Par Bond
A par bond is a bond that is selling at par, meaning its market price is exactly equal to its nominal value or face value. The face value of a bond is the amount the bondholder will be repaid when the bond matures. Hence, a corporate bond with a face value of $1,000 is considered a par bond if it trades on the market at $1,000.
Examples
- Corporate Bonds: Suppose a corporate bond has a face value of $1,000. If the bond is currently trading at $1,000, it is a par bond.
- Government Bonds: A U.S. Treasury bond with a face value of $10,000 that trades for $10,000 on the open market is an example of a par bond.
Frequently Asked Questions (FAQs)
Q1: What does it mean if a bond is trading at a premium or discount?
- A: If a bond is trading at a premium, its market price is higher than its face value. Conversely, if it is trading at a discount, its market price is lower than its face value.
Q2: Why do bonds sometimes trade at par?
- A: Bonds trade at par when the present value of the interest payments plus the principal repayment equals the bond’s face value. This usually occurs when the market interest rate is equal to the bond’s coupon rate.
Q3: How does the bond’s yield relate to its trading at par?
- A: When a bond trades at par, its yield to maturity is equal to its coupon rate. The yield represents the return that investors can expect if they hold the bond until maturity.
Q4: What influence does maturity date have on trading at par?
- A: As the bond approaches its maturity date, its market price tends to move closer to its face value. This convergence often explains why a bond might trade at par.
Q5: Can changes in the interest rate environment impact the trading status of a bond?
- A: Yes, changes in prevailing interest rates can cause bonds to trade above (premium) or below (discount) their face values, impacting whether they are considered par bonds.
Related Terms
- Face Value: The nominal value of a bond or other security as stated by the issuer. It is the amount paid back to the bondholder at maturity.
- Coupon Rate: The annual interest rate paid on a bond, expressed as a percentage of the face value.
- Yield to Maturity (YTM): The total return anticipated on a bond if it is held until it matures.
- Bond Discount: Occurs when a bond is sold for less than its face value.
- Bond Premium: Occurs when a bond is sold for more than its face value.
Online References
Suggested Books for Further Studies
- “The Bond Book: Everything Investors Need to Know About Treasuries, Municipals, GNMAs, Corporates, Zeros, Bond Funds, Money Market Funds, and More” by Annette Thau
- “Fixed Income Analysis” by Barbara S. Petitt and Jerald E. Pinto
- “Bond Markets, Analysis, and Strategies” by Frank J. Fabozzi
Fundamentals of Par Bonds: Finance Basics Quiz
### What does it mean if a bond trades at par?
- [x] It is trading at its face value.
- [ ] It is trading above its face value.
- [ ] It has been defaulted.
- [ ] It pays no interest.
> **Explanation:** A bond trading at par means its market price is equal to its face value.
### What is the yield to maturity of a par bond compared to its coupon rate?
- [ ] Higher than the coupon rate
- [ ] Lower than the coupon rate
- [x] Equal to the coupon rate
- [ ] Not determinable
> **Explanation:** For a par bond, the yield to maturity is equal to the coupon rate.
### What happens to a bond’s price as it nears its maturity date?
- [x] It converges to its face value.
- [ ] It diverges from its face value.
- [ ] It becomes irrelevant.
- [ ] It moves towards zero rapidly.
> **Explanation:** As a bond approaches its maturity date, its market price tends to move closer to its face value.
### Which of the following affects whether a bond trades at a premium, discount, or par?
- [x] Market interest rates
- [ ] Length of the bond's term
- [ ] Issuer's reputation
- [ ] Payment frequency
> **Explanation:** Changes in market interest rates impact whether a bond trades at a premium, discount, or par.
### Which term best describes the value paid back to the bondholder at maturity?
- [ ] Coupon Rate
- [ ] Yield
- [x] Face Value
- [ ] Market Price
> **Explanation:** The face value is the amount paid back to the bondholder at maturity.
### What kind of bonds does the term 'par bond' commonly refer to?
- [ ] Only government bonds
- [ ] Only corporate bonds
- [x] Both government and corporate bonds
- [ ] Only zero-coupon bonds
> **Explanation:** The term 'par bond' can refer to both government and corporate bonds.
### Why might an investor prefer a par bond?
- [x] Predictable returns aligned with the face value
- [ ] Higher risk for higher reward
- [ ] More complex trading benefits
- [ ] Volatility in interest payments
> **Explanation:** An investor may prefer a par bond for its predictable returns that align with the bond’s face value.
### What is indicated when the market price of a bond rises above its face value?
- [ ] The bond is trading at par
- [x] The bond is trading at a premium
- [ ] The bond is trading at a discount
- [ ] The bond has defaulted
> **Explanation:** When the market price rises above the face value, the bond is trading at a premium.
### How can a bond that was trading at a discount move to trading at par?
- [x] Market interest rates decrease
- [ ] Market interest rates increase
- [ ] The issuing company defaults
- [ ] The bond gets reissued
> **Explanation:** A decrease in market interest rates can cause a previously discounted bond to trade at par.
### What does a bond's coupon rate indicate?
- [ ] The rate of capital appreciation
- [x] The annual interest payment expressed as a percentage of the face value
- [ ] The maturity period of the bond
- [ ] The discount factor applied to the bond
> **Explanation:** The coupon rate is the annual interest payment made by the bond, expressed as a percentage of its face value.
Thank you for diving into the world of bond markets and assessing your knowledge with our quiz. Keep striving to expand your finance acumen!
