The Across-the-Curve Credit Spread Index (AXI) is a weighted average of the credit spreads of unsecured bank funding transactions with maturities ranging from overnight to five years, with weights that reflect both transactions volumes and issuance volumes. AXI can be added to Term SOFR (or other SOFR variants) to form a credit-sensitive interest rate benchmark for loans, derivatives and other products. Key features of AXI are summarized in our user friendly infographic.
To the extent practicable, AXI will seek alignment with the key principles set out by the Alternative Reference Rates Committee (ARRC).
Yes. AXI will be aligned with BMR and the IOSCO Principles for Financial Benchmarks.
No. AXI was not developed to emulate LIBOR. Criteria taken into account when developing AXI included:
First – Hedging effectiveness: Highly correlated with U.S. bank cost of funds, as determined by recent market credit spreads for wholesale unsecured issues of U.S. banks and bank holding companies.
Second – Robustness: Computed from a large enough pool of market transactions that the index can underlie actively traded derivatives instruments used by banks and their borrowing customers to hedge their floating-rate exposures, without significant risk of statistical corruption or manipulation.
Third – Adaptable to changes in issuance patterns: The index should, within reason, maintain the first two properties even as banks change the maturity and instrument composition of their issuances in response to changes in regulation and market conditions.
A future change in bank regulation or evolving market trends may result in banks adjusting their debt maturity structure. AXI was designed to automatically adapt to these changes.
When bank funding turns out to be short term, AXI gives greater weight to short-term spreads. When bank funding turns out to be longer term, AXI weighs to the long term.
Since there are almost no transactions with which to fix LIBOR, a representative credit spread would have to stay away from LIBOR and instead focus on the actual funding banks are getting.
AXI is a dynamic credit spread that moves to where the actual bank funding transactions occur. For example, if banks began funding themselves at the 3 year point of the yield curve, AXI would weight transactions at that tenor.
AXI was conceived in an academic paper by Professor Antje Berndt, Professor Darrell Duffie, and Dr. Yichao Zhu.
AXI was discussed at the Credit Sensitivity Group Workshops hosted by the Federal Reserve Bank of New York. Four workshops were held between June and August 2020 and aimed to build a shared understanding of the challenges that banks of all sizes and their borrowers may face in transitioning loan products away from LIBOR. They also explored methodologies to develop a robust lending framework that considers a credit sensitive rate/spread that could be added to SOFR.
AXI is currently under development and a beta version of AXI is expected to be published shortly. The AXI beta period will allow for appropriate testing to occur prior to the index being used in actual live transactions. Removal of the beta tag may occur at different times for cash products and derivative products. Market participants can register their interest to receive updates on AXI at www.SOFR.org/AXI
No. Whenever a loan is indexed to a AXI, it would also reference SOFR. So, use of a credit spread index does not imply less frequent reference to SOFR. The construction of floating-rate loan terms implies that the credit spread index would be used in different ways for different applications, including loans with different coupon periodicity and derivatives of different types.
With the emergence of an active loan market based on a credit spread index, there would be many potentially important useful applications for hedging and speculation based on that index, some of which we have outlined here. It would tempt fate to choose a credit spread index that is not based on a large pool of transactions. Regulators and market participants can avoid painting themselves into that corner.
One wants an index that is based on a large pool of transactions. Studies can determine whether the funding costs of smaller banks are sufficiently correlated with the funding costs of larger banks that smaller banks would want to use this sort of credit spread index. Smaller and mid-size banks have been content to reference LIBOR, which is based exclusively on the funding costs of the largest banks, including non-U.S. global banks. Ameribor may be a useful alternative for some small banks.
When contracting 3-month floating-rate interest payments, it makes sense for AXI to be scaled down. For example, a bank loan linked to AXI would have a floating interest payment R(t) on date t of the contractual form R(t) = SOFR(t) + B*AXI(t) + borrower fixed spread, where B is a constant scaling factor specific to the 3-month length of the coupon period and SOFR(t) is SOFR for the 3-month coupon period ending on date t, obtained from daily SOFR compounded in arrears over the coupon period.
(Image source: NY Federal Reserve – Forum on Ongoing Innovation in Reference Rates for Commercial Lending)
With this construction of loan terms, floating-rate risk can be managed with combinations of derivatives linked to SOFR and derivatives linked to AXI. For example, a loan of principal P paying a fixed spread over SOFR + B*AXI can be swapped to a fixed rate by entering a SOFR payer swap with notional P and an AXI payer swap with notional B*P.
Yes. AXI is scaled down to create a term structure in standardized tenors including Overnight, 1 Month, 3 Months, 6 Months and 12 Months.
No. AXI is a robustly determined and representative dynamic credit spread that is added to SOFR. The ARRC identified SOFR as the rate that represents best practice for use in certain new USD derivatives and other financial contracts.
It is unclear at this time how potential money market regulation may impact liquidity in shorter term financial instruments. The Report of the President’s Working Group on Financial Markets – Overview of Recent Events and Potential Reform Options for Money Market Funds was the basis for the Securities and Exchange Commission’s (SEC) work in this regard.
No. Unlike LIBOR, AXI is not limited to short-term unsecured funding.
The Financial Conditions Credit Spread Index (FXI) is an extension of AXI that incorporates data based on transactions of both financial and non-financial corporate debt instruments. An advantage of including non-financial issues is the much larger volume of transactions that can be exploited for robustness. It has been estimated that this scales up the dollar volume of covered transactions over the period 2014–2019 by factor of nearly 500%. AXI and FXI are highly correlated, especially over the past few years.
Image Source: NY Federal Reserve – Forum on Ongoing Innovation in Reference Rates for Commercial Lending
Please email questions to [email protected] and we will arrange to have them answered. Selected questions and answers may be added to this publicly available list of frequently asked questions.
The answers to certain questions were sourced from the following reference:
Berndt, A., D. Duffie, and Y. Zhu (2020), Across-the-Curve Credit Spread. Stanford University Graduate School of Business Research Paper No. 3884, Available at SRN: https://ssrn.com/abstract=3662770