BAJAJ BROKING
June 05, 2025
4 mins read
The Secured Overnight Financing Rate (SOFR) is a benchmark interest rate that indicates the cost of borrowing cash overnight, using U.S. Treasury securities as collateral. It is derived from actual transactions in the repurchase agreement (repo) market, where financial institutions exchange cash for Treasury securities temporarily. SOFR is reported daily by the Federal Reserve Bank of New York, providing an open and accurate gauge of overnight borrowing costs. The rate is derived from volume-weighted statistics from a broad spectrum of transactions, which means it is a more accurate estimate of short-term borrowing costs than other benchmarks.
SOFR became a prominent alternative to the London Interbank Offered Rate (LIBOR) after the global financial crisis. Unlike LIBOR, which was based on estimates from banks, SOFR is grounded in actual market activity, making it less prone to manipulation and more reflective of real market conditions. As a result, it has increasingly been adopted for various financial products, including derivatives, loans, and bonds. SOFR's adoption marks a shift towards more transparent and stable benchmarks in the global financial system.
SOFR is derived from real borrowing transactions in the repurchase (repo) market, ensuring it reflects current market conditions accurately.
The Federal Reserve Bank of New York publishes SOFR every business day, providing timely and reliable information on overnight borrowing costs.
The volume-weighted median of overnight repo transactions is used to construct SOFR, which improves its accuracy and reliability in representing the actual cost of borrowing.
The method of calculation for SOFR provides a high level of transparency. The data is publicly available, which allows market participants to understand how the rate is determined.
SOFR is secured by U.S. Treasury securities, which are considered some of the safest collateral in financial markets, ensuring the stability of the rate.
Over time, SOFR has gained traction as the benchmark interest rate for various financial products, including derivatives, loans, and bonds, making it an essential reference for global financial markets.
The Secured Overnight Financing Rate (SOFR) is calculated using actual transactions in the overnight repurchase (repo) market, where financial institutions borrow and lend cash overnight, secured by U.S. Treasury securities. To determine SOFR, the Federal Reserve Bank of New York collects data from a wide range of market participants, including banks, financial institutions, and dealers. The rate is then calculated as the volume-weighted median of these transactions, meaning it reflects the common borrowing costs seen across the market.
This calculation method ensures that SOFR is representative of current market conditions. It takes into account the transaction volumes, providing a more accurate picture of the rates at which financial institutions are willing to lend or borrow. Each day, the Federal Reserve Bank of New York processes this data and publishes the resulting SOFR, which is widely accessible to the public. This transparency allows market participants to understand how the rate is derived and keeps the process open to scrutiny.
The reliance on U.S. Treasury securities as collateral in these transactions makes SOFR less prone to manipulation, offering a more stable benchmark compared to rates like LIBOR. Since the rate is based on actual market activity rather than estimates, it reflects real-world borrowing conditions, making it a more reliable and accurate measure for a wide range of financial instruments. As financial markets continue to transition from LIBOR to SOFR, this methodology has been recognized as essential for creating a transparent and robust benchmark that underpins various financial products, including floating-rate loans, derivatives, and bonds.
The Secured Overnight Financing Rate (SOFR) and the London Interbank Offered Rate (LIBOR) are both key benchmark interest rates used in financial markets. However, they differ in several important aspects, including their basis, collateral, transparency, and market sensitivity. Below is a detailed comparison of the two.
SOFR is based on actual transactions in the overnight repurchase agreement (repo) market. In this market, institutions borrow and lend cash overnight, with U.S. Treasury securities as collateral. The rate is computed using transaction data from a wide range of market participants, making it reflective of real-time market conditions. On the other hand, LIBOR was traditionally based on estimates provided by a group of banks regarding the cost of borrowing funds from other banks. These estimates were made based on subjective judgments rather than actual transactions, which led to criticisms of its reliability and transparency.
One of the key differences between SOFR and LIBOR lies in the type of collateral used. SOFR is backed by U.S. Treasury securities, considered to be one of the safest forms of collateral in the financial world. In contrast, LIBOR was based on unsecured borrowing between banks, which carries a higher level of risk compared to secured transactions.
Transparency is another area where SOFR has an advantage. Since SOFR is derived from actual market transactions, it offers a higher degree of transparency, as it is based on data that is publicly accessible. LIBOR, however, was less transparent because it relied on estimates provided by banks, which were not always subject to public scrutiny.
In terms of market sensitivity, SOFR reflects the actual costs of overnight borrowing, meaning it is more directly tied to market conditions. In contrast, LIBOR could be influenced by market speculation, as it was based on estimated borrowing costs rather than actual transactions. This made LIBOR more susceptible to manipulation and less reliable during times of market stress.
Both rates are published daily, but the frequency and reliability of the data may differ. While SOFR is calculated based on actual repo market data and is published every business day by the Federal Reserve Bank of New York, LIBOR was subject to changes over time and sometimes faced delays or adjustments in its publication.
SOFR is used for a wide range of financial instruments, including loans, bonds, derivatives, and other financial products. It is increasingly becoming the preferred benchmark, especially after the financial crisis and the need to replace LIBOR. LIBOR, on the other hand, was mainly used in loans, derivatives, and credit markets. Although its role has diminished in recent years, it remains an important reference for many existing financial contracts.
Feature | SOFR | LIBOR |
Basis | Based on actual repo market transactions | Based on estimates from banks about borrowing costs |
Collateral | U.S. Treasury securities | Unsecured borrowing between banks |
Transparency | Highly transparent, based on real transactions | Less transparent, based on estimates |
Market Sensitivity | Reflects actual overnight borrowing costs | Can be influenced by market speculation |
Publication Frequency | Published daily by the Federal Reserve Bank of New York | Published daily, but subject to changes over time |
Use | Used for a wide range of financial instruments including loans, derivatives, and bonds | Primarily used for loans, derivatives, and credit markets |
In conclusion, SOFR has become the preferred alternative to LIBOR due to its more transparent and reliable nature, backed by actual market transactions and secured by U.S. Treasury securities. LIBOR, while still in use for many existing financial contracts, is being phased out due to concerns about its integrity and the shift towards more market-based benchmarks like SOFR.
SOFR has gained widespread adoption in the financial markets due to its reliability and market-driven nature. Its use spans various financial products and practices. Here are some key applications of SOFR in financial markets:
SOFR serves as the benchmark for interest rate derivatives, including futures and swaps. It provides a transparent and accurate measure for pricing these instruments, helping market participants manage their exposure to interest rate fluctuations effectively.
Many floating-rate loans now use SOFR as the reference rate, replacing LIBOR in such credit arrangements. These loans are typically structured with interest rates that adjust periodically based on an underlying benchmark, and SOFR offers a more stable and market-reflective basis for these adjustments.
SOFR is increasingly being used to price bonds and other securities, especially those with floating interest rates. As more financial products transition to SOFR, it is becoming a common reference point for debt issuances, ensuring consistency and transparency in the pricing of these instruments.
In securitization transactions, where pools of loans or other assets are bundled together and sold as securities, SOFR is applied as the reference rate. This allows the underlying loans to be priced consistently with market conditions, providing greater clarity for investors and issuers alike.
Financial institutions employ SOFR as a basis for interest rate risk management. Through the use of SOFR, financial institutions are able to hedge against short-term borrowing cost volatility with a rate that is derived from actual market transactions, providing a more stable and transparent alternative to LIBOR.
In all of these applications, SOFR is increasingly becoming the benchmark of choice due to its market transparency and accuracy in reflecting real-world borrowing costs. As the financial markets continue to transition away from LIBOR, SOFR's role is expected to expand further across a wide range of financial products.
Transparency: SOFR is based on real transactions in the repo market, providing a high level of transparency. This ensures that the rate reflects actual market conditions and is publicly accessible.
Lower Manipulation Risk: Since SOFR draws on real world market transactions rather than banks' estimates, like LIBOR in the past, it is also less vulnerable to manipulation. For this reason, SOFR qualifies as a sounder benchmark to use for financial products.
Stability: The utilization of U.S. Treasury securities as collateral for the transactions that underlie SOFR assists in giving stability to the rate. This aspect makes SOFR a reliable reference rate in financial markets.
Short-Term Nature: SOFR is an overnight rate, meaning it reflects the cost of borrowing for just one day. As a result, it may not fully capture the term structure of interest rates for longer periods, such as 30-day or 90-day loans.
Limited Historical Data: SOFR is a relatively new benchmark, introduced only in 2018. As a result, it does not yet have the extensive historical data that LIBOR has accumulated over decades, which can be important for some financial applications.
Transition Costs: The transition from LIBOR to SOFR has been accompanied by high transition costs for market participants. This entails the cost of revising contracts, systems, and infrastructure to support the new rate.
The taking on by the Secured Overnight Financing Rate (SOFR) has introduced various modifications in the financial landscape of loans and investments. As financial markets moved away from the London Interbank Offered Rate (LIBOR), SOFR emerged as the new benchmark for various financial instruments. This transition has impacted both institutional arrangements and consumer-grade financial products.
In the case of loans, particularly those with floating interest rates, SOFR now serves as the reference point. Mortgage products, corporate loans, and syndicated lending arrangements often incorporate SOFR as the underlying benchmark. Since SOFR is derived from actual overnight repo transactions backed by U.S. Treasury securities, it provides a rate that is more reflective of current market dynamics. This approach contrasts with LIBOR, which was determined using estimates submitted by panel banks. As a result, borrowers may experience fluctuations in repayment terms aligned more closely with real-time borrowing costs in the financial system.
Investment-wise, SOFR is used to set bond, derivative, and other securities' pricing. Financial institutions reprice and realign their models and strategies depending on SOFR's movement, impacting interest income and investment returns. Investors in instruments linked to SOFR might notice yield shifts that correlate with overnight funding conditions. Moreover, the evolution has caused shifts in business within companies, involving modifications to contractual law, company systems, and economic models. Although these evolutions do not change the essence of the objectives of loans and investments, they mirror a deeper transformation in market participants' attitudes toward measuring interest rate risks and returns. Through time, it may have effects on portfolio approaches and risk handling techniques in institutions and retail customers.
Secured Overnight Financing Rate (SOFR) has also become a central element of the changing financial scenario, especially amid the demand for a benchmark drawn from observable market activity. With its basis on actual overnight repurchase transactions underpinned by U.S. Treasury securities, SOFR presents a rate which is derived from real borrowing terms without the use of estimates. Consequently, SOFR has been gaining prominence among different segments of the market such as loans, bonds, and derivatives.
Even though still maturing relative to long-standing standards, SOFR is being used increasingly because it is data-driven. This trend is part of a larger shift toward transparency and standardization in financial activities. Financial institutions, investors, and borrowers are all adapting to the change by revising contracts, systems, and pricing models to correspond with SOFR-based calculations.
Knowing how SOFR works, and its advantages and disadvantages, enables market participants to make informed choices. As it increasingly replaces LIBOR in financial markets around the world, SOFR not only affects borrowing costs but also informs the measurement of risk and value in an increasingly transaction-based financial system. Its ongoing adoption into the market represents a significant milestone in establishing reference rates based on real economic activity.
Share this article: 
What is a Venture Capital-Backed IPO
10 Jun, 2025 | 4 Min. read
What Is Exchange of Futures for Physical (EFP)
10 Jun, 2025 | 8 Min. read
What Is a Compounding Fixed Deposit
10 Jun, 2025 | 4 Min. read
What is Convexity Adjustment
10 Jun, 2025 | 4 Min. read
What is the 5-3-1 trading strategy
10 Jun, 2025 | 6 Min. read
What is Selling General and Administrative (SG&A) Expense
10 Jun, 2025 | 4 Min. read
What is Back-Door Listing
10 Jun, 2025 | 4 Min. read
Sustainable Growth Rate (SGR)
10 Jun, 2025 | 4 Min. read
What is Open Interest
10 Jun, 2025 | 4 Min. read
What is TTM in Stock Market
10 Jun, 2025 | 4 Min. read
What is Member ID in EPF
10 Jun, 2025 | 4 Min. read
What is Step-Up Bond
09 Jun, 2025 | 4 Min. read
What is GIFT Nifty?
March 25, 2025 | 6 mins read
Advantages and Disadvantages of Sovereign Gold Bond (SGB) Investment
September 27, 2024 | 9 Min. read
Manufacturing Sector in India
September 27, 2023 | 4 Min. read
Forex Market Hours in India – Know the Best Timings
June 16, 2024 | 6 Min. read
How to Avoid LTCG Tax on Mutual Funds?
December 26, 2024 | 6 Min. read
Gold Price In India Today
May 19, 2025 | 5 Min. read
Why Gold Rate is Increasing?
November 29, 2024 | 3 Min. read
No result found
SOFR is an interest rate that reflects the cost of borrowing overnight, secured by U.S. Treasury securities. It is based on actual transactions in the repo market.
SOFR is based on actual market transactions, while LIBOR was based on estimates from banks about borrowing costs. SOFR is considered more transparent and less prone to manipulation.
SOFR was introduced to provide a more reliable and transparent benchmark, replacing LIBOR, which was susceptible to manipulation.
SOFR influences the interest rates on floating-rate loans and mortgages, offering a more stable and transparent reference rate than LIBOR.
Disclaimer :
The information on this website is provided on "AS IS" basis. Bajaj Broking (BFSL) does not warrant the accuracy of the information given herein, either expressly or impliedly, for any particular purpose and expressly disclaims any warranties of merchantability or suitability for any particular purpose. While BFSL strives to ensure accuracy, it does not guarantee the completeness, reliability, or timeliness of the information. Users are advised to independently verify details and stay updated with any changes.
The information provided on this website is for general informational purposes only and is subject to change without prior notice. BFSL shall not be responsible for any consequences arising from reliance on the information provided herein and shall not be held responsible for all or any actions that may subsequently result in any loss, damage and or liability. Interest rates, fees, and charges etc., are revised from time to time, for the latest details please refer to our Pricing page.
Neither the information, nor any opinion contained in this website constitutes a solicitation or offer by BFSL or its affiliates to buy or sell any securities, futures, options or other financial instruments or provide any investment advice or service.
BFSL is acting as distributor for non-broking products/ services such as IPO, Mutual Fund, Insurance, PMS, and NPS. These are not Exchange Traded Products. For more details on risk factors, terms and conditions please read the sales brochure carefully before investing.
Investments in the securities market are subject to market risk, read all related documents carefully before investing. This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.
For more disclaimer, check here : https://www.bajajbroking.in/disclaimer
Level up your stock market experience: Download the Bajaj Broking App for effortless investing and trading
Open Your Free Demat Account
Enjoy low brokerage on delivery trades
|
Please Enter Mobile Number
Open Your Free Demat Account
Enjoy low brokerage on delivery trades
|
TRENDING CALCULATORS AND STOCKS ON BAJAJ BROKING
POPULAR STOCKS: Tata Motors Share Price Infosys Share Price IRFC Share Price SBI Card Share Price Cipla Share Price NBCC Share Price IDFC First Bank Share Price IRCTC Share Price PNB Share Price Vodafone Idea Share Price Axis Bank Share Price JSW Steel Share Price Bandhan Bank Share Price SBI Share Price Tata Steel Share Price ONGC Share Price Ashok Leyland Share Price Paytm Share Price Subex Share Price DLF Share Price Reliance Share Price HDFC Bank Share Price Suzlon Share Price IOC Share Price HUL Share Price Asian Paints Share Price Bank Of Baroda Share Price ITC Share Price TCS Share Price HFCL Share Price Icici Bank Share Price Tata Chemicals Share Price CDSI Share Price MRF Share Price Tata Power Share Price Adani Green share price BPCL Share Price Vedanta Share Price Dmart Share Price Hindalco Share Price LIC Share Price SAIL Share Price Adani Port Share Price IEX Share Price Nalco Share Price L&T Share Price Adani Power Share Price BHEL Share Price Bajaj Finance Share Price Canara Bank Share Price Indusind Bank Share Price Gail Share Price Yes Bank Share Price Wipro Share Price Happiest Minds Share Price Coal India Share Price Maruti Share Price Reliance Power Share Price
INDIAN INDICES: Nifty 50 Share Price SENSEX Share Price Nifty Next 50 Share Price BSE100 Share Price Nifty Bank Share Price LRGCAP Share Price Nifty 100 Share Price MIDCAP Share Price Nifty 200 Share Price SMLCAP Share Price Nifty 500 Share Price BSE500 Share Price Nifty Midcap 50 Share Price ALLCAP Share Price NIFTY SMLCAP 50 Share Price BSE200 Share Price India VIX Share Price BSEIPO Share Price
