The London Interbank Offered Rate, commonly known as Libor, has been described as “one of the biggest financial scams in history” – quite an assertion, considering the amount of competition for the title. But a report by Oliver Wyman - Changing the World’s Most Important Number:  Libor Transition - suggests that the transition away from Libor will be complex, difficult and expensive for financial institutions. Alternative reference rates for the major currencies have already been identified by working groups convened by regulators and, after the end of 2021, the UK's Financial Conduct Authority (FCA) will no longer persuade or compel banks to submit rates to calculate Libor. The report states that, even if Libor is not discontinued, regulatory pressure to transition to new rates is expected to increase.

The report's co-author, Oliver Wyman's Serge Gwynne, commented: “Libor is a cornerstone of the financial industry today, and a transition away from it would impact a vast array of products, businesses, systems and processes, as well as customers and counterparties. The potential for negative public response, conduct risk, and litigation is very real.”

Seven facts about Libor

1. Libor is the world's most widely-used benchmark rate, used to calculate interest rates on loans, particularly on short-term loans between banks.
2. It's based on five currencies (US dollar, euro, sterling, Japanese yen and the Swiss franc) and is managed by ICE Benchmark Administration (IBA).
3. The most common Libor rate is the three-month dollar rate, but there are seven maturities, ranging from overnight to one year, and 35 different Libor rates are issued every week day.
4. More than US$240 trillion in financial products globally use Libor.
5. Financial products that use Libor include: wholesale and retail products, including corporate loans, floating rate notes, derivatives, mortgages, and other securities.
6. The cost of transition could be greater than $200 million for some banks, according to Oliver Wyman's report.
7. In 2012, the Libor manipulation scandal involving several member banks, including Barclays Bank, led to regulatory reform and oversight of the benchmark, following recommendations set out by the Wheatley Review.  

Impact on companies

And there will be a considerable impact for firms that use Libor and the companies and individuals who use financial products that use Libor. The report states: “The transition from Libor will bring considerable costs and risks for financial firms. Since the proposed alternative rates are calculated differently, payments under contracts referencing the new rates will differ from those referencing Libor. The transition will change firms’ market risk profiles, requiring changes to risk models, valuation tools, product design and hedging strategies.”

Nonetheless, financial institutions are being urged to begin preparing for transition away from Libor. Oliver Wyman's Adam Schneider added: “While the discontinuation of Libor may seem far away, the magnitude of the transition and potential for financial impact means financial institutions must start mobilising near term.”