In a post titled "Is SOFR alive again?" a couple of month ago, we were wondering if the month-end and mid-month volatility of SOFR was back or if it was only a temporary effect linked to the year-end. The answer seems to be that the month-end effect is really there again but the mid-month effect not.
The effect is represented graphically below. The graphs displays the spreads between the 2 main overnight rates in USD (EFFR and SOFR) and the US Target rate lower end of the range. The EFFR rate does not show any variation at 8 bps every day. The SOFR is usually slightly lower at 6 or 7 bps, but around month-end shows "burst" up to 15 bps.
Figure 1: Spread over target rate for overnight benchmarks.
Over the last 10 months displayed in the above figure, the mean spread for the “rest” bucket is 6.48 bps. For the other periods, we measured the spread above that mean (i.e. spread of spread). The results are
| Day of the month | Spread (bps) |
|---|---|
| 1st | 3.32 |
| 2nd | 2.32 |
| 15th | -0.10 |
| Last | 2.08 |
The feature should probably be incorporated into the SOFR curve calibration when dealing with large volume of SOFR-linked products (OIS, CSA collateral, SOFR futures, etc.). A mechanisms to incorporate this feature in curve calibration is proposed in Chapter 5 of Marc's multi-curve framework book (note: a new version is in progress).
Note that CME SOFR term rates do not include this feature in their "interpolation" mechanism. The CME SOFR term rates are probaly not fully suitable for precision hedging of the SOFR risk.