LIBOR Flashcards
What is the difference between fixed and variable interest rates?
With fixed rates your repayments are fixed at a% each month, woth variable rates you repayments vary based on the interest rates of the bank
What was the benchmark interest rate for 40 years?
LIBOR (London Interbank Offered Rate)
Which currencies is LIBOR used for?
eur, chf, jpy, gbp, usd
What was the LIBOR used for?
To get ARM rates, asset-backed securities, student debt, credit default swaps, etc. => a shitton of debt
Add LIBOR to the bank’s spread rate
How did they fix LIBOR?
The IBA (ICE benchmark association) would ask the contributors panel banks at what rate would they borrow money from the market before 11 am before taking out the outliers (high/lowest 4) and finding the mean
What was a disadvantage of the LIBOR?
It was dependent on the banks in the contributor’s panel
What happened after 2008?
Concerns about dishonety from the contributor banks rose
What did the investigation on the LIBOR uncover?
Manipulation of rates for profit and to maintain the banks’ own trading positions
They all conspired together to gain power and better market positions
What is one example of the manipulation of LIBOR?
Banks charged lower rates in order to appear to have a better financial health taht they really did
What happened after the LIBOR scandal was uncovered?
The LIBOR lost prestige and stopped being used, the banks were fined by regulators (highest fine Deustche Bank with $3.5 B)
What replaced the LIBOR?
SONIA (Sterling Overnight Index Average) => UK
SOFR (Secured Overnight Financial Rates) => US
What are the replacements of the LIBOR?
Risk-free rates, calculated on the basis of actual transaction (more transparent and reliable)
What are the differences between the LIBOR and Rf rates?
LIBOR was a forward looking rate: fixing the rate first then paying interest forward at the end of the period
Rfrs are backward looking: you find the interest rate at the end of the transaction since they are usally overnight rates for borrowing money you pay the compunded rfrs)
Why are risk-free rates risk-free?
because they are collateralized by government securities
