Background on SWESTR
In December 2019, the Executive Board of the Riksbank decided that the Riksbank would provide a new transaction-based reference rate in Swedish kronor at the shortest maturity, overnight (O/N), that is to say for transactions that run from the trade date to the next banking day. Via SWESTR (Swedish krona Short Term Rate), the Riksbank provides a transaction-based reference rate that can be used as a reference value for the very shortest maturity in Swedish kronor, and that could replace the current shortest reference rate, STIBOR Tomorrow-Next (T/N), in financial contracts.
This step is in line with international developments, in which several central banks have taken responsibility for providing transaction-based reference rates. Several of these new reference rates are in use and on the way to replacing traditional interbank rates. A common designation for these interbank rates is the Interbank Offered Rate. This has given rise to the acronym IBOR. For example, LIBOR stands for London Interbank Offered Rate, while STIBOR is the Stockholm Interbank Offered Rate.
Reference rates are used as a common benchmark or base value in the pricing of financial contracts such as interest rate derivatives, FX derivatives and debt securities. Reference rates are also used in the pricing of variable-rate loans. In Sweden, they are primarily used in loans to companies. Traditionally, so-called IBORs have been used as reference values for these purposes. IBORs that are calculated in various different ways reflect the interest rates banks demand from one another for short-term uncollateralised loans, which is to say the cost of borrowing money from another bank. Usually, the calculation of IBORs has been partly based on banks’ submissions or judgements of a reasonable interest rate for unsecured loans for the maturity in question under prevailing market conditions. These interest rates are thus not directly based solely on actual transactions.
During the global financial crisis of 2008-2009, liquidity in the interbank loan market deteriorated significantly. This contributed to uncertainty concerning whether IBORs really reflected prevailing market conditions. When reference rates are based on banks' submissions and leave scope for judgement, there is a risk of manipulation. During the LIBOR scandal, it was revealed that several international banks had manipulated the LIBOR reference rate for their own benefit or for the benefit of individual employees.
These factors led to decreased global confidence in existing reference rates. Extensive reform work was therefore initiated with the aim of strengthening the reliability of and confidence in reference rates. In 2013, the International Organization of Securities Commissions (IOSCO) issued a report that included 19 principles for reference values. The same year, the Financial Stability Board (FSB) was tasked with reviewing the reference rates. The EU Benchmarking Regulation also specifies principles and regulations for new reference rates. The FSB made two main recommendations. Firstly, it considered that IBORs needed to be reformed. Secondly, it advocated the development of alternative reference rates based on actual transactions as a complement to IBORs.
In light of the international reform work to develop transaction-based reference rates, the Riksbank, like a number of other central banks, has therefore taken on the task of publishing a transaction-based reference rate, SWESTR, for the Swedish krona. This decision was taken in December 2019, following a consultation with positive support for the proposal.
In November 2020, the Executive Board decided on the definition and calculation method for SWESTR. This decision too was preceded by a consultation in which general support for the Riksbank’s proposed reference rate, including proposed improvements, was expressed.
A test period for SWESTR was conducted from 27 January 2021 to 1 September 2021. During this period, the Riksbank published a preliminary value for SWESTR every Swedish banking day. The test period concluded when SWESTR could start to be used as reference rate in financial contracts beginning with the value date 1 September 2021, i.e. the SWESTR value published on 2 September 2021. The aim of the test period was to allow both the Riksbank and reporting agencies to test, evaluate and improve SWESTR systems, routines and processes. The methodology for SWESTR was also reviewed during the test period. This review resulted in the Riksbank’s decision to adjust the trimming method used in the calculation of SWESTR. For more information please refer to Test period for SWESTR.
From 1 October 2021, the Riksbank will also publish compounded average rates and an index based on SWESTR. The aim of calculating and publishing average rates is twofold. They can be used in new financial contracts with longer maturities, but can also be a part of a so-called fallback solution for STIBOR if STIBOR is no longer available. The Riksbank has considered international best practice as well and market conventions used in the Swedish money market while selecting the definition for average rates and index. The decision about the definition was preceded by a consultation in which support was expressed for the proposed definitions.