7.17.2005

Q&A: What are some of the more common coupon rate structures?

  • Zero-coupon bonds: pay the face amount at a future maturity date, without any interim interest payments. ie. a zero-coupon bond with $1,000 par is quoted at 80. The interest is $200. A type of accrual bonds that do not make any coupon payments until the maturity date.
  • Step-up bonds: have low initial and gradually increasing coupon rates, (ie. rates "step up" over time). eg. A 5-year, annual-pay, step-up bond with scheduled coupon rates of 4%, 5% and 6%.
  • Deferred coupon bonds: no coupon payments for an initial period of typically 3 - 7 years. Then a lump-sum coupon is paid, and regular coupon payments begin. eg. an annual-pay deferred coupon bond with 3-year deferral period, 10 years to maturity, 10% coupon rate and $1,000 par value. Its cashflows are $0 for years 1-2, $264.80 year 3 (FV with 8% rate), $100 years 4-9, $1,100 year 10.

Bonus Points

  • Coupon rate is the interest rate that the issuer agrees to pay each year.
    • typically pay semiannually.
    • The amount of interest that will be received by the buyer if an investor sells a bond between coupon payments (as interest is paid not daily) is known as accrued interest. The agreed upon bond price without accrued interest is referred to as the price (clean price). Full price or dirty price otherwise.

Category: C++ Quant > Debt

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