The coupon rate of a bond is determined in a manner so that it remains competitive with other available fixed income securities.
Zero Coupon Bond Effective Yield
However, the coupon rate of newly issued fixed income securities may increase or decrease during the tenure of a bond based on market conditions, which results in the change in the market value of a bond. Market Value of a bond is a derivation of difference in coupon rate of bond and market interest rate of other fixed income securities. If interest rate of a bond is below the market interest rate, the bond is said to be traded at discount, while if the interest rate of bond is higher than market interest rate, the bond is said to be traded at premium and similarly, a bond is said to be traded at par if interest rate of bond is equal to market interest rate.
The coupon rate is also depended on the creditworthiness of the company. Companies need to undertake credit rating of the bond from a credit rating agency before issuing of the bond. Credit rating agencies assign a credit rating to the bond issue after assessing the issuer on various parameters riskiness of the business in which company operates, financial stability, legal history, default history, ability to repay money borrowed through bond etc.
What Is the Total Return of a Bond Investment? - dummies
Higher the rating of a bond means higher safety and hence lower coupon rate and vice versa. Coupon Rate Formula helps in calculating and comparing the coupon rate of differently fixed income securities and helps to choose the best as per the requirement of an investor. It also helps in assessing the cycle of interest rate and expected market value of a bond, for eg.
If market interest rates are declining, the market value of bonds with higher interest rates will increase, resulting in higher yield and hence higher return on investment and vice versa in increasing market interest rate scenario. This has been a guide to Coupon Rate Formula.
Understanding the key terms
Here we discuss How to Calculate Coupon Rate along with practical examples. We also provide Coupon Rate Calculator with downloadable excel template.
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What Is Coupon Rate and How Do You Calculate It?
For most purposes, such as quickly estimating a yield to maturity, the approximation formula should suffice. The calculator internally uses the secant method to converge upon a solution, and uses an adaptation of a method from Github user ndongo. This makes calculating the yield to maturity of a zero coupon bond straight-forward:. Use the Yield to Maturity as you would use other measures of valuation: a factor in your decision whether to buy or avoid a bond. You can compare YTM between various debt issues to see which ones would perform best. Note the caveat that YTM though — these calculations assume no missed or delayed payments and reinvesting at the same rate upon coupon payments.
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