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DC (hiatus arc) Profile picture
@AnalystDC
Jun 14, 2021 • 9 tweets • 4 min read • Read on X
Scrolly
quick look at the impact of a CFTC recommendation to switch interdealer swaps to SOFR under the recent 'SOFR First' drive

one of the big challenges in this process is the fact that SOFR is an overnight rate and lacks a term structure (1m, 3m, etc)...

cftc.gov/PressRoom/Pres…
some proposed alternatives, such as Bloomberg's BSBY index, attempt to fix this gap by fitting a curve to realized deposit, commercial paper, CD, and bank bond rates to provide term structure while also avoiding the manipulation risk of a Libor survey...

assets.bbhub.io/professional/s…
however regulators have recently come out against such alternatives, claiming they do not eliminate the manipulation risk in the low volume of transactions underlying the index

the officially-endorsed solution is to create Term SOFR rates instead...

sec.gov/news/public-st…
the NY Fed earlier this year selected CME to administer these Term SOFR benchmarks, provided trading volume in CME SOFR futures and linked products reaches desired levels

the Term SOFR rates are to be calculated based on active 1m and 3m SOFR futures...

newyorkfed.org/medialibrary/M…
there are a few technical differences between these two products

the 1m futures price inversely to the arithmetic mean of daily SOFR rates over the contract month

while the 3m futures roll on a quarterly IMM date schedule and price inversely to the compounded rate...
in CME's methodology, the futures data from 3 nearest 3m and 7 nearest 1m contracts is used to calculate implied future SOFR rates over the contract terms

then a step function with breaks at FOMC dates is fitted to model the path of realized SOFR...

cmegroup.com/market-data/fi…
this implied future path of overnight rates is then compounded to calculate a 1m, 3m, and 6m Term SOFR benchmark

this methodology is supported by work from NY FED researchers Heitfield and Park, who wrote a 2019 paper heavily cited by CME...

federalreserve.gov/econres/feds/f…
in this work the researchers found that implied rates from interest rate futures closely tracked the realized forward overnight rates underlying the contracts, which CME uses to justify the value of a Term SOFR benchmark...
that's all for now, thanks for reading if you made it to the end and hope people find some of the linked material informative... cheers! 👍💯

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More from @AnalystDC

DC (hiatus arc) Profile picture
Nov 1, 2022
(1/5) Some notes on current FF pricing going into tomorrow’s FOMC…

tldr: 75 coming up, equal chance of 50 / 75 in Dec, equal chance of 25 / 50 in Feb, goes to 25 or zero from there onward Image
(2/5) Image
(3/5) Image
Read 5 tweets
DC (hiatus arc) Profile picture
Oct 15, 2022
quick note on what’s going on at the Swiss National Bank

first, the SNB has slightly unusual rates policy vs other central banks… they have 2 different interest rates on CHF reserves: banks earn the threshold rate up to a limit and then the excess rate on everything above limit Image
up to late-Sept, the spread between these rates was 25bps, but with the SNB hike last month it has widened to 50bps

since banks are now effectively being penalized more for excess CHF reserves, this creates a pressure on them to get their reserve levels below threshold… Image
a natural way to do this is to use the SNB reverse repo facilities or do a FX swap for another currency and we’ve definitely seen both get some activity

the move in USDCHF basis is mainly due to this (not USD stress) but there is a limit to how much CHF that market can absorb…
Read 6 tweets
DC (hiatus arc) Profile picture
Apr 22, 2022
some interesting dispersion in 3 month rates going on right now:

looking at OIS the expected overnight rate compounds to about 1% over the next 3 months... but UST bills are trading about 20bp below that, and 3m Libor about 15-20bps higher

so why the wide range? let's see... 👀
starting on the bills side, we know that 3m bills compete with RRPs, bank deposits, and even shorter govt paper as cash equivs

with RRP and <1m bills around 30bps, investors willing to accept 3m duration can earn an extra 50bp by going to 3m bills... dragging yields down vs OIS
this effect in bills is compounded by the fact that issuance has been low, and cash earning less than 80bps in overnight markets or bank deposits is plentiful

should Treasury issue more bills, or Fed reinvest fewer maturing during QT... the spread to OIS would likely compress
Read 5 tweets
DC (hiatus arc) Profile picture
Mar 7, 2022
quick thread on what's going on in money markets:

recently we have seen some stress in funding, shown here at the 3m point as a continued rise in credit sensitive rates such as Libor & commercial paper relative to risk-free alternatives such as T-bills & UST repo...
market measures of near-term stress, such as the March FRA-OIS and spread between SOFR and ED futures shown here have widened significantly, especially since March 3...
in the broader historical context of spot Libor spreads vs OIS or T-Bills we are still at fairly moderate levels (on par with normal year-end funding tightness, not a crisis) but some funding premium is definitely noticeable...
Read 12 tweets
DC (hiatus arc) Profile picture
Jan 26, 2022
quick FOMC preview for tmrw:

with Feb Fed Funds pricing at 0.09% vs spot at 0.08%, the market odds for a hike tmrw are basically zero

assuming rates stay unchanged, there will likely be 3 things in focus:

1) March meeting

2) QT schedule

3) guidance for rest of 2022
for the March meeting at least one hike is fully priced in, with some suggesting the chance of a 50bp hike (~5% implied probability)

Powell will likely confirm a hike in March, and possibly comment on the 50bp option (very hawkish if its on the table, neutral-ish if not)…
in terms of QT schedule nothing concrete is out yet… markets will be looking for clarity on:

1) whether Fed will sell assets (hawkish) or simply allow them to mature (neutral)

2) how long Fed will wait from end of QE to start QT (longer wait / more uncertainty = more dovish)
Read 9 tweets
DC (hiatus arc) Profile picture
Dec 1, 2021
why are the Federal Home Loan Banks shrinking and is it a problem for the money markets? 🤔

since the recent peak in Q1 2020, total assets of the FHLBs have fallen by ~40%… let’s look at why this is happening and what the effects are!
to start, the main role of the FHLBs as govt-sponsored banks is to provide flexible funding to member institutions against various types of mortgage-related collateral

these loans are called FHLB advances and are used by many banks and insurers to fund mortgage holdings…
this is reflected on the combined balance sheet of the FHLB system, where the main assets beside cash and HQLA securities are advances

on the liabilities side, the FHLBs do take some deposits but mainly fund their balance sheet thru the issuance of US Agency debt…
Read 15 tweets

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