Easy FI question
For the life of me I can't find the answer to this basic ahh question online ...
Is the SOFR-FF basis calculated as: SOFR rate - FF rate OR FF rate - SOFR rate?
Also, what influences the basis? My intuition is that higher liquidity stress and funding uncertainty/tighter funding conditions makes the SOFR rate higher compared to FF, but is this correct/the most relevant driver?
The SOFR-FF basis is calculated as SOFR rate - FF rate.
As for what influences the basis, your intuition is on the right track. Based on the most helpful WSO content, the key drivers include:
Liquidity Stress and Funding Uncertainty: In times of higher liquidity stress or tighter funding conditions, SOFR can rise relative to the Federal Funds (FF) rate. This is because SOFR reflects the cost of borrowing cash overnight collateralized by U.S. Treasuries, which can spike during periods of stress.
Market Dynamics: SOFR is transaction-based and reflects actual market activity, while the FF rate is influenced by the Federal Reserve's monetary policy and is more stable. This difference in calculation methods can cause the basis to fluctuate.
Demand for Collateral: SOFR is sensitive to the demand for high-quality collateral (like U.S. Treasuries). If demand for such collateral increases, SOFR may rise relative to FF.
Regulatory and Structural Changes: Initiatives like the "SOFR First" initiative and changes in repo market dynamics can also impact the basis.
In summary, liquidity stress, funding conditions, and collateral demand are indeed some of the most relevant drivers of the SOFR-FF basis.
Sources: Pick Your Poison | The Daily Peel | 10/6/21, 1st Year Macro HF Analyst: My Macro Framework, Loan Terms, Q&A: Credit hedge fund analyst at MF, former BB trader, https://www.wallstreetoasis.com/forum/hedge-fund/the-future-of-special-situations-distressed?customgpt=1
It’s Fed Funds - SOFR. BofA have a good primer explaining some of the drivers
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