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in BUS 1003H - Introduction to Financial Risk by

We are given 12% p.a CONVERTIBLE half yearly coupon rate. Should we not convert this to an ANNUAL Effective coupon rate 12.36% then use this to calculate the annual coupon (R24.72 ) thus 2 coupons per annum of R12.36?

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by (210 points)

Thanks for the question. It is important to remember that we use interest rates to calculate present and future values of cash flows. When pricing bonds, redemption rates and coupon rates are used only to calculate the actual rand value of the coupon or redemption amount.

When given a coupon rate such as 12% and we know coupons are paid semi-annualy, we multiply the nominal amount of the bond by the coupon rate. This tells us the total Rand amount that will be paid to us in the form of coupons during the year. Next we divide this amount by the number of coupons per year to identify the exact amount of each coupon payment.

Ex. Coupon rate of 12% for a bond with nominal value R120 paying coupons 4 times per year.

This means that we will receive 4 coupons during the year (1 every 3 months) each with an actual rand value of:

(R120 x 12%) ÷ 4 = R3.6