How a Zero-Floored Cash Collateral Rate Works

Summary

The document explains what a zero floor on interest paid on cash collateral means in a derivative collateral agreement. Such agreements specify a reference rate for the collateral currency; the answer gives Fed Funds for US dollar collateral and Eonia for euro collateral as examples. A floor means the rate used to calculate collateral interest cannot fall below zero.

When the reference rate is positive, the floor does not change the interest calculation. If the reference rate becomes negative, the floor prevents the contractual collateral rate from becoming negative. The answer uses negative Eonia as an example of when the clause matters. The explanation is brief and does not discuss agreement-specific details such as spreads, day-count conventions, or how different collateral arrangements allocate payments, so the exact contract terms remain important.

Key ideas

• A collateral agreement may set a floor of zero on the rate paid for cash collateral.
• The agreement specifies a reference rate, which can differ by collateral currency.
• The floor has no effect while the reference rate is positive.
• If the reference rate falls below zero, the floor prevents the collateral rate from becoming negative.
• The actual payment calculation depends on the terms of the collateral agreement.

Tags

# Collateral on Derivative Position


# Collateral on Derivative Position












Let say a bank enters an Interest rate swap with a counter-party, and this trade is collateralised.

I have heard about a specific term in such collateral agreement, wherein it states that the interest payment on such collateral (which is received or paid) is floored at zero.

What does it mean actually. If I receive the collateral and if there is some interest payment angle to it as per the contract, then I will always pay interest, right? Similarly if bank's counter-party receives the collateral then it will pay interest to the bank, right?

So interest payment will always be positive, is not it?

So what exactly it means to the statement that Interest on the collateral is floored at zero?

Any insight will be very helpful

Thanks for your time

## Answer by dm63 (score 4, accepted)

https://quant.stackexchange.com/a/65482

It is true that some collateral agreements, there is a clause that says that the interest rate on cash collateral is floored at zero. It also specifies the interest rate index, which is usually Fed Funds for USD collateral and Eonia for EUR colllateral, for example. As long as this index rate stays positive, the clause has no effect. However for example Eonia is negative , so the clause does have an impact for EUR collateral.

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.