Floating-rate bonds, Financial Management

Assignment Help:

These were first issued during a period of extreme interest rate volatility in the late 1970s. Floating-rate bonds, which are also known as variable-rate bonds or simply floaters, are debt obligations with variable interest rates that are adjusted periodically (typically every one, six, or three months). The interest rate is usually fixed at a specified spread according to some reference rate, such as the MIBOR, LIBOR, 10 year benchmark paper etc., plus or minus a pre-specified quoted margin. The quoted margin is the additional amount that the issuer is ready to pay above the reference rate. It is often quoted in basis points (bps). The formula for the coupon rate is as follows: 

         Coupon rate = Reference rate + Quoted margin

For example, 3 month MIBOR rate is 8.50%. On the coupon reset date, the quoted margin is 150 basis points. Then the coupon rate will be:

         Coupon rate = 8.50% + 150 bps = 10.00%

The quoted margin need not be a positive value. The quoted margin may be deducted from the reference rate. For example, let us say that the reference rate is the yield of 10-years Treasury security and the coupon rate is reset every 3 months based on the formula:

         Coupon =10-years Treasury yield -50 basis points.

On the coupon-reset date, the 5-years Treasury yield is at 9%. Then the coupon rate is calculated as follows:

         Coupon rate = 9.00% - 0.5% = 9.5%

It is necessary to understand the procedure for the payment and setting of coupon rate. Let us consider a floater where interest is paid semi-annually. On the coupon reset date, interest rate is calculated based on a formula. This is the interest the issuer agrees to pay at the next coupon date six month from now. In simple words, the coupon rate is determined on the reset date, but paid in arrears.

Mumbai Interbank Offered Rate (MIBOR)  

London  Interbank Offered Rate (LIBOR)            


Related Discussions:- Floating-rate bonds

How cash flow problems arise, Q. How cash flow problems arise? It is si...

Q. How cash flow problems arise? It is significant first to distinguish between profitability and cash availability. The key scheme relates to insolvency since even profitable

Sources of Finance, A regional division of a water company is upgrading its...

A regional division of a water company is upgrading its water filtration & purification plant; the new system is expected to last 20 years & to cost $40m. The parent company has ha

Basic concepts of assessing trading strategies, Leveraging can be described...

Leveraging can be described as an investing principle where borrowed funds are invested in a part of the securities. Leveraging can magnify either returns o

Propose which investment plan, Problem There are two investment plans i...

Problem There are two investment plans in the market whose details are given below based on which you need to decide which investment plan you need to select. Propose which inv

Scenario analysis for a portfolio manager, A portfolio manager would ...

A portfolio manager would never prefer to make investment decision based on just one set of assumptions. Instead, he would evaluate the outcome of the selected st

Currency denomination, The payment that the issuer makes to the bondh...

The payment that the issuer makes to the bondholder can be in any currency. The contract at the time of bond issue between the issuer and the investor can specify

Define what effects have mergers had on fees assessed, What effects have me...

What effects have mergers had on fees assessed for retail bank services? A: The effect is not clear. Market conditions and the level of competition frequently determine the cost

Regular payback period, The director of capital budgeting for a firm has re...

The director of capital budgeting for a firm has recognized two mutually exclusive projects, A and B, with the following expected net cash flows:

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd