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LIBOR Phase-Out May Initially Bring Some Uncertainty in Markets

The chief of the U.K.’s Financial Conduct Authority announced that LIBOR, the inter-bank lending rate, will be phased out in 2021 and that regulators will seek to replace it with a more reliable alternative.  LIBOR is a common benchmark used by many mutual funds. The Financial Times reported that the FCA chief said LIBOR was unable to fulfill its objective of capturing the cost of banks borrowing from each other because this activity has fallen so sharply since the 2008 financial crisis. LIBOR was at the center of scandal during the financial crisis after it was discovered that major banks were manipulating LIBOR by rigging the rates they submitted. The FCA chief said the process of transitioning away from LIBOR to alternative interest rate benchmarks would take four to five years.  According to Bloomberg, the search for a new benchmark may lead to tighter swap markets and lower rates and certain contracts may need to be rewritten and adjusted to remove LIBOR.  The Bloomberg report also quoted industry participants who anticipate that the market would need guidance as to possible LIBOR replacements, which could lead to increased volatility and reduced liquidity in the short term.