MBA INTERNATIONAL BUSINESS ( FINANCE 2012-14) International Financial Management

THE LIBOR SCAM

Presented by

Santanu Das Vikrant Verma

THE INTEREST RATE - LIBOR

Established in 1984. Administered by British Bankers Association ( BBA). Rate declared by Thomson Reuters Vital benchmark interest rate in the financial markets of countries across the world LONDON INTERBANK BANK OFFEREED RATE Lending rate for a variety of transactions corporate, consumer & mortgage-based securities Current and future LIBOR used for valuing derivative instruments LIBOR reflect inter-bank short term lending rates LIBOR tied to financial products whose value is close to 800 trillion dollars

LIBOR

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DAILY LIBOR SETTING DETERMINATION OF LIBOR PROCESS

LIBOR rate is quoted for 10 currencies important among them being - USD , Pound , Euro , Yen

The rates are expressed for different borrowing periods ranging from overnight to 12 months. Thus, 150 rates are quoted on a daily basis
The LIBOR rates are flashed across 300,000 screens across the world Trimmed mean approach to remove outliers Structural Weakness
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US DOLLAR LIBOR CALCULATIONS Interest Time Bank Rate Quartile 11:00 a.m 1 6.25% Excluded Upper 25% 11:00 a.m 2 6.00% Excluded Upper 25% 11:00 a.m 3 5.75% Excluded Upper 25% 11:00 a.m 4 5.50% Excluded Upper 25% 11:00 a.m 5 5.25% Included 11:00 a.m 6 5.00% Included 11:00 a.m 7 4.75% Included 11:00 a.m 8 4.50% Included 11:00 a.m 9 4.25% Included 11:00 a.m 10 4.00% Included 11:00 a.m 11 3.75% Included 11:00 a.m 12 3.50% Included 11:00 a.m 13 3.25% Excluded Lower 25% 11:00 a.m 14 3.00% Excluded Lower 25% 11:00 a.m 15 2.75% Excluded Lower 25% 11:00 a.m 16 2.50% Excluded Lower 25% LIBOR 4.38%

There are similar calculations for nine other currencies for each of the borrowing periods

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BBA LIBOR RATES FOR MAY 2013

May-13 01-May EUR s/n-o/n 1w 2w 1m 2m 3m 4m 5m 6m 7m 8m 9m 10m 11m 12m USD s/n-o/n 1w 2w 1m 2m 3m 4m 02-May 0.02357 0.03543 0.04329 0.05929 0.09500 0.12214 0.15357 0.17929 0.20643 0.23786 0.26857 0.29857 0.33071 0.36000 0.39857 03-May 0.02357 0.03543 0.04329 0.05857 0.09357 0.12143 0.15000 0.17714 0.19929 0.22929 0.26214 0.29071 0.32143 0.35000 0.38857 07-May 0.02357 0.03543 0.04329 0.05857 0.09357 0.12214 0.15143 0.17786 0.19857 0.22929 0.26143 0.28929 0.32071 0.34929 0.38786 08-May 0.02357 0.03400 0.04186 0.05857 0.09357 0.12143 0.15071 0.17786 0.20071 0.23214 0.26357 0.29214 0.32286 0.35214 0.39000 09-May 0.02357 0.03400 0.04186 0.05857 0.09357 0.12143 0.15071 0.17786 0.20071 0.23143 0.26357 0.29143 0.32214 0.35143 0.38643 10-May 0.02357 0.03400 0.04186 0.05857 0.09357 0.12143 0.15071 0.17786 0.20143 0.23286 0.26357 0.29214 0.32286 0.35214 0.38857 13-May 0.02357 0.03471 0.04329 0.06000 0.09357 0.12214 0.15143 0.17786 0.20357 0.23500 0.26500 0.29429 0.32500 0.35429 0.39000 14-May 0.02357 0.03471 0.04186 0.05714 0.09357 0.12286 0.15286 0.17786 0.20357 0.23500 0.26571 0.29500 0.32571 0.35500 0.39000 15-May 0.02357 0.03471 0.04186 0.05714 0.09357 0.12214 0.15214 0.17786 0.20357 0.23500 0.26500 0.29429 0.32500 0.35429 0.38929 16-May 0.02357 0.03471 0.04186 0.05643 0.09286 0.12000 0.15000 0.17429 0.20000 0.23071 0.26071 0.29000 0.32071 0.35000 0.38286 17-May 0.02357 0.03471 0.04186 0.05643 0.09071 0.11714 0.14643 0.17000 0.19500 0.22286 0.25429 0.28000 0.30929 0.33929 0.37143

0.03543 0.04329 0.05929 0.09500 0.12286 0.15357 0.18071 0.20714 0.23857 0.26857 0.29857 0.33071 0.36000 0.39857

0.14800 0.16670 0.17840 0.19820 0.23790 0.27310 0.31760

0.15000 0.16770 0.17940 0.19820 0.23740 0.27310 0.31760

0.15000 0.16720 0.17890 0.19820 0.23740 0.27510 0.31860

0.14850 0.16720 0.17990 0.19920 0.23740 0.27510 0.31910

0.14850 0.16770 0.17990 0.19920 0.23740 0.27510 0.31860

0.14750 0.16720 0.17890 0.19920 0.23740 0.27510 0.31860

0.14600 0.16470 0.17840 0.19920 0.23740 0.27510 0.31760

0.14650 0.16520 0.17840 0.19920 0.23600 0.27510 0.31760

0.14600 0.16520 0.17890 0.19820 0.23500 0.27410 0.31660

0.14500 0.16520 0.17790 0.19820 0.23500 0.27410 0.31660

0.14700 0.16520 0.17790 0.19820 0.23450 0.27410 0.31660

0.14650 0.16371 0.17613 0.19678 0.23350 0.27360 0.31610

Source : BBA Website

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LIBOR MANIPULATION
MISREPRESENTATION OF RATE
Time 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m Bank 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 LIBOR Interest Rate Quartile 6.25% Excluded Upper 25% 6.00% Excluded Upper 25% 5.75% Excluded Upper 25% 5.50% Excluded Upper 25% 5.25% Included 5.00% Included 4.75% Included 4.50% Included 4.25% Included 4.00% Included 3.75% Included 3.50% Included 3.25% Excluded Lower 25% 3.00% Excluded Lower 25% 2.75% Excluded Lower 25% 2.50% Excluded Lower 25% 4.38%
Misreprentation of 6.00% as 3.40%

UNDERSTATEMENT OF RATE
Time 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m 11:00 a.m Bank 1 3 4 5 6 7 8 9 10 11 12 2 13 14 15 16 LIBOR Interest Rate Quartile 6.25% Excluded Upper 25% 5.75% Excluded Upper 25% 5.50% Excluded Upper 25% 5.25% ExcludedUpper 25% #ERROR 5.00% Included 4.75% Included 4.50% Included 4.25% Included 4.00% Included 3.75% Included 3.50% Included 3.35% IncludedLower 25% #ERROR 3.25% Excluded Lower 25% 3.00% Excluded Lower 25% 2.75% Excluded Lower 25% 2.50% Excluded Lower 25% 4.14%

Bank 2 misquotes the interest rate as 3.35% instead of the actual 6.00 %. As a result, the LIBOR rate becomes 4.14% , thus a drop of 24 basis points

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LIBOR SCAM

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LIBOR Parties Involved.

Top Banks whose rates are considered for calculating the LIBOR rates are: Barclays, Bank of America, Citibank, Bank of Tokyo, Credit Suisse, BNP Paribas, UBS, Royal Bank of Scotland, HSBC, Lloyds Bank, Deutsche Bank, Socit Gnrale SA, Royal Bank of Canada, JP Morgan, Rabobank, Crdit Agricole, Sumitomo Mitsui Banking Corporation Norinchukin

All the data is self-reported, it relies on certain honor code with little external verification.

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LIBOR Impact

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LIBOR Scam Timeline

2005 2007 2008

Early indications of fixing of Libor and Euribor rates.

Beginning of Financial Crisis Barclays manipulated Libor submissions to give a healthier picture of the bank's credit quality and its ability to raise funds. Barclays Compliance officer contacts FSA and BBA. Libor rate was being fixed at unrealistically low rates.

Wall Street Journal Publishes a report questioning the integrity of the LIBOR

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LIBOR Scam Timeline (Contd.)

2008
2009

BBA prepares a review of LIBOR The BBA issues a draft document about how Libor rates should be set and required banks to have their rate submission procedures audited as part of compliance.

BBA circulated guidelines for all contributor banks on setting Libor rates in the same manner.

2010

Barclays circulated an email to submitters that set out "fundamental rules" that required them, for example, to report to compliance any attempts to influence Libor submissions either externally or internally.

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LIBOR Scam Timeline (Contd.)

2011 Jun 27, 2012 Jul 2, 2012

Royal Bank of Scotland sacked four people for their alleged role in LIBOR-Fixing Scandal. Barclays admitted to misconduct. Pound 290 Million penalty imposed on the bank. Barclays chairman Markus Agius resigned and also tendered his resignation as the chairman of BBA. Serious Fraud Office launched a criminal investigation into Libor manipulation. Seven banks including Barclays, HSBC and RBS are to face legal questioning in the US.
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Jul 6, 2012
Aug 16, 2012

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Why would Banks Manipulate?

During the 2008 Financial Crisis, a lot of banks had their risks going up (Citibank was close to a total collapse) and they didn't want to reveal to the outsiders about the high cost of borrowing. They effectively hid the skyrocketing rates they faced by understating the rates at which they borrowed. Banks are constantly trading of contracts that are based on the LIBOR. A lot of times they will be on one side of the trade and they would want to move LIBOR favourable towards them (sometimes overstating and sometimes understating).
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However, in a highly competitive environment, people have plenty of incentives & temptations to break these self-imposed rules (to protect careers, get bonuses). The market has gotten way too complex for the regulators to understand what is going on and the rules are rather weak.

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Future of Libor
BBA would transfer the oversight to UK regulators UK Government accepted all of Wheatleys review recommendations Banks should submit the actual inter-bank deposit market transaction for calculation of LIBOR. Records of all these transactions should be kept. Individual Banks LIBOR submissions be published after 3 months. Criminal sanctions for manipulation of LIBOR.

The Wheatley Review came into effect in 2013.

The new administrator will take over in 2014. UK Govt. to control LIBOR thro laws made in UK Parliament Financial Services Act 2012.

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Thank You!

Your Questions are appreciated!

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