CandleFocus

Zero-Coupon Bond

A zero-coupon bond, also known as a “z-coupon” bond, is an investment instrument that pays no interest during its life. Instead, zero-coupon bonds are sold at a deep discount to their par or face value, meaning that the buyer of the bond pays less than the full value of the bond when it matures. Upon maturity, the bond is redeemed at its face value, thus allowing the investor to realise a profit.

Zero-coupon bonds are ideal for investors who want a consistent return and are looking to invest in bonds with a long-term horizon. Since they do not pay regular interest payments, they are often seen as a safe and secure vehicle for long-term investments and can be purchased from governments, companies, and brokers.

The discount rate of a zero-coupon bond is the return that an investor can expect to receive upon the maturity of the bond. This rate is determined based on factors such as the bond's riskiness, its credit rating, and market conditions. For example, a zero-coupon bond with a decent credit rating and a low default risk would have a lower discount rate than one that is highly risky.

In addition to the security of not having to worry about regular interest payments, zero-coupon bond investors also benefit from tax advantages. Since the interest earned by the bondholder is deferred until maturity, the investor is not required to pay taxes on the interest until the bond is redeemed at its full face value. This allows investors to defer paying taxes on the income they receive from the bond until they are ready to do so.

For investors looking for reliable, steady growth in their investments, zero-coupon bonds are an excellent choice. Though they may not be as attractive as other investments due to their lack of regular income, they typically offer low risk and strong returns over the long-term.

Glossary Index