On 29 July 2021, the ARRC has formally recommended the CME Group’s forward-looking Secured Overnight Financing Rate (SOFR) term rates (Term SOFR). It follows the completion of interdealer trading conventions to SOFR earlier this week. This means that parties which have contracts which include the ARRC hardwired fallbacks will fallback to Term SOFR given that it is the first step of the hardwired waterfall. This formal recommendation also means that parties could use Term SOFR for business loans or CLO origination if they choose to do so.
Last week (21 July), the ARRC made an announcement and recommendations on conventions and recommended best practices for the use of the Term SOFR, in anticipation and ahead of yesterday’s formal recommendation. Of note in that announcement are that the ARRC:
- continues to recommend SOFR for all products. As a general principle, it recommends that market participants use overnight SOFR and SOFR averages given their robustness, particularly in markets which have successfully adopted these rates (such as FRNs, consumer products including adjustable rate mortgages and student loans and most securitizations);
- recommends the use of overnight SOFR and SOFR averages in cases where a party wishes to hedge in the most efficient and transparent manner;
- supports the use of the SOFR Term Rate in areas where use of overnight and averages of SOFR has proven to be difficult. It “supports the use of SOFR Term Rate in addition to other forms of SOFR for business loan activity —particularly multi-lender facilities, middle market loans, and trade finance loans—where transitioning from LIBOR to an overnight rate has been difficult and where use of a term rate could be helpful in addressing such difficulties.”
- does not support the use of the SOFR Term Rate for the vast majority of the derivatives markets as these markets already reference SOFR compounded in arrears and transitioning derivatives markets to the more robust overnight risk-free rates (RFRs) is essential to ensure financial stability (as emphasized by the FSB)
It remains to be seen the market response and level of adoption of Term SOFR in the USD-denominated syndicated markets, particularly in the APAC region where they are prevalent.
We would be very happy to further discuss your views on this as the industry bodies and ourselves are keen to gauge the market response to this welcome development which effectively gives parties a further tool and option as they transition from LIBOR.