Accrued Interest on Bonds Explainer
Accrued interest is the portion of a bond’s next coupon that has accumulated since the previous payment date. When a coupon bond trades between payments, the buyer typically pays the seller the quoted price plus accrued interest because the buyer will receive the full next coupon despite owning the bond for only part of the period.
The calculation starts with the coupon amount and multiplies it by the fraction of the coupon period that has elapsed. Markets use different day-count conventions, such as actual days or standardized months, so the convention in the security’s terms and market practice matters.
Many bonds are quoted on a clean-price basis that excludes accrued interest. The settlement amount, sometimes called the dirty or full price, includes it. Accrued interest generally rises between coupon dates and resets after payment, causing the full price to follow a predictable saw-tooth pattern even if the clean price is unchanged.
Exceptions exist. Distressed or defaulted bonds may trade flat without accrued interest, and record-date or ex-interest rules can change who receives a coupon. Taxes and accounting may also distinguish interest from price gain. Buyers should confirm settlement date, coupon schedule, day-count basis, and whether the quote is clean or full.
The seller has earned part of the next scheduled payment.
The buyer usually compensates that amount at settlement.
Markets use contract-specific conventions for elapsed time.
Settlement date matters.
Clean price omits accrued interest; full price includes it.
Defaulted or ex-interest securities can follow different rules.
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