Interest Rate Benchmarks
The End of the Beginning for US Dollar LIBOR
Insurance companies in the United States have already made considerable progress toward phasing out LIBOR, but the transition needs to remain a priority until the final June 2023 deadline.
The retirement of almost all London Interbank Offered Rate (LIBOR) settings marked a major milestone in global markets at the turn of the year. While the event passed without market disruption, it has ongoing implications for the insurance sector.
A handful of US dollar LIBOR settings will continue to be published until the end of June 2023, but regulators expect new use of these to be limited. The market-wide cessation of the LIBOR benchmarks has prompted the transformation of financial infrastructure globally. This has had a substantial impact on technology systems and business processes.
In addition, the LIBOR transition has created operational and economic risks for financial services companies, as well as risks related to long-dated liabilities and decentralized regulation. For insurers, time is of the essence to address any remaining LIBOR exposures in portfolios.
Phasing Out LIBOR
Insurers invested in securities linked to one-month or three-month LIBOR, including securitized bank loans and/or mortgage loans, must begin the phasing out of LIBOR if they have not done so already. Those who depend on the issuer to transition the holding to another reference rate need to ensure that existing contracts are transferred to an alternative index. For example, in the US, the recommended LIBOR replacement is the Secured Overnight Financing Rate (SOFR).
The Federal Reserve’s Alternative Reference Rates Committee and various state and federal regulators have all acknowledged the positive momentum in transitioning to SOFR.
At a meeting hosted by the Financial Stability Oversight Council in December 2021, regulators underscored the importance of transitioning to more durable rates, such as SOFR, and highlighted the importance of adopting federal legislation to support the transition of legacy contracts. However, there is still a significant amount of distance to be covered before we cross the finish line in June 2023 – and the course is not straightforward.
From an operational perspective, insurance companies need the systems, infrastructure and knowledge to transition with minimal impact on operations and clients. They need to understand how a post-LIBOR operating environment will affect their processing, accounting and reporting.
Insurers must not be complacent as the industry works toward the June 2023 deadline. Moving away from LIBOR remains a priority and regulators will expect action to be taken.
While preparing to transition to SOFR, over the past two years we have engaged with clients, external vendors, regulators and industry associations to help navigate the path forward.
This experience has proven crucial to our understanding of how the LIBOR-SOFR transition is affecting our clients, and we continue to hold working sessions with clients to understand their evolving needs. We use these sessions to share guidance and, in total, have updated more than 100 systems and implemented dozens of new processes. Testing our systems with the new alternative reference rates was key to gaining a better understanding of how these rates worked, and discovering gaps that needed to be addressed. We are keen to share these experiences with those that are still on this path.
With less than 18 months left to transition the remaining LIBOR exposures, we urge insurers not to wait any longer – get these issues resolved now.