In what could be the first step in moving away from the Guaranteed Overnight Funding Rate (SOFR) as a replacement rate for LIBOR, the Loan Syndications & Trading Association (LSTA) has released a market briefing note. titled ” Credit-Sensitive Rate slot-in jumper for backup language, “providing lenders and borrowers with an example of credit-sensitive rate language to use as part of the wider range of potential LIBOR replacements.  The new rider is part of a broader LIBOR pullback framework previously released by the Alternative Reference Rates Committee (ARRC), providing lenders and borrowers with the recommended language to more specifically tailor loan and mortgage interest rates. related products as a result of the transition away from LIBOR. When a replacement rate, such as SOFR, may not be ideal, the language of the sample offers lending institutions the option of using a single credit-sensitive rate or multiple credit-sensitive rates.
At the end of 2021, the panel banks submitting rates on the London interbank market – these rates being the basis of LIBOR – would no longer have to do it, effectively ending LIBOR as a viable benchmark interest rate. ARRC offered advice on transitioning from LIBOR, recommending SOFR as the benchmark replacement rate. Specifically, the ARRC recommended introducing fallback language on LIBOR in loan documents in the future, allowing LIBOR to transition in a structured or “hard-wired” manner, without parties to loan agreements having to. need to change or terminate suddenly when LIBOR ceases to exist.
Efforts to include the LIBOR fallback in loan documentation have been largely successful. ARRC’s March 2021 The progress report noted the success of various fallback approaches and the adoption of ARRC hardwired fallback language in the majority of institutional lending as of February 2021.
Credit sensitive rates as an alternative to LIBOR
While efforts to include LIBOR pullback in loan documentation have been largely successful, such success does not mean that markets have moved to SOFR as a replacement for LIBOR. The SOFR represents the cost of overnight borrowing guaranteed by Treasury securities and is generally considered to be a risk-free rate. Many lenders continue to seek a benchmark rate that reflects the cost of unsecured borrowing (called a credit sensitive rate), which more closely approximates their financing costs. In addition, SOFR is an overnight rate and attempts, so far, to create a “SOFR term” which could be known in advance and fixed for a period (in a manner similar to one, two. , three and six months LIBOR) failed.
In response to these market pressures, the Board of Governors of the Federal Reserve (Federal Reserve), the Federal Deposit Insurance Corporation (FDIC) and the Office of the Comptroller of the Currency (OCC) have convened a series of “Credit Sensitivity Group” “workshops to explore credit-sensitive rates as potential substitutes for LIBOR. Additionally, while the ARRC may have opted for SOFR as the replacement rate, the Federal Reserve, OCC and FDIC noted that ‘they did not approve any specific replacement rate for LIBOR, such as SOFR, noting that “[a] the bank may use any benchmark rate for its loans that the bank deems appropriate for its funding model and customer needs. ”  The statement reiterated the voluntary use of SOFR and noted that banks may want to explore other alternative rates, including “credit-sensitive alternatives”.
Fallback language for credit sensitive rates
Following discussions at the Credit Sensitive Group workshop, the LSTA drafted an addendum that adds an option to the recommended LIBOR wired fallback language. The new language takes the form of an addendum, which adds (or replaces) the definition of the alternative benchmark rate, to be included in the existing cascade of potential benchmark replacements.
The definition of the alternative benchmark rate is drafted to accommodate multiple rates depending on the definition. The project offers four alternative prices:
- AMERIBOR, provided by American Financial Exchange LLC,
- “Bank Yield Index” provided by ICE Benchmark Administration,
- BSBY, the Bloomberg Short Term Bank Yield Index provided by Bloomberg Index Services Limited, and
- IHS Markit credit rate provided by IHS Markit.
Lenders and borrowers are not required to use recommended benchmarks and do not have to use a set number of benchmarks. The rider is designed to be flexible and a single credit sensitive rate or multiple credit sensitive rates can be used. LSTA notes that multiple rates allow the lender and borrower to respond to market trends as they evolve, providing greater convenience up front, rather than being locked into a single rate. This approach acts as a safety net as it is not clear which rate might be the best choice when the deal is made, nor which rate might appear as a clear favorite when LIBOR goes. The ultimate goal of the rider is to provide the language for any potential LIBOR replacements to be made.
While any of these credit-sensitive rates may IOSC Principles for Financial Benchmarks as a viable benchmark rate, or capable of reaching them before January 1, 2022 when new funding must use a benchmark rate other than LIBOR, remains to be seen. As such, a SOFR-based rate may well be in our future, at least for a while. What this LSTA notice shows is that markets may prefer to replace LIBOR not with a single, rigid rate, but rather with a flexible collection of rates that will be selected based on favorable market conditions. The LSTA has drafted the Credit Sensitive Rate Rider to help achieve this goal.
 The driver is available from LSTA on their website at https://www.lsta.org/content/csr-slot-in-rider-for-fallback-language-market-advisory/.
 Statement on loan benchmarks published on November 6, 2020.