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Floating rate bonds carry

Floating rate bonds carry

Looking for the answer to the question below related to Financial Management ?

Floating rate bonds carry

 Options:

A. Fixed rate of interest
B. Varying rate of interest
C. Zero rate of interest
D. None of these

 

The Correct Answer Is:

  • B. Varying rate of interest

Floating rate bonds, also known as variable rate bonds or floater bonds, are financial instruments issued by corporations, governments, or other entities to raise capital. These bonds are distinct from traditional fixed-rate bonds because they do not have a fixed interest rate throughout their term.

Instead, their interest rates fluctuate periodically based on a specific benchmark or reference rate. Therefore, the correct answer to the question is option B: “Varying rate of interest.” Let’s delve into a detailed explanation of why the other options are not correct:

A. Fixed rate of interest:

Fixed-rate bonds are a different category of bonds where the interest rate remains constant throughout the bond’s life. In contrast, floating rate bonds have interest rates that vary periodically, usually in sync with a widely recognized benchmark interest rate, such as the London Interbank Offered Rate (LIBOR) or the U.S. Treasury Bill rate.

This variation in interest rates is a key characteristic of floating rate bonds, distinguishing them from fixed-rate bonds. So, option A is not correct in the context of floating rate bonds.

C. Zero rate of interest:

Zero-coupon bonds, often referred to as zero-coupon securities or simply “zeros,” are a type of bond that does not make periodic interest payments. Instead, they are sold at a discount to their face value and redeemed at face value upon maturity. Zero-coupon bonds do not have a varying interest rate or a fixed interest rate; they have no interest rate at all.

They provide investors with a return solely through the difference between the purchase price and the face value when the bond matures. Floating rate bonds, on the other hand, do have an interest rate, but it fluctuates over time based on the reference rate, as mentioned earlier. Therefore, option C is not correct for describing floating rate bonds.

D. None of these:

Option D is not correct because, as explained above, floating rate bonds indeed carry a varying rate of interest. They are specifically designed to provide investors with a variable interest rate that adjusts periodically based on market conditions and the chosen reference rate.

The interest rate on floating rate bonds typically resets at predefined intervals, such as quarterly or semi-annually, to reflect changes in market interest rates. This feature makes them a unique category of bonds distinct from both fixed-rate bonds and zero-coupon bonds.

In summary, floating rate bonds are financial instruments that offer investors a varying rate of interest, which is adjusted periodically based on a designated benchmark or reference rate. This flexibility makes them attractive to investors seeking protection against interest rate fluctuations.

Fixed-rate bonds, in contrast, offer a fixed interest rate, while zero-coupon bonds provide no periodic interest payments at all. Therefore, the correct answer to the question is option B: “Varying rate of interest,” as it accurately reflects the fundamental characteristic of floating rate bonds.

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