What are accretive bonds?
Accretive in bonds or accretion refers to the gradual increase in value of a bond's principal over time due to the passage of time. Accretive bonds are a type of zero-coupon bond, which means that there is no interest rate and no coupons paid on the bond. Instead, the coupon rate increases as the Price of bond rises.
Accretive bonds can be highly volatile and subject to high levels of risk. They're designed for traders who can invest but are willing to take risks to profit from rapid changes in value. An accretive bond is a type of zero-coupon bond that has no yield. However, investors that choose to invest in them are rewarded with a steady rise in value.
Accretive bonds are good for speculative traders and those who like action, as they may see their investment fall or rise dramatically within short periods. Accretive bonds are good for speculative traders who can stomach rapid changes in value.
Determining the Rate of Accretion
The rate of accretion is the percentage increase in a bond's value over time. It is calculated by dividing the change in a bond's value by the change in time, as shown below:
Change in Value / Change in Time = Rate of Accretion
The formula for the calculation of the amount of accretion is:
Accretion Amount = Purchase Basis * (YTM / Accrual Period per Year) – Coupon Interest
The positive value determines the accretion whereas the negative value refers to the dilution.
Examples of Accretion
- Accretion of bonds: A bonds is a debt instrument issued by a company or government. It is a loan that the issuer must repay to the investor at maturity. The term "accretion" refers to the growth of capital from an investment in bonds as interest payments are received over time.
- Accretion of loans: A loan is where one entity (the lender) extends credit to another entity (the borrower). For example, if you wanted to purchase a home, you could take out a mortgage loan from your bank and make monthly payments on it until your balance is paid off completely. In this case, accretion would occur as each payment reduces your principal balance and increases cash available for other uses in future months or years.
- Accretion of leases: Leases are agreements between two parties who agree on certain terms so that one party can occupy or use another's property for some time before returning it at the end of their contract term.
Accretion is the gradual increase in the value of a bond. An accretive bond is one where interest on it increases as its price rises. Accretive bonds are highly volatile and subject to high levels of risk. However, investors that choose to invest in them are rewarded with a steady rise in value. If you would like to explore the bonds market along with a range of other investment opportunities, open your Demat accounts with IIFL today! Take advantage of real-time market updates, expert-guided advice and the best stock picks from dedicated investment market pros.
Frequently Asked Questions Expand All
Ans. Accretion on debt is the addition to the principal of a debt account. It is a non-cash expense and it is not recorded in the income statement, but rather as an additional interest expense on the balance sheet. Accretion can occur when there are two or more payments made on a debt instrument before maturity (e.g., fixed-rate mortgage), or if interest accrues over time without being paid off immediately (e.g., convertible bonds).
Ans. Accretion is the increase in the value of a bond over time. Amortization is the payment of a loan or bond in regular instalments. Amortization and accretion are similar, but amortization is a liability, and accretion is an asset.