London is losing Libor, the London Interbank offered rate benchmark, to the NYSE Euronext, in a sale meant to bring more accountability to the scandal-plagued rate.
The terms of the deal weren’t disclosed, but my first question was: How is that going to work?
Most of the media coverage started off with more background about Libor and its recent struggles, saving the details for how Libor might operate for the bottom. This was probably the right approach for a general audience, but the nerd in me was curious exactly how an exchange might run this process.
Apparently, there won’t be an immediate shift in how Libor is determined, according to the Wall Street Journal. Below are excerpts, so be sure to read the whole story:
Since its inception in the 1980s, Libor has been run by the British Bankers’ Association, a London-based trade group whose members are some of the world’s biggest banks. But the rate has been engulfed in scandal in recent years, due to attempts by a number of banks to manipulate the rate for their own financial gain. Three banks have settled rate-manipulation charges, agreeing to pay a total of roughly $2.5 billion in penalties to U.S. and British regulators.
At the same time, the transaction highlights the rise of companies such as NYSE Euronext into major players in the markets for financial derivatives. Libor and other related benchmarks serve as key components in many of those derivatives contracts, which are traded on exchanges owned by NYSE Euronext. The company itself is in the process of being acquired by IntercontinentalExchange Inc., an Atlanta-based company that operates exchanges around the world.
At least initially, NYSE Euronext is expected to continue the current process for calculating Libor, basing the rate on daily estimates from banks about how much it would cost them to borrow money from other banks, according to a U.K. Treasury official. That process will be supplemented by cross-checking those submissions against market transactions, the official said.
In the future, the new owner plans to work with market participants and regulators to “evolve how Libor is calculated” to bring it in line with recommendations last year from another U.K. commission, the official said.
The New York Times story offered this context about how NYSE was selected and the purpose behind the sale of the rate:
Until now, the daily process through which Libor is set has been run by the British Bankers’ Association, an industry group in London. A British government review of Libor led by Martin Wheatley, at the time the managing director of Britain’s Financial Services Authority, recommended last fall that the responsibility for formulating Libor should be given to an “independent party.”
NYSE Euronext beat other contenders, including the London Stock Exchange, said a person briefed on the process, who spoke on the condition of anonymity ahead of a public announcement.
The company was picked by an independent committee led by Sarah Hogg, chairwoman of the regulator responsible for financial reporting, after a tender process that started in February. The deal will still need to be approved by the Financial Conduct Authority, now led by Mr. Wheatley.
The so-called Wheatley Review recommended that Libor should continue to be set through daily consultations with the world’s largest banks. But while those banks now provide estimates of how much they are charging for short-term loans, in the future the administrators of Libor are also supposed to use data from actual short-term loans.
The Reuters story had the best skeptical take on the deal:
But with uncertainty about the future regulation of Libor – and given NYSE Euronext is being bought by U.S. peer IntercontinentalExchange (ICE) (ICE.N) for $8.2 billion – not everyone was convinced by the appointment.
“We had a ‘fox guarding the henhouse’ issue here, and we should learn from that,” said Bart Chilton, a member of the U.S. Commodity Futures Trading Commission (CFTC) regulator.
Chilton added: “I firmly believe that having a truly neutral third-party administrator would be the best alternative, and I’m not sure that an exchange is the proper choice.”
NYSE Euronext did not say in its statement how it would address such concerns, but the source close to the situation said it would involve “a very strong governance and oversight regime”. This would based around an oversight committee and involve a code of conduct “to ensure there is no repeat of what we’ve seen in the last few years”, the source added.
British and U.S. regulators have so far fined three banks -Barclays Plc (BARC.L), UBS AG (UBSN.VX) and RBS (RBS.L) – a total of $2.6 billion and two men have been charged for manipulating Libor and similar benchmark rates. But more banks and individuals remain under investigation.
But what is clear is the importance of Libor in determining investor returns, the rates paid on mortgages as well as other financial pricing points. The Wall Street Journal has this primer:
More than $800 trillion in securities and loans are linked to the Libor, including $350 trillion in swaps and $10 trillion in loans, including auto and home loans, according to the Commodity Futures Trading Commission. Even small movements—or inaccuracies—in the Libor affect investment returns and borrowing costs, for individuals, companies and professional investors.
Either way, bringing a sense of integrity and transparency back to the rate is important. But what’s also interesting is how little the general public knows or cares about Libor. A prominent CEO lost his job (Bob Diamond at Barclays) and several banks have paid fines, plus, it’s a rate that actually affects most people, even if they don’t know it.
It seems that more investors should have been outraged by the manipulation and pay attention to its sale. Here’s hoping that NYSE can bring more transparency and oversight to the benchmark to avoid any future misconduct.
