A new interbank lending rate, to be launched on Monday, could help protect bank balance sheets from fluctuating interest rates and, backers hope, will lead to a more secure financial system.
The rate, created for sterling loans, will help UK banks and building societies as well as international institutions, which also trade in the pound, improve the hedging of their rate risks.
The Repurchase Overnight Index Average (Ronia), to be published by the Wholesale Market Brokers’ Association, which represents interdealer brokers, is a secured rate. This means it is the rate banks charge each other for loans using collateral.
Secured lending, considered safer since collateral can be used to offset losses in the event of a loan not being repaid, has jumped in volumes compared with unsecured lending since the financial crisis in 2008.
Some strategists say Ronia could challenge the London Interbank Offered Rate as the established market benchmark lending rate. Libor is an unsecured rate, which is hardly used beyond one month due to the preference for secured lending.
“The financial crisis in effect killed unsecured lending between banks due to the fears of counterparty risk,” said Don Smith, economist at Icap, the largest interdealer broker. “Only the biggest and strongest banks can borrow in the money markets without collateral. By contrast, secured lending has seen a sharp rise in volumes. That is why Ronia is likely to become an increasingly important hedging tool for banks.”
Alex McDonald, WMBA chief executive, said Ronia “should help provide the financial system with a much better way to hedge against counterparty risk”.
Ronia has an advantage over Libor because it is an actual rate banks charge each other for loans and is thus considered a better reflection of bank funding costs. Secured sterling overnight lending between banks is up from a monthly turnover of £150bn in mid-2007 to about £400bn.