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The USD interest rate swaps market has been transitioning from LIBOR to SOFR for some time. In the "old days" when swaps reset against LIBOR underlyings, there were a few "market convention" ways of trading swaps in the inter-dealer market. Basically, participants traded the following ways:

  • semi-annual 30/360 on rate
  • annual Act/360 on rate
  • vs. cash Treasury notes/bonds on spread

I've been retired from trading for a long time, and have a few questions about the current state of the world:

  1. Is there any trading of new swaps that reset against a LIBOR underlying? (or has the market fully transitioned to SOFR underlyings?)

  2. Do swaps that trade in the inter-dealer market reset against SOFR in-arrears or some sort of calculated "term SOFR" rate (e.g. the term SOFR rates provided by CME)?

  3. If the answer to question 2 is "swaps reset against SOFR in-arrears", then why is there all this talk about the term SOFR rate? Is the term SOFR rate just used for pricing?

  4. Does the market actively trade SOFR swaps on spread to cash U.S. Treasuries (similar to the way that LIBOR swaps were quoted as a "spread over")?

Thanks!

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  • $\begingroup$ Ps: you write the LIBOR swaps used to trade semiannual 30/360, wasn't the standard USD IRS quarterly float vs. Semiannual fixed, 30/360? Is that what you meant? $\endgroup$ Jan 17 at 7:32

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  1. The Commodity Futures Trading Commission’s Market Risk Advisory Committee (CFT MRAC) went ahead with a 4-phase program in 2021 called "SOFR First": the four phases relate to linear IRS, Cross-currency swaps, futures and finally non-linear USD rates derivatives. The "SOFR first" initiave basically means that any new trades have to reference SOFR, rather than LIBOR (unless exceptional circumstances). The first phase for linear IRS went ahead in July 2021, and in practice it meant that inter-dealer brokers switched all their screens from USD LIBOR IRS to USD SOFR IRS. So the answer to your question is: new trading in USD LIBOR swaps is now almost non-existent.

  2. SOFR in arrears

  3. Economically, unlike LIBOR, SOFR compounded in arrears is not "forward looking". For example, banks would prefer loan products referencing SOFR to be forward looking, to be "more aligned" with markets should credit spreads suddenly widen. I think there is also appetite for non-linear derivatives to reference term SOFR. In general, the markets are hungry for a term rate that would be forward looking to "economically" replace LIBOR.

  4. Asset swaps on USD SOFR IRS are slowly picking up, this report by CLarusFT from September 21 sheds some light on this market, although things change so fast that it's probably slightly out-dated by now.

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    $\begingroup$ Great answers here! Re: question #4, a key insight from the Clarus article you linked to: "We are essentially stating that the Spreadover curve has become the term repo curve." $\endgroup$
    – equanimity
    Jan 16 at 15:40

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