Late last week, the Financial Accounting Standards Board (FASB) issued an exposure draft expanding the scope of Topic 848 to include derivatives that are discounted, but not reset, using rates subject to reference rate reform (RRR). The proposed amendments target contracts with calculations (other than resets) referencing IBOR rates, e.g. margining, discounting or price alignment.
The eagerly anticipated ISDA IBOR Fallback Protocol was released on Friday, October 23, 2020. The effective date of the protocol has been set for January 25, 2021.
We always encourage hedgers to consider the economics of a transaction before looking at the accounting. If the economics don’t make sense, it doesn’t matter how favorable the accounting treatment is, it probably isn’t a good idea!
The direct impacts of the transition away from LIBOR to the use of an alternative reference rate such as the Secured Overnight Financing Rate (SOFR) have been well publicized. ISDA and ARRC have been releasing regular updates and suggested fallback language to determine how LIBOR rates will be replaced in derivative and loan agreements, once LIBOR is no longer available.
While the derivatives market had been changing fairly rapidly prior to COVID-19, 2020 market dynamics have not closed the gap between expected and observed market prices. It’s critical that corporations and institutions address the coming reference rate changes related to their derivatives and debt instruments tied to LIBOR.