German automaker BMW Group set a new corporate milestone in April, executing $1.25bn of swaps referencing SOFR, the Secured Overnight Financing Rate, with BNP Paribas to hedge bonds issued by BMW US Capital. It is the largest corporate interest rate swap linked to the new risk free rate (RFR) to date.
SOFR is published by the New York Federal Reserve and will replace USD Libor. BNP Paribas executed the full size of the swaps and then syndicated to other banks in BMW Group’s banking group in a process known as “hedge coordination”.
Since last year, BMW Group has been proactively moving to new RFRs across senior bond and asset-backed securities issuances, as well as derivatives in other currencies like the British pound.
Fredrik Altmann, Director of Corporate Finance at BMW Group, described the transaction as an “important step for [the BMW Group] in transitioning our global portfolio to new benchmark rates.” He added “the BMW Group decided to embrace the transition at an early stage by adapting internal systems and deploying a pioneering transition strategy for financial market activities.”
The BMW Group decided to embrace the transition at an early stage by adapting internal systems and deploying a pioneering transition strategy for financial market activities.Fredrik Altmann, Director of Corporate Finance at BMW Group
The end of Libor
The London interbank offered rate, or Libor, has been one of the main interest rate benchmarks for financial contracts around the world for over 40 years. But the low volume of underlying interbank transactions after the global financial crisis that was started by the subprime mortgage crash of 2008 cast doubts over its future and regulators began to plan a move to more reliable benchmarks.
On 5 March this year, the UK regulator Financial Conduct Authority (FCA) and ICE, the administrator of Libor, announced that Libor in EUR, CHF, GBP and JPY will cease to be published from 31 December 2021. USD Libor will be published until 30 June 2023.
Libor transition accelerates
With the first Libor cessation dates just nine months away, corporates across the world are confronting the complex task of transitioning to new RFRs.
Interest in hedging transactions referencing new benchmarks has increased since the beginning of March when it was announced Libor would be phased out from December 2021.
While banks and financial institutions have adopted the new RFRs widely already, corporates have been slower to transition. Many of their funding instruments and commercial contracts do not include fall-back clauses and require consensual renegotiation. Companies must also update and test their treasury systems to book contracts linked to new RFRs.
The Bank for International Settlements (BIS) has estimated that over $200 trillion of financial instruments globally still reference Libor, with the vast majority of that exposure in the form of derivative contracts. This compares to $400 trillion in mid-2018.
“Following the cessation announcement at the beginning of March, a growing number of corporates have begun to embrace the IBOR transition,” said Ashley Parker, Co-Head of Corporate Interest Rate & FX Sales EMEA. “Not only do they feel more confident executing new swaps in significant sizes like the BMW trade, they are also turning to us to help them transition inventory positions actively.”
Following the cessation announcement at the beginning of March, a growing number of corporates have begun to embrace the IBOR transition. Not only do they feel more confident executing new swaps in significant size like this, they are also turning to us to help them transition inventory positions actively.Ashley Parker, Co-Head of Corporate Interest Rate & FX Sales EMEA, BNP Paribas
Libor is so deeply embedded in the commercial world that some companies had been holding out for so-called “term rates” which replicate Libor’s maturity structure. However, Parker warns that there is no guarantee the market will support these rates and, given the scale and complexity of the transition, regulators are now urging all market participants to move to the new overnight RFRs ahead of the upcoming cessation dates.
“Ensuring a seamless transition away from Libor is now a key priority for financial markets,” he said. “We’ll continue to support all our corporate clients in navigating the transition away from Libor and converting their financial liabilities to new risk-free rates such as SOFR or Sonia, the Sterling Overnight Index Average.”