LIBOR: The Floodwaters are Rising

By Daniel Wang, Senior Consultant at Potomac Point Group, Washington, D.C., Potomac Point Group Partner and Co-founder Martha-Rosalind Stainton and Teraverde Advisors Executive Advisory Consultant Sara Taylor, CMB.

In late 2019, the international financial industry generally considered the United States to be leading the way on LIBOR transition efforts. Then COVID-19 turned the world upside down and many companies had to shift resources to respond.

The results from a 2019 survey co-produced by Potomac Point Group and the Mortgage Bankers Association agreed–while trailing recommended timelines, many U.S. firms were beginning to develop transition plans, positioning them to complete requisite changes before December 31st, 2021, LIBOR’s retirement date that the Financial Conduct Authority has strongly reaffirmed.

Recently, PPG followed up with survey respondents to gauge how much progress companies had made in light of the pandemic’s effects. The results revealed a widened gap in preparedness. Companies that had initiated strategic planning prior to the pandemic mostly responded that they were still on track, with some noting delays due to shifting industry guidelines. However, companies that had not started planning prior to the pandemic found themselves with a two-fold problem: first, an increased backlog of work without fallback language or alternate rates; and second, an ongoing months-long blocker on their strategic roadmaps. For these companies in particular, balancing the continuing effects of COVID-19 and the LIBOR transition is now an exercise in prioritization. The longer companies fail to initiate transition planning, the worse their situation will get.

Prioritizing LIBOR transition efforts has been complicated by several follow-on effects of COVID-19. Generally speaking, the industry is already seeing and expecting further impacts across three categories:

Dramatic Increase in Forbearance – With millions of Americans out of work, their ability to make mortgage payments is significantly hindered. According to an MBA study, forbearance requests grew by 1270% in the first two weeks of March and another 1896% the next two weeks of March. While the percentage of loans in forbearance has decreased from its peak, the industry is still feeling the effects–as of July 28th, MBA reports that ~7.7% of servicers’ portfolios are currently in forbearance programs.

New Mortgages and Refinances – Money-smart homeowners and buyers are looking to take advantage of historically low rates. CNBC reported new mortgage applications are up 21% over a year prior, with refinance applications up 121%. A June 10th MBA survey indicated purchase activity had increased for eight straight weeks alongside steadily dropping mortgage interest rates, a trend that has continued through most of July. Combined with expected seasonal increases in activity, we expect the resource demands of processing new mortgages and refinances to continue at a high level.

Rising Risk of Delinquency and Foreclosures – Despite various assistance programs, as the pandemic continues, the potential for delinquencies and resulting foreclosures will likely increase. While we do not expect to see these effects for a few months, most experts agree that the impacts will be felt before 2021, implying a large influx of new work at the same time most companies should be ramping up to make the transition away from LIBOR. Although a second wave of COVID-specific unemployment benefits now seems more likely, industry experts urge continued caution. CoreLogic reported that the nation’s overall delinquency rate jumped to 6.1% in April, and the industry is likely to see more cascading impacts.

The implication is clear–the end of LIBOR publication is coming quickly, and for organizations that are slow to get moving, the problem will only get worse. We expect originations and servicing requests to continue to flow in, meaning resources will be constrained and executives will likely continue to focus on COVID-related challenges. Still, it would be foolish to ignore the rapidly approaching deadline to migrate away from LIBOR, particularly considering the FCA’s stance that the planned retirement date will not be postponed.

Our recommendation is to initiate strategic transition planning as soon as possible. Start with an impact assessment of LIBOR contracts, operations and technology to understand where and how LIBOR affects your organization. Then, tune back in for our thoughts on how to build a gap analysis and program plan to transition successfully away from LIBOR.

(Views expressed in this article do not necessarily reflect policy of the Mortgage Bankers Association, nor do they connote an MBA endorsement of a specific company, product or service. MBA NewsLink welcomes your submissions. Inquiries can be sent to Mike Sorohan, editor, at msorohan@mba.org; or Michael Tucker, editorial manager, at mtucker@mba.org.)