Coupon rate and type
What is the coupon rate?
The current coupon rate represents the rate of interest that the bond pays relative to its face value. Bonds with coupon payments are typically priced close to par value, where the coupon rate aligns with the prevailing market rates for bonds with similar characteristics.
Investors can use the current coupon rate as a reference point to evaluate the attractiveness of a bond's yield compared to other fixed-income securities. By considering the current coupon rate, investors can make informed decisions about the potential returns and risks associated with investing in a particular bond.
What is coupon type?
The coupon type of a bond – whether fixed, variable, or zero – determines how interest payments are calculated and distributed to bondholders. The general coupon type does not change throughout the bond's life.
Variable coupon
In contrast, a bond with a variable coupon type has interest payments that can fluctuate based on a specified benchmark or index. The interest rate on these bonds is not fixed but rather adjusts periodically according to predetermined criteria outlined in the bond agreement. Common benchmarks for variable-coupon bonds include LIBOR (London Interbank Offered Rate) or the Consumer Price Index (CPI).
Variable-coupon bonds offer the potential for higher returns if interest rates rise, as the coupon payments can adjust upwards. However, they also carry the risk of lower payments if interest rates fall. Investors in variable-coupon bonds should be prepared for fluctuations in income based on market conditions.
Coupons with a variable type have more specific characteristic Current coupon type.
Zero coupon
Zero-coupon bonds do not make regular interest payments like traditional bonds. Instead, they are issued at a discount to face value and pay the full face value at maturity. The difference between the purchase price and the face value represents the interest earned on the bond. Zero-coupon bonds do not have a coupon rate since they do not pay periodic interest.
Zero-coupon bonds are attractive to investors seeking a lump sum payment at maturity. They can be beneficial for long-term investors looking to lock in a specific return over time without the need for regular interest payments.
Fixed coupon
A bond with a fixed coupon type has a predetermined interest rate that remains constant throughout the bond's life. The bond issuer commits to paying a fixed interest at regular intervals, typically semi-annually or annually. This fixed rate is specified in the bond's terms and remains unchanged regardless of market conditions.
Fixed-coupon bonds provide predictability and stability in income for investors.