Business Day Conventions and Date Rolling

A bond might promise a coupon "every six months on the 15th." But the 15th sometimes falls on a Saturday, or on a public holiday when banks are closed and no payment can actually be processed. Every contract that specifies dates needs a rule for what happens then, and finance has settled on a small set of standard business day conventions that decide exactly where the date rolls to.

The standard conventions

• Following: roll forward to the next business day. Simple, but can push a date into the next month.
• Modified Following: roll forward to the next business day, unless that day falls in the next calendar month, in which case roll backward instead to the last business day of the original month. This is the most common convention for interest rate swaps and many bonds, because it avoids accidentally shortening or lengthening a coupon period across a month boundary.
• Preceding: roll backward to the previous business day.
• Modified Preceding: roll backward, unless that crosses into the previous month, in which case roll forward instead.

The "modified" variants exist specifically to stop a date-rolling rule from silently changing which month a payment lands in, which matters for anything computed on a monthly or quarterly schedule.

Worked example

Suppose a swap's quarterly payment is scheduled for the 30th of April, but April 30 falls on a Saturday. Under a plain Following convention, the payment simply rolls to Monday, May 2 — but that pushes the payment into May, which can distort a monthly accrual calculation that assumes the payment "belongs" to April. Under Modified Following, the rule first tries rolling forward to May 2, notices this crosses into a new month, and instead rolls backward to the last business day of April — say, Friday, April 29. The actual payment date differs by three calendar days (May 2 vs April 29) purely because of which convention the contract specifies, even though the underlying schedule is identical.

What this means in practice

Getting the wrong convention wrong in a cash-flow model or a bond-pricing engine produces dates that are off by anywhere from one to several days, which then throws off accrued interest, discount factors, and P&L attribution around the mismatch. Modified Following is the default for most interest rate derivatives, but it's a contractual choice specified in the trade's confirmation or the instrument's term sheet — never assume it without checking, especially when working across bond and swap conventions that may differ even on the same underlying schedule.