Insurance supervisors should ‘strengthen their efforts’ to help insurers with LIBOR transition

Written by Adam Cadle

10/07/2020

Insurance supervisors should “strengthen their efforts” in facilitating insurers to transition away from LIBOR, the International Association of Insurance Supervisors (IAIS) has said.

The expected cessation of LIBOR is due to occur after end-2021. In its supervisory recommendations to address the remaining challenges of LIBOR transition in the insurance sector, the IAIS said “given that benchmark transition would have significant cross-border implication, there is a greater need to step up the coordination and monitoring effort at an international level.”

“In this regard, the next steps of the Financial Stability Board (FSB), which are supported by IAIS members are further assessing transition progress by applying a simple set of key indicators and qualitiative questions to monitor implementation and are monitoring the evolving impact of the COVID-19 pandemic on on-going benchmark transition.”

From a micro-prudential perspective, the IAIS said transition risks may arise from the operational, legal, prudential, conduct, hedging and accounting perspectives. Key transition challenges that have been identified include the need to develop further cash products, not linked to LIBOR, and concerns about lack of liquidity in alternative reference rates, complexities in adopting fallback language, and the dependence on concrete alternatives offered by financial intermediaries and clients’ willingness to adjust.

A major benchmark transition challenge identified was around the difficulties in developing fallback provisions. “The lack of standardised fallbacks for cash products (e.g. bonds, loans) means that these may need to be renegotiated individually,” the IAIS said.

“This could potentially result in a heavy legal workload to adjust contracts and financial documents that use LIBOR as a reference rate, involving significant operational and legal risks.”

Other key benchmark transition risks include the increased market risk and a negative impact on product pricing if hedging strategies result in more basis risk, for example should the loan and derivative markets adopt different approaches for new reference rates.

"Potential further basis risk could be introduced on insurers’ balance sheets when their assets transition to a benchmark that would be different from the benchmark used to value their liabilities," the IAIS underlined.

Related Articles