An interest rate swap in which a fixed rate is exchanged into a low, off-market floating rate linked to a reference index such LIBOR. The spread over the floating rate increases, as agreed by the two counterparties, by a pre-determined amount if the floating rate exceeds a specific cushion level within a given resetting period. After making any necessary adjustment, the floating rate will be determined at the end of each payment period. For example, a nearly-perfect swap could have its floating rate leg subject to the following payment plan: if the floating rate breaks out above 5% (being the cushion level) by ten basis points, then a spread of 20 basis points is added to the floating rate between the previous reset date and the present one. In this case, the payment amount payable at the present resetting period will be based on a floating rate of:
Applicable floating rate = LIBOR + period spread
Applicable floating rate = 5% + 0.2% or 500 basis points + 20 basis points = 5.20% or 520 basis points
