Bond Discount or Premium: Which Direction Does Carrying Value Move?
Compare the coupon rate with the market rate at issuance, then follow carrying value toward face amount.
Discount
If coupon rate is below market rate, investors need a lower purchase price to earn the market return. The bond issues below face and carrying value generally rises toward face.
Premium
If coupon rate exceeds market rate, investors may pay above face. Carrying value generally falls toward face over time.
Cash interest
Cash interest is generally face amount multiplied by the stated coupon rate.
Interest expense
Under the effective-interest method, interest expense is generally beginning carrying value multiplied by the market yield at issuance.
Amortization
The difference between interest expense and cash interest changes carrying value each period.
The takeaway
Discount grows toward face. Premium shrinks toward face.
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FAQ
Which rate determines cash paid?
The stated coupon rate.
Which rate determines effective interest expense?
The market or effective yield under the method.
Does carrying value end at face at maturity?
Generally yes.