LMA publishes an exposure draft multicurrency rate switch facility agreement11 September 2020
The LMA is pleased to announce the publication of an exposure draft multicurrency term and revolving facilities agreement incorporating rate switch provisions ("Rate Switch Agreement"). This exposure draft is based on lookback without observation shift.
In April 2020, the Working Group on Sterling Risk-Free Reference Rates ("£RFR WG") published a statement – further clarified in July 2020 through a Q&A document – which contained a recommendation that after the end of Q3 2020 lenders, working with their borrowers, should include clear contractual arrangements in all new and re-financed £LIBOR-referencing loan products to facilitate conversion ahead of end-2021, through pre-agreed conversion terms or an agreed process for renegotiation, to SONIA or other alternatives. The Rate Switch Agreement is designed to constitute an inclusion of "pre-agreed conversion terms".
The Rate Switch Agreement has been published as an exposure draft and does not constitute a recommended form of the LMA. Its intention is to be used to facilitate awareness of some of the issues involved in structuring syndicated loans referencing IBOR or similar term rates initially with a switch to compounded daily risk-free rates ("RFRs") and to provide a documentary reflection of the Recommendations for SONIA Loan Market Conventions issued by the £RFR WG on 1 September 2020. The Rate Switch Agreement does not purport to offer any standardised position in relation to a number of issues associated with the use of compounded RFRs or the operation of the SONIA Loan Market Conventions. Those issues are outlined in an accompanying Commentary to the Rate Switch Agreement but will require consideration and resolution by parties in the context of their transactions.
The Rate Switch Agreement, in line with the SONIA Loan Market Conventions, adopts: (i) a lookback without observation shift; and (ii) a non-cumulative compounded methodology for interest calculation. However, it should be noted that the SONIA Loan Market Conventions acknowledge that other approaches are viable (i.e. observation shift), and that several methods exist to calculate SONIA compounded in arrears and implementation choice is left to individual market participants.
The Rate Switch Agreement is a multicurrency agreement and, for simplicity and ease of illustration, it applies the SONIA Loan Market Conventions to each referenced currency and the RFR corresponding to that currency. This is not a recommendation by the LMA and members should note that recommendations for loan market conventions for use of RFRs are being developed separately by each currency-specific RFR working group (for example, the ARRC in the US has published its conventions for using SOFR in arrears for syndicated loans). Market participants should consider the extent to which the preference will be to adopt a single set of conventions for use across all currencies or to adopt a bifurcated approach whereby the conventions applied will vary by reference to currency.
It should be noted that it has not been possible to develop the elements of the Rate Switch Agreement which reflect the SONIA Loan Market Conventions in conjunction with input and views provided by a working party of market participants. This is a departure from the LMA's usual practice and was a function of the urgency with which it was felt that provision of a documentary reflection of the SONIA Loan Market Conventions was required to facilitate the consideration by market participants of the issues noted above and in the Commentary. We have therefore requested market participants to send us feedback on the Rate Switch Agreement.
The LMA will shortly be publishing a form of the Rate Switch Agreement based on lookback with observation shift as that has been recognised in the SONIA Loan Market Conventions as a viable and robust alternative to lookback without an observation shift.
The Exposure Draft Rate Switch Agreement and Commentary have been made available on the LMA website on the member homepage, LIBOR Microsite and Documentation page for ease of access.
Commenting on the Rate Switch Agreement, Clare Dawson, Chief Executive of the LMA, said:
"Following the publication of the exposure drafts of the compounded risk-free rate facility agreements for sterling and US dollars and the exposure draft reference rate selection agreement, the Rate Switch Agreement is the latest LMA documentation initiative intended to facilitate transition in the syndicated loan market to the use of RFRs. The inclusion in the Rate Switch Agreement of drafting for sterling conventions is a major step forward enabling consideration of the conventions in their documentary context. As the Rate Switch Agreement is an exposure draft, we would highly encourage feedback and engagement from the market on the Rate Switch Agreement, particularly on the basis of market transactions. Combined with our education programme, our work on producing RFR based loan documentation is a major commitment by the LMA to helping the market to make this fundamental change."