Why would you ever issue debt at a discount?
I understand issuing zero-coupons to defer cash flow, but if you're issuing at below market rates, wouldn't you just need to issue more bonds to receive the same cash?
Super simplified example, if market is 10% wouldn't you need to issue more discount bonds at 5% to receive about the same amount of cash as issuing these bonds at par at 10%? So you're still paying the same yield on your inflow, and then you would repay more total $ at maturity since you're paying par for more bonds?
Is the answer I'm missing because YTM isn't a direct correlation with the interest rates (don't issue twice as many bonds at 5% as you would at 10%) and you defer more of the yield-driving cash flows to the end of the term?
"If you're issuing at below-market rates, wouldn't you just need to issue more bonds?"
While this may be true, in order to issue bonds, you need someone to issue them to. Nobody will buy below-market-rate bonds unless they can buy at a discounted price.
You have to offer some incentive to buyers
Thanks for confirming I was right (#i'vetakenonefinanceclass)
Appreciate the responses, but I understand the mechanics of yield and price and the fact that rational buyers will only pay market yield, thus driving down the price for a low coupon bond.
My question is more along the lines of, when given two options
1) issue 5 bonds paying 10% at par (receive $500, pay 10%, return $500 at maturity)
2) issue >5 bonds paying 5% at a discount (receive $500, still pay 10% effective due to market driving down bond price, return >$500 at maturity)
Why would you go with the second option, since in both you receive $500 and pay a 10% yield, but since you needed to issue more bonds in the second to receive the same amount of cash, you pay more back at maturity? I think the answer lies in the fact that the 10% yield naturally includes the money paid back at maturity, which means that the price won't be driven down point-for-point with the coupon (i.e. halving the coupon doesn't halve the price).
In my example, this would mean that when cutting the coupon from 10% to 5%, you cut the price to some amount between 50-100 exclusive (actual price depending on maturity), which means the total coupon you're paying is still less than what you paid at 10% even though you issued more bonds, so you reach a point where your yield is equivalent but the actual cash flows are weighted toward the back end - not unlike a zero-coupon.
I think this makes sense to me now. Can anyone confirm if I'm looking at this the right way?
You are overcomplicating this, I feel... nobody will buy a less-than-market-rate bond unless it's at a discount.
You issue a discount because it’s attractive to bond holders and offers the issuer lower debt service during the tenor, at least in my line of work.
Let’s just say your yield is 4%. you could issue a premium bond, where you pay 5% annually and are compensated upfront with the premium for “overpaying” annually what the bond is worth (4%). You could also issue a discount bond with a 3% coupon. Your annual interest payment will be lower for the life of the bonds compared to the premium bond which may suit you better on a cash flow basis but because of that you will need to pay 100 when the bond is called or matured.
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