WHAT IS LIBOR? (EASIEST EXPLANATION) Straight to the Point

In around two minutes you will know what is LIBOR. You will get both professional definition and easy explanation. No intro, no outro, straight to the point.

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LIBOR, or London InterBank Offered Rate, is the benchmark interest rate at which major global banks provide short term loans to each other on the international market.

LIBOR is mainly used during interest rate swaps. And if you are not sure what a swap means, feel free to watch one of my previous videos.

LIBOR is basically a percentage, or an interest rate, at which banks lend money to each other. This rate is reviewed, updated, and published daily.

The very basic calculation of LIBOR is as following. Every day the British Bankers Association asks major banks around the world how much would they charge other institutions for a short-term loan. Then, the highest and the lowest rates are summarized and the average rate is found. And this recently established rate is published as LIBOR for the day.

LIBOR is also a basis for consumer loans around the world. Meaning, that not only banks are affected by LIBOR changes. Regular consumers like us can also be affected by such changes. Specifically, if we are talking about mortgages, car loans, and credit card rates.

The way companies use LIBOR can be as following. For example, if you take a floating rate loan, your interest payments can be LIBOR + 1.5%. 1.5% in this case is the rate that a company established. But LIBOR will be fluctuating.

So, let’s say, in the first period, when LIBOR is 1%, your total interest payments would be 2.5%. Which is LIBOR of 1% plus fixed 1.5%. But next period LIBOR can be lowered to 0.7%. Therefore, your new interest payments would be 2.2%. Which is LIBOR of 0.7% plus the same fixed 1.5%.

But unfortunately, LIBOR can be manipulated. Several major banks influenced LIBOR rates to their advantage in the past. So, it turned out that LIBOR is not as trustworthy as many people imagined it to be.

This is why the SOFR, or the Secured Overnight Financing Rate, will replace LIBOR by June 30th, 2023.

If you are interested to learn what is the SOFR, please feel free to watch my next video.

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