Corporate Bonds

Archive for the ‘Discount Notes’ Category

What are the benefits of Floating Rate Notes or floater?

Value in a Rising Interest Rate Environment

An investor who believes interest rates are on the rise may not want to commit to a current fixed rate for the long term investment.

Conversely, short term inertness rates may also not meet an investor's expectations.

Floating Rate Notes or floaters offer an ideal alternative as they generally pay a spread above current short term interest rates as well as offer the benefit of future increases in the benchmark.

If interest rates rise for example, the investor will receive a coupon payment higher then the original coupon.

Manage Interest Rate Risk

While a fixed rate corporate bond will trade down in price as interest rates rise, a floating rate bond tied to interest rates typically does not react as strongly to interest rate variations because the coupon changes in sync with interest rates.

As a result, Floating Rate Notes or floaters will not appreciate as much as fixed rate bonds in a declining interest rate environment, however, in a rising interest rate environment should out perform fixed rate Corporate Bonds.

Floating Rate Notes or floaters give investment variety

Floating Rate Notes or Floaters are available in a variety of maturities, issuers, credit quality and coupons. Therefore, they give investment variety for diversification.

Q: What are Floating Rate Notes?

A: Floating Rate Notes or Floaters, are debt securities that adjust or float periodically against a benchmark rate such as the Treasury Bill, the Consumer Price Index (CPI) or the London Interbank Offer Rate (LIBOR).

Who issue floating rate notes?

Floating rate notes or Floaters are issued by corporations or agencies such as MWD, SLM Corp, Household, GE and Federal Home Loan Bank. Although floating rate notes or floaters pay interest based on a variety of formulas, the most basic floater pays a coupon equal to some widely followed interest rate plus a fixed spread.

Additional features of floating rate notes or floaters may include maximum and minimum coupons (caps and floors), or the possibility of changing to a fixed rate in the future.

How are floating rate notes or floaters structured?

A key factor in determining a floating rate note or floater 's performance is the underlying benchmark, or floating rate notes reference rate.

Upon choosing a benchmark, the issuer will establish a spread, generally expressed in basis points, that the issuer is willing to pay based off the reference rate, hence determining the overall coupon.

The spread of the floating rate notes or floater versus a given benchmark will be based on a variety of factors including: credit quality of the issuer and the time to maturity.

i.e. If the LIBOR rate is quoted at 2.12% on the day the 1st coupon is set for a specific issue and the floating rate note or floater is being issued with a spread of 20 basis points, the overall coupon is 2.32% for that period.

Floating rate notes reset frequency

Another important component of floating rate notes or floaters' structure is its reset frequency. Typically, the coupon will reset each time an interest payment is made and then remain constant until the next coupon payment date. It is possible though, for a floater 's coupon to reset as often as daily or as infrequently as once a year, or longer. Floating rate notes or floaters may be issued as either non-callable or callable.