LIBOR and SARON: What Is the Difference?

LIBOR and SARON: What Is the Difference?

The controversial LIBOR standard for reference interest rates will no longer be supported in 2022. SARON, which is calculated by SIX, has provided an alternative for the Swiss franc market since as far back as 2009. What are the advantages of SARON over LIBOR? Read it in this blogpost.

Why Are Reference Interest Rates Needed?

Reference interest rates are important for the economy. And not just as far as monetary policy is concerned. Financial contracts for loans, savings deposits and mortgages all refer to these rates, which also provide an essential baseline on the derivatives market or for structured products. LIBOR, the London Interbank Offered Rate, was until now the standard – also in Switzerland.

Why Is LIBOR Being Replaced?

There was a time when LIBOR was an acronym with which few outside the world of finance were familiar. But the manipulation of the reference rate led to a public debate over LIBOR’s future that has dragged on for years. It has become quite clear that there is no future for LIBOR. LIBOR will no longer be supported in 2022.

The bottom line is that estimates provided by a small number of banks are no longer adequate. Over the past few years national working groups across the world have implemented improvements or developed new benchmark interest rates, as is the case in Switzerland. What the new reference rates have in common is that they are overnight rates based on transactions as opposed to estimates.

When Is LIBOR Being Replaced?

Support for LIBOR will be removed 2022 and banks will have to switch contracts, products, systems and processes based on the rate to new, alternative reference rates (ARR). The complexity of migrating to ARR should not be underestimated. Since 2009, SIX has provided a robust alternative to the “CHF LIBOR” rate in the shape of SARON, the Swiss Average Rate Over Night.

What Is the Difference between SARON and LIBOR?

1. Money Market: Secured vs. Unsecured

To Which Money Market Does the SARON Refer?

SIX operates the fully automated trading platform (SIX Repo) for the secured money market (shortterm credit funding) in Switzerland. The SARON reference rate reflects this repo market. “Funding against collateral” is the rule here.

To Which Money Market Did the LIBOR Refer?

The LIBOR reference rate reflected the unsecured money market (short-term credit funding). “Funding against creditworthiness” is the rule here (no collateral required).

2. Base: Industry vs. Panel

What Is The SARON Based On?

Some 160 banks and insurance companies take part in the Swiss repo market, including the Swiss National Bank (SNB), which uses it to supply Switzerland’s economy with liquidity. Banks receive funds from the SNB by depositing securities as collateral. They pledge to buy back those securities at a later date and pay interest. Banks also borrow money from each other using this principle (secured interbank market).

What Was The LIBOR Based On?

A group of 11 to 16 panel banks was involved in setting LIBOR. The panel banks answered the question of what interest rate they could borrow funds at if they ask for an interbank offer in a reasonable market size. Illicit collusion between some of those panel banks caused the LIBOR scandal in 2011.

3. Calculation: Actual Interest Rates vs. Estimated Interest Rates

How Is the SARON Calculated?

Actual concluded transactions and quotes flow into the calculation of SARON. That’s approximately 110 interest rates per day on an annual average.

How Was the LIBOR Calculated?

The estimates submitted by the panel banks flowed into the calculation of LIBOR. Between 5 and 8 interest rates were used, depending on the number of banks involved. The 3 to 4 highest and lowest interest rates were discarded.

4. How Was the LIBOR Calculated?

When Is the SARON Published?

- Calculated/published every ten minutes
- Fixing conducted three times a day (closing rate: 6:00 pm)
- Available in one currency (CHF)

When Was the LIBOR Published

- Calculated once a day
- Published once a day
- Available in five currencies (CHF, EUR, GBP, JPY, USD)

Do you want to dig deeper? What are the SARON Compound Rates? Calculate a compounded interest rate yourself here.