SOFR is an overnight collateralized rate based on daily repo transactions, typically over $700 billion each day. It was chosen by the Alternative Reference Rates Committee (ARRC) as the recommended alternative to USD LIBOR. SOFR complies with the International Organization of Securities Commission Principles for Financial Benchmarks and is based on a robust underlying market, in line with the Financial Stability Oversight Council and Financial Stability Board’s mandate.
Many of the changes required to begin using SOFR are already in progress. This includes CME Group supporting SOFR futures trading and swaps clearing, as well as the Financial Accounting Standards Board proposing the eligibility of SOFR as a permissible US benchmark interest rate for hedge accounting. However, a large volume of work remains for individual financial institutions, and this work should now begin in earnest.
Institutions need to determine how best to use SOFR and if need be develop alternative rates. It is also important to inventory exposures, speed up product development, and mobilize for transition of existing portfolios of LIBOR products. In parallel, firms should also initiate a client outreach and education process to prepare clients for the transition of existing products and pipeline of new product options.