<< Chapter < Page Chapter >> Page >

In financial terms, a bond has several parts. A bond is basically an “I owe you” note that is given to an investor in exchange for capital (money). The bond has a face value    . This is the amount the borrower agrees to pay the investor at maturity. The bond has a coupon rate    or interest rate, which is usually semi-annual, but can be paid at different times throughout the year. (Bonds used to be paper documents with coupons that were clipped and turned in to the bank to receive interest.) The bond has a maturity date    when the borrower will pay back its face value as well as its last interest payment. Combining the bond’s face value, interest rate, and maturity date, and market interest rates, allows a buyer to compute a bond’s present value    , which is the most that a buyer would be willing to pay for a given bond. This may or may not be the same as the face value.

The bond yield    measures the rate of return a bond is expected to pay over time. Bonds are bought not only when they are issued; they are also bought and sold during their lifetimes. When buying a bond that has been around for a few years, investors should know that the interest rate printed on a bond is often not the same as the bond yield, even on new bonds. Read the next Work It Out feature to see how this happens.

Calculating the bond yield

You have bought a $1,000 bond whose coupon rate is 8%. To calculate your return or yield, follow these steps:

  1. Assume the following:
    Face value of a bond: $1,000
    Coupon rate: 8 %
    Annual payment: $80 per year
  2. Consider the risk of the bond. If this bond carries no risk, then it would be safe to assume that the bond will sell for $1,000 when it is issued and pay the purchaser $80 per year until its maturity, at which time the final interest payment will be made and the original $1,000 will be repaid. Now, assume that over time the interest rates prevailing in the economy rise to 12% and that there is now only one year left to this bond’s maturity. This makes the bond an unattractive investment, since an investor can find another bond that perhaps pays 12%. To induce the investor to buy the 8% bond, the bond seller will lower its price below its face value of $1,000.
  3. Calculate the price of the bond when its interest rate is less than the market interest rate. The expected payments from the bond one year from now are $1,080, because in the bond’s last year the issuer of the bond will make the final interest payment and then also repay the original $1,000. Given that interest rates are now 12%, you know that you could invest $964 in an alternative investment and receive $1,080 a year from now; that is, $964(1 + 0.12) = $1080. Therefore, you will not pay more than $964 for the original $1,000 bond.
  4. Consider that the investor will receive the $1,000 face value, plus $80 for the last year’s interest payment. The yield on the bond will be ($1080 – $964)/$964 = 12%. The yield, or total return, means interest payments, plus capital gains. Note that the interest or coupon rate of 8% did not change. When interest rates rise, bonds previously issued at lower interest rates will sell for less than face value. Conversely, when interest rates fall, bonds previously issued at higher interest rates will sell for more than face value.

Questions & Answers

general equation for photosynthesis
Ojasope Reply
6CO2 + 6H2O + solar energy= C6H1206+ 6O2
Anastasiya
meaning of amino Acids
AJAYI Reply
a diagram of an adult mosquito
mubarak Reply
what are white blood cells
Mlungisi Reply
white blood cell is part of the immune system. that help fight the infection.
MG
what about tissue celss
Mlungisi
Cells with a similar function, form a tissue. For example the nervous tissue is composed by cells:neurons and glia cells. Muscle tissue, is composed by different cells.
Anastasiya
I need further explanation coz celewi anything guys,,,
Calvin Reply
hey guys
Isala
on what?
Anastasiya
hie
Lish
is air homogenous or hetrogenous
damiane Reply
homogenous
Kevin
why saying homogenous?
Isala
explain if oxygen is necessary for photosynthesis
Allice Reply
explain if oxygen is necessary for photosynthesis
Allice Reply
Yes, the plant does need oxygen. The plant uses oxygen, water, light, and produced food. The plant use process called photosynthesis.
MG
By using the energy of sunlight, plants convert carbon dioxide and water into carbohydrates and oxygen by photosynthesis. This happens during the day and sunlight is needed.
NOBLE
no. it s a product of the process
Anastasiya
yet still is it needed?
NOBLE
no. The reaction is: 6CO2+6H20+ solar energy =C6H12O6(glucose)+602. The plant requires Carbon dioxyde, light, and water Only, and produces glucose and oxygen( which is a waste).
Anastasiya
what was the question
NOBLE Reply
joining
Godfrey
the specific one
NOBLE
the study of non and living organism is called.
Godfrey
Is call biology
Alohan
yeah
NOBLE
yes
Usher
what Is ecology
Musonda Reply
what is a cell
Emmanuel Reply
A cell is a basic structure and functional unit of life
Ndongya
what is biolgy
Hawwi Reply
is the study of living and non living organisms
Ahmed
may u draw the female organ
MARTIN Reply
i dont understand
Asal
:/
Asal
me too
DAVID
anabolism and catabolism
Sani Reply
Anabolism refers to the process in methabolism in which complex molecules are formed "built" and requires energy to happen. Catabolism is the opposite process: complex molecules are deconstructed releasing energy, such as during glicolysis.
Anastasiya
Explain briefly independent assortment gene .
Otu Reply
hi
Amargo
hi I'm Anatalia
Joy
what do you mean by pituitary gland
Digambar
Got questions? Join the online conversation and get instant answers!
Jobilize.com Reply

Get the best Algebra and trigonometry course in your pocket!





Source:  OpenStax, University of houston downtown: microeconomics. OpenStax CNX. May 28, 2014 Download for free at http://legacy.cnx.org/content/col11651/1.2
Google Play and the Google Play logo are trademarks of Google Inc.

Notification Switch

Would you like to follow the 'University of houston downtown: microeconomics' conversation and receive update notifications?

Ask