DEFINITION of 'Fully Indexed Interest Rate'
The interest rate on an adjustable-rate loan that is calculated by adding the margin to an index level. The interest rate on an adjustable (sometimes known as variable) rate loan is tied to a benchmark interest rate, known as an index. Popular indexes for loans are: the prime rate, LIBOR, and various U.S. Treasury bill and note rates. When calculating the fully indexed interest rate, the index level varies according to market conditions but the margin is usually a constant value.
BREAKING DOWN 'Fully Indexed Interest Rate'
For example, the fully indexed interest rate on an adjustable rate mortgage tied to the six-month LIBOR index with a margin of 3% would be 10% if the six-month LIBOR index were at 7%. If the six-month LIBOR index were to adjust upwards to 8%, the new fully indexed interest rate would be 11%.
For some loans, the borrower may have the option of choosing between two or more indexes to which their loan will be tied. Most popular indexes are highly correlated with each other. In general, the lower the level of an index relative to other indexes, the higher the margin on the loan. However, the margin is frequently negotiable with the lender. The choice of the index and the margin, both of which are frequently overlooked by borrowers, can make a big difference over the life of an adjustable rate loan.