Coupon leverage

Coupon leverage, or leverage factor, is the amount by which a reference rate is multiplied to determine the floating interest rate payable by an inverse floater.¹ Some debt instruments leverage the particular effects of interest rate changes, most commonly in inverse floaters.²

As an example, an inverse floater with a multiple may pay interest a rate, or coupon, of 22 percent minus the product of 2 times the 30-day SOFR (Secured Overnight Financing Rate).³ The coupon leverage is 2, in this example. The reference rate is the 30-day SOFR.

Coupon leverage increases the sensitivity of an inverse floater's coupon payments, and therefore its market value, to changes in the underlying reference rate. A higher leverage factor means that a given movement in the reference rate produces a proportionally larger change in the coupon rate.⁴

Because of this leveraged structure, inverse floaters are generally more volatile than comparable fixed-rate or standard floating-rate instruments. U.S. Securities and Exchange Commission filings commonly describe inverse floaters as investments that entail a degree of leverage and may cause gains and losses to be magnified in response to interest-rate movements.⁵