3.2.4.60 Interest rate floor confirmation with commentary

Following is a sample confirmation for an interest rate floor transaction, with commentary included in footnotes to the confirmation. A sample confirmation without commentary can be found in 3.2.4.70 "Interest rate floor confirmation without commentary".

***

Sample Confirmation for Rate Floor Transaction with commentary[1]

 [Letterhead of Party A]

 [Date]

 

 Reference Number [ ]

[Name and Address of Party B]

Dear

Rate Floor Transaction

The purpose of this letter is to confirm the terms and conditions of the Rate Floor Transaction entered into between us on the Trade Date specified below (the "Rate Floor Transaction"). This letter constitutes a "Confirmation" as referred to in the Master Agreement specified below.

The definitions and provisions contained in the 2006 ISDA Definitions (as published by the International Swap Dealers Association, Inc) are incorporated into this Confirmation. In the event of any inconsistency between those definitions and provisions and this Confirmation, this Confirmation will govern.[2]

1. This Confirmation supplements, forms part of, and is subject to, the Master Agreement dated as of [date][3] as amended and supplemented from time to time (the "Agreement") between you and us. All provisions contained in the Agreement govern this Confirmation except as expressly modified below. The Rate Floor Transaction is a "Transaction" for the purpose of the Agreement.

2. The terms of the Rate Floor Transaction are as follows:

Notional Amount:[4]

Trade Date:[5]

Effective Date:[6]

Termination Date:[7]  [subject to adjustment in accordance with the [Following/ Modified Following/ Preceding] Business Day Convention][8]

Fixed Amounts[9]

Fixed Rate Payer:[10]

Fixed Rate Payer

Payment Date(s):[11]  [subject to adjustment in accordance with the [Following/ Modified Following/ Preceding] Business Day Convention][12]

[Fixed Rate:[13]]

[Fixed Rate Day

Count Fraction:[14]]

[Fixed Amount:[15]]

Floating Amounts[16]

Floating Rate Payer:[17]

Floor Rate:[18] %

Floating Rate Payer

Payment Dates:[19]  [(subject to adjustment in accordance with the [Following/ Modified Following/ Preceding] Business Day Convention][20]

Floating Rate Option:[21]

Designated Maturity:[22]

Spread:[23]

Floating Rate Day

Count Fraction:[24]

Reset Dates:[25]  [subject to adjustment in accordance with the [Following/ Modified Following/ Preceding] Business Day Convention][26]

[Business Days:[27]]

[Business Day Convention]:[28] Following/Modified Following/Preceding]][29]

Calculation Agent:[30]

3. Account Details[31]

Payments to Fixed Rate Payer:

Payments to Floating Rate Payer:

[4. Office:[32] ]

[33]Please confirm that the foregoing correctly sets forth the terms of our agreement by executing the copy of this Confirmation enclosed for that purpose and returning it to us.

 

Yours sincerely

[name of party preparing Confirmation]

By:

Name:

Title:

 

Confirmed as of the date first written:

[name of other party]

By: 

Name:

Title:

 

[1]  Payment obligations under floors. In a rate floor transaction, if the market rate is less than the Floor Rate, the Floating Rate Payer is automatically obliged to make a payment to the Fixed Rate Payer.

[2]  Other conventions. There are a number of other conventions in the 2006 Definitions which are incorporated by reference. These include Section 7.6 (a) of the 2006 Definitions which provides that if a rate is determined from information obtained from the Reuters Monitor Service or Telerate, and any corrections to the relevant Reuters rate or Telerate rate are made within 1 hour of the time when the rate is first displayed, the rate will be amended in line with such corrections.

[3]  The date of the relevant ISDA Master Agreement is inserted in paragraph 1 of the Confirmation. When verifying the date, participants should check that Party A and Party B are the same as the parties to the ISDA Master Agreement. Ensure that the last sentence of paragraph 1 is included because it provides the link between the floor transaction (defined as "Rate Floor Transaction" in the Confirmation) and the term "Transaction" which is used throughout the ISDA Master Agreement to refer to any type of transaction documented under it.

[4]  This is the notional principal amount on which Floating Amounts and, in some situations, Fixed Amounts are calculated. It equates to the "Calculation Amount" referred to in Article 4.8 of the 2006 Definitions.

[5]  This is the date on which the participants enter into the rate floor transaction.

[6]  This is the date on which the rate floor transaction actually commences.

[7]  This is the date on which the rate floor transaction will terminate (assuming that no Early Termination Date occurs as a result of an Event of Default or Termination Event). For commentary on the Business Day Convention wording see footnote 248.

[8]  If the parties want to provide that the Termination Date will be adjusted in accordance with a Business Day Convention (and, accordingly, that the final Calculation Period will be shortened or lengthened), the appropriate Business Day Convention must be specified. Care! If a Business Day Convention is required for the Termination Date, it is not sufficient to simply state the convention at the item "Business Day Convention" (see Section 3.3 in the 2006 Definitions). For commentary on the Business Day Convention wording see footnote 248.

[9]  Do not insert anything alongside the bold heading "Fixed Amounts". It is merely a sub heading for the items relating to Fixed Amounts.

[10]  For a rate floor transaction the Fixed Rate Payer is the buyer of the floor. Insert the name of the buyer of the floor.

[11]  Insert the date or dates for payment of the option fee or premium. Subject to the comments under "Fixed Rate", the Australian market convention is for the premium to be payable within two Business Days after the Trade Date. For commentary on the Business Day Convention wording see footnote 248.

[12]  Bracketed language is not necessary if Payment Dates and Period End Dates are to be adjusted in accordance with the Modified Following Business Day Convention, as provided in the 2006 Definitions. For commentary on the Business Day Convention wording see footnote 248.

[13]  If the premium is payable over time and the premium is to be expressed as a per annum fixed rate of the Notional Amount, specify the per annum fixed rate, expressed as a decimal.

If the premium is payable as a single lump sum, it is unnecessary to include details of a Fixed Rate or Fixed Rate Day Count Fraction.

[14]  See the comments on Fixed Rate in footnote 233. If a Fixed Rate is specified, set out the Fixed Rate Day Count Fraction. 

The Fixed Rate Day Count Fraction and the Floating Rate Day Count Fraction are normally specified in an abbreviated form, such as "Actual/Actual".  The Confirmations refer to various conventions for calculating the number of days elapsed. These are set out in Section 4.16 of the 2006 Definitions.

It is important to specify a Fixed Rate Day Count Fraction which will normally be "Actual/365(Fixed)" which is consistent with the market practice in Australia. Note that if the word "(Fixed)" is not included, the denominator of the fraction will become 366 in a leap year.

Alternative for Australian Bond basis calculation. If the Fixed Amount is to be calculated on the Australian bond basis insert a simple fraction being:

1/A

where A is the number of Payment Dates per annum. If the Termination Date is less than one year from the Effective Date, A is the number of Payment Dates that would have occurred in one year assuming a constant frequency of payments.

So, for example if the transaction involved quarterly Payment Dates and the Fixed Amount is to be calculated on the Australian Bond Basis, participants should insert:

"1/4"

alongside the item Fixed Rate Day Count Fraction.

Of course, another way of proceeding would be to simply calculate the Fixed Amount and insert it rather than stating a Fixed Rate and a Fixed Rate Day Count Fraction.

[15]        Insert the amount of the option fee or premium. It is possible that the parties may agree that the premium is payable over time. If there is more than one Fixed Amount payable, ensure that participants specify each Fixed Rate Payer Payment Date on which a Fixed Amount is payable.

[16]  Do not insert anything alongside the bold heading "Floating Amounts". It is merely a sub heading for the items relating to Floating Amounts. FRA Yield Discounting is deemed to apply to an AUD or NZD interest rate floor transaction under Section 8.4 (e) of the 2006 Definitions.

[17]  For a rate floor transaction the Floating Rate Payer is the seller of the floor. Insert the name of the seller of the floor.

[18]  Insert the per annum floor rate, expressed as a decimal.

[19]  Insert dates. See Section 4.9 of the 2006 Definitions if there is to be Delayed Payment or Early Payment. For commentary on the Business Day Convention see footnote 248.

Here is an example of how to describe the Payment Dates. Assume the dates are on 5 March and 5 September:

"5 March and 5 September in every year commencing 5 March 1991 and ending 5 September 199 ".

[20]  Bracketed language is not necessary if Payment Dates and Period End Dates are to be adjusted in accordance with the Modified Following Business Day Convention, as provided in the 2006 Definitions. For commentary on the Business Day Convention wording see footnote 248.

[21]  Article 7 of the 2006 Definitions refers to the definitions for various Floating Rate Options.  Section 7.1 (a) of the 2006 Definitions sets out various Floating Rate Options for the Australian Dollar. Two of these options (AUD BBR AUBBSW and AUD BBR BBSW) are based on rates for bills of exchange and two (AUD LIBOR BBA and AUD LIBOR Reference Banks) are based on LIBOR.

The AUD BBR BBSW rate is the one which would normally be used for domestic Australian dollar interest rate caps, collars or floors. ** The AUD BBR BBSW rate was fully reviewed by AFMA before being put in the 1991 Definitions (and now reflected in the 2006 Definitions) and is the rate which should now generally be used if an Australian Dollar bank bill rate is required.

To use the AUD BBR BBSW rate in a confirmation in which the 2006 Definitions are incorporated participants simply insert "AUD BBR BBSW" alongside the "Floating Rate Option" item. Nothing more is required for this item (although it is necessary to specify the Designated Maturity) **

[22]  This definition is used in the definitions of the various Floating Rate Options relating to Australian Dollars.

For Australian Dollar Floating Rate Options based on bills of exchange (AUD BBR AUBBSW and AUD BBR BBSW), the Designated Maturity is the tenor of the bills of exchange on which the Floating Rate is to be calculated. Normally the Designated Maturity will be three months for quarterly payment swaps and six months for semi annual swaps.

For Australian Dollar Floating Rate Options based on LIBOR (AUD LIBOR BBA and AUD LIBOR Reference Banks), the Designated Maturity is the term of the deposits on which LIBOR is based.

It is at this item where participants should specify the Designated Maturity for Calculation Periods which differ from the Designated Maturity which will generally apply in the transaction.

Care! If the designated maturity does not match one of the terms for which BBSW is calculated, participants should consider whether to specify in their confirmation that "Linear Interpolation is to apply" (see p.84 of the 2006 ISDA Definitions). If Linear Interpolation does apply, the two Floating Rate Options needed to calculate the interpolated rate need to be specified.

[23]  This is the per annum rate, if any, to be added to or subtracted from the Floating Rate.  It should be expressed as a decimal, e.g. "Plus 0.5 %" or "Minus 0.5 %". If there is no Spread, insert "None".

[24]  See footnote 234. If no Floating Rate Day Count Fraction is specified, the fraction will be determined in accordance with Section 6.2 (g) of the 2006 Definitions. The Floating Rate Day Count Fraction specified by Section 6.2 (g) if an AUD BBR Floating Rate Option is chosen is "Actual/365 (Fixed)" which is consistent with the market practice in Australia. Note that if the word "(Fixed)" is not included, the denominator of the fraction will become 366 in a leap year.

[25]  The Reset Dates are specified so that the Floating Rate applicable to any Calculation Period can be determined.

Under Article 6.2 (b) of the 2006 Definitions, the Reset Date for any Calculation Period is the Reset Date specified in the Confirmation applicable to that Calculation Period. 

A Calculation Period commences on and includes a Period End Date (generally a Payment Date) (or, in the case of the first Calculation Period, the Effective Date) and continues to, but excludes, the next Period End Date (or, in the case of the last Calculation Period, the Termination Date).

Important. Business Day Convention adjustments.

Article 6.2 (b) states that the Business Day Convention applicable to the Floating Rate Payer Payment Dates also will apply to the Reset Dates. (There is an exception to this if the adjustment would mean that the Reset Date for a Calculation Period would fall on the Payment Date for that period. In that situation Article 6.2 (b) provides that the Reset Date is to be adjusted by the Preceding Business Day Convention).

Therefore, if participants want the same Business Day Convention to apply to both Payment Dates and Reset Dates, participants need not specify a Business Day Convention for Reset Dates.

Suggested wording. In the case of an interest or currency swap transaction where Reset Dates are to occur at the start of a Calculation Period it is undesirable for a Reset Date to occur on any date other than the Payment Date relating to the previous Calculation Period. In such a case, the following words could be used to complete the Reset Date in the confirmation:

"For each Calculation Period, the first day of that Calculation Period."

Care! The above wording is suggested on the assumption that paragraph (a) of Section 4.10 of the 2006 Definitions applies ie that Period End Dates are not specified and therefore each Calculation Period (other than possibly the first) starts on a Payment Date.

Reset Dates should not be defined when, say, a USD floating rate is to be determined, as a date "2 Business Days before" the first day of a Calculation Period. This is because that two day period already is built into the floating rate definition (for example, see the definition of "USD LIBOR LIBO" in Section 7.1 (ab)(xxiv) of the 2006 Definitions).

[26]        Bracketed language is not necessary if Reset Dates are to be adjusted in accordance with the Business Day Convention applicable to Payment Dates. For commentary on the Business Day Convention wording see footnote 248.

[27]  Specify the place for each currency to be applicable for the Business Day definition.  See Section 1.4 of 2006 Definitions (page 1). This item need not be included if the transaction is entirely A$ denominated and Sydney is the only centre which need be "open" (see Section 1.4 (a)(i) of the 2006 Definitions (page 2)).

[28]  Read the notes at footnotes 228, 232, 240, 246 and 249 relating to Business Day Convention. Under the 2006 Definitions there is provision for the Payment Dates to be adjusted where the relevant Payment Date does not fall on a Business Day (see Section 4.9 ).  There are three different conventions for determining the method of adjustment. These are the "Following", "Modified Following" and "Preceding" Business Day Conventions. The meaning of each is set out in Section 4.12 of the 2006 Definitions.

If a Business Day Convention is not specified, the Modified Following Business Day Convention usually will apply (see Section 4.9 of the 2006 Definitions for details) which is the international accepted convention. When documenting Transactions under the ISDA Master Agreement participants will need to expressly adopt the "Following Business Day Convention" if that is the participants preference.

If the Payment Dates and Reset Dates are all to be adjusted by the same Business Day Convention (which would normally be the case), then the convention can be specified at the item "Business Day Convention" and it is unnecessary to also specify it at the "Payment Dates" and "Reset Dates" items.

[29]  If a Business Day Convention is to apply to all dates that are stated in the 2006 Definitions to be adjusted in accordance with the applicable Business Day Convention, the Business Day Convention can be specified here. For commentary on the Business Day Convention wording see footnote 248.

[30]  See Section 4.14 of the 2006 Definitions.

[31]  Insert particulars of the bank accounts into which payments to each party are to be made.

[32]  If a party intends to make and receive payments under different Transactions through different branches or offices, it should be specified in the Schedule to the ISDA Master Agreement as a Multibranch Party. If a party is a Multibranch Party, an item relating to offices should be included in the Confirmation in which the relevant branch is identified.

[33]  Amendments to ISDA Master Agreement. If it is necessary to amend the ISDA Master Agreement, then amendments can be inserted before the closing paragraph which commences "Please confirm that the foregoing".


Last Update Date 29 Jun 2011