Clean Price

The Clean Price of a bond is its quoted market price, stripped of any interest that has accumulated since the last coupon payment. Think of it as the “pure” price of the bond itself, reflecting its underlying value based on factors like prevailing market interest rates, the issuer's credit risk, and the time left until maturity. Bond prices are almost always quoted this way in the financial press and on trading screens because it provides a stable and comparable figure. If prices included the constantly accumulating interest, a bond's price would artificially tick up every single day, only to drop suddenly after each coupon payment. This daily noise would make it incredibly difficult to see the real story: is the bond's value actually changing due to market sentiment or is it just the predictable march towards the next interest payout? The clean price filters out this distraction, allowing investors to make clear, apples-to-apples comparisons.

Imagine you're tracking a stock. Its price moves based on news, earnings, and market sentiment. Now, imagine if that stock's price also automatically increased by a few cents every day, then dropped by $10 every quarter. It would be a messy chart! This is the problem the clean price solves for bonds. A bond's total value does indeed grow daily as it earns interest for its owner. The price an investor actually pays to buy a bond reflects this and is called the dirty price. However, quoting the dirty price is impractical. It changes every day, even if nothing about the bond's fundamental value has changed. By stripping out the accrued interest, the clean price gives us a much clearer signal. It only changes when the market's perception of the bond's value changes—for instance, if the central bank raises interest rates or the issuing company's financial health improves. For a value investor, this is crucial. You want to analyze the fundamental value, not the temporary and predictable fluctuations caused by interest accumulation. The clean price lets you do just that.

While bonds are quoted at their clean price, you never actually pay the clean price. The transaction happens at the dirty price. Understanding the difference is key to avoiding surprises when you place a trade.

The dirty price (also known as the invoice price or full price) is the all-in amount the buyer pays the seller. It's the clean price plus the accrued interest. This is the economically fair price, as it ensures the seller is compensated for the interest they earned while holding the bond. The formula is simple: Dirty Price = Clean Price + Accrued Interest

Accrued interest is the portion of the next coupon payment that the bond has earned but has not yet been paid out. It belongs to the seller because they held the bond for a part of the coupon period. Let's use a simple example:

• You own a bond that pays a $100 coupon once a year, on December 31st.
• You decide to sell it on June 30th, exactly halfway through the year.
• The bond's quoted clean price is $980.

In this case, you have held the bond for half the coupon period, so you are entitled to half of the next coupon payment.

• Accrued Interest = $100 x (182.5 days / 365 days) = $50.
• The buyer will have to pay you the dirty price, which is $980 (Clean Price) + $50 (Accrued Interest) = $1,030.

The buyer isn't losing out. On December 31st, they will receive the full $100 coupon payment, effectively getting their $50 back. The actual method for counting days can vary based on the bond's specific day count convention (like 30/360 or Actual/365), but the principle remains the same.

As a value investor, your goal is to buy assets for less than their intrinsic worth. The clean price is your primary tool for comparing the relative value of different bonds. Suppose you are considering two very similar bonds from Ford Motor Company. Both mature in 10 years and have the same coupon rate.

• Bond A paid its semi-annual coupon yesterday. It is quoted at a clean price of 97 (meaning $970 for a $1,000 face value bond).
• Bond B is due to pay its coupon next week. It is also quoted at a clean price of 97.

Because their clean prices are identical, you know that the market values these two bonds equally in terms of risk and future return. The fact that Bond B is about to pay a coupon is irrelevant to its fundamental valuation—that's just a timing issue, and it's already accounted for in the dirty price calculation. If Bond B were quoted at a clean price of 95, you might spot a potential value opportunity, as the market is pricing it cheaper than its nearly identical sibling. The clean price makes this kind of value comparison possible.

• Clean Price: The quoted price of a bond. It excludes any interest earned since the last coupon payment.
• Purpose: It provides a stable price for comparing a bond's value over time and against other bonds.
• Dirty Price: The actual transaction price. This is what you pay or receive. It equals the Clean Price + Accrued Interest.
• Value Investor's View: Focus on the clean price to analyze a bond's fundamental market value, free from the “noise” of interest accumulation.