade associations have continued to publish various forms of fallback language which set out contractual provisions that lay out the process for such a transition. 

A key concept within the fallback language is that of a trigger event. This is a reference to a list of potential events or circumstances that precipitate the transition from LIBOR to RFR. This concept is defined differently when used in various forms of fallback language, but we shall refer to it as the "Trigger Event" for the purposes of this article. 

In this article we examine the various Trigger Events set out in the fallback language published by regulators and leading trade associations for loans, bonds and derivatives. 

This is interesting because of the following:

The possibility of multiple transition dates

Many have long presumed that end 2021 will be the long stop date which LIBOR will be discontinued. 

This is because the UK Financial Conduct Authority ("FCA") has stated that after 2021 it will no longer compel banks to submit rates used for calculation of LIBOR and that firms must transition to alternative rates before this date.

However, on 4 December 2020, ICE Benchmark Administration ("IBA") launched a consultation on its intention to cease the publication of one week and two month USD LIBOR settings at end-December 2021, and the remaining USD LIBOR settings only at end-June 2023.

This means that all of the LIBOR rates may not fully transition by December 2021. 

If this is the case, rates that continue past this date must maintain their representativeness until the proposed continuation date of 30 June 2023 or risk triggering a transition pursuant to the occurrence of a Trigger Event. 

The Trigger Event definitions across asset classes may differ

The language for Trigger Events formulated by various regulators and trade associations are substantially – but not exactly – the same. 

This lack or potential lack of consistency may create both operational and basis risks across different asset classes when such contracts are transitioned from LIBOR to RFR. 

It is important for an organisation to take a granular approach when incorporating the Trigger Event definitions so that there is awareness as to which event will or may potentially trigger the transition from LIBOR to RFR.

Which fallback language are we comparing 

In this article, we will compare the concept of Trigger Event for loans, bonds and derivatives published in the following documents:

For loans:

• the ARRC recommendations regarding more robust fallback language for new origination of LIBOR syndicated loans dated 30 June 2020 ("ARRC Syndicated Loans Fallback"); 
• the ARRC recommendations regarding more robust fallback language for new origination of LIBOR bilateral business loans dated 27 August 2020 ("ARRC Bilateral Loans Fallback"); 
• the Loan Markets Association ("LMA") exposure draft facilities agreement incorporating rate switch provisions released on 23 November 2020 ("LMA Rate Switch Agreement"); and
• the Asia-Pacific Loan Markets Association ("APLMA") discussion draft facilities agreement incorporating rate switch provisions released on 23 December 2020 ("APLMA Rate Switch Agreement").

For bonds:

• the ARRC recommendations regarding more robust fallback language for new issuances of LIBOR Floating Rate Notes dated 25 April 2019 ("ARRC FRN Fallback").

For derivatives:

• the International Swaps and Derivatives Association ("ISDA")'s IBOR Fallbacks Supplement ("ISDA Supplement") and IBOR Fallbacks Protocol ("ISDA Protocol") officially released on 23 October 2020 (together, the "ISDA Protocol and Supplement").

*the ARRC Syndicated Loans Fallback, the ARRC Bilateral Loans Fallback and the ARRC FRN Fallback shall be referred to as the "ARRC Fallback Language".

What is a trigger event referred to as? 

Each Trigger Event is defined differently under various forms of fallback languages. See examples below. 

What are the standard trigger events?

Generally, the triggers cover cessation or pre-cessation type events, which are broadly described as follows: 

Are the cessation event triggers consistent across the various fallback language?

Broadly yes. A cessation event will be triggered by the announcement of either the administrator of the relevant benchmark or the regulatory supervisor of the administrator that the relevant reference rate has ceased or will cease permanently and indefinitely (and there is no successor administrator to provide the screen rate). In the case of LIBOR, the administrator is IBA and the regulatory supervisor is the FCA.

Where it differs:

The ISDA and ARRC language goes slightly further than the APLMA/LMA language and includes such public statement or publication of information by the central bank, insolvency official, resolution authority or court with jurisdiction over the administrator of the applicable benchmark. 

In contrast, the APLMA/LMA language covers the occurrence of the following events not specified in the ARRC and ISDA language:

• Public announcement by the administrator or its supervisor that the screen rate "may no longer be used".
• The insolvency of the administrator. 

As a general comment, these are not generally regarded as material differences. Many take the view that the administrator or its regulatory authority is likely to make the definitive cessation announcement – which is an event covered in all the fallback language.

Is the pre-cessation event trigger consistent across the various fallback language?

Broadly yes. A pre-cessation event is triggered if the appropriate authority publicly announces that a benchmark's quality has deteriorated to the extent that it is no longer representative of the underlying market or economic reality. 

Where it differs:

The ISDA and APLMA/LMA language goes further than the ARRC language – it includes the requirements that such representativeness will not be restored and that such announcement is made with the awareness that it will engage certain contractual triggers for fallback provisions in contracts.

Key consideration

One key consideration relates to when a Trigger Event is considered to have occurred and the date on which the switch from LIBOR to RFR will take place. 

Under the ARRC and ISDA language, a Trigger Event will only occur when all relevant LIBOR tenors are affected by that event whilst for the APLMA/LMA language, it will occur if the event affects one LIBOR tenor. See further below.

Is the inconsistency material?

Potentially yes because there is a risk that not all benchmarks will be transitioned by December 2021. 

IBA recently launched a consultation on its proposed plans to discontinue LIBOR for all tenors of GBP, EUR, CHF and JPY LIBOR, and for one-week and two-month USD LIBOR after 31 December 2021, and, for the remaining USD LIBOR tenors after 30 June 2023. 

If the discontinuation of LIBOR tenors is staggered, this may lead to an inconsistency between contracts with the APLMA/LMA language where the switch will occur when a tenor is discontinued, and contracts with the ARRC and ISDA language where the switch will occur only when all relevant tenors of the LIBOR in question are affected.

Conclusion

It is important to review and consider the impact of incorporating the recommended fallback language for each asset class. Most are similar in approaches but not the same. 

To avoid a potential mismatch when transitioning contracts across different asset classes, you should consider (in addition to the concept of a Trigger Event) the differences in calculation methodologies, market conventions and also other related fallback provisions. We will look to examine these other differences in subsequent articles. 

 

Authors: Jean Woo, Partner; Jini Lee, Partner; Evan Lam, Partner and Eric Tan, Partner

Special thanks to Zhan Teng Chua and Susana Chan for their contributions.