The Reserve Bank of India (RBI) has announced interest rate of 6.97 percent on Floating Rate Bond (FRB) 2024, for the half year starting from May 7 to November 6. The rate of interest on the FRB 2024 shall be reset at the average rate (rounded off up to two decimal places) of the implicit yields, at the cut-off prices of the last three auctions of 182-days treasury bills, held up to the period preceding the coupon reset date, which is May 07, 2023, the RBI said in a release.
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"The implicit yields will be computed by reckoning 365 days in a year, " it added.
Decoding floating rate bonds
Floating Rate Bonds are securities that do not have a fixed coupon rate. They have a variable coupon rate which is re-set at preannounced intervals. In other words, the interest rate of a floating rate bond keeps fluctuating throughout its tenure.
How is interest rate determined
Floating rate bonds have a variable interest rate linked to a predetermined benchmark rate and that can be anything ranging from the repo rate, the reverse repo, the average T-Bill rate or small savings schemes. It is reset at regular intervals.
These bonds carry a coupon with a base rate equivalent to a weighted average yield of the last three auctions of 182-day Treasury Bills (T-Bill) plus a fixed spread decided by way of auction.
Investment strategy
According to IIFL Securities, floating rate bonds are preferred by some investors because of their flexibility to reflect current interest rate of the market. If the interest rate of the benchmark rises, the interest rate payable for the floating rate bond rises too.
However, it must be understood that FRBs may end up paying less returns to the investor than fixed rate bonds as they are attached to a benchmark with a short-term rate. Also, there is no promise that the interest rate of a floating rate bond will rise with the same intensity as the market interest rate in a rising environment, IIFL Securities said.
They also come with default risk.
Although they are less volatile and could be used as an inflation-protected instrument often. Some experts advice to use it to diversify investment portfolio to match financial goals.
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