Constructing SOFR Yield Curves from Futures and Swaps

Summary

The document discusses which market instruments can provide data for constructing yield curves during the transition from LIBOR to SOFR. It describes the familiar LIBOR approach, which uses forward rate agreements, futures, and swaps referencing the relevant LIBOR tenor. For a SOFR curve, it points to SOFR futures and swaps as analogous traded inputs. The answer presents the main practical challenge as market liquidity rather than a fundamentally different curve-building process.

The response offers a concise description of instrument selection, but it does not explain curve-fitting methods, conventions, or how to combine instruments across maturities. It also leaves the question of counterparty credit risk unresolved: it does not describe collateral, discounting, credit valuation adjustments, or other mechanisms that may address credit exposure in derivatives. Its comments reflect the transition context described in the document and should not be read as a detailed or current implementation guide.

Key ideas

• Yield curves are built from prices of traded instruments.
• LIBOR curve inputs can include FRAs, futures, and swaps tied to the relevant tenor.
• SOFR futures and swaps are identified as corresponding curve inputs.
• Liquidity is cited as a practical constraint on SOFR curve construction.
• The answer does not explain how derivatives incorporate counterparty credit risk.

Tags

# Libor to SOFR transition Yield Curve Construction


# Libor to SOFR transition Yield Curve Construction












With the imminent transition from LIBOR to SOFR next year, what are the data points practitioners are using to construct a yield curve? Also, since LIBOR implicitly took into account credit risk of the counterparty due to the fact that this is an interbank rate, how will derivatives transactions incorporate credit risk?

## Answer by Magic is in the chain (score 2)

https://quant.stackexchange.com/a/50361

Like any curve construction, you would use the prices of traded assets to construct the curves. For example, in the standard LIBOR, people use FRA, futures, and swaps referencing LIBOR to construct the LIBOR curve ( say 3 months or 6 months). For SOFR, you can use SOFR futures and swaps, so don’t think there is much difference, the problem at the moment is liquidity!

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.