Definition
Below Par refers to a situation where a security, particularly a bond, is trading at a price lower than its face value or nominal value. The face value is the amount paid to the bondholder at maturity. When a bond is bought below this value, it suggests that the bond may be offering a lower return or has higher perceived risk compared to similar securities.
Examples
Corporate Bonds: A corporate bond with a face value of $1,000 might be trading at $950. This indicates that the market values the bond at less than its face value, possibly due to increased interest rates or perceived financial instability of the issuing corporation.
Government Bonds: Similarly, a government bond with a face value of $1,000 might trade at $980. This can happen if newer bonds are issued with higher interest rates, making the older bond’s lower rates less attractive.
Frequently Asked Questions
Q1: Why might a bond trade below par?
- A1: Bonds can trade below par due to various factors such as rising interest rates, lower credit ratings, or overall market conditions which may affect the issuer’s ability to meet interest or principal payments.
Q2: What happens if I sell a bond that is below par?
- A2: If you sell a bond below par, you might incur a loss if the sale price is less than your purchase price. However, if the purchase price was also below par, the gain amount is treated as capital gain and taxed accordingly.
Q3: Can below par bonds result in capital gains?
- A3: Yes. If a bond purchased below par is held until maturity and redeemed at face value, the difference can result in a capital gain.
Related Terms
- Face Value: The nominal value of a bond that is paid back to the bondholder at maturity.
- Capital Gain: The profit earned from the sale of a bond or security for more than its purchase price.
- Yield: The return on investment for a bond, usually expressed as a percentage, considering both the interest income and any capital gains or losses.
- Bond: A fixed-income instrument representing a loan made by an investor to a borrower.
Online Resources
Suggested Books for Further Studies
- The Bond Book: Everything Investors Need to Know About Treasuries, Municipals, GNMAs, Corporates, Zeros, Bond Funds, Money Market Funds, and More by Annette Thau
- Bond Markets, Analysis, and Strategies by Frank J. Fabozzi
- Fixed Income Analysis by Frank J. Fabozzi and Barbara S. Peterson
Fundamentals of Below Par: Investment Basics Quiz
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