What is a floating rate company

Floating Rate Bonds

Floating rate bonds are usually calledFloating rate notes designated.

This type of investment isBonds that have no fixed interest rate for the duration of the term. This is adjusted to short-term interest rates, the Libor and the Euribor at regular intervals

Valuation of floating rate bonds

As a rule, bonds are given a fixed interest rate when they are issued, which the issuer then has to pay to the investor. However, it is also possible that the interest rate changes during the term. Such a variable interest rate is usually linked to a short-term reference interest rate such as the Euribor or the Libor. Every three months, a decision is then made on the basis of the reference interest rate, whether the bond will yield higher or lower interest in the future.

It is important that this interest rate only indicates the direction of the development, but not the exact amount of interest. This is because bonds with variable interest rates are also valued when they are issued. Falls this Credit check positive, the issuer for the Security pay comparatively low interest. Accordingly, interest rates are higher if there is a fairly high risk of default.

Limitation of the interest rate for floating rate bonds

When issuing bonds that do not have a fixed interest rate, certain interest rate restrictions are generally agreed:

  • Floor: The floor represents the lower limit of the interest rate. In this way, investors can plan with a certain minimum interest rate even in the event of falling market interest rates.
  • Cap: The cap, on the other hand, is an upper limit for the interest, so that borrowers do not have unlimited risk despite rising market interest rates.

Example of a floating rate bond

A company wants to know about the emission a bond Borrowed capital to generate. One certifies Rating agency the company has quite a high credit rating, so the interest on the bond generally to 3 percent is determined. However, the issuer would like to have variable interest rates on the security and use the Euribor as the reference interest rate.

In the first three months the Euribor rises by an average of 0.5 percentage points at. On this basis, the floating-rate security will then be sold in the coming quarter with 3.5 percent interest and no longer with the initial 3 percent. Another quarter later, the Euribor fell again by 1 percent, which is why the bond im Subsequent quarter with 2.5 percent interest is paid.

Floating Rate Notes Definition & Explanation - Summary

  • The interest rate of a floating rate bond is based on a reference interest rate
  • If the reference interest rate rises, the bond's interest rate also rises
  • Floors and caps are agreed in order to limit the growth or fall in the interest rate