What is a Targeted Accrual Redemption Note?

A targeted accrual redemption note is an exotic derivative that terminates when a limit on coupon payments to the holder is reached.

Understanding Targeted Accrual Redemption Notes (TARN)

Target accrual redemption notes (TARN) have the distinguishing feature of being subject to early termination. If the accumulation of coupons reaches a predetermined amount before the settlement date, the holder of the note receives a final payment of the par value and the contract ends.

Aside from these features, TARNs are similar to inverse floating rate notes; the benchmark may be LIBOR, Euribor, or a similar rate. TARNs can also be conceptualized as path-dependent options: the end-user in effect buys a strip of call options while selling a strip of put options with a notional value that is double the calls'. The contract may include a knock-out provision that terminates it if the benchmark reaches a certain level. 

TARNs offer end-users a greater chance of making a profit, meaning that the seller is likely to lose money. In exchange, however, the end-user takes the risk that their downside will be greater if the trade does not turn out as expected; at the same time, their maximum gains may be capped. 

Foreign exchange TARNs or FX-TARNs are a common form of TARN in which counterparties exchange currencies at a pre-determined rate on pre-determined dates. The amount of currency exchanged varies depending on whether the rate is above or below a set forward price.