DEFINITION of 'Busted Bond'
Bonds issued by an issuer who failed to pay the required interest payments or principal amount to the debt holder (or both). The issuer of a busted bond would be considered bankrupt and would have to liquidate his or her assets to repay the bond holders.
The terms "busted bond" can also refer to convertible debt securities that have an insignificant conversion value because conversion price is much higher than the market value of the underlying securities.
BREAKING DOWN 'Busted Bond'
In the event that a bond becomes busted, the issuing firm would be forced to file for bankruptcy, as the terms of their debt had been violated. Busted bonds in default are worth much less than the discounted value of their cash flows.
Busted bonds that arise from a decline in the price of the underlying asset, such as convertible bonds, are not in violation of their covenants - they are simply worth less than equivalent securities with embedded options and are closer to being in the money.