London Inter Bank Offered Rate
The most famous barometer for short-term interest rates in the world, the London Inter Bank Offered Rate, or LIBOR, is the interest rate that the most credit-worthy banks around the world charge each other for loans, for any duration from twenty-four hours to five years. This global inter-bank market provides a means for financial institutions with excess capital to earn higher rates of return by its loaning of liquid assets to those in need of the funds.
LIBOR is released each day at 11 a.m. London time. It then fluctuates throughout the day based upon the market’s expectations for economic activity and the future direction of interest rates.
LIBOR and Eurodollars
LIBOR loans are expressed in Eurodollars; United States currency held by foreign entities, such as a British or German bank or insurance company.
Eurodollars are most often the result of American companies using U.S. dollars to pay internationally-domiciled corporations for goods, services, and merchandise purchased. When Uncle Sam is running a trade deficit – that is, purchasing more goods from abroad than it sells – the natural result is an increase in Eurodollars; the result of which is more foreigners purchasing American companies and assets.
Why LIBOR is Important
LIBOR is important because it is often used as the base for variable-rate government and corporate loans, and derivative-based products such as credit swaps. A small, impoverished, nation for example, may have to pay a spread of a percentage point or two above and beyond the established LIBOR rate; thus, an increase or decrease in LIBOR will result in a corresponding rise or fall in its cost of borrowing.
There are several different LIBOR rates widely used as ARM indexes: 1-Month, 3-Month, 6-Month, and 1-Year LIBOR. The 6-Month LIBOR is the most common.
Lenders may use the LIBOR rate either as posted by Fannie Mae (Fannie Mae LIBOR) or as published in the Wall Street Journal (WSJ LIBOR) as an index for setting the rates of ARM loans. So if your ARM is based on a LIBOR, the loan must specify which one is being used.
The LIBOR quoted in the Wall Street Journal (WSJ LIBOR) is the LIBOR posted by the British Bankers' Association (BBA). Each day the Wall Street Journal publishes yesterday's BBA LIBOR rate as part of the Money Rates table in the Money and Investing Section.
BBA LIBOR is compiled each working day by an electronic vendor and broadcast through a contributing number of international distribution networks. BBA LIBOR rates are published on the BBA website (http://www.bba.org.uk/) with a 1-week rolling delay (they have a fee-based service for receiving daily LIBOR rates). Historical BBA LIBOR rates are posted on their site and are contained in Microsoft Excel files.
Fannie Mae has its own LIBOR rates, which are posted on the Fannie Mae website. The Fannie Mae LIBOR rates are made available by the last business day of each month.