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BOND MATH: The Theory Behind the Formulas by Donald J. Smith

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Market Discount Bonds

Now consider another 4-year, annual payment corporate bond that also is priced to yield 4.182% on a pretax basis. This one has a low 1% coupon rate and trades at a much deeper discount than the 4% bond. Its price is 88.499 (percent of par value).

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Assume that this 1% bond originally was issued after 1984 at par value (or with de minimis OID). This is an example of buying a seasoned bond at a market discount. Its yield has risen and its price has fallen since issuance, perhaps due to an increase in the credit risk of the issuer or perhaps due to higher inflation.

Assuming an ordinary income tax rate of 25% and a capital gains ...

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