Abstract
M Financial engineering can be described as the construction of a security or a portfolio of securities with an otherwise unavailable risk-return configuration. A classic example of financial engineering is the recent issuance of floating rate notes (FRNs) with nontraditional coupon reset formulas. A traditional FRN resets the coupon rate periodically at some fixed margin over (or under) a reference index rate, for example, LIBOR + 0.25%. Since 1986, a number of FRNs have been issued with reset formulas at some fixed rate minus the reference rate. These can be called bull or inverse floaters or, as named by some issuers, yield curve notessee Ogden [8] for further institutional details. The idea is that an investor who is bullish on bond prices would be attracted to a security that has a coupon rate that moves inversely to the market rate. SallieMae (the Student Loan Marketing Association) has issued several bull floaters, including the initial one that had a reset formula of 17.20% LIBOR. Albert Lord, the chief financial officer of SallieMae, said at the time (April 1986):
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