The status of LIBOR-linked collateral
Updated April 2020
In light of COVID-19 and the effect this pandemic is having on all our priorities, we have postponed our intended data collection of LIBOR-indexed loan collateral pledged to the FHLB from the original start date of March, now to September of this year.
As the industry continues to move towards the potential end of LIBOR, FHLB Cincinnati needs your help in assessing the magnitude of this exposure with respect to pledged collateral. Beginning in September, we will be coming to our members to ask for your estimate of LIBOR-indexed collateral pledged to the FHLB.
Of primary interest is your amount of pledged collateral linked to LIBOR that matures after the year 2021. We will also ask about the ability of this collateral to move to an alternative index.
It is okay if you don’t know these details yet, however, in such instances we’d like to hear about your intentions and timeline to figure out this exposure. We understand this may be a large undertaking for your company but we believe it is time to begin to have these discussions.
We will be rolling out an online submission option available starting at the end of September via our Members Only site. If you do not have Members Only access, you may request that, or we will also offer a generic form in PDF format on our public website. Our expectations are that we will start to collect this information beginning in the third quarter of 2020, and quarterly thereafter.
If you have any questions, please feel free to reach out to our Collateral Operations team at the FHLB at CollateralOperations@fhlbcin.com or toll free at (800) 828-4191. When you call in, please request to speak to someone regarding LIBOR-indexed collateral.
Is the FHLB accepting LIBOR-linked collateral?
The FHLB continues to accept pledges of loan- and securities-collateral indexed to LIBOR. At this time, there is no difference in lendable values for such collateral. Even if you are still originating loans indexed to LIBOR, or purchasing securities indexed to LIBOR – these may still be pledged to the FHLB, with no difference in value from any other “like” loan or security. You do not need to de-pledge any LIBOR-indexed collateral either.
Is the FHLB providing borrowing capacity against LIBOR-indexed collateral, and will it continue to do so?
Yes we are, for the foreseeable future, extending borrowing capacity against this collateral. The FHLB will continue to offer borrowing capacity against all pledged collateral that is indexed to LIBOR (assuming all other features of the pledged collateral are FHLB-eligible).
The potential change to a member’s borrowing capacity relating to the LIBOR-indexed feature may come sometime in the future, once the FHLB has a better understanding of the types of transition language that exists in our members’ pledged collateral, and in the event that the open markets evidence reasonable justification for such a risk adjustment.
Why is the FHLB asking me to report LIBOR-indexed exposure?
LIBOR cessation is a possibility. You may find it informative to read our FAQ on the LIBOR transition that discusses when LIBOR might go away. Urging our members to understand their potential exposure to LIBOR is important to the FHLB to ensure we’re all ready if/when the time comes that such collateral falls under greater scrutiny. As more sectors of the economy begin to take notice, it is important for the FHLB to gain an understanding of the magnitude of this collateral characteristic (given we are an asset-based lender) as such collateral could face potential future valuation variations and pose risk to our members and secondary market sales.
How to I communicate my LIBOR-indexed exposure to the FHLB?
The FHLB will offer members a channel for relaying its on-going LIBOR exposure. We are rolling out an online reporting tool (that will be available by the end of Q1 2020) that will assist members in communicating exposure. This reporting will be facilitated through our Members-Only website, with an alternative method for reporting on our public website. We will start asking for details in Q2 and will request members update this exposure tracking on a quarterly basis.
What will the FHLB do with the information I share?
The FHLB will share aggregate details of LIBOR exposure by loan type category and security type with our regulator, the FHFA. We will also use this information to understand the magnitude of this issue within our district and for analyses of this on-going risk, so we may take further action if warranted.
What if I don’t know my LIBOR-indexed exposure yet?
That’s okay – but we encourage you to begin to find out. We understand this may be a big ask and could take some time for you to get your hands around – but we encourage you to start. The first step is understanding and assessing your loan portfolios and prospective business operations.
Does the FHLB view all LIBOR-indexed collateral as a potential concern?
To varying degrees yes. The FHLB believes it is important for our members to understand the assets they hold. Generally, if you have LIBOR-indexed assets near maturity (i.e. maturing before the end of 2021, there is little concern).
For LIBOR-indexed collateral that will exist on your books after 2021; the severity of the “risk” depends on the presence of “transition language” within the Promissory Note that would allow the note’s holder to name or identify an alternative index in the event LIBOR goes away. Common types of transition language may include:
- The holder of the Note may name any alternative index
- The Note may convert the rate to a fixed-rate or specific alternative variable-rate or variable-rate index
- The Note may freeze the index at its last known value for the remainder of the loan’s life
- The borrower may name an alternate rate or
- The Note may be silent about any such transition language.
The last of these (i.e. no transition language) has the biggest potential for future risk and poses the greatest risk for valuation concerns or at-risk for future eligibility.