SOFR is pronounced “sofer” like “gopher” and not “so far”.
SOFR IN A SNAPSHOT
> SOFR (Secured Overnight Funding Rate) was recommended by the ARRC as a replacement to USD LIBOR
> SOFR is calculated as a volume-weighted median of repo transaction data on billions of dollars of trades from multiple market segments
> The SOFR rate is a broad measure of the cost of borrowing cash overnight collateralized by Treasury securities
> Since it is a secured borrowing rate, it is typically lower than LIBOR, an unsecured rate, and therefore requires a spread adjustment
PROPOSED CONVENTIONS FOR BUSINESS LOANS
> The purpose of the spread adjustment is to make the interest costs under the replacement benchmark equal to LIBOR based interest costs when considered over longer periods of time
> Both ISDA and the ARRC have agreed on the same methodology for determining the SOFR spread adjustment:
The 5 year median difference between LIBOR and SOFR that will be determined at some point prior to the transition and not be subject to change once it is set,
Based on current data, the ISDA spread adjustment would be 11 BPS for SOFR with a one month acccrual period and 26 BPS for SOFR with a three month accrual period,
We still have time to go before the final determination, but because rates are expected to stay low and stable, the final adjustment may not be too different; and
Unlike 1, 3, 6 and 12 month LIBOR, there is no term structure for SOFR yet. Stay tuned, possibly in 2021.
> In the absence of term SOFR, based on the ARRC's recommendation for bilateral and syndicated business loans, interest will accure daily based on SOFR over the interest period. The SOFR rate will not be compounded.
> ISDA contracts will average the daily compounded SOFR rate over an accrual period.