What is Zero-Coupon Bond?
795 reads · Last updated: December 5, 2024
A zero-coupon bond, also known as an accrual bond, is a debt security that does not pay interest but instead trades at a deep discount, rendering a profit at maturity, when the bond is redeemed for its full face value.
Definition
A zero-coupon bond, also known as an accrual bond, is a debt security that does not pay interest but is traded at a deep discount, profiting upon redemption at its full face value at maturity. This means investors pay less than the bond's face value at purchase and receive the face value at maturity, realizing a gain.
Origin
The concept of zero-coupon bonds originated in the 1960s when financial markets began exploring new debt financing methods. Initially, these bonds were primarily issued by governments and later adopted by corporations and financial institutions to meet various financing needs.
Categories and Features
Zero-coupon bonds are mainly categorized into government zero-coupon bonds and corporate zero-coupon bonds. Government zero-coupon bonds are generally considered lower risk due to national credit backing. Corporate zero-coupon bonds may offer higher returns but come with relatively higher risk. The main feature of zero-coupon bonds is that they do not pay periodic interest but achieve returns through discounted purchase and face value repayment at maturity.
Case Studies
A typical example is the U.S. Treasury's savings bonds, often issued in zero-coupon form, where investors buy at a discount and receive face value at maturity. Another example is zero-coupon bonds issued by companies like Apple Inc. in 2013, aimed at leveraging the low-interest-rate environment for long-term financing.
Common Issues
A common issue investors might face when purchasing zero-coupon bonds is interest rate risk, as bond prices are highly sensitive to changes in market interest rates. Additionally, investors should be aware of tax implications, as accrued interest income may be taxable even though no actual interest is received.
