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What Is a Floating Rate Income Fund?

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  • Written By: Osmand Vitez
  • Edited By: PJP Schroeder
  • Last Modified Date: 05 September 2016
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A floating rate income fund represents an investment that carries a floating interest rate for items in the fund. Common investment examples for these items include mutual funds or grouped bond investments, all with floating interest rates. The purpose of these investments is to provide diversification in low-grade investments; for example, only a portion of the floating rate income fund goes into these investments, with the other portion in others such as money markets, cash, or securities. The floating rate comes into play as the fund primarily includes debt loans made to noncreditworthy companies. These floating interest rate loans allow the income fund to offer floating rates that prevent the fund from paying out more money than the loans gain in interest.

Though a floating rate income fund can provide portfolio diversification, it does not mean it is any less risky than other investments. In fact, a floating rate fund often has more risk associated with it as the items inside the fund are low-grade bonds and loans made to risky businesses. The diversification comes from the fact that not all monies invested into the fund are placed in these risky items. The upside can be quite rewarding, however, as the floating rate can increase over time, making the investment profitable. Other conditions may also be present that restrict the benefits of this investment.

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Another benefit to a floating rate income fund is the seniority it provides to investors. In short, this fund typically takes precedence over other invested stakeholders, such as preferred stockholders and common stockholders, and in some cases, individual bondholders. The fund may also be secured by assets in a company’s business. For example, risky loans made to a business often have a specific purpose, such as a new building, vehicle, or land. When a floating income rate fund consists of these loans, the investors then have a share in these assets, which makes them senior investors over stockholders.

Investors may not usually have long-term income funds in their portfolios. The purpose of the floating rate income fund is to take advantage of short-term interest rate changes. In most cases, these funds have interest rate adjustments every 30, 60, or 90 days, though the investment may last a few years in terms of maturity. In short, the floating rate income fund is not really a standard buy-and-hold investment medium. Investors may be able to get in and get out of these funds as terms of an overall investment strategy.

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