WSJ: Coupon Clipping Explained

When you hear people talk about coupon clipping—that is, in an investment context—they typically mean they are collecting the interest payments from bonds.

These days bond interest payments are handled electronically, so there is no need for anyone to actually get the scissors out.Coupon clipping refers back to a time when these fixed-income securities came printed with coupons on them. To receive the interest payments, the bondholder would clip off each coupon as its payment came due and redeem it for cash.

Still, coupons—or bonds' fixed interest payments—can matter a great deal for investors. When Wall Street analysts and traders determine the value of a bond, they look at the so-called present value of future coupons as well as at the value of the principal. In simple terms, bonds that are otherwise alike but with different coupon rates are worth different amounts. Smaller coupons are worth less than bigger coupons, other things being the same.

Some bonds that were first issued many years ago can have big coupons, reflecting the higher interest rates and higher cost of borrowing in those days. If you hold one of those bonds, you generally won't be able to reinvest the interest payments at as high a rate. But at the same time, those bonds can be worth more when they are sold because of their high coupons.

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