Question

why is LIBOR being replaced?

Advantages and disadvantages of using SOFR instead of LIBOR

Answer 1

LIBOR stands for London Interbank Offered Rate .

It is one of the interbank offered rate which is taken as  a reference  rate based on the interest rates at which large banks over the global financial markets are widely used .

It is being replaced because of following reasons:

1. LIBOR is involved in manipulation of rates by reporting low rates to show the bank stronger . Due to the wrong doing the bank has to pay the fines , penalties ,etc which results the financial crisis .

2. These SOFR (Secured Overnight Financing Rate) is performing well and has more cedit and trust worthy . It is mostly used in USA . Therefore SOFR is trying to replace LIBOR.

3 .LIBOR is common and mostly used interbank rates. After the crisis , the market rates becomes less reliable .

4. Due to the potential legal liability , the trading volumes in the interbank market have declined.

5. Some years back , LIBOR was in the red rigging scandal . due to such flaw commited by them , its is trying to be replaced.

These days SOFR is enhanced and performing well in the USA market and is trying to extend in the global makets widely.

Due to the falldown of LIBOR , SOFR is easily taking the place of LIBOR.

Therefore LIBOR is not reformed but yes it is replacing soon.

Advantages and Disadvantages of using SOFR instead of LIBOR

ADVANTAGES   DISADVANTAGES  

1. In US SOFR replacement rates have emerged, because 1. LIBOR is common terms for household. It is widely

of LIBOR   scandal which declines the trust in the professional used in the global market. And the replacement by

ethics of banking industry. SOFR is new for eveyone which takes time to evolve.

2. LIBOR was using the rates for the personal benefits. After 2. Because of the LIBOR manipulations , people

knowing of it, it was entitled to pay fines , penalties , imprisonment. cannot trust easily on SOFR by having a thoughts

Hence , SOFR is secured by US government through repurchase of even SOFR may have the flaw.

agreement.

3. It is taken as a long run solution because of having a credit sensitive 3. Involvement of new benchmark rate starts

Benchmark. before settling down the maturity of LIBOR.

4. It encourages underlying and derivatives to evolve parallely. 4. SOFR is being criticised for being more volatile

5. SOFR is secured and risk free rate whereas LIBOR is unsecured from day to day and from quarter end to year end.

rate and represents bank's estimates as to their cost of funds. 5. In SFOR,Interbank rate user doesnot   know the final rate   at the beginning of the interest period whereas in LIBOR they know.