Perpetual Bond
What Is a Perpetual Bond?
A perpetual bond, otherwise called a "consol bond" or "prep," is a fixed income security with no maturity date. This type of bond is many times considered a type of equity, instead of debt. One major drawback to these types of bonds is that they are not redeemable. Nonetheless, the major benefit of them is that they pay a constant flow of interest payments until the end of time.
Figuring out Perpetual Bonds
Perpetual bonds exist inside a small niche of the bond market. This is predominantly due to the way that there are not very many elements that are safe enough for investors to invest in a bond where the principal won't ever be reimbursed.
A portion of the eminent perpetual bonds in presence are those that were issued by the British Treasury for World War I and the South Sea Bubble of 1720. Some in the U.S. accept the federal government ought to issue perpetual bonds, which might assist it with staying away from the refinancing costs associated with bond issues that have maturity dates.
Illustration of a Perpetual Bond
Since perpetual bond payments are like stock dividend payments, as the two of them offer some kind of return for an indefinite period of time, it is intelligent that they would be priced the same way.
The price of a perpetual bond is, thusly, the fixed interest payment, or coupon amount, partitioned by some steady discount rate, which addresses the speed at which money loses value over the long haul (incompletely due to inflation). The discount rate denominator decreases the real value of the ostensibly fixed coupon amounts after some time, eventually making this value equivalent zero. Thusly, perpetual bonds, even however they pay interest everlastingly, can be assigned a finite value, which thus addresses their price.
Formula for the Present Value of a Perpetual Bond
Present value = D/r
Where:
D = periodic coupon payment of the bond
r = discount rate applied to the bond
For instance, in the event that a perpetual bond pays $10,000 each year in perpetuity and the discount rate is assumed to be 4%, the current value would be:
Present value = $10,000/0.04 = $250,000
Note that the current value of a perpetual bond is profoundly sensitive to the discount rate assumed since the payment is known as truth. For instance, utilizing the above model with 3%, 4%, 5% and 6% discount rates, the current values are:
Present value (3%) = $10,000/0.03 = $333,333
Present value (4%) = $10,000/0.04 = $250,000
Present value (5%) = $10,000/0.05 = $200,000
Present value (6%) = $10,000/0.06 = $166,667
Features
- Albeit perpetual bonds are not redeemable, they pay a constant flow of interest in a really long time.
- Perpetual bonds, otherwise called culprits or consol bonds, are bonds with no maturity date.
- In light of the idea of these bonds, they are in many cases seen as a type of equity and not a debt.
