What Is a Bond? Coupons, Par, and Accrued Interest

Bonds anchor institutional portfolios, yet their cash flow structures create persistent workflow tensions between yield optimization and risk management. Mispricing coupons or mishandling accrued interest can erode returns by 50-150 bps annually, depending on market volatility and credit quality. Precision in parsing bond components is non-negotiable for practitioners navigating secondary market trades or constructing laddered portfolios.

At their core, bonds are IOUs with three pillars: par value (principal, typically $1,000), coupon rate (interest payment, e.g., 3.5%), and maturity (repayment date). The coupon defines periodic interest—semiannual in U.S. Treasuries, annual in many corporates—while par sets the face value used to calculate payments. A 3.5% coupon on $1,000 par generates $35/year, but market prices often deviate from par, altering yield calculations.

Coupon Payments and Yield Calculations Coupon math drives yield analysis. If a bond with 3.5% coupon ($35/year) trades at $950 (95% of par), its current yield rises to 3.68% ($35 ÷ $950). For bond investors, this highlights the inverse relationship between price and yield. Consider a $10M portfolio holding 1,000 bonds at $950 each: the total coupon income remains $35,000/year, but mark-to-market gains crystallize if rates fall. Key jargon: yield to worst (lowest potential yield assuming no defaults) and duration (interest rate sensitivity) become actionable once coupon mechanics are clear.

• Par value: $1,000 (benchmark for pricing)
• Coupon frequency: Semiannual (U.S. convention)
• Accrual day count: 30/360 (corporate bonds) vs. actual/actual (Treasuries)

Accrued Interest and Day-Count Conventions When bonds trade between coupon dates, buyers compensate sellers for interest earned but not yet paid. For example, a bond with 3.5% annual coupon ($35) held 45 days out of a 180-day coupon period accrues $4.38 ($35 × 45/180). This affects settlement prices: a $1,000 par bond trading "flat" at $980 might actually cost $984.38 including accrued interest. Institutional traders must master day-count conventions—30/360 assumes 30-day months, actual/actual uses calendar days—to avoid settlement disputes, which occur in 2-5% of high-volume corporate bond trades.

Understanding these mechanics resolves the workflow tension between yield capture and risk control. Start by mapping your portfolio’s coupon payment schedules and accrued interest obligations; discrepancies here often reveal hidden duration mismatches or liquidity risks.