A Dictionary of Bond Terms

This means the interest payments made on a bond. As you may recall from class, I mentioned that in "ancient times", i.e. prior to 1986, bonds were actually issued as pieces of paper with "coupons" attached. When interest was payable on the bond, you would clip the coupon and take it to the bank to get your payment. However, since almost everyone neglected to report this interest income on their tax returns, the Federal government prohibited the issuance of "coupon" bonds after 1986. Now the company sends you your interest directly and they report the payment to the IRS. It was more fun before!

This is the rate of interest used to discount back to the present (calculate the present value) any future cash flow, whether that is a single cash flow or a series of cash flows. Depending upon the situation, this discount rate may also be called something else such as the required yield.

This is "bond speak." The YTM is the single discount rate that when applied to all of the cash flows of a bond give you its current price. You might be looking at a situation where you have the price of the bond as well as its interest rate (coupon) and maturity and you are looking to calculate its YTM. In another circumstance, you have the YTM, interest rate and maturity and may be looking for the price. It is just a matter of inputting the correct information into your bond app and of course, understanding what you are doing!

This is a broad term that is hard to define out of context. It might be used to refer to prevailing rates in the US Treasury market or some other market. It might be referring to the rate of interest (coupon) paid on a bond or loan. It might be referring to the discount rate, though it would obviously be better to use the term discount rate to make this abundantly clear.

This generally refers to the date on which a bond or loan must be repaid. It is the date on which the principal (the amount originally borrowed) has to be repaid together with the final interest payment.

This is another way of saying 100%. For our purposes when something is trading at par it is trading at 100.

This refers to the periodic payments that must be made when you borrow money. You repay the principal (the amount borrowed) and the required interest. From the viewpoint of the borrower, interest is the cost of money. From the vantage point of the lender, interest is compensation for lending it to someone else and taking the risk of not getting it back as well as compensation for foregoing the right to consume or otherwise invest.

The spread refers to the amount of interest that must be added to the risk-free rate to compensate a lender for taking the additional risk of lending to any entity other than the Federal government.

As we are using it, the benchmark is the US Treasury security with a maturity identical to that which we are dealing with. If we are trying to price a five-year corporate security the benchmark will be the US Treasury security with a five-year maturity. The spread will be the interest rate above the benchmark rate that reflects the credit profile of the borrowing company.

This refers to the YTM of a bond taking in account its interest payments as well as any discount or premium above par. A five-year bond with an annual interest payment of 4%, purchased at 97% of par, will have an annual yield (or annual YTM) of 4.6799%. Check for yourself!

This is the interest rate paid each year. In the example immediate above in (10) the annual coupon is obviously 4% (of course, don't forget the semi-annual payments).

Maturity was defined above. It is the single date when repayment of principal is due. Duration recognizes that a bond's sensitivity to changes in prevailing interest rates depends not only upon this final term, e.g., ten years, but also depends on the timing of the bond's interest payments. Duration discounts all payments on the bond and then calculates a weighted maturity. You certainly will NOT be expected to be able to work with the duration formula, but you should understand the basic concept.