After being rigged by some of the world’s biggest financial institutions, the London interbank offered rate, the benchmark for more than $300 trillion of securities and loans, is now increasingly being set by a smaller group of banks.
Bank of America Corp., Citigroup Inc. (C), Bank of Tokyo Mitsubishi UFJ Ltd., Royal Bank of Canada, Sumitomo Mitsui Financial Group Inc. and Lloyds Banking Group Plc (LLOY)’s submissions have been used in setting the rate on an almost daily basis in the past four months, data compiled by Bloomberg show. Two years ago, none of the 18 designated lenders made it into every fixing of the measure, which excludes outliers by stripping out the four highest and lowest contributions.
Libor is calculated by Thomson Reuters Corp. on behalf of the British Bankers’ Association, with rates published daily for 10 currencies over 15 maturities. Compilers discard the four highest and lowest quotes and average out the remaining 10.
Unsecured lending between banks -- the activity Libor is designed to reflect -- has dried up as institutions increasingly demand collateral before money changes hands or go to central banks for funds. As a result, banks’ reported borrowing costs have diverged, meaning the same group of lenders is dominating the middle ground where the benchmark is set.
“Governance of Libor has completely failed,” Wheatley said. “This problem has been exacerbated by a lack of regulation and a comprehensive mechanism to punish those who manipulate the system.”
The indexes typically fall as investor confidence improves and rise as it deteriorates. The contracts pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.