If this is something Moore & Van Allen could assist with, please let me know. A forward looking term SOFR may be constructed based on SOFR derivatives markets once those markets have developed enough liquidity. Repo markets, broadly, are those in which banks and other large financial institutions and corporates borrow or lend cash secured by liquid securities, often U.S. Treasuries, for short periods of time, typically overnight. To address this, the ARRC, the International Swaps and Derivatives Association (ISDA), and other market participants have recommended a variety of options, all of which reduce the volatility otherwise associated with a daily rate, for calculating SOFR over a given interest period. It seems everyones asking this question recently. At the New York Fed, our mission is to make the U.S. economy stronger and the financial system more stable for all segments of society. Each of the SOFR compound in arrears and Daily Simple SOFR rates will be available in up to seven tenors in a variety of different forms in order to conform to convention in different markets. H\Pj0+t=,N -i?Fq Other forms of SOFR, including use of SOFR in advance or, if available, a SOFR term rate, would tend to have conventions similar to current LIBOR conventions. Sample 1 Sample 2 Based on 2 documents The smoothing effect is more evident as we increase the reference interest period. Check out our white paper here for more on how the transition will change your rate. Since ISDA SOFR is meant to serve as a replacement for LIBOR, the difference between the two rates is minimal. Wednesday, the ARRC announced (HERE) the expectation to endorse CMEs Term SOFR in late July or early August. The SOFR Adjustment is intended to help with this, but the interest rate environment over the last 5 years (the time period the adjustment is based on) is unique if considering a longer window. &J7YlbN7tk#[Vl4w1tyK #`O(\2`|6)R'?$Wrhvf>{K/SJCn}dK'|d|Mb v~|44[x= E SOFR benefits from the ARRCs support and the CFTCs SOFR First best practices, which should promote the growth on a SOFR swaps market. Term SOFR vs Daily Simple SOFR - Whats the Difference? As discussed in the User's Guide to SOFR, although compound interest will more accurately reflect the time value of money and will match the payment structure in derivatives and debt The Secured Overnight Financing Rate (SOFR) forward curve represents the implied forward rate based on SOFR futures contracts. For further information, please visit chathamfinancial.com/legal-notices. New or existing LIBOR loans. %%EOF The more recent margin rules for swaps have expanded out what buyside entities believe themselves to be eligible for treatment as an end-user. I just have not seen or heard of too many Borrowers eager for an in-arrears rate. As part of our core mission, we supervise and regulate financial institutions in the Second District. Initial Term Loans means the term loans made by the Lenders on the Closing Date to the Borrower . For more resources or help, check out Pensford.com/SOFR or give us a shout. Earlier this year, the CME Group began publishing its calculation of "term SOFR" rates for 1-, 3-, 6- and 12-month tenors.2 After a period of evaluation as to whether the CME Group rates met . Charlotte, NC 28203. Check it out here. urrently, SONIA forward looking term rates are available for some tenors and the ARR recommends use of ME Group's forward-looking SOFR Term Rates for 1-, 3- and 6-month tenors. 1300 South Mint Street, Suite #410 The hedge/loan accrues interest daily based on SOFR and the total amount due is known at the end of the period. This is a simple interest calculation. In addition, Daily SOFR is calculated in arrears (backward-looking), which creates operational differences from forward-looking rates (e.g. The Secured Overnight Financing Rate (SOFR) is a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities. This page shows graphs and a table with information about the development of the SOFR interest rates in 2022. With all that said, people much smarter than me have very likely already thought this one through and can discuss forward looking curves for both rates. At the New York Fed, our mission is to make the U.S. economy stronger and the financial system more stable for all segments of society. Need to file a report with the New York Fed? Clear as mud?What does this mean for me? Unfortunately, it isn't that simple. SOFR is also manipulated by the Federal Reserve, so in times of stress the Fed can force this rate to drop and keep the rate there. In effect, the term rate reflects market expectation as to what will happen to interest rates, while the compound average reflects what actually happens to interest rates over the period. Term SOFR is a proactive rate, meaning it moves in anticipation of a Fed hike. gMU:xfo>3;9x?eX` 'vs SOFR Average In identifying SOFR, the ARRC ruled out the use of certain other rates, including the Effective Federal Funds Rate, citing market size and the potential to constrain monetary policy, as well as Treasury bill or bond rates, citing concerns around certain technical factors and how they respond to safe haven demands in periods of stress. The floating leg is the compound average of the overnight rate compounded over the interest period, while the fixed leg is set at the start of the period. These spread adjustments were fixed on March 5, 2021 at 11 bps for 1M contracts and 26 bps for 3M contracts. Term SOFR > Daily Simple SOFR should be the case, since Term SOFR should more closely align with SOFR Compounded In-Arrears. When looking only at the loan market, what new reference rate will be the most common? 2. and SOFR Averages. Many financial contracts have used overnight rates, but typically use an. USD markets started transitioning from LIBOR to SOFR in 2017 after the FCA announced that LIBOR was at risk of discontinuation at the end of 2021. The New York Fed calculates SOFR by taking the volume-weighted median (50th percentile) of transactions in three markets for repurchase (repo) agreements collateralized by U.S. Treasury securities: The New York Fed publishes SOFR at 8 a.m. EST each day. Banks have since started issuing debt and selling hedges based on Term SOFR. This approach is consistent with market feedback and also the development of the SONIA- and SOFR . Simple versus Compound Interest . Keeping Them ApartOne challenge with the transition from LIBOR to alternative rates has been that SOFR is used as a catchall that can mean one of several things. Heres an example comparing SOFR Index and SOFR Average: [(1.04136820% / 1.04085026%) 1] * (360/30) = 0.59713% which matches the 4/1/2020 30D SOFR Average print. In this note, the ARRC Business Loans Working Group focuses on the use of orwardf - looking term SOFR. As I have mentioned in the past, I would expect the rate most commonly used by Lenders will be the floating rate that can be swapped out for the lowest fixed rate. 0 Units: Percent, Not Seasonally Adjusted Frequency: Daily Notes: As an extension of the Secured Overnight Financing Rate (SOFR), the 30-day SOFR Average is the compounded average of the SOFR over a rolling 30-day period. Both curves reflect future expectations of Federal Open Market Committee (FOMC) policy, but LIBOR is a forward-looking term rate while SOFR is an overnight rate. 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Copyright 20192023 Loan Syndications & Trading Association. Lastly, if SOFR swaps have a clearing requirement, and BSBY swaps are never cleared, this could greatly impact the market too. For right now, maybe it is best to not put all your eggs into one basket. There are several different types of SOFR: (1) Daily Simple SOFR, (2) Daily Compounded SOFR, (3) Term SOFR, (4) SOFR Averages, and (5) SOFR Index. Need more information? endstream endobj 2613 0 obj <>/Metadata 165 0 R/Outlines 200 0 R/PageLayout/SinglePage/Pages 2602 0 R/StructTreeRoot 287 0 R/Type/Catalog>> endobj 2614 0 obj <>>>/Rotate 0/StructParents 0/Tabs/S/Type/Page>> endobj 2615 0 obj <>stream With the different forms of SOFR rates in place i.e. With multiple SOFR indices available for use, in addition to rates such as Bloombergs BSBY (read more about BSBY here), borrowers may find themselves with a term sheet listing an index theyve unfamiliar with. hm1l)djkq/R Xwe7o${',$3T@r@.B$(#X|"(=N5Tndq4j~*?Ck7o{c[;2kiitUXmEoY>| pMK?7M\s?U?f-YzXwkA;gc,d>"i|Csre_0{ LY`B0L>0p|^/Pce3);3k?%g6,$h-t,\ t$)"Hef+y?.9)H*sYH 7? Need to file a report with the New York Fed? Average overnight rates can be calculated on either a simple interest basis or a compound interest basis. The Federal Reserve Bank of New York works to promote sound and well-functioning financial systems and markets through its provision of industry and payment services, advancement of infrastructure reform in key markets and training and educational support 3 And the LSTAs Elliot Ganz explains how the revisions are, The panelists will discuss sustainability linked loans (SLLs) and the growing importance that SLLs play in advancing ESG considerations in the loan market. Simple average SOFR is calculated in arrears meaning it reflects the Overnight SOFR resets during the actual accrual period. If youre comparing a Compounded SOFR deal to a Term SOFR deal today, Term SOFR is 0.22% higher since it has already risen in anticipation of a March rate hike. Chatham's U.S. market data includes daily SOFR and SOFR/Term SOFR swap rates. 2612 0 obj <> endobj 4.32 %. (The entire conventions document is a mere five pages, so it is an easy read for those that want more detail.). This is because Term SOFR is a risk-free rate in comparison to LIBOR which inherently includes the credit risk of the lender along with the duration risk. %%EOF Copyright 20192023 Loan Syndications & Trading Association. It is Using SOFR as reported by the FRBNY and simple interest Using a forward term rate for USD loans will result in a different market convention than in effect for Sterling loans, where the market convention is to use SONIA compounded in arrears. We read the Users Guide with interest and offer our key takeaways below. Is that delta enough to make a difference to a Borrower? Some background: Small banks can elect a clearing exemption, generally referred to as the End-User Clearing Exemption. SOFR is based on the U.S. Treasury Repo (repurchase) market which is a deep and liquid market with over $900 billion1 in average daily . The adjustments, which were fixed in March 2021, were based on the five-year median difference between LIBOR and SOFR. Not only does it more closely match their cost of funds, but (1) they will want a 1-for-1 match and (2) they likely will not have systems in-place to confirm any compounded in-arrears calculation or otherwise just prefer to not have cash flow management based on this sort of floating rate calculation. 2023 Chatham Financial. And thats (mostly) it for the Term SOFR conventions! Daily Simple SOFR means, for any day, SOFR, with the conventions for this rate (which may include a lookback) being established by the Administrative Agent in accordance with the conventions for this rate selected or recommended by the Relevant Governmental Body for determining "Daily Simple SOFR" for business loans; provided, that if the Think Prime or Fed Funds. In other words, its a rolling compounded average which is updated daily by the NY Fed after SOFR is published. The distribution of risk across the curve in SOFR has been fairly consistent since the middle of last year. %PDF-1.6 % Think Prime or Fed Funds. Since Term SOFR is based on implied market expectations, its forward curve is effectively the same as compounded SOFR, so we dont list separate curves. It will be interesting to see which has better pricing for Borrower-facing swaps. hbbd``b`$g! Term SOFR - the thought process ING Term Secured Overnight Financing Rate (SOFR) is the preferred reference rate on the transition of legacy loans product from Libor. March 2, 2023 - The FT recently commented that, as LIBOR deadline looms, leveraged borrowers and lenders are scrapping over the fine print as the, The SECs proposed Safeguarding Rule includes sweeping and transformative revisions to the current Custody Rule. These versions are derived from Overnight SOFR, which is compounded or averaged over 30, 90, or 180 days, meaning theyre also retroactive. Here are all of the forms, instructions and other information related to regulatory and statistical reporting in one spot. The GCF repo market is a tri-party repo market used only between dealers who borrow cash against general collateral (i.e., securities that are not specified until the end of the trading day). LIBOR, a reference rate for more than $300 trillion contracts globally and nearly $200 trillion U.S. dollar contracts, likely will end after 2021. Appendix 1. CcL;&:l&=,s=-/)b#!'>Y,&s*`xLU?UxN Chatham Financial has prepared the following resources: The New York Fed publishes the following SOFR rates each business day at 8 a.m. EST. endstream endobj startxref Interest rate. The Center for Microeconomic Data offers wide-ranging data and analysis on the finances and economic expectations of U.S. households. Read more about Agency SOFR caps here. The mission of the Applied Macroeconomics and Econometrics Center (AMEC) is to provide intellectual leadership in the central banking community in the fields of macro and applied econometrics. SOFR Rates For Dummies - A Helpful Overview in Layman's Terms, https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2021/users-guide-to-sofr2021-update.pdf, https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2020/ARRC_SOFR_Synd_Loan_Conventions.pdf, https://www.newyorkfed.org/arrc/sofr-transition, https://www.newyorkfed.org/medialibrary/Microsites/arrc/files/2021/USD-LIBOR-transition-progress-report-mar-21.pdf. We are connecting emerging solutions with funding in three areashealth, household financial stability, and climateto improve life for underserved communities. The New York Fed has been working with tri-party repo market participants to make changes to improve the resiliency of the market to financial stress. The webinar, This is the form used by administrative agents when a lender joins the syndicate and must provide the agent with its contact details, wiring instructions,. %PDF-1.6 % There is a much more robust market supporting the calculation of SOFR. Compounded SOFR in arrears and Daily Simple SOFR may still be used by borrowers and lenders if they choose. 751 0 obj <> endobj Term SOFR, the forward-looking term rate based on the Secured Overnight Financing Rate (SOFR), has become an established benchmark rate for new US Dollar lending in the US syndicated loan market. In addition, on July 29, 2021, the ARRC formally recommended the CME Group's forward looking 1-month, . Is that delta enough to make a difference to a Borrower? SOFR Loan Product Challenges Using an overnight rate in a market accustomed to The Term SOFR Rate: CME Term SOFR is the ARRC-recommended Term SOFR rate; it is available in 1M, 3M and 6M tenors via CME DataMine, CME's Market Data Platform (MDP), and data redistribution partners such as Bloomberg and Refinitiv. Term SOFR constitutes forward-looking estimates of overnight SOFR over tenors of one month, three months, six months and twelve months. based on an average of the daily rates over a longer time period such as 1-month, 3-month, 6- . Also, many of these small banks really do execute 1-for-1 between a Borrowers swap and the small banks hedge that is counterparty to a Swap Dealer. SOFR was selected by the Alternative Reference Rates Committee (ARRC) chaired by the New York Federal Reserve in 2017. Below weve included some helpful links if youd like to dig in more. We explore the current status of the SOFR derivatives markets and review whether the market is ready for a Term SOFR benchmark. SOFR (Secured Overnight Financing Rate) is an interest rate published by the Federal Reserve Bank of New York. This index can be found on Bloomberg under ticker . Daily Simple SOFR in Arrears, Daily Compounded SOFR in Arrears, forward looking Term SOFR and SOFR Averages (Applied in Advance). $V" Y@8x"ZA3HBcio&FB The monthly Empire State Manufacturing Survey tracks the sentiment of New York State manufacturing executives regarding business conditions. In 2020, the ARRC published recommended "In Arrears" conventions for business loans. Permit movement from daily SOFR to term SOFR - It is possible that term SOFR (the first level of the waterfall) will not exist at the time a SOFR-priced loan agreement is entered into, and the loans will thus be priced at a rate based on daily SOFR (the second level of the waterfall). This is a simple interest calculation. The CME Term SOFR Reference Rates benchmark is a daily set of forward-looking interest rate estimates, calculated and published for 1-month, 3-month, 6-month and 12-month tenors. We do this by executing monetary policy, providing financial services, supervising banks and conducting research and providing expertise on issues that impact the nation and communities we serve. You should consult your own business, legal, tax and accounting advisers with respect to proposed swap transaction and you should refrain from entering into any swap transaction unless you have fully understood the terms and risks of the transaction, including the extent of your potential risk of loss. Daily Simple SOFR Rate means for any day, a rate per annum equal to (a) the greater of (i) Adjusted Daily Simple SOFR for such day, and (ii) the Floor, plus (b) the Applicable Margin for such day, in each case changing when and as Daily Simple SOFR or the Applicable Margin changes. endstream endobj startxref Yes. If only focused on a loan portfolio, Term SOFR will (likely) always be lower, but that is why the SOFR Adjustment is there. The above issue is really much broader. 248 0 obj <>stream Term SOFR, USD LIBOR, and Treasury Forward Curves The Secured Overnight Financing Rate (SOFR) forward curve represents the implied forward rate based on SOFR futures contracts. SOFR is typically published on US business days, and CME Term SOFR aligns with that calendar. Since LIBOR is an unsecured lending rate and SOFR is a secured overnight rate, LIBOR has historically been higher than SOFR, so a spread adjustment is necessary to make SOFR more comparable. 769 0 obj <>/Filter/FlateDecode/ID[<0A16976CAFCF2F4BAF285B5543FF241D>]/Index[751 27]/Info 750 0 R/Length 99/Prev 566604/Root 752 0 R/Size 778/Type/XRef/W[1 3 1]>>stream Background: The ARRCs Daily Simple SOFR and Daily Compounded SOFR in Arrears Conventions (published in July 2020) were complicated because these rates are not known in advance of the interest period and therefore many conventions differed from LIBOR conventions. If Small Banks are not qualifying as end-users, then I would expect them to prefer BSBY. The exact amounts that should be added to one-month, three-month and six-month SOFR contracts (whether of the Daily Simple, Daily Compounded, or Term SOFR variety) using this method are 0.11448%, 0.26161%, and 0.42826%, respectively. Chief among them is the opportunity to participate in the decision making process that ultimately establishes loan market standards, develops market practices, and influences the markets direction. Unlike USD LIBOR, SOFR is a fully transaction-based rate, and therefore, less susceptible to market manipulation and more attractive to regulators. Use of the Reference Rates are subject to important disclaimers, limitations and indemnification obligations. The sole value of SOFR Index on any given day is of little value, but this is because the index is a means rather than an end. The three types most often used in syndicated and bilateral credit agreements are Daily Simple SOFR, Daily Compounded SOFR, and Term SOFR. SOFR activity is increasing in terms of risk traded. The SOFR Index value reflects the effect of compounding the SOFR each business day and allows the calculation of compounded SOFR averages over custom time periods. to international institutions. Term SOFR is an attractive replacement for USD LIBOR because, like LIBOR, Term SOFR allows borrowers and lenders to know the benchmark interest rate on a loan at the beginning (as opposed to near the end) of each interest period by simply looking at the relevant Bloomberg/Reuters page. Since SOFR Average is compounded based on the preceding SOFR prints for the respective term, its often referred to as compounded SOFR set in advance and is the index currently being used on Agency financings.