Chapter 6 of 6
Bond valuation and equity value: different promises, different risks
Calculate coupon, current yield and present value while separating maturity, credit and reinvestment risk.
In this chapter
A bond is a set of terms, not just an interest percentage #
Read face value, coupon, payment dates, maturity, security, seniority and embedded options. A zero-coupon bond, floating-rate bond, callable bond and perpetual instrument expose the holder to different paths.
A credit rating does not guarantee payment. Government, corporate and structured claims differ; do not infer identical risk from a similar quoted yield. Equity has no equivalent contractual promise of a fixed coupon and maturity amount.
Coupon and current yield are different #
Coupon is based on the stated principal under its terms. Current yield compares annual coupon cash with the market price. Yield to maturity is the discount rate that equates promised cash flows with the price under the calculation’s conventions.
A realised compound return also depends on actual payments, reinvestment and whether the bond is sold early. A quoted YTM is not a guarantee, especially where credit, call or reinvestment outcomes change.
Discount each cash flow and use the right price convention #
For a plain fixed-rate bond, discount coupons and principal at the required yield under the declared timing convention. When required yield rises, price generally falls for unchanged promised cash.
Clean and dirty prices differ by accrued interest under the relevant convention. Duration approximates price sensitivity to small yield changes; convexity improves that approximation for larger changes. Embedded options can alter the simple relationship.
Compare equity and bond returns honestly #
A bond earnings stream and equity earnings yield have different certainty, seniority, growth and loss exposure. A higher quoted number is not automatically a superior opportunity.
Match currency, horizon, tax assumptions and liquidity. For a bond held to an earlier sale date, scenario the exit yield rather than assuming maturity redemption fixes the interim price.
Hypothetical worked example
A fictional one-year bond
Face value ₹1,000, one-year coupon ₹80 and principal ₹1,000 are due together. At a required yield of 10%, price is 1,080/1.10 = about ₹981.82. Current yield is 80/981.82 = about 8.15%.
The 8% coupon, 8.15% current yield and 10% YTM are different measures. The model assumes the promised ₹1,080 is paid in full and ignores accrued-interest complications for this one-period example.
Common mistakes
- Equating coupon with YTM.
- Treating a rating as a payment guarantee.
- Ignoring call features or accrued-interest conventions.
Why can a bond with an 8% coupon have a 10% YTM?
Make this chapter useful
Can you defend the reasoning?
Before moving on, answer the self-check in your own words and write why each alternative fails. Use the worked example to test that explanation. Then apply it in the module research task; keep the assumptions and the evidence that could change your answer.
Desk assignment
What to submit
Price a fictional plain bond under three yields and compare coupon, current yield, YTM, early-sale and credit-loss scenarios.
Use the research ledger for dated evidence, or the module workbooks for calculations. Separate observations, assumptions and interpretation.
Sources and further reading
- NISM: Research Analyst learning topics (scope reference; independent lessons) ↗
- SEBI Investor: understanding bonds ↗
Further-reading references from the curriculum source list. Contract sizes, expiry calendars, settlement references, margin parameters and tax treatment can change; verify the current operative documents for the actual product. Worked figures are illustrative, not current quotes.
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General financial education. No securities recommendation, assured outcome or personal advice. Read the risk disclosures.