If the interest rates are set to 6%, then no investor will accept the bonds offering coupon rate lower than this. Interest rates are decided and controlled by the government and are dependent on the market conditions. For example, a bond with a par value of $1,000 that is trading when the market interest rate exceeds the coupon rate, bonds sell for less than face value. at $980 has a bond discount of $20. The bond discount is also used in reference to the bond discount rate, which is the interest used to price bonds via present valuation calculations. A bond sold at par has its coupon rate equal to the prevailing interest rate in the economy.
Now that we have an idea of how a bond’s price moves in relation to interest rate changes, it’s easy to see why a bond’s price would increase if prevailing https://simple-accounting.org/ interest rates were to drop. If rates dropped to 3%, our zero-coupon bond, with its yield of 5.26%, would suddenly look very attractive.
Bond Coupon Rate
To attract demand, the price of the pre-existing zero-coupon bond would have to decrease enough to match the same return yielded by prevailing interest rates. In this instance, the bond’s price would drop from $950 (which gives a 5.26% yield) to approximately $909.09 (which gives a 10% normal balance yield). Most bonds pay a fixed interest rate that becomes more attractive if interest rates fall, driving up demand and the price of the bond. Shorter maturity of the bond reduces the coupon rate. Coupon rates are largely affected by the interest rates decided by the government.
More people would buy the bond, which would push the price up until the bond’s yield matched the prevailing retained earnings 3% rate. In this instance, the price of the bond would increase to approximately $970.87.
Why Is My Bond Worth Less Than Face Value?
An investor who purchases this bond has a return on investment that is determined by the periodic coupon payments. At maturity, when the market interest rate exceeds the coupon rate, bonds sell for less than face value. the principal loan amount is repaid to the investor. This amount is equal to the par or face value of the bond.