Lesson 1 of 5 · 12 min
Pricing a bond with a market discount rate
A bond's price is its promised coupons and principal discounted at the market discount rate, and comparing that rate with the coupon rate tells you at once whether the bond trades at par, a discount or a premium.
In short
- Bond pricing is discounted cash flow analysis: price = PV of every coupon + PV of the face value.
- The market discount rate is the return investors require for the bond's risk; it is also called the required yield or required rate of return.
- Coupon rate = market discount rate → par; coupon rate < rate → discount; coupon rate > rate → premium.
- A discount compensates the buyer for a deficient coupon; a premium charges the buyer for an excess coupon.
- Work in periods: semiannual coupons mean coupon ÷ 2, rate ÷ 2 and years × 2. Annual rates are the periodic rate × periods per year.
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