The Treasury Markets Association (TMA) submitted, on November 26, a report on its review of the Hong Kong Interbank Offered Rate (HIBOR) to the Hong Kong Association of Banks (HKAB), with a copy to the Hong Kong Monetary Authority (HKMA).
The TMA was formed in 2005 with the aim of developing appropriate standards for the treasury markets, promoting market and product development, enhancing the professionalism of market practitioners and promoting the profile of Hong Kong as the preferred hub for treasury markets businesses in the Asia-Pacific region.
HIBOR refers to a set of reference interest rates which has been in place for over 20 years. It has been used as a set of benchmark interest rates for determining the settlement of a broad range of financial and loan contracts. It is estimated that, as at the end of September 2012, Hong Kong’s banking sector held over HKD2 trillion (USD258bn) of on-balance sheet contracts that reference HIBOR.
When in July 2012, the HKAB initiated a review of HIBOR, in view of worldwide interest in the robustness of benchmark fixings in global financial markets following the developments of the London Interbank Offered Rate (LIBOR), the TMA established a Working Group (TMA WG) to undertake a study.
In essence, the TMA WG has concluded that the HIBOR fixing mechanism remains sound, and has highlighted that, unlike LIBOR, reference banks for HIBOR are asked to estimate the funding costs of prime banks in Hong Kong.
There is, therefore, substantially less concern about the stigma effect of banks' submissions in distressed market situations which may create an incentive for banks to under-report the rates in such circumstances. Back-testing results also suggest that HIBOR fixings have performed well in representing the funding cost of prime banks.
While there has not been any noticeable anomaly in the HIBOR fixing mechanism, the TMA WG believes there is scope for its refinement. Having considered Hong Kong's own circumstances, and also taking into account suitable recommendations in the Wheatley LIBOR Review in the United Kingdom, the TMA WG put forward a five-pronged approach for improving the robustness of the HIBOR fixing mechanism.
In particular, clear rate submission guidance should be given to reference banks which are contributing rates for the fixing process; and a code of conduct should be developed which encompasses the rate submission guidance and the sound practices on control systems that reference banks should put in place. This code of conduct should be subject to endorsement by the HKMA.
Furthermore, it is said that the HKAB should consider entrusting the administrator role for HIBOR to a third party so as to enhance independence of the rate fixing process; HIBOR fixings should be confined to tenors that have strong market demand, including overnight, 1-week, 1-month, 2-month, 3-month, 6-month and 12-month; and the provisions in contracts that reference HIBOR should be reviewed and enhanced.
The TMA believes its five-pronged approach could represent a comprehensive set of immediately actionable steps that could be taken to enhance the robustness of the HIBOR fixing mechanism, if the proposals are accepted by the HKAB and the HKMA.
In a subsequent statement, the HKMA pointed out that it understands that the HKAB intends to consult the financial sector on the findings and recommendations of the TMA’s report before presenting its recommendations to the HKMA by the end of this year.
Without pre-judging the outcome of the consultation exercises, the HKMA reiterated that “the market expects to see refining measures that would help increase the transparency of the fixing process, promote discipline and strengthen internal control amongst reference banks in submitting reference rates, and enhance governance for the fixing regime.”A comprehensive report in our Intelligence Report series, analysing the situation on the ground in each of the main offshore banking centres, is available in the Lowtax Library at http://www.lowtaxlibrary.com/asp/subs_reports.asp and a description of the report can be seen at http://www.lowtaxlibrary.com/asp/description_report3.asp
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