Table of Contents
How do you price an inverse floater?
To calculate the coupon rate of an inverse floater, you will need to subtract the reference interest rate from a constant on every coupon date. When the reference rate goes up, the coupon rate will go down given that the rate is deducted from the coupon payment.
What is the duration of an inverse floater?
First, when the inverse floater is issued, the duration is 4.73 years if the leverage ratio is 0.2, and 14.25 years if the leverage ratio is 0.8. In both cases, the duration of the inverse floater is higher than the 3.94 duration of the corresponding fixed rate bond.
Is inverse floater a derivative?
Inverse floaters are a derivative product created for the municipal market to enhance yield and to help portfolio managers control the maturity of their overall portfolio.
What is a floater inverse floater tranche in a CMO offering?
One of the more risky CMO tranches is the inverse floater, a type of tranche that pays an adjustable rate of interest that moves in the opposite direction from movements of an interest rate index, such as LIBOR.
Do floaters have duration?
The duration of the floater is therefore equal to the duration of a six-month par bond. Their convexities are the same, too. Unlike a floating rate note, an inverse floater is a bond with a coupon that varies inversely with a benchmark interest rate.
How do you value floaters?
The formula for floater’s price is a fraction. The numerator is par plus the coupon amount as a percentage of face value. The denominator is a factor raised by an exponent. The factor is 1 plus the prevailing interest rate, divided by the number of months in each coupon period, divided by 12 months.
What is an inverse IO?
inverse IO is the limiting case of an inverse where. all of the principal of the fixed rate is financed by. the sale of the floater, achieving the maximum. amount of leverage possible in the floater/inverse. transaction.
What is bullet bond?
A bullet bond is a debt investment whose entire principal value is paid in one lump sum on its maturity date, rather than amortized over its lifetime. Bullet bonds cannot be redeemed early by their issuer, which means they are non-callable.
What is a super floater?
A super floater is a collateralized mortgage obligation (CMO) tranche whose coupon rate is the leveraged reference interest rate, usually LIBOR, minus the fixed rate (spread). Super floaters magnify changes in the reference interest rate, which is why they are often used to hedge interest rate risk in portfolios.
What is inverse IO?