The CDOR to CORRA Transition – Milestones Between Here and the End of the Road
We have previously written about the upcoming permanent cessation of the use and publication of CDOR after June 28, 2024 and the recommended fallback language parties should be considering for loan agreements (see our article here). Although this permanent cessation date is not until next year, market participants should be aware of other related milestone dates that have occurred or will be occurring this year related to the transition from CDOR to CORRA.
Inter-dealer Quotes
In August 2022, the Canadian Alternative Reference Rate working group (CARR) published its transition roadmap, which included a “CORRA First” initiative in order to generate increased CORRA-based liquidity. This CORRA First approach affects trading between all banks/dealers who transact in Canadian dollar interest-rate derivatives in the inter-dealer broker market. There are two stages to the CORRA First approach:
- Stage 1: Starting January 9, 2023: dealers are expected to first provide CORRA-based quotes (instead of CDOR) to inter-dealer counterparties for linear derivatives.[1]
- Stage 2: After March 27, 2023: dealers are expected to first provide CORRA-based quotes (instead of CDOR) for non-linear derivatives and cross-currency basis swaps.
Although the idea is to have most inter-dealer derivatives reference CORRA instead of CDOR after these respective dates, this does not prevent a CDOR-based trade taking place if requested/required by a dealer.
Federally Regulated Financial Institutions
The Office of the Superintendent of Financial Institutions (OSFI), the prudential regulator of Canadian federally regulated financial institutions (FRFIs), has adopted the two-stage transition approach proposed in CARR’s white paper:
- Stage 1: OSFI expects that all new derivative contracts (bilateral, cleared, and exchange-traded) and securities (assets and debt liabilities) will transition to alternative reference rates by June 30, 2023, with no new CDOR exposure being booked after that date, subject to limited exceptions. Those exceptions include derivatives that hedge or reduce CDOR exposures of derivatives or securities transacted before June 30, 2023 or in loan agreements transacted before June 30, 2024.
- Stage 2: By June 28, 2024[2] OSFI expects that FRFIs will have transitioned all existing loan agreements referencing CDOR to an alternative reference rate. This second stage is intended to provide FRFIs with additional time to transition their loan agreements and deal with potential issues related to re-documenting “legacy” transactions, as well as allow more time for existing CDOR-based exposures to mature.
Term CORRA
CARR confirmed on January 11, 2023 that efforts are underway to develop a 1- and 3-month Term CORRA benchmark. The expected timeframe is to have such benchmark available for use by the end of Q3-2023. As we mentioned in our previous article, the CARR recommended fallback language for loan agreements (CARR Recommended Language) lists Term CORRA + credit spread adjustment as the first fallback even though, at the time of publication of the CARR Recommended Language, Term CORRA was not yet available. As noted in CARR’s announcement, it has developed its recommended methodology for calculating a robust Term CORRA benchmark. Term CORRA is a forward-looking term rate, similar to CDOR, that is meant to reflect the CORRA overnight index swap rate for the 1- and 3-month tenor at a point in time. This means that borrowers will know at the beginning of an interest period how much interest will be charged for that period as opposed to using overnight CORRA calculated in-arrears.
It should be noted that the approved uses of Term CORRA are quite limited and will be restricted through the Term CORRA licensing agreement. CARR notes that the vast majority of financial products currently referencing CDOR will transition to overnight CORRA calculated in-arrears; however, Term CORRA is permitted for the following
Approved Uses for Term CORRA[3] | Not Approved Uses for Term CORRA |
| All other uses of Term CORRA, including but not limited to:
|
| |
|
Conclusion
Although the cessation of all tenors of CDOR will not take place until June 28, 2024, CARR expects that dealers/banks should already be quoting CORRA rates for inter-dealer counterparty trades, and certain market participants may need to transition from CDOR to CORRA in advance of the cessation of CDOR. Milestone dates that dealers/banks should be aware of in the lead-up to the permanent cessation of CDOR include:
In addition, certain end-users will need to carefully consider whether they should transition their CDOR-based loans and trade finance transactions to Term CORRA or to overnight CORRA calculated in-arrears once Term CORRA becomes available by the end of Q3-2023.
For more information on interest rate reform and our Firm’s expertise, please see the webpage of McCarthy Tétrault’s Financial Services group.
[1] A linear derivative is a derivative where the change in the risk factor to the change in the value of the derivative is linear, such as a forward or a swap.
[2] Although CARR’s white paper indicates that Stage 2 should be completed by June 30, 2024, we note that CARR’s white paper was published on December 16, 2021 before Refinitiv Benchmark Services Limited announced on May 16, 2022 that the last publication of all tenors of CDOR will be on June 28, 2024. In addition, we note that Friday, June 28, 2024 is the last Business Day of the month, and so, notwithstanding the date referenced in CARR’s white paper, such date is effectively the last day on which banks/dealers can transition existing CDOR-exposure prior to its permanent cessation.
[3] CARR has indicated that a decision of whether to add inter-dealer single currency derivative transactions into the Term CORRA approved use cases will be made by CARR prior to the official launch of Term CORRA in Q3-2023.
