SOFR
SOFR is a benchmark interest rate that’s pervasively used to set rates for various types of financial transactions.
We look at SOFR, how its traded, how lending is based off this rate, and more about its use.
Key Takeaways – SOFR
- SOFR is a wholesale interest rate benchmark referencing overnight borrowing secured by US Treasuries in the repo market.
- It replaced LIBOR because it’s transaction-based, transparent, and harder to manipulate in tradable markets (as LIBOR routinely was).
- The Federal Reserve Bank of New York publishes SOFR daily based on trillions in actual transactive activity.
- Individuals generally can’t borrow directly at SOFR.
- Access is institutional and collateral-driven.
- Practical retail access comes via SOFR + spread loans such as SBLOCs or private bank credit.
- Commercial and private loans commonly price at SOFR + 200-400bps, floating with market rates.
- Mortgages don’t price at SOFR. They embed duration, credit, prepayment, and option risk.
- Sophisticated borrowers use SOFR-linked credit, and we look at how this is done.
What Is SOFR and What Is It Used For?
SOFR stands for the Secured Overnight Financing Rate, which is a benchmark interest rate that is used to calculate the cost of borrowing for financial transactions.
It is based on transactions in the repurchase agreement (repo) market, where banks and other financial institutions borrow or lend money overnight using US government securities as collateral.
SOFR is a replacement for the London Interbank Offered Rate (LIBOR), which was phased out by the end of 2021 due to concerns about its reliability and its history of manipulation by traders.
SOFR is considered a more reliable benchmark rate because it is based on actual transactions rather than the estimates used to calculate LIBOR.
SOFR is used primarily in the United States for a variety of financial transactions, including derivatives, loans, and mortgages.
The Federal Reserve Bank of New York publishes SOFR on a daily basis, and it is widely accepted as a replacement for LIBOR by market participants.
SOFR is expected to play a key role in the global financial markets in the coming years as more countries move away from LIBOR and adopt new benchmark rates.
When Did SOFR Come Into Use?
SOFR, which stands for the Secured Overnight Financing Rate, came into use in April 2018.
It was developed by the Federal Reserve Bank of New York in response to concerns about the accuracy and reliability of the previous benchmark interest rate, the London Interbank Offered Rate (LIBOR).
SOFR is based on overnight loans collateralized by US Treasury securities, and is intended to provide a more transparent, reliable, and accurate measure of short-term borrowing costs for financial institutions.
It was adopted as a replacement for LIBOR.
SOFR vs. LIBOR
SOFR (Secured Overnight Financing Rate) and LIBOR (London Interbank Offered Rate) are both interest rate benchmarks used to determine the cost of borrowing money in financial markets.
However, there are some key differences between the two benchmarks.
LIBOR had been the most widely used benchmark for short-term interest rates since the 1980s. It is an average of the interest rates that major banks in London charge each other for short-term loans.
Manipulation of LIBOR
However, in 2017, concerns were raised about the reliability of LIBOR, as there were allegations of manipulation of the rate.
As a result, the UK Financial Conduct Authority (FCA) announced that it would no longer compel banks to submit LIBOR rates after the end of 2021, and that it would work with the industry to transition to alternative benchmarks.
SOFR based on overnight repo agreements
SOFR is an alternative benchmark to LIBOR that was introduced by the Federal Reserve Bank of New York in 2018.
It is based on overnight repurchase agreement transactions in the US Treasury market and is intended to be a more reliable and transparent benchmark than LIBOR.
SOFR is seen as a more representative rate because it is based on actual market transactions, rather than on banks’ estimates.
Calculation differences
One of the primary differences between SOFR and LIBOR is the method used to calculate them.
LIBOR was calculated based on quotes submitted by a panel of banks. On the other hand, SOFR is based on actual transactions in the repurchase agreement market.
This means that SOFR is considered to be more objective and transparent than LIBOR.
Differences in tenor
Another difference is the tenor of the rates.
LIBOR was available in a variety of tenors ranging from overnight to 12 months, while SOFR was first only available as an overnight rate because extending to 1-month, 3-month, etc.
Overall, the transition from LIBOR to SOFR was a significant change for the financial industry.
While SOFR is seen as a more reliable and transparent benchmark, the transition will require significant effort and resources for market participants to adapt to the new rate.
SOFR Futures Explained
What Are SOFR Swap Rates?
SOFR is based on overnight repurchase agreements (repos) that are collateralized by US Treasury securities.
SOFR reflects the cost of borrowing cash overnight, which is secured by Treasury collateral. LIBOR was based on unsecured interbank lending.
SOFR swap rates are used by market participants to hedge or speculate on interest rate movements.
A SOFR swap is an agreement between two parties to exchange a fixed interest rate for a variable interest rate based on SOFR.
The variable rate is typically the average of the daily SOFR rates over the swap’s term, and the fixed rate is negotiated between the two parties.
SOFR swap rates are closely watched by financial markets as they can signal the market’s expectations for future interest rate movements. They have an increasingly important role in the global financial system as a rate-setting mechanism (especially with LIBOR phased out).
Can You Trade SOFR Futures?
Yes, you can trade SOFR (Secured Overnight Financing Rate) futures through various brokers.
SOFR futures are listed on the Chicago Mercantile Exchange (CME), which is one of the world’s largest derivatives exchanges.
To trade SOFR futures, you first need to open an account with a futures broker that has access to the CME.
Examples of popular futures brokers that offer access to the CME include Interactive Brokers.
Once you have opened an account with a futures broker, you can place an order to buy or sell SOFR futures.
The CME offers several SOFR futures contracts, including three-month and one-month SOFR futures.
The contract specifications for each SOFR futures contract are available on the CME’s website, and include information such as the contract size, tick size, and trading hours.
As always, before trading SOFR futures, it’s important to understand the potential risks and rewards involved and to have a well-developed trading strategy in place.
Can You Access SOFR Borrowing Rates?
Okay, so what about SOFR as it pertains to more personal finance considerations?
Individuals generally can’t borrow at the SOFR rate. Unless you’re talking about the leverage embedded in futures, options, and derivatives, which are pretty close to risk-free borrowing rates (plus tail risk in options).
SOFR is fundamentally a wholesale secured funding rates. It’s primarily available to banks, dealers, and large institutions that are able to post high-quality liquid assets (HQLA – i.e., US Treasuries or similar) as collateral.
Individuals can structure borrowing as SOFR + spread.
As mentioned, SOFR is the rate at which large institutions borrow overnight cash secured by US Treasuries in the repo market.
It’s published by the FBR-NY and reflects trillions of dollars of daily transactions.
The key implication is that SOFR isn’t a retail lending rate. It’s:
- Wholesale
- Institutional
- Collateralized with Treasuries
- Typically overnight or very short term
How Institutions Borrow at (or Very Near) SOFR
Repo Market (Direct SOFR Borrowing)
This is the purest form.
A borrower posts US Treasury securities. The lender provides cash. The interest rate is approximately SOFR. The term is overnight to a few weeks.
Who can do this?
Banks, broker-dealers, hedge funds, and large asset managers, primarily.
Individuals can’t because you’d need repo counterparty agreements, daily margining, and Treasury collateral in custody.
Also, it requires legal and operational infrastructure.
How You Can Borrow Near SOFR (Practically)
Securities-Backed Lines of Credit (SBLOCs)
An SBLOC is the closest retail-accessible equivalent.
Its structure contains collateral, such as Treasuries, ETFs, and stocks.
The higher the quality the more value the collateral has for lending. Liquid bonds without credit risk are generally going to have more value than volatile tech stocks.
The lender is a private bank or brokerage.
They’ll generally lend at SOFR + spread, which is commonly +1.25% to +3.00% (125-300bps).
For ultra-high net worth clients, they can generally get SOFR + 75-125bps.
High net worth, SOFR + 150-250bps.
And mass affluent are generally getting SOFR + 300bps or higher.
The bank hedges itself in SOFR-linked funding markets, so the loan floats with institutional funding costs.
Private Bank Floating-Rate Loans
Large private banks structure loans explicitly as:
Interest = SOFR + contractual spread
Common uses are real estate bridge loans, portfolio loans, and business lines of credit.
But it generally requires a strong balance sheet – good assets, low debts/liabilities – and good cash flow. Also significant assets under management with the bank are often a requirement. It also depends on the relationship.
Commercial Real Estate Loans (SOFR-Based)
In commercial real estate, SOFR-based borrowing is now standard. These aren’t consumer mortgages and fall under commercial lending rules.
The rate structure is commonly SOFR + 200-400bps.
It’s often interest-only.
They also contain shorter maturities than residential mortgages.
If you hold property via an LLC, this becomes an option.
Why Mortgages Don’t Price at SOFR
Residential mortgages include risks that SOFR doesn’t.
For example, with mortgages you have:
- Long duration (30 years)
- Prepayment risk (i.e., the borrower may refinance or pay off early, leaving the lender to reinvest at lower rates)
- Credit risk
- Regulatory capital costs
As a result, mortgage rates embed Treasury curve risk, credit spreads, servicing costs, and embedded options*.
Even if a mortgage references SOFR, the spread is a huge component.
*Embedded options have to do with the borrower’s contractual right to prepay or refinance the mortgage at will. In turn, this means the lender has to price in the risk of early payoff when rates fall and extension when rates rise.
What Sophisticated Borrowers Actually Do Instead
A high-net-worth playbook might look like:
- Hold liquid, diversified assets
- Use SBLOC or private bank credit priced off SOFR
- Keep leverage modest
- Maintain excess liquidity to avoid forced selling
- Refinance opportunistically when spreads compress
This could potentially replace standard consumer lending products.
Concrete Example
Assume:
- SOFR = 3.60%
- SBLOC spread = +1.50%
Your borrowing rate:
- 5.10% floating (i.e., SOFR could rise or fall)
This can make sense because you’re getting:
- No amortization
- No origination fees
- No underwriting delays
- Interest often tax-deductible for investment use
- Capital remains invested
Of course, this is all very situation-specific.