IOSCO – Statement on Credit Sensitive Rates

September 8, 2021 – IOSCO issued a statement on the compliance of credit sensitive rates with principles.

Background: Credit sensitive rates are interest rate benchmarks that seek to measure the credit risk component of unsecured borrowing in certain markets (which SOFR does not contain). These rates have started to emerge as a possible alternative to USD LIBOR.

Overview: Regulators are concerned some of LIBOR’s shortcomings may be replicated using credit sensitive rates that lack sufficient underlying transaction volumes. The decline in the underlying activity of some of the credit sensitive rates during stress periods, such as the COVID-19 pandemic, raises additional regulatory concern. IOSCO reiterated the importance of continued transition to robust alternative financial benchmarks, i.e., risk-free rates, to mitigate risks arising from the cessation of LIBOR. IOSCO’s statement highlighted those alternative financial benchmarks will need to be compliant with the IOSCO principles on financial benchmarks (IOSCO principles). Demonstrating compliance with the IOSCO principles is not a one-time exercise and alternative benchmarks should be always IOSCO-compliant.

Principles 6 and 7: IOSCO calls for benchmark administrators to pay more attention to principles 6 and 7.Principle 6 refers to relative size of underlying market in relation to volume of trading.Principle 7 emphasizes importance of data sufficiency in a benchmark’s design to accurately and reliably represent the underlying market measured by the benchmark.IOSCO calls on administrators to assess whether systemic benchmarks are based on active markets with high volumes of transactions, representing the underlying interest they intend to measure, and whether they are resilient during times of stress. Benchmark administrators of credit sensitive rates should consider how benchmarks would continue to meet principles 6 and 7 over time if use became widespread. Users of benchmarks should also consider the robustness and reliability of the benchmarks they choose and ensure that they have reliable fallback mechanisms.

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