A 20 -year maturity bond with par value 1,000 makes semiannual coupon payments at a coupon rate

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A 20 -year maturity bond with par value 1,000 makes...

Key Concepts

Bond Pricing

Bond pricing involves determining the current value of a bond based on the present value of its future cash flows, which include periodic coupon payments and the repayment of the par (face) value at maturity. The calculation typically uses discounting, where each future cash flow is divided by (1 + r) raised to the power of the time period in which the cash flow occurs.

Bond Equivalent Yield

The bond equivalent yield (BEY) is a measure used primarily in the bond market to convert yields from bonds that pay interest semiannually into an annualized yield that is comparable with other annualized yields. It adjusts for the effect of semiannual compounding, providing a convenient way to compare bonds with different payment frequencies.

Effective Annual Yield

The effective annual yield is the real return on an investment after accounting for compounding over the course of a year. It converts a nominal yield, which may be based on semiannual compounding or another frequency, into a compounded annual rate that makes yields from different compounding frequencies comparable.

Yield to Maturity (YTM)

YTM is the internal rate of return on a bond, representing the annualized return that an investor would earn if the bond is held until maturity, assuming that all coupon and principal payments are made as scheduled and reinvested at the same rate. It is found by equating the present value of the bond's future cash flows to its current market price.

Coupon Payments

Coupon payments are periodic interest payments made to bondholders during the life of the bond. They are typically expressed as a percentage of the bond's par value and, in many cases such as this bond, are made on a semiannual basis. The coupon rate determines the size of each payment and is an important component of the bond's cash flows.

Semiannual Compounding

Semiannual compounding refers to the process of calculating interest twice a year. When a bond makes payments semiannually, the yield and discounting calculations are adjusted to reflect these two periods, meaning the per period rate is the annual rate divided by two and the number of periods is twice the number of years to maturity.

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