SOFR has gained momentum, but will it still be a panicked
race to the finish line?
The world of SOFR is evolving quickly with the "SOFR First" initiative beginning to change market conventions and ARRC endorsed term rates. But will this momentum continue? Or will we see chaos at year end?
The progression of SOFR in 2021 has been slow and as of mid year only accounted for a small percentage of volume in relation to LIBOR transactions. SOFR First has created a spark and triggered events like ARRC’s formal recommendation of Term SOFR, however we know the work is far from complete and that much more is needed.
With any transition in relation to the retiring of a current state there are events needed that are critical to the success of the overall transition. These events are usually manufactured rather than organic as typical behavior is to use the known quantity for as long as possible. With SOFR First we now have a significant manufactured event that has been used to drive the recommendation from the ARRC for Term SOFR. Although recommendation was achieved, did we see enough to justify it? Were the criteria established in the ARRC’s principals and indicators truly met, or is there still significant work to be done?
Key areas of uncertainty:
Did the ARRC endorse Term SOFR too quickly, were conditions met
Will SOFR continue to be the front runner for replacement of LIBOR?
Will ARRC endorse Credit Sensitive Rates prior to year end?
Was the quick spike in SOFR volume post SOFR First just an anomaly?
On July 26th the day SOFR First went live ARRC Chairman and Vice Chairman of Institutional Securities at Morgan Stanley Tom Wipf said: “If signs continue to trend as they currently are progressing, we expect to formally recommend the CME SOFR Term Rates very soon.”
Although a spike in SOFR derivative volume was seen in the first two days post SOFR First it looks to be short lived as the 20% percent achieved during the middle of week ending July 30th decreased back down to 7% for the end of week total.
How will this affect the progression of Term SOFR and overall adoption of SOFR?
The journey to Term SOFR has seen its twists and turns
The journey to achieving Term SOFR has been ongoing since the beginning of 2021, however the volume increase in relation to the duration in time is very modest in terms of seeing continued growth.d execution cycles as things evolve
Areas to keep an eye on
The end of the year deadline of no new LIBOR will be here in less than 5 months. The ARRC has published a readiness checklist Practical Implementation Checklist for SOFR Adoption and in addition the OCC has published a self assessment tool Libor Self-Assessment Tool. In the meantime, we are keeping our eye on market movements and trends with a few specific areas listed below:
Will the weekly SOFR volume in relation to LIBOR continue to rise or was the post SOFR First uptick an anomaly contrasting the ARRC’s first market indicator of continued growth in overnight SOFR-linked derivatives volumes?
Will the Interdealer brokers’ LIBOR screens turn off on October 22, 2021 showing continued progression towards use of SOFR?
MRAC is targeting SOFR First for Cross Currency Swaps on September 21, 2021. When will the dates be set for Non-Linear Derivatives and Exchange Traded Derivatives / Other?
Contact us with questions and join the conversation at our favorite LIBOR Transition LinkedIn group.
Martha-Rosalind (“MR”) Stainton