Key Characteristics of Bonds

Coupon Interest Rate

The coupon rate is the interest the bondholder will receive as a percentage of the par value. Thus, if a bond has a par value of $1,000 and a coupon rate of $10,100 a year during the time between when the bond is issued and when it matures, this rate is usually fixed throughout the life of the bond. It can also vary with a money market index, such as LIBOR, or it can be even more exotic. The bond will also specify when the interest will be paid, whether monthly, quarterly, semi-annually, or annually.

Mecca Temple 1922 Bond Coupons A coupon payment on a bond is a periodic interest payment that the bondholder receives between the bond's issue and maturity.

The name "coupon" arose because, in the past, paper bond certificates were issued with coupons attached, one for each interest payment. On the due dates, the bondholder would hand in the coupon to a bank in exchange for the interest payment.

Not all bonds have coupons. Zero-coupon bonds are those that pay no coupons and thus have a coupon rate of 0%. Such bonds make only one payment–the payment of the face value on the maturity date. Normally, to compensate the bondholder for the time value of money, the price of a zero-coupon bond will always be less than its face value on any date before the maturity date. The bondholder receives the full principal amount on the redemption date. An example of zero coupon bonds is Series E savings bonds issued by the U.S. government.

Bonds are classified into many types based on different coupon rates. Fixed-rate bonds have a coupon that remains constant throughout the bond's life. A variation is stepped-coupon bonds, with a coupon that increases during the bond's life.

Floating rate notes (FRNs, floaters) have a variable coupon linked to a reference rate of interest, such as LIBOR or Euribor. For example, the coupon may be a three-month USD LIBOR + 0.20%. The coupon rate is recalculated periodically, typically every one or three months.

Inflation-linked bonds (linkers), in which the principal amount and the interest payments are indexed to inflation. The interest rate is normally lower than fixed-rate bonds with a comparable maturity. However, as the principal amount grows, the payments increase with inflation. The United Kingdom was the first sovereign issuer to issue inflation-linked Gilts in the 1980s. Treasury Inflation-Protected Securities (TIPS) and I-bonds are examples of inflation-linked bonds issued by the U.S. government.