Stepped-Coupon Bonds

Introduction

A stepped-coupon bond has a fixed schedule of changing coupon amounts. Like fixed coupon bonds, stepped-coupon bonds could have different periodic payments and accrual bases.

The functions stepcpnprice and stepcpnyield compute prices and yields of such bonds. An accompanying function stepcpncfamounts produces the cash flow schedules pertaining to these bonds.

Cash Flows from Stepped-Coupon Bonds

Open Live Script

This example shows how to use stepcpncfamounts to generate the cash flow schedule and times for stepped-coupon bonds.

Consider a bond that has a schedule of two coupons. Suppose that the bond starts out with a 2% coupon that steps up to 4% in 2 years and onward to maturity. Assume that the issue and settlement dates are both March 15, 2003. The bond has a 5-year maturity.

Settle      = datenum('15-Mar-2003');
Maturity    = datenum('15-Mar-2008');
ConvDates   = [datenum('15-Mar-2005')];
CouponRates = [0.02, 0.04];

[CFlows, CDates, CTimes] = stepcpncfamounts(Settle, Maturity, ... 
ConvDates, CouponRates)
CFlows = 1×11

     0     1     1     1     1     2     2     2     2     2   102


CDates = 1×11

      731655      731839      732021      732205      732386      732570      732751      732935      733116      733300      733482


CTimes = 1×11

     0     1     2     3     4     5     6     7     8     9    10

Notably, ConvDates has one less element than CouponRates because MATLAB® software assumes that the first element of CouponRates indicates the coupon schedule between Settle (March 15, 2003) and the first element of ConvDates (March 15, 2005), shown diagrammatically below.

 

Pay 2% from March 15, 2003

Pay 4% from March 15, 2003

Effective 2% on March 15, 2003

Effective 4% on March 15, 2005

Coupon Dates

Semiannual Coupon Payment

15-Mar-03

0

15-Sep-03

1

15-Mar-04

1

15-Sep-04

1

15-Mar-05

1

15-Sep-05

2

15-Mar-06

2

15-Sep-06

2

15-Mar-07

2

15-Sep-07

2

15-Mar-08

102

The payment on March 15, 2005 is still a 2% coupon. Payment of the 4% coupon starts with the next payment, September 15, 2005. March 15, 2005 is the end of first coupon schedule, not to be confused with the beginning of the second.

In summary, MATLAB® takes user input as the end dates of coupon schedules and computes the next coupon dates automatically.

The payment due on settlement (zero in this case) represents the accrued interest due on that day. It is negative if such amount is nonzero. Comparison with cfamounts shows that the two functions operate identically.

Price and Yield of Stepped-Coupon Bonds

Open Live Script

This example shows how to compute the price and yield for a stepped-coupon bond using stepcpnprice and stepcpnyield.

Consider a bond that has a schedule of two coupons. Suppose that the bond starts out with a 2% coupon that steps up to 4% in 2 years and onward to maturity. Assume that the issue and settlement dates are both March 15, 2003. The bond has a 5-year maturity.

Settle      = datenum('15-Mar-2003');
Maturity    = datenum('15-Mar-2008');
ConvDates   = [datenum('15-Mar-2005')];
CouponRates = [0.02, 0.04];

You can compute the price when the yield is known. You can estimate the yield to maturity as a number-of-year weighted average of coupon rates. For this bond, the estimated yield is:

equation_2.gif

or 3.33%. While definitely not exact (due to nonlinear relation of price and yield), this estimate suggests close to par valuation and serves as a quick first check using stepcpnprice.

Yield = 0.0333;

[Price, AccruedInterest] = stepcpnprice(Yield, Settle, ... 
Maturity, ConvDates, CouponRates)
Price = 
99.2237

AccruedInterest = 
0

The price returned is 99.2237 (per $100 notional), and the accrued interest is zero.

To validate that there is consistency among the stepped-coupon functions, you can use this computed price and see if indeed it implies a 3.33% yield by using stepcpnyield.

YTM = stepcpnyield(Price, Settle, Maturity, ConvDates, ... 
CouponRates)
YTM = 
0.0333

See Also

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