Finance

The SEC Staff Statement On LIBOR Transition – Finance and Banking

On December 7, 2021, the SEC team issued a statement reminding investment professionals of their obligations when recommending LIBOR-related securities and to remind companies and issuers of asset-backed securities of their disclosure obligations related to the transfer of LIBOR.4

The statement covers many areas of interest to the Securities and Exchange Commission, and they are summarized below:

  • recommendations by brokers and dealers in LIBOR securities or investment strategies involving LIBOR securities to retail clients;
  • disclosure obligations for issuers that have a material exposure to LIBOR securities;
  • Impact on individual clients to recommend LIBOR securities with no reserve provisions; And
  • Impact on individual clients to recommend LIBOR securities with reserve provisions, and resultant change in interest rate from USD LIBOR to Overnight Financing Rate (“SOFR”).5

Brokers – dealers. The task force stated that broker-dealers should be “particularly aware of their obligations when recommending LIBOR-related securities or investment strategies that include LIBOR-related securities to retail clients.” Under better regulation, a broker-dealer recommending LIBOR securities or investment strategies involving such securities must have a reasonable basis for believing that the recommendation is in the best interest of the retail client.6

The sponsorship obligation under best regulation requires that the broker-broker exercise reasonable diligence, care and skill to understand the potential risks, rewards and costs associated with the recommendation, and in light of the retail client’s investment profile, the recommendation is in the best interests of the particular retail client.7Accordingly, the broker-dealer must understand whether there are strong fallback provisions that provide a clear replacement rate after the US dollar LIBOR becomes unavailable, and the effect of the replacement rate on the safety of LIBOR.

The staff also mentioned that it would be difficult for a broker-dealer to recommend LIBOR security without a fallback clause, in the absence of a recommendation that is based on a specific, specific short-term trading objective.

Old US dollar LIBOR securities without any standby provisions, without any external action, will become fixed rate bonds after June 30, 2023, when most of the US dollar LIBOR maturities will not be published. The employee concern is the impact of this interest rate change, which will be material, on the retail investor. Most US dollar LIBOR bonds with reserve provisions will convert to SOFR, and employees are concerned that, even with sufficient reserve provisions and because SOFR is not exactly the same as the US dollar LIBOR rate, the impact on LIBOR interest payments could be material for a retail investor.

Although the statement refers to Section 18-c of the New York General Liabilities Act, which would result in any old US dollar LIBOR securities without sufficient provisions to convert to SOFR after June 30, 2023, the statement addresses the recommendations of these legacy LIBOR securities. In US dollars, the recommendations of US dollar Libor bonds with strong reserve provisions.8 Also, at this point, any US dollar LIBOR bonds without adequate buffer provisions will only be available in the secondary market.

Employee concerns about legacy LIBOR securities without fallback provisions are applicable to non-US dollar LIBOR securities, such as the Sterling Pound Sterling Floating Rate Libor (“FRN”) governed by New York law or other US state law. These types of FRNs will not be affected by New York laws or federal legislation. However, these types of FRNs are a small segment of the market. Preferred shares based on US dollar LIBOR, which are generally subject to Delaware law, will be processed by the upcoming federal LIBOR law.

Brokers-dealers who agree to monitor a retail client’s account have also been reminded of their obligations under better regulation, as the broker-dealers must re-evaluate the potential risks, rewards and costs of any LIBOR-type securities in the retail client’s account each time the agreed review, based on The current status of the LIBOR transmission and the potential impact on the client’s LIBOR holdings. The broker-dealer recommendation at the time of each observation may be to buy, sell or hold, and if the broker-dealer remains silent, this is an implied recommendation to keep.

exporters. Issuers should keep investors informed of their progress towards identifying and mitigating LIBOR risks, and the expected impact on the issuer, if material. This disclosure may be included in the risk factors, management discussion and analysis, board of directors risk control and financial statements sections of the prospectus. Issuers with a material risk of unpaid LIBOR debt with insufficient provisioning provisions should consider the amount of debt outstanding after the LIBOR discontinuation date and the steps the company is taking to remedy the situation. As discussed above, this only appears to apply to non-US dollar LIBOR securities or preferred stock, which will be dissolved under the upcoming federal LIBOR law. Issuers with outstanding physical securities other than dollar LIBOR may have to disclose upcoming plans for tender or exchange offers, or approval requests.

The staff statement also notes that the Alternative Reference Rates Committee’s recommendations on the reserve language for new issuance of US dollar LIBOR foreign currency are not binding on US issuers, as issuers are not obligated to include any particular reserve language in these securities.

Notes

4 The SEC Personnel Statement can be found at: SEC.gov | SEC Staff Statement on the Transition of LIBOR – Key Considerations for Market Participants.

5 The focus of this article is on US dollar LIBOR floating rate notes and preferred stocks, relevant recommendations by brokers and dealers and relevant disclosures by issuers. The statement also covers the underwriting of municipal securities by brokers and dealers and the obligations of registered investment advisors and funds.

6 See Rule 15l-1(a)(2)(i) under the Securities Act of 1934.

7 See Rule 14l-1(a)(2)(ii)(B) under the Securities Act of 1934

8 The statement does not refer to the federal legislation on US dollar LIBOR


Originally published in REVERSEinquiry: Volume 4, Issue 6.
Click here to read the articles in this latest release.

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Myer Brown is a global legal services provider comprising the legal practices of separate entities (“Myer Brown Practices”). Mayer Brown’s practices are: Mayer Brown LLP and Mayer Brown Europe – Brussels LLP, both of which are limited liability partnerships incorporated in Illinois, USA; Mayer Brown International LLP, a limited liability partnership incorporated in England and Wales (authorized and regulated by the Bar Regulatory Authority and registered in England and Wales with OC number 303359); Mayer Brown, one of the SELAS groups founded in France; Mayer Brown JSM, The Hong Kong Partnership and Associated Entities in Asia; and Tauil & Checker Advogados, a Brazilian legal partnership with which Meyer Brown is associated. “Mayer Brown” and the Mayer Brown logo are trademarks of Mayer Brown Practices in their respective jurisdictions.

© Copyright 2020. Mayer-Brown Practices. All rights reserved.

This Mayer Brown article provides information and commentary on legal issues and developments of interest. The foregoing is not a comprehensive treatment of the topic covered and is not intended to provide legal advice. Readers should seek specific legal advice before taking any action in relation to the matters discussed here.

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