Bond Issue Types : How Bonds are Issued ?
How a Bond is issued
On Par it is generally sold at par, which is the face value of the bond.
Premium
One would buy a bond at a premium (paying more than the duration), since these bonds, interest (and interest) are higher than expected current bond market.The bond premium is the present value of future payments of both interest and maturity minus the non-discounted amount of debt maturity. In short, the bond market is very efficient. In the case of bonds, the real interest rate will be higher than in line with market expectations, selling more bonds than the maturity of the bond amount. If the bond rates will be lower than the rate in line with market expectations, bonds selling for less than the maturity of the bond amount. The difference (premium or discount) is calculated by discounting all future cash amounts.
Consider a bond selling in 2007 for $1000 with an annual coupon payment of $100.
What is the coupon rate? $100 / 1000 = 10%
Now suppose that in 2008, the same bond yields an a huge growth of 15% in interest payments annually.
What is the coupon payment? 15% x 10,00 = $150 per year.
Which one would you prefer buying?
At 8% coupon rate or 12% coupon rate?
As a simple investor i think you will go for 12% coupon rate.Since the value of the bond cash flows produced has appreciated from 100 per year to a $150 per year, this bond will have to be sold at a premium price due to its performace.
Discount : This is that type of bond in which it is issued for less than its par (or face) value, or a bond currently trading for less than its par value in the secondary market. Well according to just the definition It is is sold at a price below its face value and returns its face value at maturity. also called discounted bond.Some of the short term ones, such as the U.S. Treasury Bill, are always issued at a discount, and pay par amount at maturity rather than paying coupons. This is called a discount bond.
Example it is just opposite to the Premium one.
Now suppose a bond is selling in 2007 at $1000 with an annual coupon payment of $100.
coupon rate? $100 / 1000 = 10%
Now suppose that in 2008, the same bond yields an a negative growth of 8% in interest payments annually.
What is the coupon payment? 8% x 10,00 = $80 per year.
Which means that the value of bond has decreased as compared to the previous year which will lead it to be sold at discount.
