LIBOR, the London Inter-Bank Offered Rate, is nearing its end, and set to expire sometime after 2021, with the Secured Overnight Financing Rate, or SOFR taking its place. In the meantime, lenders and servicers must be prepared, and according to a study from the Urban Insitute, market participants will look to Fannie Mae, Freddie Mac, and their regulator, the Federal Housing Finance Agency (FHFA), for guidance on how to handle the shift from LIBOR to SOFR with minimal disruption to the US mortgage market.
Jacqueline Doty, Executive, Product Management, Collateral Risk Solutions at CoreLogic, explained that the end of LIBOR will impact $1.2 trillion dollars in adjustable-rate mortgages.
"It means that lenders with loans or lines of credit based on the LIBOR index will need to identify and review the terms of all of their LIBOR loans," said Doty. "A portfolio of loans likely contains a wide variety of terms regarding LIBOR, and this will need to be assessed."
LIBOR's end is likely to impact more than lenders and borrowers. According to Fitch Ratings, U.S. RMBS servicers showed an improved awareness of difficulties and implications tied to the anticipated expiration of LIBOR at the end of 2021.
One challenging issue to resolve in the transition to a new index, Urban notes, is how to address the existing or legacy adjustable-rate mortgages.
“These assets, which are in Fannie Mae and Freddie Mac mortgage-backed securities, as well as private-label securities and bank portfolios, generally allow the noteholder to choose a new rate if LIBOR is permanently discontinued,” said Urban.
Also, a concern is the possibility of “zombie” LIBOR, if the Intercontinental Exchange continues to publish LIBOR. Some noteholders may continue to use this LIBOR index, which generally represents bank funding costs but is not necessarily tied to market rates, and other noteholders may switch to the more reliable market-based SOFR. This divergence could cause significant confusion among the 5 million homeowners with adjustable-rate mortgages.