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Zero-coupon Bonds
Term category: Bonds
In 10 words or less: A type of bond that pays no interest to the bondholder.

Definition: A bond that doesn't pay interest but is sold at a deep discount. The investor profits from the bond going up in value (kind of like a stock).

Characteristics: Zero coupon bonds are sometimes issued as such or sometimes they're actual interest-bearing bonds that have been stripped of their interest and repackaged as no-interest bonds by financial institutions. They are sold at a deep discount and are usually known to be quite volatile.

Downside: Even though zero-coupon bonds don't pay interest, the investor is responsible for paying taxes on them each year based on what they would have made.

StockJargon advice: Zero-coupon bonds typically require large upfront investments so they're typically out of the reach of ordinary investors.  However, if you're planning to invest in these, be sure to keep some money on hand for your annual tax bill.  Also, because you receive all your money back at the end (instead of regular interest payments), these bonds are highly volatile around changes in interest rates.

Related Articles

Zero-coupon Bonds
Zero-coupon bonds differ from regular bonds because they don't pay out interest. Instead, the interest is accrued and investors benefit from the increase in price.

Are Bonds Risk Free?
The truth is that there are risks to investing in bonds and investors should be aware of them...

Zero-coupon Bonds
The SEC has put together this page to explain zero-coupon bonds to investors.

Related Books

Wall Street Journal Guide to Understanding Money and Investments by Kenneth M. Morris
The Bond Book by Annette Thau
How the Bond Market Works by Robert Zipf
Beating the Dow with Bonds By Michael B. O'Higgins

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