Worldwide: SOFR Surge Event: What Just Happened?!

"Probable impossibilities are to be preferred to improbable possibilities."

SOFR – the secured overnight funding rate in USD – is a rate published by the New York federal reserve based upon secured overnight transactions in the repo market. It is of increasing importance, since it has been regarded by many market participants as the basis for the likely successor to U.S. dollar LIBOR, a long-standing benchmark which is being phased out at the behest of the UK's Financial Conduct Authority.

The confluence of a number of events has exposed insufficient elasticity in the USD overnight cash repo market. Contributing to the stress on the system is an upcoming corporate tax payment date, which pulled cash out of the money market system, whilst at around the same time $115 billion of investment grade debt was being issued and traded (based on data for the first half of September). The secondary market trading volumes of this newly issued investment-grade paper increased inventories at broker dealers; who, in turn, rely on the repo market to fund those volumes. In addition, $60 billion of Treasury bond maturities negatively impacted available cash. All these events contributed to a cash crunch on September 17, 2019, that we refer to here as the "SOFR Surge Event", in which the SOFR rate increased by 282 basis points, compared with the previous day. As of the time of this publication, the surge is not expected to last more than one day (albeit an uptick in SOFR may temporarily linger, given its causes (which are of a temporary nature)).

Backward-looking cumulative 1 month SOFR has been discussed as a new USD rate benchmark for the derivatives markets to replace the floating rate for forward looking 1 month USD LIBOR. Since this is based upon actual SOFR overnight rate data, this rate will continue to capture and incorporate the effects of the SOFR Surge Event for the next month. Given the 282 basis points of surge and assuming this is very short-lived (i.e., the event lasts one day), the increase to the 1-month SOFR for each of the 30 days following the SOFR Surge Event will be approximately 10 basis points. This is not just material in the world of interest rate pricing, but of huge economic impact. For those who are interest rate traders, this SOFR Surge Event presents a material change for risk management purposes and complicates managing a complex book of interest rate positions. The risk of future such events will also need to be taken into account by banks when agreeing on rates with their counterparties.

In contrast to backward-looking SOFR, LIBOR is forward looking. For example, the 1 month USD LIBOR setting would take account of changes that LIBOR submitting banks foresee in the month ahead. So the 1 month rate would include the average effect of any expected month end uplifts to interest rates. Unexpected/flash events that are anomalous and very short lived would not usually be factored into LIBOR, because forward expectations should exclude unexpected and (with significant exceptions) also exclude historical outcomes. This is an important stabilizing component of LIBOR that is often overlooked, but is underscored by this recent SOFR Surge Event.

There are some interesting implications.

First, in relation to the proposed transition from LIBOR to fallback or alternative rates (meaning, in the USD market, SOFR-based rates). The proposal at the moment, which has wide market support, is ultimately for a SOFR-based rate (likely a cumulative overnight backward-looking rate, as described above) plus a fixed spread, to replace the relevant LIBOR rate setting. The fixed spread would be determined as the average difference between SOFR and LIBOR over a historic period. If the transition date had, for example, been declared and set to be the end of September 2019, the fixed spread as between SOFR and LIBOR would be calculated over a period including the SOFR Surge Event and the entire USD LIBOR floating rate market would suffer an artificially increased fixed spread as a result. An excess 10bps (if the fixed rate averaging period is a month) rippling across trillions of dollars of assets and liabilities is a matter of grave concern and potentially has systemic implications.

Secondly, in relation to the robustness of the SOFR rate itself, the SOFR Surge Event raises the troubling reminder that the cash market stabilization role played by the repo market, through the Fed lending window, is ultimately managed through discretionary mechanisms controlled by the Fed. In this instance, the Fed, briefly, was unable to intervene to stabilize the overnight rate, with the result that there was a surge in the SOFR rate. The corollary is that SOFR is, in large measure, determined from input data that is dependent on Fed activity and the ability and effectiveness of the Fed's market stabilization activity, and that SOFR may be affected by one-off economic events and greater levels of volatility than have been observed with LIBOR. It is therefore questionable whether SOFR can be truly characterized as a market rate or is yet suitable to be used on a market-wide basis. It is a government-managed rate that is subject to discretionary adjustment by the Fed. The argument that a replacement rate (for LIBOR) should be based in transparent actual transactions is still valid. SOFR was calculated in accordance with its published formula based on actual transactions. However, its utility as a market replacement rate is weaker than expected. In contrast, the USD LIBOR market was stable during the occurrence of the SOFR Surge Event. The broader cash market was also stable. It is hard to balance the cash market stabilization role played by the Fed through the overnight repo market with the goal of creating a market replacement rate. Suffice to say that any equivalent discretion afforded to a non-government agency would instantly disqualify the resulting rate from being sufficiently robust and not subject to manipulation or unanticipated external shocks.

Thirdly, the SOFR Surge Event not being reflected in LIBOR outputs on September 17 shows that SOFR is "almost, but not entirely, unlike"[1] LIBOR. The transactions which qualify as inputs for LIBOR settings are not the same as those that underpin SOFR. The former are unsecured, while the latter are secured; LIBOR is forward-looking, whilst SOFR is backward-looking. The ripple effect of the SOFR Surge Event on LIBOR qualifying transactions is not clear, but we can infer (given the apparent stability of LIBOR) that (1) the SOFR Surge Event was possibly too short in duration to impact interbank lending (i.e., a "flash" event), (2) a significant number of LIBOR submitting banks were not meaningfully exposed to the SOFR Surge Event and therefore were able to continue orderly interbank lending or (3) given the forward looking nature of LIBOR, the LIBOR submitting banks determined that the SOFR Surge Event was anomalous and one-off and therefore not relevant to the forward-looking LIBOR market.

As transitions from LIBOR to other rates are rolled out by financial institutions to their contracts, such as derivatives, lending agreements, mortgages, securities and so on, it will be necessary for them to explain what the change to customers will be from the new rates. As a practical matter, it will likely be an incrementally harder sell to customers to disclose that changing the rate to SOFR will expose customers to the risk of more extreme volatility and off-market pricing, but this will be necessary in light of the SOFR Surge Event. As LIBOR risk factors are a necessity and common practice in the debt capital markets (i.e., for bonds and other securities), these risk factors will need to evolve to take account of the additional risks relating to the SOFR Surge Event.

A significant difficulty with any contemplated transition from LIBOR to SOFR is that insufficient time has been given to market participants to observe how LIBOR and SOFR compare over a period that includes time to capture events such as the SOFR Surge Event, as well as more significant market events, such as downturns in the economic cycle, periods of heightened sovereign risk, periods of significant change to asset prices or major global conflicts. As a result, the risk exists that neither financial institutions nor customers will be able to readily develop sophisticated hedging products that allow the differences between SOFR and LIBOR to be effectively and cost efficiently managed.
All this raises questions as to whether the markets and the regulators have sufficiently thought through the appropriateness and benefits of adopting SOFR in place of LIBOR as the leading USD floating rate benchmark and the risks it poses to the cash and derivatives markets, and long term debt capital markets, as a fall back for LIBOR.


[1] See Douglas Adams, Hitchhiker's Guide to the Galaxy, on encountering tea from a Nutri-Matic machine.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

In association with
Related Topics
Related Articles
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of

To Use you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions