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Summary of Libor and SOFR Changeover

Well there has been chatter in the comments today and through the power of the group I think we have figured it all out.

As most of you know Libor (London Interbank Offered Rate) will go away on 6/30/2023. This brings the question of ‘what happens to the fixed to floating preferreds that have their coupons tied to 3 month Libor?’

Note that virtually all the issues that have been sold in recent months are using the ‘fixed rate reset’ terms—when they move into the reset periods they base the rest rate on the 5 year treasury plus a fixed ‘spread’.

Additionally the fixed to floating rate issues sold in the last year or two have qualifying language which states that if Libor is unavailable (doesn’t exist) a substitute will be chosen.

Believe it or not congress passed a bill on 3/15/2022 (Adjustable Interest Rate Act).

What this bill does is ‘punts’ the decision on what will be used to reset these floaters to the Federal Reserve. The info is here. (Thanks Roger and nhcoast for digging)

The Federal Reserve opened the topic up for comments–comments could be made up until today.

So the bottom line is we don’t know yet and the decision has not been made–BUT the strong opinion of many (and I think the most likely answer) is that starting 6/30/2023 3 month SOFR (Secured overnight financing rate), plus an adjustment of .2616 basis points will become the floating portion on these issues (the current 3m libor floaters and fixed to floating).

Thanks to everyone who chimed in on this discussion—I’ll be able to sleep tonight knowing that we know we have no answer–which is better than thinking there is an answer but you don’t know what it is.

18 thoughts on “Summary of Libor and SOFR Changeover”

  1. Bur-100% agree most issuers will chose the Fed’s recommended “safe harbor” term SOFR to replace LIBOR for these floating rate preferred securities. What is not clear, is what “Credit Adjustment Spread” (CAS) will they use to compensate for the difference in secured (SOFR) vs unsecured rate (LIBOR) index. Not sure where you got the info they likely will use 26 basis points. On most new issues, Banks have been using 10/15/25 basis points for CAS depending on term. So, agree we can expect to see the 90 day Term SOFR+CAS (hopefully 26 or perhaps 15bpts)) to replace LIBOR. As of the Jan 17, 2023, the credit spread between 90 day LIBOR and 90 SOFR was actually about 17 basis points. So, the net negative/positive to the security owner should be very close. Also, since banks have much more loans tied to 90Day LIBOR, they are likely to use a higher credit spreads (CAS) in order to get better loan yields. So, floating preferred stockholders should benefit. Also, it is my understanding, these securities typically have a 90-day rate lag. The actual cash dividend paid uses the rate index+LIBOR that was set at ex-dividend date 90 days earlier. So, when (and if) rates begin to fall-this will be another benefit and is the reason the re-pricing has been slow in this rising rate environment. Many of these securities should see larger increases beginning in Feb ‘23.

  2. Reading the prospectus of many floating issues, I don’t see SOFR as a replacement for LIBOR. Most languages call for a LIBOR calculation – so in that absence it falls back to the last divy period (prior to 6/30/23).

    There are a few that references to 3 month cash deposit rates if there is no Libor rate – is that the example where the SOFR rate would come to play?

  3. We should not forget that fixed to float preferreds are tiny minnows in the libor pond. The majority of money tied to libor are corporate loans/bonds. A lot of “revolvers,” corporate revolving credit lines are tied to libor. Many of these have shorter terms that perpetual preferreds, but I suspect the dollars/euros/bunds/whatever dwarf our small issues. So the libor replacement solution is more likely geared to “them”, not “us.” If preferreds happen to get fixed at the same time, that is fine, but if NOT, the sharks are probably not going to lose much sleep over it.

  4. i have confidence the government will “protect” libor based preferred holders. Just like the SEC “protects” us from buying certain illiquid securities.

  5. It’s NOT a dead horse, it’s extremely highly relevant. So much is tied to libor it’s ridiculous. And what exactly a prospectus says is lost on me. So there is libor/there is sofr/there is the prospectus.

    If a payor is marginalized due to losses……. will they try to use the prospectus to weasel out of paying sofr?

    1. If you Prefer – Cohen and Steers posited that possibility, but when the Fed makes the determination I think it is unlikely company’s will try to weasel out–but who knows for sure.

    2. I think this mitigates that problem.
      Even if the LIBOR contract contains a fallback provision, the provision will be deemed void if the replacement benchmark rate is based on a LIBOR value (except to account for the difference between LIBOR and the benchmark replacement) or if the person with authority to determine the benchmark replacement is to do so through conducting “a poll, survey, or inquiries for quotes or information concerning interbank lending or deposit rates[.]”
      …….Many of the these Libors have fallback language that is referenced above, including the final straw, “whatever the last official quote was” if none is available.

      1. In a way, doesn’t this have an unintended consequence of weakening the power of prospectuses in general? I’ve always thought if you have a question about an issue, always go to the prospectus as gospel no matter how difficult to interpret its language may be. It appears as though that won’t be the case when it comes to LIBOR transition… If an issuer clearly outlined in a prospectus what they were going to do when LIBOR went away, that won’t necessarily be the case it seems.

        1. 2WR,
          That’s not quite the way I interpret that paragraph. I think what it says is that the fallback will be void when the fallback itself is also based on LIBOR, but not otherwise.

      2. So can anyone tell me is this better for investors of adjustable preferred’s or worse?


        1. On the surface it looks like it’s roughly comparable.

          – Per https://www.cmegroup.com/market-data/cme-group-benchmark-administration/term-sofr.html, latest 3M SOFR is 2.97467, so:
          3MSOFR + %0.26161 = 3.23628%
          – Per https://www.bankrate.com/rates/interest-rates/3-month-libor/, 3ML is 3.08%

          Using those figures, an investor would be 156bps better off after the switch. But of course we won’t know until the rules are finalized and (more importantly) implemented.

      3. Good point Gridbird! I had forgotten that the new law rendered provisions requiring an informal poll invalid.

  6. “the decision has not been made”

    At least that’s what they’re telling us. Who knows, it might even be true.

    1. David–I am sure it is likely a strong ‘leaning’ is in place–but they have to go through the motion of asking for comments.

  7. Apologies in advance for beating the dead horse, but re: “So the bottom line is we don’t know yet and the decision has not been made–BUT the strong opinion of many (and I think the most likely answer) is that starting 6/30/2023 3 month SOFR (Secured overnight financing rate), plus an adjustment of .2616 basis points will become the floating portion on these issues.”

    … where “these issues” means “fixed to floating preferreds that have their coupons tied to 3 month Libor,” correct? In other other words, what we know today is that 3ML will be replaced with 3MSOFR + %0.26161?

    1. Bur–correct. It would include fixed to floaters and pure floaters with libor.

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