What is SOFR?

SOFR, the Secured Overnight Financing Rate, is a benchmark interest rate that measures the cost of borrowing cash overnight using US Treasury securities as collateral. Published daily by the Federal Reserve Bank of New York, it is based on actual transaction data from the Treasury repurchase agreement (repo) market, one of the largest and most active funding markets in the world.

SOFR was developed as a replacement for LIBOR (the London Interbank Offered Rate), which was phased out after a manipulation scandal revealed that LIBOR was based on bank estimates rather than actual transactions. Unlike LIBOR, SOFR is rooted in a deep market with roughly $1 trillion in daily transaction volume, making it virtually impossible to manipulate. The transition from LIBOR to SOFR was one of the largest structural changes in financial markets history.

Because SOFR is a secured rate (backed by Treasury collateral), it typically trades below unsecured rates like the federal funds rate. The spread between SOFR and the effective federal funds rate is usually small but can widen during periods of funding stress. SOFR is also a risk-free rate, meaning it does not embed credit risk of the lending bank, unlike LIBOR.

Trillions of dollars in financial contracts now reference SOFR, including adjustable-rate mortgages, corporate loans, derivatives, and floating-rate notes. The most common derivative linked to SOFR is the CME SOFR futures contract, which is used to price market expectations for Fed policy. When traders talk about "what the market is pricing for the next Fed meeting," they are often referencing SOFR futures.

For market participants, SOFR has become an essential rate to monitor. Spikes in SOFR can signal funding stress in the repo market, as occurred in September 2019 when plumbing issues in the banking system caused SOFR to spike to nearly 5.25% from around 2%. The Fed responded by launching standing repo facilities to prevent future dislocations, underscoring how critical this rate is to financial stability.