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Chapter 3 Accrued Interest The prices of bonds in most markets are normally quoted 'Clean', i.e. without any accrued interest, which has to be paid by the purchaser. However, there are occasions when the trade is agreed on a 'Flat' or Gross' price, i.e. without any accrued adjustment. This sometimes occurs because the payment of interest is uncertain, e.g. the issuer is in default and it is not clear if the accrued interest will ever be received. It also occurs with repo transactions where the convention in the market is to agree a 'Flat' price for the collateral. On the other hand buy/sell back transactions tend to follow the normal bond market conventions. Accrual Basis Securities accrue interest in a variety of ways, according to the number of days since issue or the last coupon date. In the majority of cases the accrued interest which has to be added to the price is equal to: assumed rate of interest number of days accrued/number of days in the year. There are several methods of counting the number of days accrued and in the year. They are described below. 3.1 Counting Days Accrued There are basically three methods of counting the number of days accrued interest, although they are subject to variation: Actual calendar days, including 29 February if it occurs in the period. 30-day month European Method 30-day month U.S. Method For international securities, ISMA rule 251 specifies how accrued interest should be calculated for fixed and floating rate securities. Fixed rate securities currently follow the 30-day month European method, whereas floating rate notes use actual days.

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04/05/2010 23:53