Caps / Floors

Use

A cap or floor is a series of interest rate options that are exercised when the option exceeds or falls short of a certain interest rate level. Caps and floors provide you with a type of interest insurance.

Features

Cap:

The buyer of a cap wants to hedge against rising interest rates. He/she agrees on an upper interest rate limit with the seller and pays a premium for this. If the reference interest rate rises above this agreed upper limit, the seller reimburses the difference to the buyer of the cap. If the agreed reference interest rate is not reached, there is no settlement payment.

Floor:

A floor is traded in the same way. The buyer of a floor wants to protect against sinking interest rates and agrees upon a lower limit with the seller. The buyer pays a premium for this. He/she receives a settlement payment if the interest rate falls below this agreed lower limit.

Activities

  1. On the initial screen, enter the following basic data for the transaction:

  • Company code

  • Product type

  • Transaction type

  • Business partner

  1. In the Activity area, decide whether you want the transaction to be created as a Contract or an Order.

  2. If you work with external number assignment , you must enter a key in the corresponding field in the transaction so that it can be uniquely identified within a company code. Otherwise, the system assigns the number automatically and displays this number when you save the transaction.

  3. Choose Enter to go to the basic data screen for the transaction. On the Structure tab page enter the actual transaction data for the cap/floor.

  4. A dialog box can appear here if you assigned several flow types to one flow category in Customizing.

Example Example

Possible flow types for the premium of a cap: relevant for accrual/deferral or not relevant for accrual/deferral.

End of the example.

  1. The fields listed below are either required or optional fields:

  • Term

  • Strike

Upper limit for cap / lower limit for floor

  • Nominal amount and currency

Choose the pushbutton to create nominal amount increases or decreases in the term. Repayment structures are created by means of nominal amount reductions. After you have changed the nominal amounts, the Create nominal changes pushbutton changes.

  • Due date

  • Reference interest rate

At the scheduled interest rate adjustment , you can either enter the reference interest rate manually or let the system read the data to calculate any interest receivable that is due.

  • Interest calculation method

  • Frequency of interest rate adjustment

  • Premium

On the Condition Details: Option Premium screen, you can generate several premium payments by entering a frequency.

The premium of a cap/floor can be accrued/deferred in the accounting area. In order to do this, however, you need to have made certain Customizing settings (for example, indicate the flow type as relevant for accrual/deferral). To calculate the accrual/deferral period, you have to enter an interest calculation method in the detail view.

  1. For more detailed information on the pushbuttons (interest, interest rate adjustment and option premium), see Condition Details .

  2. To settle a cap/floor prematurely, you can use a notice function . You have the option of giving notice for a future date. Interest rate adjustment dates that lie before the date of notice but after the contract conclusion date, do not change. The final repayment is due on the date of notice.

  3. You can specify in Customizing whether you want the name of the trader to be displayed automatically. You can also enter additional information, such as the business partner or a reference for the business partner.

  4. You can branch to the entry screens for the general transaction management functions. You can use the tab pages to navigate between the different screens.

Note Note

For more information, see Tab Pages .

End of the note.

  1. Additional functions are available when you choose Extras and Environment from the menu .

  2. You can specify in Customizing whether you want the name of the trader to be displayed automatically. You can also enter additional information, such as the business partner or a reference for the business partner.

  3. To save the basic data, choose Start of the navigation path Cap/Floor Next navigation step Save End of the navigation path .

  4. For a general explanation of the terms, see Basic Data.