BOND DISCOUNT Meaning and
Definition
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Bond discount refers to the situation where a bond is sold at a price that is lower than its face value or par value. It represents the difference between the lower purchase price and the face value of the bond, and it often occurs when market interest rates are higher than the coupon rate or stated rate of the bond.
In simpler terms, when an investor purchases a bond at a discount, they are buying it for less than what it will be worth at maturity. The discount serves as compensation for the investor to account for the lower yield they will receive compared to the market rate. This discount is typically calculated as a percentage of the face value.
The bond discount also has an impact on the effective interest rate that the investor will receive. The effective interest rate is the rate that is actually earned, taking into consideration the discounted purchase price of the bond. The effective interest rate is typically higher than the coupon rate, as it accounts for the lower purchase price.
Bond discount is generally seen as a negative outcome for the issuer of the bond, as it indicates that investors demand a higher yield due to perceived risks or unfavorable market conditions. However, for investors who purchase bonds at a discount, it can present an opportunity to earn higher returns if held until maturity.
Etymology of BOND DISCOUNT
The word "bond discount" originates from two separate etymological sources:
1. Bond: The term "bond" has its roots in Middle English, deriving from the Old English word "bonda", meaning "serf" or "householder". Over time, its meaning expanded to refer to a deed, obligation, or written pledge. In the context of finance, a bond represents a debt security issued by a company or government entity.
2. Discount: The term "discount" has its origins in Late Latin, derived from the word "discomputare", which meant "to deduct". It later entered Middle English as "discounten", referring to a reduction or deduction from a regular price or value.
When these two terms are combined, "bond discount" refers to a reduction or decrease in the face value of a bond, resulting in a lower price at which the bond can be purchased in the market.
