The value of a zero coupon bond is inversely related to interest rates
When interest rates rise, the value of a zero coupon bond falls, and when interest rates fall, the value of a zero coupon bond rises
This relationship exists because zero coupon bonds have no coupon payments, so their value is entirely dependent on the face value and the time to maturity
This relationship exists because zero coupon bonds have no coupon payments, so their value is entirely dependent on the face value and the time to maturity
For example, suppose an investor purchases a $1,000 zero coupon bond that matures in ten years at a discounted price of $500
In this case, the investor’s return on investment is $500, and the yield to maturity is 7.2%
If interest rates rise to 8%, the value of the bond will fall, and the yield to maturity will increase
Suppose the investor decides to sell the bond before maturity. In that case, they will receive less than the original purchase price, resulting in a loss of capital