It is estimated that there are currently around 200,000 LIBOR-linked residential and buy-to-let mortgages in the UK. LIBOR is deeply embedded in business practices in the mortgage market, particularly in the specialist lending sector, and understandably there is a great deal of uncertainty to be addressed before many mortgage lenders will feel confident in their LIBOR transition programmes.
There are three key messages being delivered by regulators:
Although the FCA has recently published a question and answer statement outlining their expectations for firms on mitigating and managing conduct risk during LIBOR transition, there remain a number of unanswered questions.
What are the key challenges for mortgage lenders?
Substituting one rate for another in a mortgage contract is likely to lead to a transfer of value (one party will lose and another will gain), which will need to be addressed as part of the transition plan. If appropriate provision is not made to re-balance this value transfer, there is a risk of disputes.
Recognising the complexity associated with the transition of legacy contracts away from LIBOR, the Working Group on Sterling Risk-Free Reference Rates has recently announced the mobilisation of three new task forces including the Tough Legacy Task Force (to identify and mitigate the extent of contracts unable to convert away from LIBOR) and the Cash Market Legacy Transition Task Force (to highlight approaches to convert existing contracts or update contracts to include robust fall-back language). It is likely that further industry guidance on treatment of legacy contracts will follow.
So, what's next?
There are significant contractual, risk, operational and conduct management challenges associated with the end of LIBOR.
It is likely that the FCA will continue to engage with firms and increase its oversight of transition plans as we approach end-2021. Although industry initiatives are underway and market consensus is building (particularly in trying to reach agreement on fair replacement rates), what is clear is that the FCA does not expect mortgage lenders to wait for any further guidance, but to be developing and implementing their LIBOR transition strategies now.
This article was first published by Mortgage Finance Gazette.
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