Better than expected

What Is Above Par?

Better than expected is a term used to depict the price of a bond when it is trading over its face value. A bond typically trades at better than expected when its income distributions are higher than those of different bonds currently accessible in the market. This happens when interest rates have declined so that recently issued bonds carry lower coupon rates.

Better than expected Explained

There is an inverse relationship between bond yields and prices. At the point when yields drop due to declining interest rates in the economy, bond prices increase. On the other hand, when interest rates rise, bond prices will decline, expecting no negative convexity. The essential justification for the inverse relationship is that an existing yield of a bond must match the yield of another bond issued in a market with higher or lower winning interest rates.

Assume a bond is issued at par value of $1,000 carrying a coupon rate of 5%. After six months, due to a log jam in the economy, interest rates are lower. The bond will trade better than average due to the inverse relationship among yield and price. An investor who purchases a bond trading better than expected gets higher interest payments on the grounds that the coupon rate was set in a market of higher winning interest rates. On the off chance that the bond is taxable, the investor might choose to amortize the bond premium to offset taxable interest income; assuming the bond produces tax-exempt interest, the investor must amortize the premium as per IRS rules.

A bond may likewise trade better than expected in the event that its credit rating is redesigned. This lessens the risk level associated with the issuer's financial wellbeing, making the value of the bonds rise. A rating agency overhauls an issuer's credit subsequent to thinking about certain factors, including the issuer's risk of default, outside business conditions, economic growth, and balance sheet wellbeing, in addition to other things.

At the point when there is a diminished supply of a bond, the bond will trade better than expected. On the off chance that interest rates are expected to decline from here on out, the bond market might experience a reduction in the number of bonds issued in the current time as issuers hang tight for those better rates all things considered. Since bond issuers endeavor to borrow funds from investors at the most minimal cost of financing potential, they will diminish the supply of these higher interest-bearing bonds, realizing that bonds issued in the future might be financed at a better interest rate. The scaled down supply will, thusly, push up the price for bonds below par.

How Far Above Par?

The movement better than expected for a noncallable bond relies upon the bond's duration. The greater the duration, the greater the sensitivity to changes in interest rates. For instance, a bond with a duration of 8 years will increase roughly 8% in price in the event that yields drop by 100 basis points, or 1%. For a callable bond, in any case, the increase in price better than average is limited on the grounds that the bond will probably be recovered by the issuer when interest rates fall. That issuer would call away those old bonds and reissue new bonds with lower coupons.

Features

• Bonds trade better than expected as interest rates decline, as the issuer's credit rating increases, or when the bond's demand extraordinarily surpasses supply.
• Better than expected alludes to a bond price that is currently greater than its face value.
• Better than expected bonds are supposed to exchange at a premium and the price will be quoted over 100.