LIBOR (London Interbank Offer Rate) - Definition, What is LIBOR (London Interbank Offer Rate), Advantages of LIBOR (London Interbank Offer Rate), and Latest News - ClearTax (2024)

Introduction to LIBOR (London Interbank Offer Rate)

• LIBOR stands for London Interbank Offer Rate. It is the reference rate for unsecured short-term borrowing in the interbank market. It also acts as a benchmark for short-term interest rates.
• It is utilised for the pricing of interest rate swaps, currency rate swaps and mortgages. It is the indicator of the health of the financial system and presents an idaea of the trajectory of approaching policy rates of central banks.

Understanding LIBOR (London Interbank Offer Rate)

The Intercontinental Exchange or ICE administers LIBOR. It is estimated for five currencies including Swiss franc, euro, pound sterling, Japanese yen and the US dollar. ICE benchmark administration comprises 11 to 18 banks that contribute to every currency.

The rates that are received from the banks are organised from highest to lowest, and the top and bottom quartiles are removed to prevent outliers. The leftover data is used to calculate the LIBOR rate. This process is repeated for all five currencies and seven maturities, producing 35 reference rates. Most commonly, the three months LIBOR is used as a reference.

Uses Of LIBOR

• Standard interbank products like forwarding rate agreements, interest rate swaps, options, interest rate futures and swaptions, whereby options present buyers with the right, but not the obligation, to buy a security or interest rate product

• Commercial products like notes and floating rate certificate of deposits, variable-rate mortgages, as well as syndicated loans, which are loans granted by a group of lenders

• Hybrid products like collateralised debt obligations, collateralised mortgage obligations, and a wide range of accrual notes, callable notes, and perpetual notes

• Consumer loan-related products like student loans and individual mortgages.