Question

Explain why bonds sell for below par when the yield to maturity is higher than the coupon rate and why they sell for above par when the yield to maturity is lower than the coupon rate?

Answer 1

The yield to maturity is the market interest rate expected by the investor on bonds so when the expected market interest rate is higher for bonds then the coupon payment the investors are not willing to pay more for the bonds of the company and so the bonds are priced lower and the expected return set off by issuing the bonds at discount and then redeem at par.

When the yield to maturity that is expected interest rate is higher than the coupon rate the company is providing a higher return and so there would be number of investors willing to buy the bond which would increase the price of bond beyond the par value. In this case the extra coupon rate is reversed by issuing bond at higher price and then redeem at par.