What is LIBOR?

by Girl Banker

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Libor is a very important concept if you want to work in the capital markets. You could easily be asked to define LIBOR in an interview.

What is LIBOR or Libor? 

LIBOR is the London Inter-Bank Offered Rate. It is the rate of interest that banks charge to lend money to each other, i.e. it is an interbank interest rate.

• LIBOR levels are compiled by an organization called the British Bankers’ Association.
  
  
• LIBOR is compiled on a daily basis (Monday to Friday, except public holidays) and is published at about 11:00 a.m. London time.
  
  
• For every maturity, the BBA gets 16 quotes from 16 banks; they discard the lowest four and the highest four; the remaining eight levels are then averaged to come up with that day’s LIBOR reference for that maturity.
  
  
• LIBOR rates are available for a term of up to one year.
  
  
• There is a different LIBOR rate for every currency i.e. we have GBP LIBOR, USD LIBOR, EUR LIBOR and so forth.
  
  
• LIBOR used to be viewed as a risk-free interest rate because the big banks that LIBOR is compiled from were seen as being “too big to fail” and therefore riskless. However, this view changed radically during the credit crunch, especially after Lehman Brothers collapsed.
  
  
• Nowadays, LIBOR is accepted as just a benchmark or reference level of interest rather than a clear reflection of bank credit risk.

• LIBOR is published for the following maturities (or tenors):

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Excerpt from To Become an Investment Banker

If a LIBOR rate is needed for an intermediate point, simple linear interpolation is normally used.

If LIBOR rates are plotted on a graph with time on the x-axis, the result is a LIBOR curve. The LIBOR curve is a type of yield curve, that is, a curve showing interest rates against time.

Historical LIBOR levels are freely available from the BBA website.

In the week of Jun 24th 2012 news broke that some banks had been manipulating LIBOR rates in order to look more secure during the financial crisis (dates range from as early as 2005 to 2009). Barclays was notably fined £290m ($450m) for its involvement in rate fixing.

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