Fallbacks and Spread Adjustments

Derivative, loan and bond contracts that referenced yen LIBOR set out in advance what to switch to when publication stopped. Contract staff need to understand it when they check the provisions, and operations staff when they calculate interest after the switch.

Three things a fallback provision sets out

A fallback provision sets out in the contract, in advance, the successor rate to be referenced instead if the benchmark rate the contract references permanently stops being published¹. Existing contracts may already contain provisions for when the benchmark is not published. These provisions usually assume a temporary halt in publication, however, and may not work well if publication stops permanently. The Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks (the Cross-Industry Committee) organized what a fallback provision sets out into three things: the conditions for the switch (triggers), the successor rate, and the procedure for adding the provision¹.

In the transition from LIBOR, adding fallback provisions was one of the ways to move contracts. The others included early transition, which changes the reference rate without waiting for LIBOR to end, and bulk conversion at a central counterparty². The Transition from LIBOR covers how LIBOR ended, synthetic LIBOR, and the overall course of the transition.

Events that trigger the switch

A trigger is a condition that activates the fallback. The basic one is the permanent cessation trigger. For derivatives fallbacks, the International Swaps and Derivatives Association (ISDA) cites an announcement by the administrator of the benchmark or a regulator that publication will cease¹. In addition, there is the pre-cessation trigger, which is activated when a regulator announces that the benchmark no longer reflects the underlying market (that it is no longer representative). It prevents parties from continuing to use a benchmark that, because of fewer panel banks or a change in calculation method, can no longer be relied on even though it is still published³. In May 2020, ISDA published the results of a consultation that supported including both triggers together⁴.

Loans also have the early opt-in trigger, which lets the borrower, lender and agent choose to activate the fallback without waiting for publication to stop. The Alternative Reference Rates Committee (ARRC) in the US set out this trigger in its recommended language for syndicated loans and bilateral loans. It allows the parties to start negotiating early at their own discretion, without relying on an objective event such as the end of publication⁵.

The date of the announcement that counts as a trigger differs from the date on which yen LIBOR stopped being published. For LIBOR, the UK Financial Conduct Authority (FCA) announced the future cessation and loss of representativeness of LIBOR on March 5, 2021⁶. Yen LIBOR, on the other hand, stopped being published at the end of December 2021⁷.

Figure description

A timeline of three events related to the yen LIBOR fallback, in order. ISDA's IBOR Fallbacks Protocol took effect, then the FCA announced the future cessation and loss of representativeness of LIBOR, and finally publication of yen LIBOR stopped. ISDA confirmed the date of the FCA announcement as the fixing date of the spread adjustment for all currencies and tenors. The filled dots mark the FCA announcement and the end of yen LIBOR publication, which fall on different dates. The spacing does not reflect the length of time between dates.

Building the successor rate

The successor rate is a base rate (the fallback rate) plus a spread adjustment⁸.

$$\text{Successor rate} = \text{Fallback rate} + \text{Spread adjustment}$$

There is usually a gap between LIBOR and the rates that are candidates for the fallback rate, such as risk-free rates (RFRs). Switching without adjusting for the gap causes a "transfer of value," with one party gaining and the other losing. This could lead to accounting and tax issues and to litigation risk. The spread adjustment is made to keep this transfer as small as possible. No method, however, can remove the transfer of value completely. Also, because the spread adjustment stays fixed after the fallback, the movement and level of the successor rate differ from what the parties expected from LIBOR when they entered into the contract⁸.

Drawing on ISDA's consultation, the Cross-Industry Committee listed the following three ways to set the spread adjustment⁹.

In ISDA's consultation, an overwhelming majority supported using the overnight RFR compounded in arrears (O/N RFR compounded in arrears) as the fallback rate, and a large majority agreed with the historical mean/median approach for the spread adjustment. ISDA derivatives use this combination⁹.

The fixed spread adjustments

For fallbacks from LIBOR, the spread adjustment was calculated as the median of the difference over the past 5 years (the 5-year historical median approach). The values are published by Bloomberg, which began publishing the spread adjustments used in ISDA derivatives fallbacks in July 2020¹².

In Japan, in its second public consultation in August 2020, the Cross-Industry Committee recommended that loans and bonds referencing yen LIBOR also use this approach and the Bloomberg values. Of the 35 respondents, 29 agreed for loans and 30 for bonds, and 1 disagreed in each case. Most respondents agreed for reasons of consistency across currencies, alignment with ISDA derivatives, and avoiding operational complexity. The respondents that disagreed supported the forward approach as a way to prevent a transfer of value¹³.

The 5-year median can differ from a value based only on recent market rates, and in that case the level of the rate jumps at the switch. The Cross-Industry Committee also discussed whether to set a transition period to close the gap gradually. It concluded not to, because ISDA and working groups overseas had not adopted one, it would add operational complexity, and the impact would be small¹⁴.

Following the FCA announcement of March 5, 2021, ISDA confirmed that date as the fixing date of the spread adjustments for all tenors of LIBOR in all currencies. Bloomberg published the fixed values on the same day, and fallback rates for dates from then on are calculated with these fixed values⁶. The values for yen LIBOR are as follows¹⁵.

The values are negative for tenors of 2 months or less, and for tenors longer than 1 month they increase as the tenor gets longer. The value for 3-month US dollar LIBOR is 0.26161%, larger than the 0.00835% for 3-month yen LIBOR¹⁵.

Worked example for 6-month yen LIBOR

Consider a hypothetical example in which an interest rate swap with a notional amount of 10 billion yen has a floating rate of 6-month yen LIBOR. After the fallback, floating interest is calculated using TONA compounded in arrears plus the 6-month spread adjustment of 0.05809%. If TONA compounded in arrears over a 182-day period is 0.10000%, the successor rate is 0.15809%. In this example, the days in the period are counted as actual days, and a year is taken as 365 days. Compounding in Arrears explains how to calculate TONA compounded in arrears.

The interest is the notional amount $N$, multiplied by the sum of the fallback rate $R$ and the spread adjustment $S$, multiplied by the number of days in the period $d$ divided by 365.

$$I = N \times (R + S) \times \frac{d}{365}$$

Interest is rounded down to the nearest yen¹⁶. The spread adjustment alone adds about 2.9 million yen to the interest for this period.

Because the spread adjustment is fixed, any gap from market expectations at the time of the switch becomes a gain or loss for the parties as it is⁹. Consider a hypothetical example in which the spread adjustment is fixed at 0.06% a year and, at the time of the switch, the market expects the difference between LIBOR and TONA compounded in arrears to be 0.10% a year. The party receiving the floating rate receives 0.04% a year less interest than the market expects. With a notional amount of 10 billion yen and a 182-day period, that is about 1.99 million yen less. The party paying the floating rate pays the same amount less. If, on the other hand, the market expects 0.02% a year, the receiving party receives about 1.99 million yen more, and the paying party pays the same amount more.

Differences among derivatives, loans and bonds

As the table shows, loans and bonds referencing yen LIBOR differed from derivatives in the order of fallback rates and in the procedure for adding the provision to contracts¹⁷¹⁸.

"Term RFR" in the table means a term rate set in advance, such as TORF. The fallback rates for loans and bonds follow a waterfall structure, in which the first available rate from the top of the list is used¹⁷. The order for bonds is as follows.

1. Term RFR
2. O/N RFR compounded in arrears
3. A benchmark recommended by a committee connected with the authorities
4. A rate set by the ISDA definitions
5. A benchmark chosen by the issuer or another party

The protocol in the table is ISDA's IBOR Fallbacks Protocol, which took effect on January 25, 2021. For new trades, the IBOR Fallbacks Supplement, which amends the definitions, was published at the same time as the protocol¹⁹. Loans had no procedure like the protocol that applied to everyone at once. Because the parties agreed to add the provision through individual negotiation, loans could be handled more flexibly than bonds. Besides the hardwired approach, which sets the successor rate when the provision is added, the amendment approach was also available, in which the parties agree on the successor rate when a trigger is activated²⁰.

Bonds have many investors (bondholders) who cannot be identified, and changing the terms requires a bondholders' meeting under the Companies Act. A meeting is held in person for each series of bonds and also requires public notice and court approval, which places a heavy burden on the issuer. The Cross-Industry Committee's public consultation therefore considered the hardwired approach suitable for bonds, and the amendment approach, which requires later consultation and agreement, impractical²¹.

Fallbacks involving TIBOR

For yen LIBOR loans, the parties could also agree to choose TIBOR as the fallback rate. The Cross-Industry Committee's loan subgroup examined using the 5-year historical median approach for fallbacks to TIBOR. It compared the spread calculated as the 5-year median with the forward curve of the spread derived from the market for basis swaps that exchange LIBOR for TIBOR. Based on market rates at the end of June 2020, it found that the two could differ by just under 10bp either way at short tenors, and that the difference would grow as the tenor got longer. Because the transfer of value would not necessarily become smaller, the Cross-Industry Committee did not recommend a spread adjustment method for TIBOR and did not choose a party to publish the values²².

There are also fallbacks that prepare for the end of publication of TIBOR itself. In March 2024, the JBA TIBOR Administration decided to permanently cease publication of Euroyen TIBOR at the end of December 2024. ISDA treated this announcement as an event under the permanent cessation trigger set out in its definitions and other documents, and the spread adjustments calculated by Bloomberg were fixed as of the date of the announcement (March 6). The administrator states that it is desirable for loans and bonds referencing Euroyen TIBOR to use the Bloomberg values as well²³.

For Japanese Yen TIBOR, the administrator states in its June 2026 material that it is not considering ending publication²⁴. The administrator's view on fallbacks from Japanese Yen TIBOR, set out in the same material, is as follows²⁴.

• Triggers: include the permanent cessation trigger at a minimum.
• Candidates for the fallback rate: TONA compounded in arrears and term RFR (with TORF in mind).
• Spread adjustment: the 5-year historical median approach with the Bloomberg values.

The administrator says that, to make contracts more stable, parties should consider adding fallback provisions to contracts that reference Japanese Yen TIBOR. Taking the practical burden into account, it suggests an approach such as adding them first to new contracts²⁵.

Notes

1. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (Public Consultation on the Appropriate Choice and Usage of Japanese Yen Interest Rate Benchmarks, in Japanese), July 2019, "（ⅰ）キャッシュ商品（貸出・債券）におけるフォールバックの概要" ((i) Overview of fallbacks in cash products (loans and bonds)) and "＜論点１＞トリガー（発動条件）" (Issue 1: triggers (conditions for activation)), page 22 (the 23rd page of the PDF). An English version is available: "Public Consultation on the Appropriate Choice and Usage of Japanese Yen Interest Rate Benchmarks". Page numbers in these footnotes refer to the Japanese version. ↩ ↩² ↩³

2. Bank of Japan and Financial Services Agency, "円LIBOR 移行対応の振り返りと今後の取り組み" (A review of the transition from yen LIBOR and future initiatives) (Bank of Japan Review 2022-J-8, May 2022, in Japanese), note 2 to Chart 6, page 5. An English version is available: "Review of JPY LIBOR Transition and Future Initiatives" (Bank of Japan Review 2022-E-4, May 2022). Page and note numbers in these footnotes refer to the Japanese version. ↩

3. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), "公表停止前トリガーの例" (Examples of pre-cessation triggers), page 23 (the 24th page of the PDF). ↩

4. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議（第2回）" (Second public consultation on the appropriate choice and usage of Japanese yen interest rate benchmarks, in Japanese), August 2020, the international developments in "１．はじめに" (1. Introduction), pages 2–3 (the 3rd and 4th pages of the PDF). ↩

5. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), the explanation of "早期選択トリガー" (early opt-in trigger) (page 23), and "＜論点１＞トリガー" (Issue 1: triggers) and "早期選択トリガーの例" (Examples of early opt-in triggers) for loans (pages 28–29, the 29th and 30th pages of the PDF). ↩

6. Bloomberg Index Services Limited, "IBOR Fallbacks Technical Notice - Spread Fixing Event for LIBOR" (March 5, 2021), "IBOR Cessation Trigger Date," page 1. ↩ ↩²

7. Bank of Japan and Financial Services Agency, "円LIBOR 移行対応の振り返りと今後の取り組み" (in Japanese), "はじめに" (Introduction), page 1. ↩

8. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), "後継金利の内容：フォールバック・レートとスプレッド調整" (What the successor rate consists of: fallback rate and spread adjustment) under "＜論点２＞後継金利" (Issue 2: successor rates), and Chart 2-6, pages 23–24 (the 24th and 25th pages of the PDF). ↩ ↩²

9. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), "ａ．フォワード・アプローチ" (a. Forward approach), "ｂ．過去の平均値・中央値アプローチ" (b. Historical mean/median approach), "ｃ．スポット・スプレッドアプローチ" (c. Spot spread approach), and the results of ISDA's consultation, pages 24–26 (the 25th to 27th pages of the PDF). ↩ ↩² ↩³

10. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "貸出における TONA（後決め）のコンベンション（利息計算方式）について" (Conventions for TONA compounded in arrears in loans (interest calculation methods), in Japanese), December 2020, the "端数処理" (Rounding) row (page 2) and the "スプレッドの取扱い" (Treatment of spreads) row (page 3). ↩

11. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "貸出における TONA（後決め）のコンベンション（利息計算方式）について" (in Japanese), notes 7 and 8, page 3. ↩

12. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議（第2回）" (in Japanese), note 27, page 8 (the 9th page of the PDF). ↩

13. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "『日本円金利指標の適切な選択と利用等に関する市中協議（第2回）』取りまとめ報告書" (Report on the results of the second public consultation on the appropriate choice and usage of Japanese yen interest rate benchmarks, in Japanese), November 2020, "１．はじめに" (1. Introduction) and Chart 2-1 (page 2), "（ii）スプレッド調整手法" (ii. Spread adjustment method) and Chart 2-3 for loans (page 4), and "（ii）スプレッド調整手法" and Chart 2-5 for bonds (page 6). The page numbers printed in the document are one less than the PDF page numbers. ↩

14. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議（第2回）" (in Japanese), the last paragraph of "（ⅱ）スプレッド調整手法" (ii. Spread adjustment method) (pages 8–9) and note 28 (page 9). ↩

15. Bloomberg Index Services Limited, "IBOR Fallbacks Technical Notice - Spread Fixing Event for LIBOR," Figure 1, "List of impacted IBOR Fallbacks" (pages 1–2), the JPY and USD rows. ↩ ↩²

16. The interest in each row is the notional amount multiplied by the rate and by the fraction of the year, rounded down to the nearest yen. The sum of the rows for TONA compounded in arrears and for the spread adjustment equals the row for the successor rate. ↩

17. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "『日本円金利指標の適切な選択と利用等に関する市中協議（第2回）』取りまとめ報告書" (in Japanese), "（i）フォールバック・レート" (i. Fallback rate) and "（ii）スプレッド調整手法" (ii. Spread adjustment method) for loans (pages 3–4) and bonds (pages 5–6). For derivatives, see pages 25–26 (the 26th and 27th pages of the PDF) of the same committee's "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), July 2019. ↩ ↩²

18. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議（第2回）" (in Japanese), Chart 2-4, "検討委員会が整理したスプレッド調整手法" (Spread adjustment methods as organized by the Cross-Industry Committee) (page 9, the 10th page of the PDF), and note 31 (page 10, the 11th page of the PDF). ↩

19. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "ISDA IBOR フォールバック・プロトコルの批准について" (On adherence to the ISDA IBOR Fallbacks Protocol, in Japanese), November 6, 2020, notes 1–3. That new trades get the provision by referencing the definitions is in "＜論点３＞手続" (Issue 3: procedures), page 27 (the 28th page of the PDF), of Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese). ↩

20. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), "＜論点３＞手続" (Issue 3: procedures) in "（ⅱ）貸出における対応の方向性" ((ii) Direction of the response for loans), page 30 (the 31st page of the PDF). ↩

21. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "日本円金利指標の適切な選択と利用等に関する市中協議" (in Japanese), "＜論点３＞手続" (Issue 3: procedures) in "（ⅲ）債券における対応の方向性" ((iii) Direction of the response for bonds), pages 33–34 (the 34th and 35th pages of the PDF). ↩

22. Cross-Industry Committee on Japanese Yen Interest Rate Benchmarks, "『日本円金利指標の適切な選択と利用等に関する市中協議（第2回）』取りまとめ報告書" (in Japanese), "（２）TIBOR を貸出のフォールバック・レートとする場合のスプレッド調整手法" ((2) Spread adjustment method when TIBOR is the fallback rate for loans), pages 9–11 (the 10th to 12th pages of the PDF), and notes 24 and 28. That the parties could agree to choose TIBOR is in note 5 (page 3) of the same document. ↩ ↩²

23. JBA TIBOR Administration, "全銀協TIBOR改革" (JBA TIBOR reform, in Japanese), the March 2024 entries under "国内外の動向" (Developments in Japan and overseas) (the announcements by JBA TIBOR Administration, ISDA and Bloomberg), and the paragraph giving the administrator's view. Checked against the version retrieved on September 25, 2026 (the latest update was June 4, 2026). ↩

24. JBA TIBOR Administration, "金利指標改革を踏まえた全銀協TIBORの現状および今後の展望" (The current state and outlook of JBA TIBOR in light of benchmark reform, June 2026, detailed explanatory material, in Japanese), page 9 ("当運営機関の見解" (The administrator's view) on fallbacks from Japanese Yen TIBOR) and page 15 (FAQ ③). The page numbers printed in the document are one less than the PDF page numbers. ↩ ↩²

25. JBA TIBOR Administration, "金利指標改革を踏まえた全銀協TIBORの現状および今後の展望" (in Japanese), page 17 ("日本円TIBOR参照契約へのフォールバック条項の導入について" (Introducing fallback provisions into contracts referencing Japanese Yen TIBOR)). ↩