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CFA Level I · CFA Level I Exam · Yield and Yield Spread Measures for Floating-Rate Instruments

An analyst compares a floating-rate note linked to a three-month reference rate with a fixed-rate bond of the same maturity and credit quality. When market interest rates rise, the floating-rate note's price is most likely to:

The floating-rate note's price will most likely stay close to par. Its coupon resets to the higher reference rate, so cash flows and discount rates rise together. The fixed-rate bond, with unchanged coupons, would decline in price instead.

  1. Afall sharply, more than the fixed-rate bond
  2. Bstay close to par, as coupons reset higherCorrect
  3. Crise, because coupon payments increase immediately

Explanation

Frequent resets bring the coupon in line with market rates, so the FRN's price stays near par provided credit spreads are unchanged. The fixed-rate bond has fixed coupons and falls in price as rates rise. The coupon increase does not push the price above par because discount rates also rise.

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