Working group on euro risk-free rates
The working group on euro risk-free rates was established to identify and recommend risk-free rates that could serve as a basis for an alternative to current benchmarks used in a variety of financial instruments and contracts in the euro area, such as the euro overnight index average (EONIA) and the euro interbank offered rate (EURIBOR). This is a private sector working group; the ECB provides the secretariat and attends as an observer only.
The group recommended on 13 September 2018 that the euro short-term rate (€STR) be used as the risk-free rate for the euro area and is now focused on supporting the market with transitioning.
The ECB published the €STR for the first time on 2 October 2019, reflecting trading activity on 1 October 2019.
Why is a smooth transition to the €STR important?
Careful transition planning by market participants is needed to minimise disruption to markets and consumers and to safeguard the continuity of contracts to the greatest extent possible, including contracts that currently reference a term rate rather than an overnight rate.
How should the market transition from EONIA to the €STR?
The working group is analysing the impact of the transition from EONIA to the €STR from different perspectives. The outcome of this analysis is reflected in several reports which include recommendations on how to smoothen the transition to the €STR before EONIA is discontinued on 3 January 2022.
In August 2019 the working group published a report on the impact of the transition from EONIA to the €STR on cash and derivatives products. The report provides market participants with recommendations from an operational and valuation perspective.
In October 2019 the working group published a report on the risk management implications of the transition from EONIA to the €STR and the introduction of €STR-based fallbacks for EURIBOR. The report focuses mainly on the risk management implications for banks but also touches on additional challenges facing the asset management and insurance sectors.
In November 2019 the working group published a report on the financial accounting implications of the transition from EONIA to the €STR and the introduction of €STR-based fallbacks for EURIBOR.
In November 2019 the working group published a report on fallback arrangements for users of the €STR.
These reports are a result of the working group’s recommendation on 14 March 2019 that market participants should gradually replace EONIA with the €STR as a reference rate for all products and contracts and make all necessary adjustments for using the €STR as their standard benchmark. The reports also address the announcement made by the European Money Markets Institute (EMMI), EONIA’s administrator, that it would modify the current EONIA methodology to become the €STR plus a fixed spread of 8.5 basis points from the first publication date of the €STR (2 October 2019) until the discontinuation of EONIA on 3 January 2022 — to give market participants sufficient time to transition to the €STR.
EONIA to €STR legal action plan
As part of its mandate, the working group published a set of recommendations on the legal action plan for the transition from EONIA to the €STR, including recommendations on how to address the legal implications for new and legacy contracts referencing EONIA.
The working group recommends the €STR plus a fixed spread of 8.5 basis points as the EONIA fallback rate for all products and purposes.
The working group recommends that market participants should:
- consider, whenever feasible and appropriate, no longer entering into new contracts referencing EONIA, in particular new contracts maturing after 31 December 2021, as EONIA will cease to exist after that date;
- consider, for existing contracts referencing EONIA and maturing after December 2021, replacing EONIA as a primary rate as soon as possible or embedding robust fallback clauses;
- include robust fallback provisions in those cases where new contracts still reference EONIA and mature after December 2021, or fall within the scope of the EU Benchmarks Regulation (BMR);
- ideally include, for the purpose of enhancing transparency, while not strictly necessary, a clarification in new contracts signed before October 2019 stating that the EONIA methodology is expected to change as of 2 October 2019 and that, once it has changed, references to EONIA in these contracts will be understood to be references to EONIA as changed, unless otherwise agreed by the parties.
To enable a smooth transition, the working group on risk-free rates makes available communication material which interested parties can use in their own communication and education efforts. This communication toolkit currently consists of:
Fallbacks for EURIBOR
In November 2019 the working group published a report with high-level recommendations for fallback provisions in contracts that reference EURIBOR.
€STR-based fallbacks for EURIBOR
The working group is also looking at identifying fallbacks for EURIBOR based on the €STR. Both backward and forward-looking options are being considered. As part of its work on forward-looking options, in March 2019 the working group recommended a methodology based on (tradable) overnight index swap (OIS) quotes for calculating a €STR-based forward-looking term structure and later invited benchmark administrators to express their interest in producing such a term structure.
Outcome of call to benchmark administrators for expressions of interest
The working group invited interested benchmark administrators to present their proposal for a €STR-based forward-looking term structure that could be used as a fallback in EURIBOR-linked contracts at the working group meeting of 16 October 2019. Five administrators responded to the working group’s call for expressions of interest.
Structure of the group
The working group is chaired by a private sector representative and the ECB provides the secretariat. The working group is made up of 21 credit institutions as voting members, five institutions as non-voting members and one institution as an invitee.
The group was set up by the ECB, together with the Financial Services and Markets Authority (FSMA), the European Securities and Markets Authority (ESMA) and the European Commission. These four public institutions have observer status in the group.
In addition, four subgroups on contract robustness, cash and derivative products, risk management and financial accounting and communication issues have been established by the working group.
Market participants are welcome to apply to the subgroups of the working group on euro risk-free rates in order to broaden the range of views and ensure the full financial industry is represented.
Applicants should fill in the dedicated application form provided below and send it by email to EuroRFR@ecb.europa.eu. Applicants are expected to provide a brief overview of their motivation for applying and state their willingness to dedicate time and resources to any work streams to which they are allocated.
Commitment to transparency
The working group regularly consults market participants and end users, and gathers feedback from other public authorities. Its terms of reference are publicly available and the group regularly reports on its meetings. This is to ensure transparency throughout the entire process of identifying and adopting new risk-free rates. Ensuring broad market acceptance is vital for the effective functioning of any alternative to existing benchmark rates.