Examples of market interest rate in the following topics:
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- The market price of a bond is expressed as a percentage of nominal value.
- The more risk assessed to a company the higher the interest rate the issuer must pay to buyers.
- If a bond has a coupon interest rate that is higher than the market interest rate it is considered a premium.
- The premium (higher interest rate) is to offset the assumed higher than average risk associated with investing in the company.
- Bonds are considered issued at a discount when the coupon interest rate is below the market interest rate.That means a company selling bonds at a discount rate receive less than the face value of the bond in the sale.
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- Whether the amount the business will receive equals its face value depends on the difference between the bond's contract rate and the market rate of interest at the time the bond is issued .
- The market rate is what other bonds that have a similar risk pay in interest.
- If the market rate is less than the coupon rate, the bonds will probably be sold for an amount greater than the bonds' value.
- If the market and coupon rates differ, the issuing company must calculate the present value of the bond to determine what price to charge when it sells the security on the open market.
- The discount rate for both the principal and interest payment components is the market rate when the bond was issued.
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- Note that the trading value of a bond (its market price) can vary from its face value depending on differences between the coupon and market interest rates.
- A bond's coupon is the interest rate that the business must pay on the bond's face value.
- While the coupon rate is generally a fixed amount, it can also be "indexed. " This means that the interest rate is calculated by taking an established rate that fluctuates over time, such as a bank's lending rate, and adding a "premium" percentage amount to determine the bond's coupon rate.
- As a result, the interest that is paid to the bond holder fluctuates over time with an indexed coupon rate.
- In practical terms, the discount rate generally equals the coupon rate or interest rate associated with similar investment securities.
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- Early redemption happens on issuers or holders' intentions, more likely as interest rates are falling and bonds contain embedded options.
- Redemption is made at the face value of the bond unless it occurs before maturity, in which case the bond is bought back at a premium to compensate for lost interest.
- It is notable that early repurchase happens more often when the interest rate in the market is on decline and when the bond contains an embedded option.
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- The coupon is the interest rate that the issuer pays to the bond holders.
- It usually refers either to the current yield, or running yield, which is simply the annual interest payment divided by the current market price of the bond.
- It is equivalent to the internal rate of return of a bond.
- High-yield bonds are bonds that are rated below investment grade by the credit rating agencies.
- The market price of a tradeable bond will be influenced among other things by the amounts, currency, the timing of the interest payments and capital repayment due, the quality of the bond, and the available redemption yield of other comparable bonds which can be traded in the markets.
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- The most common type of debt refinancing occurs in the home mortgage market.
- To take advantage of a better interest rate or loan terms (a reduced monthly payment or a reduced term)
- To reduce the monthly repayment amount (often for a longer term, contingent on interest rate differential and fees)
- To free up cash (often for a longer term, contingent on interest rate differential and fees)
- Deciding to refinance debt can be a balancing act between the funds requested and the interest rate charged on the funds.
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- Assume a business issues a 10-year bond that has an effective annual interest rate of 6%, with a face value of $100,000.
- This would make the amortization rate of the bond's premium equal to $1,000 per year.
- This generally means that the bond's contract rate is greater than the market rate.
- To calculate the amortization rate of the bond premium, a company generally divides the bond premium amount by the number of interest payments that will be made during the term of the bond.
- The company must debit the bond premium account by the amortization rate.
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- Consider a 3-year bond with a face value of $1,000 and an effective interest rate of 7%, sold at face value.
- This generally means that the bond's market and contract rates are equal to each other, meaning that there is no bond premium or discount.
- Next, it generally pays interest during the term of the bond.
- When the company makes an interest payment, it must credit, or decrease, its cash balance by the amount it paid in interest.
- Bond Interest Expense - debit interest payment (increase interest expense line)
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- Analyzing long-term liabilities combines debt ratio analysis, credit analysis and market analysis to assess a company's financial strength.
- Standard & Poor's is a credit rating agency that issues credit ratings for the debt of public and private companies.
- The best rating is AAA with the worst being D.
- Please consult the figure as an example of Standard & Poor's credit ratings issued for debt issued by governments all over the world.
- Popular debt ratios include: debt ratio, debt to equity, long-term debt to equity, times interest earned ratio (interest coverage ratio), and debt service coverage ratio.
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- Assume a business sells a 10 year, $100,000 bond with an effective annual interest rate of 6% for $90,000.
- The journal entry for that transaction would be as follows: Cash $90,000 Discount $10,000 Bond Payable $100,000The interest expense each period is $6,000, and the amortization rate on the bond payable equals $1,000 ($100,000/10 years).
- When a bond is sold at a discount, the market rate of the bond exceeds the contract rate.
- Generally, the amortization rate is calculated by dividing the discount by the number of periods the company has to pay interest.
- While the business would only have to pay the bondholder $6,000 in cash, its total interest expense equals $7,000, or the amount of interest it pays plus the amortization rate.