As a result of the financial crisis in 2008, the U.S. and international banking regulators have been expressing concern about London Interbank Offered Rate (“LIBOR”) due to a lack of a deep and liquid market in unsecured intra-bank transactions, reducing the reliability of LIBOR indexes. These regulators have stated that the market needs to transition to an alternative reference rate for floating rate transactions.
On March 5, 2021, LIBOR’s primary regulatory, the United Kingdom’s Financial Conduct Authority (“UK FCA”), and the LIBOR administrator, ICE Benchmark Administration (“IBA”) formally announced that all LIBOR tenors will either be discontinued or declared non-representative as of June 30, 2023, with some being discontinued as early as December 31, 2021. Under the LIBOR fallback language provisions included in American AgCredit loan documents, legacy LIBOR loans will continue to be indexed to LIBOR until their first interest reset date after June 30, 2023. After that date, LIBOR indexed loans will transition to an alternative reference rate plus a spread adjustment. After December 31, 2021, American AgCredit will no longer enter into new contracts or renew existing contracts using a LIBOR index as a benchmark interest rate.
Recently, U.S. banking regulators (including the Farm Credit Administration) issued supervisory guidance encouraging banks to transition away from using LIBOR for new loans as soon as practicable and in any event by December 31, 2021, and the banking regulators stated the following:
- With respect to new financial contracts entered into before December 31, 2021, the regulators instructed banks/associations to either utilize a reference rate other than LIBOR or have robust fallback language in their loan documents that include a clearly defined alternative reference rate after LIBOR’s discontinuation.
- With respect to new contracts entered into after December 31, 2021, the regulators instructed banks/associations that they will consider new instruments indexed to LIBOR, as a safety and soundness issue and encouraged institutions to stop entering into new LIBOR based contracts by the end of 2021. The statement did include some exemptions for institutions for hedging and meeting obligations under legacy contracts.
SOFR AS A REPLACEMENT REFERENCE RATE
The Federal Reserve convened the Alternative Reference Rate Committee (“ARRC”), which has recommended the creation of an alternative called the Secured Overnight Financing Rate (“SOFR”) as a replacement benchmark rate. SOFR is a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities and is completely transaction-based. The Federal Reserve Bank of New York began publishing SOFR trading data on April 3, 2018. The ARRC’s revised recommended LIBOR fallbacks for business loans contain a waterfall for selection of the alternative reference rate and is as follows:
|Benchmark Replacement Waterfall|
|Step 1: Forward-Looking Term SOFR and Adjustment|
|Step 2: Daily Simple Average SOFR and Adjustment|
|Step 3: Lender Selected Rate and Adjustment|
As of the date of this writing, the Forward-Looking Term SOFR rate does not yet exist and will need to be derived from transactions in the SOFR derivatives market. The indexes will be published by a third-party administrator under an approved/endorsed calculation methodology. However, on March 23, 2021, the ARRC stated they will not be able to recommend forward-looking SOFR Term indexes by mid-2021. Additionally, the ARRC also stated they cannot guarantee that it will be able to recommend an administrator that can produce robust Term index by the end of 2021.
This transition remains very fluid as of this writing and additional new benchmarks could potentially become available in the near future.
WHAT AMERICAN AGCREDIT IS DOING
As members of several industry-wide committees and regulatory advisory committees, American AgCredit and other Farm Credit institutions are actively monitoring and participating in discussions with industry groups and financial regulators about the transition of LIBOR as a benchmark for floating rate transactions. American AgCredit is working with our borrowers to ensure they understand the implications of the index transition, that the loans are properly documented, and alternative reference rate products are available for our members. American AgCredit has been working to ensure appropriate LIBOR replacement language is included in all loans, which is mostly based on ARRC recommended language.
American AgCredit is supporting the following descriptive transition language in our loan documents (please reference the definitions below for terms within quotations “ ”):
On the earlier of (A) the date that all “Available Tenors” of a LIBOR rate have either permanently or indefinitely ceased to be provided by IBA or have been announced by the UK FCA pursuant to public statement or publication of information to be no longer representative and (B) the “Early Opt-in Effective Date”, if the then-current “Benchmark” is the LIBOR rate, the “Benchmark Replacement” will replace such “Benchmark” for all purposes under any loan documents in respect of any setting of such “Benchmark” on such day and all subsequent settings without any amendment to, or further action or consent of any party to the subject loan documents. If the “Benchmark Replacement” is “Daily Simple SOFR”, all interest payments will be payable on a quarterly basis.
Upon the occurrence of a “Benchmark Transition Event”, the “Benchmark Replacement” will replace the then-current “Benchmark” for all purposes hereunder and under any loan document in respect of any “Benchmark” without any amendment to, or further action or consent of any other party to the loan documents. At any time that American AgCredit has permanently or indefinitely ceased to provide such “Benchmark” or such “Benchmark” has been announced by the regulatory supervisor for the administrator of such “Benchmark” pursuant to public statement or publication of information to be no longer representative of the underlying market and economic reality that such “Benchmark” is intended to measure and that representativeness will not be restored, the Borrower may revoke any request for a borrowing of, conversion to or continuation of loans to be made, converted or continued that would bear interest by reference to such “Benchmark” until the Borrowers’ receipt of notice from American AgCredit that a “Benchmark Replacement” has replaced such “Benchmark”, and, failing that, the Borrower will be deemed to have converted any such request into a request for a borrowing of or conversion to another internal rate.
At any time (including in connection with the implementation of a “Benchmark Replacement”), (A) if the then-current “Benchmark” is a term rate (including Term SOFR or LIBOR), then American AgCredit may remove any tenor of such “Benchmark” that is unavailable or non-representative for “Benchmark” (including “Benchmark Replacement”) settings and (B) American AgCredit may reinstate any such previously removed tenor for “Benchmark” (including “Benchmark Replacement”) settings.
Please contact your Relationship Manager to discuss the LIBOR transition of your existing loans and the alternative benchmark rate loan products which will become available in the future.