BOE RFR WG on swap fixes for legacy GBP LIBOR swaptions and CMS

The BOE-convened working group on sterling risk-free rates has published a paper on swap fixes for legacy sterling LIBOR swaptions and CMS.

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The BOE-convened Working Group on Sterling Risk-Free Rates has released on consultation paper on producing a fallback swap fix for legacy sterling LIBOR non-linear derivatives (link)


The paper sets out a potential methodology using SONIA-based swap fixes which could form a replacement for the sterling LIBOR swap fix. Note that ICE began publishing a SONIA swap fix in December 2020 (link).


In November 2020, the Working Group, published a paper describing how a non-linear derivative market, based on a risk-free rate, could be structured using compounded-in-arrears SONIA for a wide range of products (link)


The paper flagged an issue from the discontinuation of ICE swap fixes which could have implications for cash settled swaptions, as well as other products (e.g. CMS).


CCPs clearing sterling LIBOR contracts are expected to cease clearing those contracts on the permanent cessation of GBP LIBOR (scheduled for the end of 2021), resulting in the inability of contract holders to exercise a GBP LIBOR-based swaption with cleared physical settlement. Under the current ISDA fallback terms, the settlement of such a contract will revert to cash settlement at a price (“Collateralised Cash Price”), which is calculated using the GBP LIBOR ICE Swap Rate (ISR). Discontinuation of the GBP LIBOR ISR, following the cessation of sterling LIBOR, will therefore have implications for all GBP LIBOR cash-settled or cleared-settled swaptions using those fallback terms, because all such swaptions become cash-settled and hence dependent on a published ISR being available. The paper continues:


“…The Working Group has always acknowledged the need to support the transition of legacy contracts and the possible use of GBP swap rates such as the GBP SONIA ISR as a building block is consistent with this approach. The purpose of this paper is to document how the NLTF has been considering the use of SONIA swap rates to develop a potential methodology for a replacement for GBP LIBOR ISR....A replacement for GBP LIBOR ISR can be constructed as follows:


  • GBP SONIA ISR for relevant tenor, plus

  • Fixed spread adjustment, published by Bloomberg and applicable to GBP LIBOR fallbacks in Supplement 70 to the 2006 ISDA Definitions, based on the median of the differences between GBP LIBOR in the relevant tenor and SONIA compounded over each corresponding period over a static five-year period (ISDA Spread), plus 

  • The convexity adjustment calculation to compensate for the varying payment frequencies between the fixed and floating legs of the GBP SONIA ISRs and the GBP LIBOR ISRs.


“…The replacement formula described in this paper could be adapted to other markets where the discontinuation of the relevant ISRs is likely to trigger similar challenges. The ARRC in the US has expressed an interest in this approach and, as a result, the NLTF on behalf of the Working Group and the ARRC have agreed to engage in an international collaboration aimed at addressing this topic." 


The last update/timeline  from the Working Group, published in Jan 2021, suggested that non-linear derivatives market participants would need to be ready to transact in SONIA by Q2. For legacy products, active conversion was considered likely to take place among counterparties in Q3 2021, according to the Working Group.