Transitioning to SOFR in Non-Linear Derivatives

This technical report discusses the transition from Libor to the secured overnight financing rate (SOFR) as the primary interest rate benchmark for derivatives, particularly in the context of non-linear products. It outlines the challenges faced by banks and traders in adapting to SOFR, emphasizing the differences in behavior between SOFR and Libor. The report highlights insights from a Risk.net webinar featuring industry experts who addressed liquidity issues, the impact of daily compounding on product valuation, and the current state of SOFR swaptions market data. The report also details the barriers to the adoption of term SOFR in the derivatives market, including regulatory restrictions and the need for market liquidity. It concludes by noting that the transition is expected to be gradual, with the potential for new products and improved market conditions over time as familiarity with SOFR increases among traders and portfolio managers.