Financial Health
May 24, 2021

A clearer picture of life without LIBOR

With preparations well in hand, the head of Wells Fargo’s LIBOR Transition Office says the industrywide shift away from LIBOR should be fairly uneventful.

A gif image shows a person's silhouette standing in front of a question mark. A bar graph and the person's shadow appear as the image cycles.
Financial Health
May 24, 2021

A clearer picture of life without LIBOR

With preparations well in hand, the head of Wells Fargo’s LIBOR Transition Office says the industrywide shift away from LIBOR should be fairly uneventful.

Editor’s note: In August 2019, Brian Grabenstein, head of Wells Fargo’s LIBOR Transition Office, provided a primer on the LIBOR transition currently underway in the financial services industry. The effort is focused on replacing LIBOR, a benchmark rate that underlies the vast majority of floating rate financial transactions, with a new alternative. Despite the pandemic, the industry has continued to forge ahead with the transition and has made a number of important decisions that provide greater clarity on the plan moving forward. Grabenstein details the current state of affairs and shares why customers shouldn’t be too concerned about life without LIBOR.

In August 2019, you explained that regulators were telling the financial industry to prepare for ‘a world where LIBOR no longer exists by the end of 2021.’ That deadline is now just seven months away. Will LIBOR still exist after that deadline?

Brian Grabenstein looks toward the camera and smiles
Brian Grabenstein

The December 31, 2021, deadline for using LIBOR is the same, but the end dates have changed. In March 2021, the ICE Benchmark Administration, which publishes LIBOR, announced definitive end dates for LIBOR after extensive consultation with regulators and market participants. All non-U.S. dollar LIBORs, as well as the less commonly used U.S. dollar LIBORs will cease to be published on a representative basis at the end of 2021. The more commonly used tenors of U.S. dollar LIBOR will continue to be published until June 30, 2023. U.S. regulators further stated that those extended U.S. dollar LIBORs could only be used in new contracts through the end of 2021 without presenting financial stability risks. In other words, no new LIBOR contracts after 2021. That was a big deal.

From that decision, we learned three important things. First, we now know for a fact when all of the LIBORs are going to end. Up until that point, regulators were just telling us that they could go away as soon as the end of 2021.

Second, the 18-month extension is going to make for a much smoother transition for the U.S. market. The industry now has this 18-month period where it can’t use LIBOR for new transactions. It also allows for a big chunk of legacy transactions that use U.S. dollar LIBOR to naturally mature and therefore be able to be handled on a much more comfortable timeline.

Third, we now know roughly two years ahead of the end of U.S. dollar LIBOR what the economics will look like when these contracts convert to the alternatives. That makes it a lot easier to have conversations with customers, because it takes a whole bunch of unknowns off the table. That’s probably the single biggest thing that’s happened since August 2019.

Where does the transition currently stand in the U.S.? Is the financial industry prepared to live without LIBOR?

I don’t have visibility into other firms, but overall, I think the industry will be fine. Of course, we all still have work to do, and some market sectors have more work to do than others. I do think that there are pockets like the syndicated loan market that are behind where they should be.

There’s been a big push on the financial industry from U.S. banking regulators such as the Federal Reserve and the Office of the Comptroller of the Currency. But who’s pushing the insurance companies? Who’s pushing the buy side? There are a lot of non-bank market participants who might not have a regulator checking in on them on a regular basis. Likewise, customers are another constituency to think about when considering financial system readiness. Different customers probably have different levels of readiness. Some don’t have much work to do, but for a multinational corporation that’s funding in different currencies and hedging, there’s a fair amount of work to be done.

I’d also point out that there are still some issues that need to get sorted out at the industry level. When will we have a forward-looking term Secured Overnight Financing Rate, or SOFR, for commercial loans? What about credit sensitive rates? These are debates around some pretty fundamental issues that have yet to be decided. The outcome of those debates could have an impact on how we go to market.

That said, Wells Fargo has been closing deals with our clients based on SOFR, from consumer mortgages to corporate loans, and we’ve seen an uptick in interest for SOFR loans this year.

Where does Wells Fargo stand in its preparedness for the LIBOR transition?

We’ve still got some work to do, but we’ve done a lot of work as a firm. I would say that we are probably 80% of the way through our operational readiness, which is huge. I’ve spoken previously about the hundreds of products that needed to be adjusted, as well as the hundreds of systems that needed new requirements, new documentation, and ultimately, new enhanced technology. We’re still working, but we’re done with the lion’s share.

The bottom line is that we are open for business in alternative reference rates, and we are here to help facilitate the transition for our customers. In our consumer business, the majority of our customers’ exposure is adjustable rate mortgages, or ARMs. We stopped offering LIBOR-based ARMs near the end of the third quarter 2020 and introduced SOFR-based ARMs right around last Thanksgiving. We’ve since closed around 4,000 ARMs, and we have a lot more in the pipeline. So far, the transition has been a nonstory.

Wells Fargo was also among the first institutions to put out a series of commercial lending options that use SOFR. We delivered a set of options early in the fourth quarter last year, well ahead of our peers. We also came out with an additional suite of options in this first quarter of this year.

In March, Federal Reserve Vice Chair Randal Quarles said to banks, ‘There is no scenario in which a panel-based U.S. dollar LIBOR will continue past June 2023, and nobody should expect it to.’ What message was he trying to get across?

Sometimes, remarks from officials require some interpretation. That’s often how the official sector speaks, by design. Vice Chair Quarles’ remarks didn’t require much interpretation. He wanted to make a couple of things very clear. First and foremost, no one should count on an extension past June 2023. Secondly, nobody will be using LIBOR in new contracts after the end of this year. His message to banks was loud and clear — move now and, as soon as reasonably practicable, start using LIBOR replacements.

What is Wells Fargo doing to help customers transition to alternative rates?

For our customers with adjustable rate mortgages, I think it’s straightforward. We’re no longer doing LIBOR contracts; we’re just doing SOFR contracts. We’ve got a good product offering that aligns with Fannie Mae and Freddie Mac, and our customers seem perfectly fine with it. For those existing LIBOR-based mortgages, we have a clear transition path, especially for those mortgages that originated in the last year or two. We’re here for our customers if they have any concerns. Our people are trained and have the right resources.

For small business customers, it really should be a nonevent for the majority of them. We’ve introduced a variety of different products, so we’re not taking a one-size-fits-all approach. Some customers want to know what their rate is going to be at the beginning of the accrual period. We have a product for that. Some customers like a structure that reflects the fact that they have a daily changing balance. We have a product for that. Some customers want something that’s going to align with the derivatives market. We have a product for that, too. We can hedge all of those products for customers who want to hedge. So, we’ve got the capabilities. We’ve done a lot of work training our relationship managers. They have the tools and the training to have the conversations with our customers.

Frankly, I don’t expect that the LIBOR transition will come as much of a surprise for most of our customers. This has been covered by all the major news organizations for years. And we’ve been having these conversations with customers and included disclosures in our contracts. But, if customers aren’t aware of it, we’re ready to talk with them about it.

For U.S. customers, has the SOFR rate been on par with LIBOR, or has it been higher or lower?

LIBOR is an unsecured rate. SOFR is a secured rate, so nine times out of 10, SOFR should be lower than LIBOR. So, you can’t just take a LIBOR contract and say, “LIBOR’s gone, so now it’s SOFR.” You actually have to adjust for the fact that one is structurally higher than the other. It’s a relatively straightforward concept. You have two things that are different, so you need to you make them kind of equal so that you don’t create winners and losers. The way the industry has agreed to do this was to look at the relationship between SOFR and LIBOR, their absolute values over a period of five years, and take the average. That’s what will be added to a LIBOR contract that’s moving to SOFR.

In June 2020, you said you were cautiously optimistic about the financial industry’s transition away from LIBOR, but that it ‘may get it a little bumpy’ near the end. Are you still optimistic?

Yes, I’m still optimistic. Consumers are in a good space, by and large. There are a few things we need to get sorted out, but we’ve got the time. The industry has had SOFR now since 2018, and we’ve all been building operational capabilities and customer education around these products. The new products are working, so we feel good about that. There’s more work to do, but I am optimistic.