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What Is LIBOR?

LIBOR stands for the London Interbank Offered Rate, and it refers to the average interest rate charged by global banks when borrowing from one another. It is a benchmark rate that guides lending among global banks in the international interbank market in the short term.

LIBOR specifies borrowing costs between banks. The rate is calculated and published daily by the Intercontinental Exchange (ICE) using the Waterfall methodology but is being phased out gradually owing to concerns about its validity. The waterfall methodology is a standardized, transaction-based method that is driven by updated data.

LIBOR’s criticism has arisen in the mold of fear of manipulation, methodological inconsistency, and so on. It is on course to be replaced by the Secured Overnight Financing Rate (SOFR) totally by mid-2023, with the process to be set in motion as early as December 2021.

Deeper Definition

LIBOR is presently the most common benchmark interest rate metric by which adjustments are made to variable rate loans and credit cards.

It is based on five global currencies, including-

  United States Dollar, Euro, British Pound, Japanese Yen, and Swiss Franc. 

Asides from this, it serves seven different maturities, namely:

Overnight/ Spot Next

One week

One month

Two months

Three months

Six months

Twelve months.

Combining five currencies and seven maturities leads to 35 different LIBOR rates that are usually calculated and reported every business day. Of these, the most commonly quoted maturity is the 3-month United States’ Dollar rate, commonly referred to as the current LIBOR rate. It is usually published by the Wall Street Journal every day.

For these calculations on LIBOR rates to be made accurately, the British Bankers’ Association surveys several banks to help them ascertain the rates at which they would be willing to borrow money under certain conditions. These figures are then averaged and reported to be cited as benchmark rates for student loans, credit cards, mortgages, government bonds, corporate bonds, and so on.

LIBOR Example

When loans are granted with a floating rate for ten years, for instance, at the end of every 12 months, the banks will reassess and readjust the interest rates based on the current 12-month LIBOR, which could translate to either an increased or decreased rate.

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