What is a Zero-Coupon Bond?

One of the key concepts you will be studying in CPCU 540 is zero-coupon bonds. Here is the difference between a regular bond & a zero-coupon bond:

When you buy a regular bond, you pay the face value for it. While you own the bond, you’ll get interest paid to you periodically until the maturity date, at which time the face value gets paid/returned to you. As such, your earnings or profits come from the interest you get paid. So, let’s say I buy a $100 bond for $100, I get $5 a year for 3 years, then I get my $100 back at the maturity date – my profit is $15 (from in interest).

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On the other hand, zero-coupon bonds do not pay you any interest at all. Instead, you buy the bond at a discount for less than the face value. Then, at the maturity date, you get paid the full face value. In this case, your earnings or profits come from the difference between what you paid & the full face value you receive on the maturity date. For example: I buy a $100 zero-coupon bond for $80, wait 3 years, and then I get paid the face value of $100 – my profit in this case is $20.

Historically, when you bought a regular bond, it literally had coupons attached that you had to mail in or drop off to redeem the interest payments at the specified interval. A zero-coupon bond gets its name from the fact that they had no coupons to turn in, because you didn’t get any interest.

Hopefully, this explanation sheds some light for anyone else that was struggling to understand these terms. But we can help you with more than just zero-coupon bonds! We’ve launched our CPCU 540 study materials, which is based on the third edition release. It is jam-packed with tons of bonus content to help you master the concepts – get your e-bundle today!

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