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Following up on this question: Yield of a risky bond, what is the definition of clean and dirty prices for a risky (defaultable, catastrophe, etc.) bond?

I would think the dirty price should basically be the discounted cashflows. Then the clean price should be dirtyPrice-accruedAmount. What is the accruedAmount though? At what rate does it accrue?

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up vote 3 down vote accepted

Dirty bond price refers to the price of a bond that reflects the interest that has accrued since the issuance of the bond or last coupon payment. It has nothing to do with how you discount cash flows but just whether accrued interest is priced in or not. Thus, dirty and clean bond prices apply to all bonds that pay intermittent cash flows.

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The discount rate that you use to compute the price of the bond is a parameter that you use during the computation of both types of valuations (clean or dirty); it is the rate you use to discount the cash flows.

The only difference between clean and dirty price is that the clean price removes the accrued interest since the last coupon. Hence, the discount rate used for clean price computation should be the same you used as input for the dirty calculation.

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The standard definitions and formulas of clean price and dirty price apply for your "risky" bonds.

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Could you elaborate a bit? I am not sure if/how/when I should incorporate the risk factor in the calculations. – Grzenio Jan 8 '13 at 16:24
May I ask which formula you are watching? – edouard Jan 8 '13 at 17:37
@edouard : I agree with your answer, but when you write it you should try to make sure that the guy who posted the question will be able to understand it. So maybe you could have added a few more sentences. To explicitly answer the question... – SRKX Jan 12 '13 at 11:58

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