A floating rate note (FRN), also known as a floating rate bond, is a debt instrument that has a variable interest rate tied to an external benchmark or reference rate. Unlike fixed-rate bonds, the interest rate on floating rate notes is not predetermined but fluctuates periodically based on changes in the specified benchmark rate.
Floating rate notes are typically issued by governments, corporations, and financial institutions to raise capital or finance projects. The interest payments on these notes are computed using a formula that includes the reference rate plus an additional margin or spread. The reference rate can be a widely known benchmark, such as LIBOR (London Interbank Offered Rate) or a specified government bond yield.
The primary advantage of floating rate notes is their ability to provide protection against interest rate fluctuations. As benchmark rates change, the interest payments on FRNs adjust accordingly. This feature makes floating rate notes attractive to both issuers and investors as they offer a hedge against interest rate risk.
Typically, floating rate notes have a fixed maturity date or tenor, after which the issuer repays the principal amount to the noteholders. Investors in FRNs receive regular interest payments at set intervals throughout the note's tenure.
Overall, floating rate notes offer flexibility, as their interest rates adjust to market conditions, making them suitable investments for individuals or institutions seeking a variable income stream or protection against interest rate volatility.
