RFR Alts vs FIG@RJO – Proposed iVol-based Risk Add-On

Adding a risk-sensitivity to the new RFRs is absolutely do-able today—quantifiable, executable and hedge-able in virtually any size, today. Part of the confusion is the ‘ask’: “We need credit sensitivity!”. The term ‘credit’ is imprecise and excessively inclusive. ‘Credit’ has become synonymous with ‘sensitivity to liquidity’, ‘sensitivity to all non-interest rate risk’ and/or ‘sensitivity to generic market stress levels’.

So, seeking to alter the new RFRs to reflect stress in the system is not really about ‘credit’ per se. The RFR add-on is really about capturing events that cause bank stress—increases in bank VaR levels, elevated market volatility.

The yield equivalent to implied volatility of options on Treasury Futures fulfills the main objectives to be the ‘risk add-on’ to new RFR benchmarks: near infinite liquidity, no data cost, accessible to virtually all institutions via exchange-traded futures market, can fit into existing LIBOR+x systems, works when bank stress is elevated. Contact The Fixed Income Group at RJO with questions on calculations, or to receive a copy of an Excel spreadsheet to download the data: fig@rjobrien.com