How to Calculate a Bond Paying Above Coupon Rate
Bond market prices depend on the current market interest rate and the stated interest rate, also known as the coupon rate, on the bond. The bond has two sets of cash flows, the interest cash flow and the maturity value cash flow. By adding together the present value of these cash flows, you can find the market value of the bond. If the market rate is more than the coupon rate, the bond sells at a discount. For example, a person buys a bond with a face value of $100,000. The stated interest rate is 5 percent. The market interest rate is 8 percent. The bond pays $2,500 twice a year in interest for five years.
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Instructions
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Find the present value of $1 factor for the bond's maturity value. Use the present value of $1 table, located in the references. In the example, use 4 percent to 10 periods. This is because the bond pays twice annually. The present value of $1 factor then is 0.67556.
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Multiply the present value of $1 factor by the bond's face value. This is the present value of the bond's face value. In the example, multiply 0.67556 by $100,000, which equals $67,556.
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Find the present value of an annuity factor for the bond's interest payments. Use the number of interest payments as the period and the market interest rate as the interest rate. In the example, use 4 percent and 10 periods, so the present value of an annuity factor is 8.1109.
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Multiply the present value of an annuity factor by the annual interest payment. This is the present value of the interest payments. In the example, multiply 8.1109 by $2,500 which equals $20,277.25.
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Add the present value of the bond's face value by the present value of the bond's interest payments. In the example, $67,556 plus $20,277.25 equals a market value of $87,833.25.
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References
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