A report from Oliver Wyman, A Tale of Two Benchmarks: The Future of Euro Interest Rates, warns that financial institutions need to start preparing now for the transition away from the Euro Overnight Index Average (Eonia) and the Euro Interbank Offered Rate (Euribor) rates or face increased costs and risks.
Eonia and Euribor are important interest rates for eurozone countries but they don't comply with the recently introduced EU Benchmarks Regulation (BMR). The European Central Bank (ECB) is working on an alternative to Eonia, called the Euro Short-Term Rate (ESTER), which is due to be launched before 2020. And there are plans to reform Eonia although there are questions over whether this is achievable by the 1 January 2020 deadline and Oliver Wyman states: “Given the volume of business involved, companies should have a Plan B for Euribor reform.”
5 steps to prepare
The report emphasises that, while the reform processes for both Euribor and Eonia are in flux, market participants should not wait to act. It identifies five steps firms can take to prepare for the transition:
- Support industry-wide initiatives to reform Euribor and to develop alternative reference rates for both Euribor and Eonia.
- Ensure robust written contingency plans are in place in case a benchmark materially changes or ceases, as required by BMR.
- Take "no-regrets" moves to mitigate potential future challenges and risks, such as changes to fall-back language in contracts, evaluating conduct and legal risks, and making disclosures to clients related to new transactions referencing Euribor or Eonia.
- Perform an "enterprise scan to assemble an inventory of Euribor and Eonia usage across products and front-to-back process, and to assess transition challenges and impacts.
- Develop a phased transition playbook so that a programme can be launched and executed quickly if and when needed.
Shorter transition time
Oliver Wyman partner Serge Gwynne commented: “Preparations are already underway for a transition away from LIBOR, the equivalent to Euribor for US Dollars and other major currencies. However, there has been much less attention on Eonia and Euribor, which will have a much shorter transition time. Firms need to act now to develop transition plans, with transition estimated to cost over $100 million for some firms. Delaying action will only increase the final transition costs and will amplify the financial, operational and reputational risks.”
Gwynne also explained that the transition to the new benchmarks would be particularly challenging for those already dealing with the realities of a LIBOR conversion. He added: “Since Eonia and Euribor are not compliant with BMR, this means they cannot be used for contracts entered into after 2020 unless remedial actions are undertaken to reform the benchmarks.”
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