What is the Libor?
Libor or London Interbank Offered Rate is the average interest rate estimated by top banks in London that is used as a benchmark for short-term interest rates around the world. Financial institutions like banks, credit card and mortgage companies have $450-$800 Trillion in derivative and other financial products tied to the Libor.
How is the Libor Set?
Member Banks of the British Bankers Association (BBA), calculate what it would cost to borrow funds from other member banks. Each day BBA member banks submit their calculated interest rates and the 4 highest and 4 lowest rates are thrown out with the remaining rates averaged. This averaged rate is then published each day at 11:30 AM by Thomson Reuters for terms ranging from overnight to one year.
Why is the Libor Important?
The libor is one of the most widely used benchmark interest rates in the world and chances are your mortgage or credit card interest rate is tied to the Libor. For instance financial institutions will typically charge borrowers the Libor plus an added amount of interest that reflects the borrowers credit risk. When the Libor changes so does the amount of interest you pay as a borrower.
The Libor Fixing Scandel
By now you have probably heard about the Libor fixing scandel in which BBA member Barclays was fined $450 Million to settle accusations that it had intentionally submitted false rates in order to generate profits and deflect attention away from underlying problems at the bank. Basically what Barclays did was manipulate the Dollar/Libor and Euribor (EU equivalent of Libor) at the direction of their investment banking arm and other banks in an effort to make profits. Bank of America, Citigroup, Deutsche Bank, HSBC, JPMorgan Chase and UBS are currently being investigated for involvement in the Libor fixing scheme.
Readers: Has the Libor Fixing Scandel shaken your trust in the financial institutions you deal with?