What is a Cum Coupon
Cum coupon is how bonds are sold in secondary markets when the buyer receives the current payment of the bond as part of the sale. The term means basically, with the coupon, or with payment. If the buyer assumes no money, the transaction is called an “ex-coupon” trade. Ex-coupon implies the seller retains the current coupon before transferring the bond to the buyer.
Because the current coupon can be redeemed for one interest payment on the next scheduled payment date, a bond sold cum coupon usually commands a higher price than one sold on an ex-coupon basis.
BREAKING DOWN Cum Coupon
Cum coupon is the method for pricing bonds in the United States. Outside the U.S., for example in Europe, bond prices are ex-coupon transactions.
When purchasing a bond on the secondary market, it’s essential for an investor to be aware of the status of the next coupon, this includes whether to expect to receive the next coupon payment or not. The actual value of the bond, regardless of its quote, is adjusted based on who gets the coupon, the amount of the payment and the time remaining until the next coupon payment.
Examples of Cum Coupon vs. Ex-Coupon Bond Pricing
Bonds are issued at a specific coupon rate with terms that include a maturity date and a payment schedule that may be set on an annual, semi-annual, quarterly or monthly basis.
Consider a ten-year $10,000 bond with an annual four percent coupon rate issued on January 1. If the payment schedule is quarterly, there would be 40 coupons attached to the bond for the ten-year life. Although interest accrues continuously, the first quarterly coupon would redeem on April 1, the second on June 1 and so on.
For bonds sold after April 1, but before the second quarterly redemption on June 1, the price would differ based on whether or not the buyer receives payment for that June 1 coupon.
For a May purchase, some interest has already accrued for the seller even if the coupon cannot yet be redeemed. If the seller does not retain the coupon, selling the bond cum coupon, the bond will sell for a lower price to compensate the seller for interest already accrued.
When the seller keeps the coupon, selling ex-coupon, the buyer might expect a higher price to compensate for interest that accrues after purchase.