Reference rate denotes a particular standard that fixes the pay-offs in a financial deal. The reference rate remains beyond the moderating capacities of all the parties that are parts of a particular financial contract. Reference rate can also be termed as a definite standard of interest rate on which depends the floating-rate securities and some definite type of swaps. The reference rate can be identified as a different version of LIBOR rate. Again, considering the particular contract or the security, the reference rate can also be a version of consumer price index that is an inflation standard or unemployment rate that provides a view of the economic as well as the social condition.
There are different types of mortgage loans that are provided by the mortgage loan lenders. Adjustable rate mortgage is one of those loans that are very popular and provided in different types. The reference rate is the base or the standard on which the adjustable rate mortgages have been developed. In the adjustable rate mortgages, the interest rate paid by the borrower is considered as the reference rate. There is a fixed amount that is additional to the interest rate and this additional amount is generally known as spread. The reference rate is considered as a kind of guaranteed rate by the lenders of adjustable rate mortgages. Whenever the reference rate fluctuates and goes upwards, the monthly installment of the borrower rises instantly.
Apart from the adjustable rate mortgages, the reference rates are also used for a number of other products like floating rate notes, different type of swaps, interest rates related to the futures and many more. Independent organizations like the British Bankers Association or BBA and several other organizations perform the job of calculating the reference rates. At the same time, there is the International Swaps and Derivatives Association that is responsible for determining the swap reference rate related to the constant maturity swaps.
Last Updated on : 1st July 2013