BFB1001 Chap.9 Debt Securities and Bond Valuation
Debt Securities and Bond Valuation
Debt Securities and Bond Valuation separates a conventional bond into periodic coupon payments and repayment of face value. Coupon rate determines the contractual cash amount, while yield to maturity discounts those promised cash flows at the return currently required by investors. The coupon stream is valued as an annuity and face value as a single future payment.
The chapter explains premium, par and discount pricing, the inverse curved price-yield relationship, payment-frequency consistency and convergence toward face value at maturity. Longer maturity and lower coupons generally increase interest-rate sensitivity because more value sits in distant cash.
Yield remains conditional on promised payments, so credit and liquidity risk must be distinguished from market-rate movements when interpreting a quoted return.
What this chapter covers
- 01
Debt claims and priority
- 02
Coupon and face value
- 03
Yield to maturity
- 04
Bond present-value decomposition
- 05
Premium, par and discount
- 06
Interest-rate and credit risk
Worked example · free
Price a coupon bond at a market yield
- 1Calculate annual coupon of $60.
- 2Discount three coupons as an annuity at 8%.
- 2Discount $1,000 face value for three years.
- 2Add $154.63 and $793.83 and explain the discount price.
Key terms
- Face value
- The principal amount promised for repayment at bond maturity.
- Coupon rate
- The contractual percentage of face value determining periodic coupon cash.
- Yield to maturity
- The discount rate equating price with promised bond cash flows.
- Discount bond
- A bond priced below face value, commonly because coupon rate is below market yield.
Debt Securities and Bond Valuation FAQ
Why do bond prices fall when yields rise?
Existing fixed cash flows become less attractive relative to the higher required return, so their present value falls. The contractual coupon does not change; market adjustment occurs through the price investors are willing to pay.
When does a bond trade at face value?
Under the standard fixed-rate setup, price equals face when market yield equals the coupon rate. Coupon above yield produces a premium, while coupon below yield produces a discount, assuming the promised payments are credible.
Why are long bonds more rate-sensitive?
More of their value is received farther in the future and is exposed to the discount rate for more periods. A given yield change therefore has a larger present-value effect than on otherwise similar near-term cash.
What is the difference between coupon rate and yield?
Coupon rate is written into the contract and determines periodic coupon cash from face value. Yield is the market-required discount rate implied by price and the bond's promised cash flows.
How do I handle semiannual bond payments?
Use the coupon per half-year, the yield per half-year and twice the number of years as periods. All three inputs must share the same six-month basis.
Does a high yield guarantee a high realised return?
No. Quoted yield assumes the promised payments occur under the standard interpretation. A high yield can reflect meaningful default or liquidity risk, and realised return can be lower if payments fail or the bond is sold early.
Why does bond price converge toward face value?
As maturity approaches, fewer coupon payments remain and the promised face repayment becomes imminent. For a bond expected to pay as promised, the price effect of premium or discount shrinks until the final payment date, when the contract repays face value.
What is a zero-coupon bond?
It makes no periodic coupon payments and pays face value at maturity. Its price is the present value of that single distant payment. Because all value sits at the end, its market price is especially sensitive to required yield and maturity.
How is interest-rate risk different from credit risk?
Interest-rate risk changes market price as required yields move even when promised cash remains intact. Credit risk concerns whether the issuer can make those promised payments. Both can lower price, but they arise from different mechanisms and require different evidence.
Assessment move
Before computing, compare coupon rate and yield to predict premium, par or discount. Calculate the periodic coupon from face value, separate the coupon annuity from the maturity payment and convert coupon, yield and periods to the same frequency. Add the two present values and verify the result matches the predicted direction.
Reprice one bond at a higher yield and explain why the fixed contractual cash now supports a lower market price. Compare a long and short maturity to see how repeated discounting increases sensitivity. Treat zero-coupon debt as the limiting case where all value comes from the distant face payment. In written answers, distinguish interest-rate risk, credit risk and liquidity risk rather than using one broad label.
Explain that yield is conditional on promised cash flows and that a discount or premium is a price adjustment relative to face value, not an additional contractual payment from the issuer.
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