How Does a Bond Discount Work?

A bond discount is the term used when the market value of a bond is less than the principal at its maturity. Reduced bonds can be profitable for buyers and sellers.

Buying with bond discount

Investors can benefit from purchasing a bond below its market value. This is especially true if they resell the bond at full market value. For example, consider a bond is worth 1,000 that is purchased at 95%. If the buyer resells the bond at 98%, they gain a profit of 3% (in this case $30). If they purchase ten bonds that this discount and resell at 98%, they would gain $300. They could also hold on to the bond and wait until the market value increases before reselling.

Selling a discounted bond

An investor that purchased bonds at $1,000 may have seen an appreciation of $500 per bond. If the bonds are now worth $1,500 and he or she resells for a 98% discount ($1,470), they stand to profit $470 per bond.

If an investor suspects that the value of a bond may begin to depreciate, they can sell at a discount and still profit. Suppose the investor from the above example kept the bonds and they fell from $1,500 to $1,250. They could still sell them at a discount and make a profit. They might also simply sell to make their original investment back.