Zero Coupon Bonds

A zero coupon bond is just that, it's has no coupon. No payments until maturity. Just the face value at the end of the term (barring any call provision). Because of this, they would always sell at a discount representing the yield. Your math is right, you get back the $1138.40 on your $8861.60 investment. This is 12.85% return over 35 months. About 4.29%/yr. (days to maturity = 1050.65, this is 2.877 years. (1.1285^(1/2.877))=1.0429

You must decide if 4.3% is good for you. (depends on how this is taxed) JOE

Thanks for your reply...

here's a followup if you all don't mind... If I am looking for a safe long term investment, and my county is offering long term 0 coupon bonds that mature in 2032. I can get 100 bonds today for $31,538... so when the bond matures I'd recieve the entire $100,000 face value (assuming the counties AAA rating is correct, and they pay their obligations). That would essentially mean I would be averaging 8.35% per year.

This seems like a decent rate of return to me. it might not match the average return of the stock market, but at least in my mind this is a safer investment.

What are your thoughts?

Thanks, Shhhh

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Thank you both for your kind replies... Jim and Elle, yes I have other savings... I'm fully invested in my ROTH IRA, my wife contributes the max to her 401k., and I have mutual fund and stock accounts that contribute to my overall portfolio. The thing I like about bonds is the "guaranteed return" I KNOW, assuming the company or municipality stays "liquid" I will recieve "$X" from this investment. Considering I believe the stock market is incredibly over valued right now, this aspect apeals to me.

I have no desire to flip or trade these bonds... I think of it as money under the mattress that is growing a pre-determined steady clip.

As far as inflation is concerned I had not really taken that part into account... what is the historical rate of inflation over the past 5/10/15 etc. years?

and please keep the fantastic info comming!

Thanks, Shhhh

Shhhh wrote: what is the historical rate of inflation over the past 5/10/15 etc. years?

"Shhhh" wrote On the safety of bonds, generally speaking:

The stance of academia's Robert Shiller may further bolster your confidence in your approach:

As Elle pointed out the interest rate is 4.54%, not 8.38% - that's a big difference!

And one down-side of a zero-coupon bond is that it has the highest interest rate risk of any type of bond, because you have to wait out the entire period until redemption before it actually spits money back at you. Interest rate risk is the risk that interest rates will rise during the period you're holding the bond. If that happens, your bond could drop quite a bit in value, and you'd be missing out on the higher rates that are available.

Example...right now your bond quotes at about $31.5k, and returns $100k to you after 26 years -- a return of 4.54% per year.

Roll forward three years to 2009 and it will be a 23-year bond, right? Let's say the prevailing interest rate on this type of bond had risen to

Your bond would be worth...$29,187 at that point, almost $2,000 less. Why? Because your bond's market price will adjust to the point where it yields the same 5.5% as competing bonds do. If you invest $29,187 at

If you are absolutely, postively, sure that you won't need to sell the bond until redemption in 2032 (including: you'll live that long, won't have a disability, won't want to buy a Grady White, etc etc) there's also inflation risk, as others have mentioned. That 4.54% might amount to "treading water" or even losing money in real terms. You're loaning money out and agreeing to a locked-in 4.54% annual rate of interest. Is that enough for you, enough compensation for the risk of inflation being high at some point in the next 26 years?

The other question is whether to bother with a municipal bond at all -- that depends on your tax bracket over the next 26 years. Though these days taxable long-term bonds aren't much better than that 4.5% you're talking about.

-Tad