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How LIBOR References Affect Floating-Rate Derivative Contracts

Article Quant Q&A · Author: mfc
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Summary

The exchange considers whether derivatives with floating LIBOR payments would remain valid if the benchmark were found to have been manipulated. Its central point is that contractual wording matters: some agreements may identify a published screen value, while others name a rate publisher or benchmark more directly. A change in how the benchmark is calculated or described could therefore affect interpretation, particularly if the resulting rate differs substantially from the one contemplated.

The replies suggest that manipulation by a benchmark publisher would not automatically erase obligations between counterparties, while separate claims against those responsible for misconduct might be possible. They also note that benchmark disruption or replacement terms may appear in some swap contracts. These are general observations from an older discussion, not legal advice or a determination about any specific agreement; contract language and governing rules would control.

Key ideas

  • The effect of benchmark manipulation on a derivative depends on how the contract defines its floating rate.
  • A contract tied to a published screen fixing may be interpreted differently from one naming a publisher or benchmark explicitly.
  • Misconduct by a rate publisher does not necessarily void obligations between derivative counterparties.
  • Replacement and disruption provisions can shape the treatment of a benchmark that changes or ceases to function.

Tags

Fixed incomeDerivatives pricing
Full text
# Derivatives with a floating Libor leg


# Derivatives with a floating Libor leg












If Libor is found to be fraudulently fixed, are any of the derivative contracts with a floating libor leg still valid?

## Answer by microcosme (score 1)

https://quant.stackexchange.com/a/3730

I assume that rate derivatives refers to a given underlying libor index that is published by either BBA, EBF or so and that than no counterparty can deny its liability wrt the contract. As such contracts are still valid between the counterparties eventhough one counterparty can suite the responsible of the fraud itself.

## Answer by Phil H (score 1)

https://quant.stackexchange.com/a/3799

I read this dealbreaker post (via a link from Deus Ex Macchiato), which explains that many (most?) contracts detail something like 'the number on the Libor01 Reuters page' rather than 'the rate published by the BBA as the 3m LIBOR'.

So, as Levine argues, if the BBA rephrase Libor as something else, even a trade-driven value, many of those agreements would still be valid. As he also points out, that could step into territory arguable as a change of contract, if it was a significantly different rate.

Note also that Libor is just the BBA's fixings. Everyone other than UK, US and some Euro participants who use Libor instead of Euribor should be ok until Euribor undergoes the same crisis.

Frankly, the value of Libor has already diverged so far from the risk-free rate for so long that instrument holders must have already had to reprice everything. One more change might just instigate a round of revaluations, depending on which way the fixing went.

Presumably the SEC-defined swaps will be stricter on the floating rate, or at least detail some eventualities for Libor ceasing to function.

Shown in full with attribution under the source's licence. Licence: CC BY-SA 4.0 (Stack Exchange)

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.