# Floating Rate Note - Q

For an issuer of a floating-rate note, the market value of the loan will be:

A) volatile, but the position will become more stable with the addition of a receive-floating swap position. B) relatively stable but the position will become less stable with the addition of a receive-floating swap position. C) zero with the addition of a pay-floating swap position.

after re-reading, I will go with B

floating rate would be more stable

I say B. Floating-rate notes are constantly repriced every repricing period, right? So their market value should be adjusted back to par each repricing period. By engaging in a receive-floating swap position, they now have to pay a fixed payment each period. This stream of fixed payments will be volatile due to changing interest rates over the life of the position.

Exactly as explained by nashwbe - Ans is B

An investor has a \$5,000,000 investment in small-cap stocks. The investor enters into an equity index swap where the investor pays the return on the Russell 2000 and receives the return on the Dow Jones Industrial Average. The notional principal of the swap is \$1 million. The resulting position is a synthetic mix of:

A) 16.67% large stocks and 83.33% small stocks. B) 20% large stocks and 80% small stocks. C) 25% large stocks and 75% small stocks.

A) 16.67% large stocks and 83.33% small stocks.

Woo! And I’d say B for this one as well. You’re initially long 5 million small-cap, and with the swap, you’re also short 1 million small-cap and long 1 million large-cap. Net position is 4 million small-cap and 1 million long-cap, which is 80% small cap and 20% large cap.

I went with A also! But not sure why the ans to this question is B.

Your answer: A was incorrect. The correct answer was B) 20% large stocks and 80% small stocks.

After the swap, \$1 million, or 20% of the portfolio’s exposure will be invested in the Dow Jones Industrial Average index of large stocks. \$4 million, or 80% of the portfolio will remain invested in small stocks. The \$1 million notional principal represents 20% of the position. That is the amount that has been synthetically transferred from one class of assets to the other.

nashwbe you are on a roll!

The answer should be B. 4M in Small caps and 1M in DJIA.

Haha, false confidence is the last thing I need right now, but thanks for the questions!

why the tream of fixed payments will be volatile due to changing interest rates over the life of the position? After entering pay fixed swap position, the person has to pay fixed swap rate, right? am i missing here something?

The payments won’t be volatile, the market value of the position will be. Floating rate notes keep a very stable market value, but the payments are volatile, but fixed rate payments cause market values to fluctuate more.

for second question, what is the logic behind incorrectly choosing A?

With the swap, the portfolio value still be 5mil with 4 in small and 1 in large? How it can be 16,7%?