The Relationship between SOFR and Market Yield of U.S. Treasury Securities

Abstract

This paper introduces the characteristic of the new benchmark rate Secured Overnight Financing Rate (SOFR), explain its connection to the futures price, and show its potential to provide new insight into the argument on interest rate term structure. Based on the future price discovery theory, this study set up a hypothesis that short-term interest rates should contribute to forecasting long-term ones. The causality between interest rates in different terms of, which are separately represented by bilateral repurchase rate and the market yield of long-term U.S. government bonds, is explored in this research using the VAR model, as well as the Granger causality test. The conclusion of this research proves the hypothesis and indicates a single-direction causality between interest rate of different terms. However, the research also has drawbacks such as ignoring non-linear relations and evading the change of government policy. These problems need to be solved in the following study.