Accounting for Investments, Volume 2: Fixed Income Securities and Interest Rate Derivatives—A Practitioner's Guide

QUESTIONS

Theory questions

1. What is meant by “a floor” on an interest rate contract?

2. Can an interest rate floor contract be terminated before maturity? If so, how will the termination fees be arrived at?

3. When does an interest rate floor become “in the money” and when does it become “out of the money”?

4. What are the two types of interest rate floor contracts? Which type of contract gives the buyer protection from a fall in interest rates?

5. What are the significant events in the trade life cycle of an interest rate floor contract?

6. What are the benefits of an interest rate floor contract?

7. What are the risks associated with an interest rate floor contract?

8. Write the journal entry for accounting for the premium on the trade in an interest rate floor contract.

9. What are all the factors that should be considered for calculating an interest rate floor premium?

Objective questions

1. Floors are purchased for a ____.

a) Discount

b) Premium

c) Market rate

d) None of the above

2. If the reference rate is below the floor rate, the payment is based upon the difference between _____.

a) The two rates

b) The length of the period

c) The contract’s notional amount

d) All of the above

3. An interest rate floor enables variable rate investors to retain the upside advantages of their variable rate investment while obtaining the comfort of a known _____.

a) Maximum interest rate

b) Minimum interest rate

c) Benchmark interest rate

d) None of the above

4. It is important ...