The new fee schedule released this week by Intercontinental Exchange (ICE) announced a significant reduction in charges for financial institutions with less than $1.5 billion in assets that structure products or services with costs tied to the London Interbank Offering Rate, better known as LIBOR.
Despite the elimination of the $16,000 fee for smaller institutions, the changes will have a minimal impact on the estimated 2% of credit unions that fall into this newly defined category, according to Brian Turner, owner and chief strategist for Meridian Alliance, a credit union consulting firm based in Plano, Texas.
LIBOR is used as the floating rate benchmark for many financial contracts, from interest rate swaps to student loans, mortgages and corporate funding instruments, and is the basis for trillions of dollars' worth of interest rate exposure, Turner said. After receiving negative feedback from several banking trade associations, ICE agreed to a fee schedule adjustment that, in essence, eliminates this fee for almost 95% of financial institutions with products tied to LIBOR-based pricing.
"However, ICE's agreement to waive the fee to these institutions with less than $1.5 billion in assets pretty much excludes 98% of the nation's credit unions," said Turner, who nevertheless pointed to several specific areas that may apply to credit unions.
In terms of loan-based pricing,only 12% of credit union loans carry an adjustable rate. Further, the majority of those assets do not have coupon resets tied to LIBOR, making the impact of the change minimal, Turner explained.
In terms of investment-related assets, credit unions may have slightly more exposure to its adjustable rate securities, Turner said. Since these are not issued by credit unions but simply bought through the secondary market, minimal exposure levels still apply.
"The sizable nature that issuers like FNMA, FHLMC and FHLB retain with these securities is so vast that the reciprocal aspect between them and ICE will most likely not alter prevailing value of pricing behavior," Turner said.
The principal reason financial institutions use LIBOR as a benchmark is its historical lack of volatility when compared to treasury or other cost of funds indices, Turner said. This benchmarking tends to elevate pricing when compared to the alternatives, causing many institutions to prefer its application in order to boost asset yields.
"These tendencies cause rates to rise faster than other benchmarks in a rising-rate environment and lag during a falling rate environment," Turner said. "But the truth is the index is basically London's cost of funds and should have little correlation to U.S. net margins."
In most cases, credit unions and LIBOR don't cross paths very often, Turner said. But as a financial tool it does offer some advantages to institutions that apply it.
"More than 15 years ago, I encouraged institutions to eliminate pricing correlation with LIBOR," Turner said. "Much of LIBOR is associated with off-balance sheet transactions which may or may not correlate with market pricing of assets or deposits."
All that said, some credit unions – in particular, corporate credit unions – may still look to LIBOR-based benchmarks for their pricing, Turner said. As long as there is no formal pricing acknowledgement that its products and services are benchmarked formally to LIBOR, corporates can avoid this fee as well.
"They will simply acknowledge an alternative index as their benchmark," Turner said. "Even if applicable, the minimal nature of the fee will have little impact."
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