held-to-maturity vs available-for-sale

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a held-to-maturity investment
cost: 50k
market value: 55k
if this held-to-maturity investment is classified as available-for-saleC the interest income would have been
lower
the same
higher
 
why the same? should not the interest income change for held-to-maturity?
 
Interest and dividends are always recorded. Unrealized gains is where it would differ.
 
Held to maturity can only be debt securities (debt has maturity, equity doesn’t). Interest income is the coupon payment, which is calculated at YTM*face value and is the same throughout the life of the security. Interest income hits the IS, just as dividends do if the security would be equity (in which case it would not be classified as held to maturity, since equity has no maturity).
For held to maturity securities, only realized gain or losses (if the company decides to sell this investment before maturity) hits the IS. And so happens for available for sale securities. Any unrealized gains or losses from the held to maturity investments are kept off of statements until realized, while for the available for sale securities, gains or losses are adjustments to equity, in other comprehensive income (exception being the gain/loss from currency exchange if the security would be in a foreign currency, and the gain/loss hits the IS).
 
interest income is the coupon payment? i think interest income=amortized cost*market rate
map1 Wrote:
——————————————————-
> Held to maturity can only be debt securities (debt
> has maturity, equity doesn’t). Interest income is
> the coupon payment, which is calculated at
> YTM*face value and is the same throughout the life
> of the security. Interest income hits the IS, just
> as dividends do if the security would be equity
> (in which case it would not be classified as held
> to maturity, since equity has no maturity).
>
> For held to maturity securities, only realized
> gain or losses (if the company decides to sell
> this investment before maturity) hits the IS. And
> so happens for available for sale securities. Any
> unrealized gains or losses from the held to
> maturity investments are kept off of statements
> until realized, while for the available for sale
> securities, gains or losses are adjustments to
> equity, in other comprehensive income (exception
> being the gain/loss from currency exchange if the
> security would be in a foreign currency, and the
> gain/loss hits the IS).
 
when you buy a bond, what income do you get from your investment? the coupon payments and the face value at maturity (or selling price if you sell it before maturity).
 
map1 Wrote:
——————————————————-
> when you buy a bond, what income do you get from
> your investment? the coupon payments and the face
> value at maturity (or selling price if you sell it
> before maturity).
when you buy a bond the income you earn is the coupon payment plus/minus the amortization of the bond discount/premium.
i don’t believe you can answer this question accurately without knowing the par value.
 
Char-Lee, I think the question refers to pure Interest income and not total income. Hence the coupon rate would determine the interest right at the inception, irrespective of how the investment is classified.
Only if the question was regarding the effect on income statement, the par value would be of consequence. In that case amortization would have to be taken into account for HTM securities.
 
Char-Lee Wrote:
——————————————————-
> when you buy a bond the income you earn is the
> coupon payment plus/minus the amortization of the
> bond discount/premium.
>
> i don’t believe you can answer this question
> accurately without knowing the par value.
The investor gets only coupon during the life of the bond. It could be that the coupon includes some amortization, or not, depending on where was the price of the bond when the investor bought it (if the bond was issued at premium, the investor bought it at a prince higher than par, hence had a built-in loss, if the bond was issued at discount, the investor bought it at a prince less than par, hence a built-in gain).
For the purpose of the above question, whether classified as available for sale, or held to maturity, the coupon (with or without amortization included in it), will be the same throughout the life of the bond, irrespectively of the asset being classified as HTM or AFS.
We are not talking CFO/CFI here, right?
 
The interest received on a bond is the coupon * face value. The amount at which it is issued and hence the discount/premium have no consequence on the interest income whatsoever. The premium/discount will be separately taken into account on the income statement. It does not effect the interest account.
No, we are not concerned about whether it is a cash flow from operations or investments, because an income statement would not have such a clasiification.
 
let say par value is 50k and market value is 55k
Char-Lee Wrote:
——————————————————-
> map1 Wrote:
> ————————————————–
> —–
> > when you buy a bond, what income do you get
> from
> > your investment? the coupon payments and the
> face
> > value at maturity (or selling price if you sell
> it
> > before maturity).
>
>
> when you buy a bond the income you earn is the
> coupon payment plus/minus the amortization of the
> bond discount/premium.
>
>
>
> i don’t believe you can answer this question
> accurately without knowing the par value.
 
For AVS classification, unrealized gains will be recognized in “other comprehensive income” on equity portion of B/S and the interest income would be the same as if it was for HTM.
disregard what i had said before… i was thinking more about I/S impact for Held-for-trading class.
 
still do not get why interest income=par*coupon rate
Example 1 on p13 of textbook2, it seems that interest income is amortized cost*market rate
 
amortized*market rate is not actual realized coupon income. If you recall from level one, the carrying value of your debt * market rate at time of issuance is equal to your interest expense, and that’s what was recorded as ‘interest expense’ on your I/S. Now here, it’s the exact same thing, except flip it around (you are making money). Interest income on your I/S is the debt you’ve invested in*market rate at time of issuance. Interest income in amortized cost (for held-to-maturity) DOES NOT equal the actual cash flow received like it does for AFS and HFT. That’s just the way it is.
 
wolwol Wrote:
——————————————————-
> still do not get why interest income=par*coupon
> rate
> Example 1 on p13 of textbook2, it seems that
> interest income is amortized cost*market rate
ok, everyone back up now…
interest income = market rate * market price at purchase, this includes not only the CASH coupon received but also the amortization of any premium or discount. the end
the question at the very top says, what happens if the market value changes after the purchase? we’ll that does not impact the interest income which again is based on purchase price (amortized) and market rate at purchase.
With that said, the interest income will be the same throughout the life of the bond regardless of what changes happen in market values AFTER the purchase (if purchased at par, minor changes happen again with interest income changing my the amortized portion as each year approaches maturity). The differences in accounting occur with the recognition of unrealized gains and losses for HTM, AFS, and HFT methods.
HTM = no recognition of changes in market value (makes sense considering you’ll NEVER realize the impact if you hold the bond till maturity. Remember though the purchase price price of the bond will be amortized toward par as time approaches final maturity.
AFS= unrealized gains/losses (i.e. changes in market value) are recognized in “other comprehensive income” on the B/S in Equity, while
AFT = unrealized g/l are recognized on the I/S as an unrealized gain… or loss
 
wolwol Wrote:
——————————————————-
> a held-to-maturity investment
> cost: 50k
> market value: 55k
>
> if this held-to-maturity investment is classified
> as available-for-saleC the interest income would
> have been
> lower
> the same
> higher
assuming the cost of 50k was par value… the same
 
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