The Swiss Financial Market Supervisory Authority FINMA is publishing further guidance on the replacement of the LIBOR reference rate by the end of 2021. In this guidance, FINMA provides further details about derivative contracts. In this context FINMA is calling on the market participants to continue their preparations for the LIBOR replacement as a matter of the highest priority.
In its Guidance 01/2020 of 20 March 2020 FINMA made clear that amendments to existing derivative contracts would not trigger margin obligations, provided that these are only made to address the reference rate reforms necessary due to LIBOR replacement. Likewise, FINMA declared that the introduction of a fallback clause would not trigger a clearing obligation for existing derivative contracts.
In the process of switching to the new reference rates, there is now a need for further clarification. This concerns in particular the conditions in which derivative contracts amended as described above qualify as legacy contracts and hence do not give rise to central clearing or bilateral margin obligations.
In its Guidance 02/2021 FINMA makes clear that amendments to existing derivative contracts are not considered as newly concluded derivative contracts and therefore do not trigger either clearing or margin obligations if the adjustments are made solely to address LIBOR replacement or are justified by the corresponding reference rate reform (Arts. 85, 131 para. 3 FMIO [SR 958.11]).
The following will be considered as adjustments in the above sense:
- The replacement, extension or other modification to an existing derivative contract that replaces the operative benchmark rate; replacements can also be made as part of portfolio compression;
- The introduction of a fallback clause in relation to the operative benchmark rate for a derivative contract;
- Technical adaptations required to implement the adjustments outlined under a) and b).
The adjustments may, in particular, modify the maturity or effect a change in the actual notional amount of the existing derivative contract, but they must be necessary for the replacement of the reference rate and abide by the market practices applicable in each case for the new reference rates.
This guidance relates solely to the regulatory derivative obligations under the Financial Market Infrastructure Act (FMIA). By providing these clarifications FINMA is also responding to international developments and contributing to the timely replacement of LIBOR.
LIBOR replacement must remain a key priority
FINMA considers inadequate preparations for the replacement of LIBOR by the end of the year as a major risk for the Swiss financial institutions. Accordingly, FINMA formulated clear expectations and concrete milestones in itsGuidance 10/2020. FINMA’s monitoring shows that the majority of banks are on track with the roadmap and have made satisfactory progress in preparing for the replacement of LIBOR. However, some market participants are still lagging behind. FINMA will continue to monitor the preparations for the replacement of LIBOR very closely. If necessary, FINMA will take additional supervisory measures for supervised institutions that do not meet the expectations set out in FINMA Guidance 10/2020. FINMA is calling once again on all financial market participants to continue to press ahead with their preparations for the replacement of LIBOR as a matter of the highest priority.