(SOFR)?
Key Takeaways
The Secured Overnight Financing Rate (SOFR) is an important benchmark for pricing loans, derivatives, and other financial instruments.
As an alternative to the London Interbank Offered Rate (LIBOR), the Secured Overnight Financing Rate provides a more transparent alternative that reflects the cost of borrowing in the U.S. financial system.
After the vulnerabilities of the London Interbank Offered Rate became evident during the financial crisis of 2008, the Secured Overnight Financing Rate became the preferred benchmark for financial contracts tied to the U.S. dollar.
Futures contracts on the Secured Overnight Financing Rate are traded on the Chicago Mercantile Exchange (CME), allowing investors to hedge or speculate on future rates.
What is the Secured Overnight Financing Rate (SOFR)?
The Secured Overnight Financing Rate (SOFR) essentially represents the cost of borrowing money overnight when the loan is backed by safe U.S. Treasury securities. You can think of it as a daily snapshot of borrowing costs in a vast market where banks and other major institutions swap cash and government bonds.
The New York Federal Reserve manages the Secured Overnight Financing Rate in collaboration with the Office of Financial Research at the U.S. Department of the Treasury, and it is calculated using actual transactions in the repurchase agreement market, where institutions borrow and lend cash secured by Treasury securities.
How the Secured Overnight Financing Rate Works