Bonds Bond Valuation and Interest Rates推荐.pdfVIP

C H A P T E R 5 Bonds, Bond Valuation, and Interest Rates lot of U.S. bonds have been issued, and we mean a lot! According to the Federal Reserve, there are about $5.7 trillion of outstanding U.S. A Treasury securities, more than $2.6 trillion of municipal securities, $3.7 trillion of corporate bonds, and more than $1.4 billion of foreign bonds held in the United States. Not only is the dollar amount mind-boggling, but so is the variety. Bonds come in many shapes and flavors, and one even has a negative interest rate. How can a bond have a negative rate? First, consider a bond that makes no payments before it comes due. For example, an investor might buy a bond today for $558 in exchange for the promise of $1,000 in 10 years. The investor would not receive any cash interest payments, but the 10-year increase from the original purchase price to the $1,000 repayment would provide a 6% annual return on the investment. Although there are no annual cash interest payments, the government still allows corporate issuers to deduct an imputed annual interest expense from their taxable income based on the bond ’s annual appreciation in value. Thus, the company gets a tax deduction each year, even though it isn ’t making actual interest payments. Berkshire Hathaway (chaired by Warren Buffett) issued bonds with a negative interest rate in 2002. Technically, Berkshire ’s bonds called for a 3% interest payment, but they also had an attached warrant that would allow an investor to purchase shares of Berkshire Hathaway stock at a fixed price in the future. If the stock price rises above the specified price, then investors can profit by exercising the warrants. However, Berkshire Hathaway didn ’t just give away the warrants—it required investors to make annual installment payments equal to 3.7