AONIA

Reference interest rates - alternative reference rates - Australia.

Authors: Pieter Bierkens, Ex Head of Interest Benchmark Reform, Commonwealth Bank of Australia & James Leather FCT CGMA, Corium Treasury Limited.

AONIA (the ‘Cash Rate’): Definition, calculation and publication

AONIA derives its name from AUD Overnight Index Average.

AONIA (also known as the “cash rate”) is a key interest rate benchmark for Australia.

The other is BBSW (1).

AONIA is administered by the Reserve Bank of Australia (RBA) and generally calculated as the weighted average interest rate on unsecured overnight loans between banks on a per annum basis.

As such, it is (near) risk-free (RFR) (1).

It is the officially sanctioned Alternative Reference Rate for Australian dollar-based transactions (2). The detailed methodology used to calculate the rate can be found on the RBA website (3).

AONIA is rounded to two decimal places and published on market data services (Reuters RBA30 and Bloomberg RBAO7) prior to 9.20am Australian Eastern Standard Time (AEST) on the date on which the Cash Market Transactions which underpin the Cash Rate, mature (3).

The RBA also publish a history of the Cash Rate (3).

The Australian Securities Exchange (the ASX) calculate and publish ‘Realised AONIA’ which reflects the average rate at which banks have transacted in the overnight AUD cash market on an unsecured basis over the past 1 to 6 months (4).

AONIA is used in many financial contracts, for which it will act as the base interest rate, typically before a margin is applied.

Clarifications

AONIA, through long market usage, is commonly used in place of the term Cash Rate and has wide acceptance in financial instrument documentation.

While AONIA had its origins as an acronym for “AUD Overnight Index Average”, inference should not be made that this is its current interpretation. This is because it is the same rate as the published RBA calculated Cash Rate. While this means that AONIA will generally be calculated using Cash Market Transactions (that are used to calculate an ‘overnight index average’), there are circumstances which warrant the use of an alternative methodology (see fallback provisions) (2). These are catered for in the RBA Cash Rate Procedures Manual (5).

AONIA and Interest Rate Benchmark Reform

In response to the weaknesses identified in the setting of financial benchmarks such as the London Interbank Offered Rate (LIBOR), the global regulatory community has, since 2013, been involved in a program to strengthen financial benchmarks.

For Australia, the key interest rate benchmarks were identified as BBSW and AONIA / the ‘Cash Rate’ for which reforms were undertaken to enhance their robustness (6).

Unlike some jurisdictions, Australian regulators promote a “multiple-rate” approach, whereby market participants are expected to choose robust reference rates (eg BBSW or AONIA) that best suit each of their products and situations (3).

This is because the local market generates enough transactions to continue to statistically support the BBSW benchmark, unlike LIBOR for example.

AONIA / the ‘Cash Rate’ Outlook

The outlook for AONIA / the ‘Cash Rate’ is strong, underpinned as it is with a robust methodology and a statistically significant number of transactions.

As well as having been identified by ISDA as the chosen fallback to BBSW, there is expected to be a natural migration away from using BBSW in some products, where it might have been used historically, towards AONIA.

This applies in particular to financial products that contain reference to a risk-free rate in another currency.

Such products may include: cross-currency swaps (where certain IBORs have been replaced by the respective RFRs); and multi-currency lending facilities and other financial contracts (to align RFR usage across currencies) (6). In addition, users of 1-month BBSW, which is less robust than the other BBSW tenors, are being encouraged by the RBA to use alternative benchmarks, including AONIA / the ‘Cash Rate’ (7).

Fallback Provisions

A key element of Australia’s multiple-rate approach are fallbacks, which provide valuable insurance when using any benchmark (1).

With respect to AONIA / the ‘Cash Rate’, the fallbacks are set out in the RBA’s Cash Rate Procedures Manual (3), which states that “…if there are insufficient Cash Market Transactions … the published Cash Rate on the Publication Date will be the last Cash Rate published, or the new Cash Rate Target should one be announced by the RBA Board, or another rate that reflects the interest rate relevant to unsecured overnight funds for Cash Market Participants as determined by the Cash Rate Administrator, in its Expert Judgement and based on market conditions.

Further detail on the circumstances in which the Cash Rate Administrator would use Expert Judgement is in Section 7, ‘Use of Expert Judgment’… ”