How do bonds work?
When a bond is issued by a corporation or a municipality, it is sold at face value. The investor usually pays $1,000 per bond. The par value also includes the amount that will be redeemed or repaid at maturity.
To calculate the market price of a bond, use the following formula:
current yield = amount of coupon / market price
If a 6% bond is issued at par or $1,000, the amount of
coupon interest = $60
.06 = $60 / $100
When the Federal Reserve raises interest rates to 8% in order to reduce inflationary pressures, the market price is reduced as follows:
current yield = amount of coupon / market price
current yield = .08
coupon (remains constant)= $60
market price = X
.08 =$60/X ; 08 X = $60; X = $601.08; X = $750 market price
When interest rates are lowered, the market price of a bond increases. Let's assume the Federal Reserve lowers interest rates from 6% to 5% to stimulate the economy. The effect of the market price is as follows:
current yield = amount of coupon / market price
current yield = .05
coupon = $60
.05 = $60/X X = $1,200 market price
When a bond is issued by a corporation or a municipality, it is sold at face value. The investor usually pays $1,000 per bond. The par value also includes the amount that will be redeemed or repaid at maturity.
To calculate the market price of a bond, use the following formula:
current yield = amount of coupon / market price
If a 6% bond is issued at par or $1,000, the amount of
coupon interest = $60
.06 = $60 / $100
When the Federal Reserve raises interest rates to 8% in order to reduce inflationary pressures, the market price is reduced as follows:
current yield = amount of coupon / market price
current yield = .08
coupon (remains constant)= $60
market price = X
.08 =$60/X ; 08 X = $60; X = $601.08; X = $750 market price
When interest rates are lowered, the market price of a bond increases. Let's assume the Federal Reserve lowers interest rates from 6% to 5% to stimulate the economy. The effect of the market price is as follows:
current yield = amount of coupon / market price
current yield = .05
coupon = $60
.05 = $60/X X = $1,200 market price
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