LIBOR Transition Developments: Fallback Supplement and Protocol to be Released October 23, 2020

On October 9, 2020, the International Swaps and Derivatives Association (“ISDA”) announced that it will release the IBOR Fallbacks Supplement to the 2006 ISDA Definitions (“Supplement”) and the ISDA 2020 IBOR Fallbacks Protocol (“Protocol”) on October 23, 2020, which will take effect on January 25, 2021 (the “Effective Date”).  The 2006 ISDA Definitions will include new fallback provisions to replace references to various key interbank offered rates (“IBOR”) with adjusted alternative risk-free rates applicable upon the occurrence of specified “index cessation events.”

Market participants may use the IBOR Fallback to amend active derivatives and contracts to which the Protocol applies.   To thwart significant market interruption upon the occurrence of the discontinuation of IBOR by yearend 2021, the Supplement and Protocol provide for IBOR exposures to be replaced with the risk-free rates (“RFRs”).  Accordingly, the Supplement and the Protocol provide a tool to transition from the IBORs to RFRs for legacy transactions.

Ahead of the release of the Supplement and the Protocol, market participants may commence use of the new guidance, as the two-week escrow adherence period is now open.  The advance release of the Supplement and the Protocol permits adhering to the Protocol now in escrow or once it opens for general adherence on October 23, 2020.

The Protocol assists market participants with IBOR references in legacy transactions, such as floating rate options in the 2006 ISDA Definitions, by incorporating the new fallbacks into the current documents between adhering parties.  Independent of the Protocol, the amendments apply automatically to derivatives documentation incorporating the 2006 ISDA Definitions on January 25, 2021, the date the Supplement updates the 2006 ISDA Definitions.  The Protocol will remain open for adherence after the January 2021 effective date.

Regarding next steps, we recommend determining whether the Protocol is suitable for the applicable portfolio and if there are contracts or transaction that are best to exclude by agreement from the Protocol.  Adherence to the Protocol requires an “all or nothing” approach and any exclusions must be agreed bilaterally.  Computations and disbursements under cover documents must be scrutinized to prevent miscalculations and defaults.

The IBOR Fallbacks Supplement to the 2006 ISDA Definitions is available here: http://assets.isda.org/media/3062e7b4/23aa1658-pdf/ and the ISDA 2020 IBOR Fallbacks Protocol is available here http://assets.isda.org/media/3062e7b4/08268161-pdf/.  See also the ISDA financial benchmark transition page: https://www.isda.org/2020/05/11/benchmark-reform-and-transition-from-libor/?_zs=gfxuO1&_zl=jeI06.