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LIBOR definition
LIBOR (the London Interbank Offered Rate) is a discontinued benchmark interest rate that estimated the cost of unsecured short-term borrowing between major global banks. It set a reference rate that priced loans, mortgages, bonds, and derivatives.
LIBOR worked as a reference rate written into contracts. A floating-rate loan was priced at LIBOR plus a fixed margin, so the interest payment moved up or down with each published LIBOR setting.
LIBOR has now been phased out, and all settings have permanently ceased. Markets have moved to risk-free reference rates, such as SOFR for US dollar contracts and SONIA for sterling contracts, which are built from actual transactions rather than bank estimates. LIBOR is a legacy benchmark, not a current one.
LIBOR Example
A business loan was priced at:
3-month LIBOR + 2%
If 3-month LIBOR was 4%, the loan rate became:
4% + 2% = 6%
After the transition, a similar contract uses a replacement benchmark such as SOFR in place of LIBOR.
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