Big change for interest rates in South Africa coming next year

South Africa’s key benchmark interest rate, the Johannesburg Interbank Average Rate (JIBAR), will expire in 2025 and be replaced by a new index, promising a significant improvement in the calculation of interest rates in the country. 

The South African Reserve Bank (SARB) has completed the observation period for the South African Rand Overnight Index Average (ZARONIA).

JIBAR, the key benchmark interest rate in South Africa, has a significant influence on the pricing and valuation of financial products.

It represents banks’ cost of borrowing for maturities of up to 12 months and is widely used in financial contracts, with outstanding contracts referencing the three-month Jibar exceeding R340.6 trillion.

These contracts include derivatives like interest rate swaps, bonds, and loans used by financial institutions and large corporate treasuries.

In comparison, ZARONIA is not subject to the same issues because it is calculated using actual overnight transactions in the wholesale funds market, making it a more reliable reference rate.

By reflecting the real cost of borrowing on an overnight basis, ZARONIA offers a stable and transparent measure that aligns with international standards for risk-free rates.

This means that from now on, ZARONIA will be the recommended alternative reference rate for ZAR-denominated financial contracts.

BDO Zakhele Nyandeni, Director at BDO Zakhele, highlighted that South Africa’s financial landscape is undergoing a significant change, with the transition from the JIBAR to ZARONIA as the primary reference rate.

It is essential to understand and adapt to this change to maintain stability, integrity, and transparency in South Africa’s financial markets.

Nyandeni emphasised that the reliability of JIBAR has been increasingly questioned because it is determined by expert judgment rather than actual transactions, making it susceptible to manipulation and less representative of true market conditions.

Global regulatory changes have reduced unsecured interbank lending, making it more challenging to accurately determine rates like JIBAR.

ZARONIA is poised to substantially impact the valuations of various assets and will require alterations in the pricing of loans, derivatives, and other financial instruments.

Financial models and valuation methods will also have to be adjusted to accommodate the new reference rate.

This shift could influence pricing dynamics and modify the prices of financial products connected to JIBAR, causing disruptions for financial institutions, corporations, and individuals with current contracts.

The impact in South Africa

The transition will have wide-ranging consequences across SA’s financial system and could be disruptive. In the real economy, contracts linked to JIBAR or prime will be switched to compounded-in-arrears ZARONIA rates.

The pricing of all debt securities and different types of interest-rate derivative contracts in the financial markets will be adjusted to the new reference rate.

The benchmarks used to measure investment performance will need to be updated, especially in the money market.

Changing investment mandates often takes longer than anticipated.

Consequently, institutions or individuals may encounter liquidity issues and other challenges in managing their risk exposures, hedging strategies, and capital requirements.

As Nyandeni explained, entities with existing contracts linked to JIBAR will need to review and potentially renegotiate terms to incorporate ZARONIA.

Financial institutions also need to assess and upgrade their systems to accommodate ZARONIA. This involves updating valuation models, risk management frameworks, and reporting mechanisms.

Under the new reference rate, institutions will also need to reassess risk exposures, hedging strategies, and capital requirements.

The transition to ZARONIA is anticipated to improve market transparency and decrease the likelihood of manipulation.

This change, by adopting a more robust and dependable reference rate, is expected to bolster market integrity and transparency, reduce the risk of manipulation, and instil greater confidence in financial instruments.

With JIBAR scheduled to conclude in 2025, financial institutions need to initiate their preparations as early as possible to mitigate any potential instability.

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