Bond Prices and Yields
|
|
- Lionel Allison
- 7 years ago
- Views:
Transcription
1 14-2 Bond Characteristics Bond Prices and Yields Bonds are debt. Issuers are borrowers and holders are creditors. The indenture is the contract between the issuer and the bondholder. The indenture gives the coupon rate, maturity date, and par value. Bond Characteristics 14-3 U.S. Treasury Bonds 14-4 Face or par value is typically $1000; this is the principal repaid at maturity. The coupon rate determines the interest payment. Interest is usually paid semiannually. The coupon rate can be zero. Interest payments are called coupon payments. Note maturity is 1-10 years Bond maturity is years Bonds and notes may be purchased directly from the Treasury. Denomination can be as small as $100, but $1,000 is more common. Bid price of 100:08 means 100 8/32 or $
2 Corporate Bonds 14-5 Preferred Stock 14-6 Callable bonds can be repurchased before the maturity date. Convertible bonds can be exchanged for shares of the firm s common stock. Puttable bonds give the bondholder the option to retire or extend the bond. Floating rate bonds have an adjustable coupon rate Equity Fixed income Dividends are paid in perpetuity. Nonpayment of dividends does not mean bankruptcy. Preferred dividends are paid before common. No tax break Innovation in the Bond Market Inverse Floaters Asset-Backed Bonds Catastrophe Bonds Indexed Bonds Treasury Inflation Protected Securities (TIPS). P B C ParValue t T 1 (1 r) (1 r) T t Bond Pricing P B = Price of the bond C t = interest or coupon payments T = number of periods to maturity r = semi-annual discount rate or the semi-annual yield to maturity
3 Example 14.2: Bond Pricing Bond Prices and Yields Price of a 30 year, 8% coupon bond. Market rate of interest is 10%. 60 $40 $1000 Price t1 05 t Price $ Prices and yields (required rates of return) have an inverse relationship The bond price curve (Figure 14.3) is convex. The longer the maturity, the more sensitive the bond s price to changes in market interest rates. Figure 14.3 The Inverse Relationship Between Bond Prices and Yields Table 14.2 Bond Prices at Different Interest Rates 14-12
4 Yield to Maturity Interest rate that makes the present value of the bond s payments equal to its price is the YTM. Solve the bond formula for r P B C ParValue t T 1 (1 r) (1 r) T t Yield to Maturity Example Suppose an 8% coupon, 30 year bond is selling for $ What is its average rate of return? 60 $40 $ t 60 t 1 (1 r) (1 r) r = 3% per half year Bond equivalent yield = 6% EAR = ((1.03) 2 )-1=6.09% YTM vs. Current Yield Yield to Call YTM The YTM is the bond s internal rate of return. YTM is the interest rate that makes the present value of a bond s payments equal to its price. YTM assumes that all bond coupons can be reinvested at the YTM rate. Current Yield The current yield is the bond s annual coupon payment divided by the bond price. For bonds selling at a premium, coupon rate > current yield>ytm. For discount bonds, relationships are reversed. If interest rates fall, price of straight bond can rise considerably. The price of the callable bond is flat over a range of low interest rates because the risk of repurchase or call is high. When interest rates are high, the risk of call is negligible and the values of the straight and the callable bond converge.
5 Figure 14.4 Bond Prices: Callable and Straight Debt Figure 14.6 Prices over Time of 30 Year Maturity, 6.5% Coupon Bonds YTM vs. HPR Figure 14.7 The Price of a 30 Year Zero Coupon Bond over Time YTM YTM is the average return if the bond is held to maturity. YTM depends on coupon rate, maturity, and par value. All of these are readily observable. HPR HPR is the rate of return over a particular investment period. HPR depends on the bond s price at the end of the holding period, an unknown future value. HPR can only be forecasted.
6 Default Risk and Bond Pricing Factors Used by Rating Companies Rating companies: Moody s Investor Service, Standard & Poor s, Fitch Rating Categories Highest rating is AAA or Aaa Investment grade bonds are rated BBB or Baa and above Coverage ratios Leverage ratios Liquidity ratios Profitability ratios Cash flow to debt Speculative grade/junk bonds have ratings below BBB or Baa. Table 14.3 Financial Ratios and Default Risk by Rating Class, Long Term Debt Figure 14.9 Discriminant Analysis 14-24
7 Protection Against Default Sinking funds a way to call bonds early Subordination of future debt restrict additional borrowing Dividend restrictions force firm to retain assets rather than paying them out to shareholders Collateral a particular asset bondholders receive if the firm defaults Default Risk and Yield The risk structure of interest rates refers to the pattern of default premiums. There is a difference between the yield based on expected cash flows and yield based on promised cash flows. The difference between the expected YTM and the promised YTM is the default risk premium Figure Yield Spreads The Term Structure of Interest Rates
8 Overview of Term Structure Figure 15.1 Treasury Yield Curves The yield curve is a graph that displays the relationship between yield and maturity. Information on expected future short term rates can be implied from the yield curve. Bond Pricing Yields on different maturity bonds are not all equal. We need to consider each bond cash flow as a stand-alone zero-coupon bond. The value of the bond should be the sum of the values of its parts Table 15.1 Prices and Yields to Maturities on Zero Coupon Bonds ($1,000 Face Value) 15-32
9 Example 15.1 Valuing Coupon Bonds Two Types of Yield Curves Value a 3 year, 10% coupon bond using discount rates from Table 15.1: $100 $100 $1100 Price Price = $ and YTM = 6.88% 6.88% is less than the 3-year rate of 7%. Pure Yield Curve The pure yield curve uses stripped or zero coupon Treasuries. The pure yield curve may differ significantly from the on-the-run yield curve. On-the-run Yield Curve The on-the-run yield curve uses recently issued coupon bonds selling at or near par. The financial press typically publishes onthe-run yield curves. Yield Curve Under Certainty Figure 15.2 Two 2 Year Investment Programs Suppose you want to invest for 2 years. Buy and hold a 2-year zero -or- Rollover a series of 1-year bonds Equilibrium requires that both strategies provide the same return.
10 Yield Curve Under Certainty Spot Rates vs. Short Rates Buy and hold vs. rollover: (1 y ) (1 r ) x(1 r ) y (1 r) x(1 r ) Next year s 1-year rate (r 2 ) is just enough to make rolling over a series of 1-year bonds equal to investing in the 2-year bond. 1 2 Spot rate the rate that prevails today for a given maturity Short rate the rate for a given maturity (e.g. one year) at different points in time. A spot rate is the geometric average of its component short rates. Short Rates and Yield Curve Slope Figure 15.3 Short Rates versus Spot Rates When next year s short rate, r 2, is greater than this year s short rate, r 1, the yield curve slopes up. May indicate rates are expected to rise. When next year s short rate, r 2, is less than this year s short rate, r 1, the yield curve slopes down. May indicate rates are expected to fall.
11 Forward Rates from Observed Rates Example 15.4 Forward Rates (1 y ) ( n n ( 1 fn) 1 ) n1 yn 1 (1 y n ) f n = one-year forward rate for period n y n = yield for a security with a maturity of n n (1 y ) (1 f n1 n1 n ) The forward interest rate is a forecast of a future short rate. Rate for 4-year maturity = 8%, rate for 3- year maturity = 7% y f y f % Interest Rate Uncertainty Interest Rate Uncertainty Suppose that today s rate is 5% and the expected short rate for the following year is E(r 2 ) = 6%. The value of a 2-year zero is: $1000 $ The value of a 1-year zero is: $1000 $ The investor wants to invest for 1 year. Buy the 2-year bond today and plan to sell it at the end of the first year for $1000/1.06 =$ r- Buy the 1-year bond today and hold to maturity.
12 Interest Rate Uncertainty What if next year s interest rate is more (or less) than 6%? The actual return on the 2-year bond is uncertain! Interest Rate Uncertainty Investors require a risk premium to hold a longer-term bond. This liquidity premium compensates short-term investors for the uncertainty about future prices Theories of Term Structure Expectations Theory Expectations Liquidity Preference Upward bias over expectations Observed long-term rate is a function of today s short-term rate and expected future short-term rates. f n = E(r n ) and liquidity premiums are zero.
13 Liquidity Premium Theory Figure 15.4 Yield Curves Long-term bonds are more risky; therefore, f n generally exceeds E(r n ) The excess of f n over E(r n ) is the liquidity premium. The yield curve has an upward bias built into the long-term rates because of the liquidity premium. Figure 15.4 Yield Curves Interpreting the Term Structure The yield curve reflects expectations of future interest rates. The forecasts of future rates are clouded by other factors, such as liquidity premiums. An upward sloping curve could indicate: Rates are expected to rise And/or Investors require large liquidity premiums to hold long term bonds.
14 Interpreting the Term Structure Figure 15.6 Term Spread: Yields on 10 year vs. 90 day Treasury Securities The yield curve is a good predictor of the business cycle. Long term rates tend to rise in anticipation of economic expansion. Inverted yield curve may indicate that interest rates are expected to fall and signal a recession Bond Pricing Relationships 1. Bond prices and yields are inversely related. Managing Bond Portfolios 2. An increase in a bond s yield to maturity results in a smaller price change than a decrease of equal magnitude. 3. Long-term bonds tend to be more price sensitive than short-term bonds.
15 Bond Pricing Relationships Figure 16.1 Change in Bond Price as a Function of Change in Yield to Maturity As maturity increases, price sensitivity increases at a decreasing rate. 5. Interest rate risk is inversely related to the bond s coupon rate. 6. Price sensitivity is inversely related to the yield to maturity at which the bond is selling. Table 16.1 Prices of 8% Coupon Bond (Coupons Paid Semiannually) Table 16.2 Prices of Zero Coupon Bond (Semiannually Compounding) 16-60
16 Duration Duration: Calculation A measure of the effective maturity of a bond The weighted average of the times until each payment is received, with the weights proportional to the present value of the payment Duration is shorter than maturity for all bonds except zero coupon bonds. Duration is equal to maturity for zero coupon bonds. w CF ( 1 y) t t D T t1 t wt CF t =cash flow at time t t Price Duration/Price Relationship Example 16.1 Duration Price change is proportional to duration and not to maturity P (1 y) Dx P 1 y D * = modified duration P D* y P Two bonds have duration of years. One is a 2-year, 8% coupon bond with YTM=10%. The other bond is a zero coupon bond with maturity of years. Duration of both bonds is x 2 = semiannual periods. Modified D = / = periods
17 Example 16.1 Duration Example 16.1 Duration Suppose the semiannual interest rate increases by 0.01%. Bond prices fall by: * P D y P = x 0.01% = % Bonds with equal D have the same interest rate sensitivity. Coupon Bond The coupon bond, which initially sells at $ , falls to $ when its yield increases to 5.01% percentage decline of %. Zero The zero-coupon bond initially sells for $1,000/ = $ At the higher yield, it sells for $1,000/ = $ This price also falls by %. Rules for Duration Rules for Duration Rule 1 The duration of a zero-coupon bond equals its time to maturity Rule 2 Holding maturity constant, a bond s duration is higher when the coupon rate is lower Rule 3 Holding the coupon rate constant, a bond s duration generally increases with its time to maturity Rule 4 Holding other factors constant, the duration of a coupon bond is higher when the bond s yield to maturity is lower Rules 5 The duration of a level perpetuity is equal to: (1+y) / y
18 Figure 16.2 Bond Duration versus Bond Maturity Table 16.3 Bond Durations (Yield to Maturity = 8% APR; Semiannual Coupons) Convexity The relationship between bond prices and yields is not linear Figure 16.3 Bond Price Convexity: 30 Year Maturity, 8% Coupon; Initial YTM = 8% Duration rule is a good approximation for only small changes in bond yields. Bonds with greater convexity have more curvature in the price-yield relationship.
19 Convexity Figure 16.4 Convexity of Two Bonds Convexity 1 P(1 y) n t 2 ( t t) 2 t t1 (1 y) CF Correction for Convexity: P D y Convexity y P 2 1 [ ( ) 2 ] Why do Investors Like Convexity? Callable Bonds Bonds with greater curvature gain more in price when yields fall than they lose when yields rise. The more volatile interest rates, the more attractive this asymmetry. Bonds with greater convexity tend to have higher prices and/or lower yields, all else equal. As rates fall, there is a ceiling on the bond s market price, which cannot rise above the call price. Negative convexity Use effective duration: P / P Effective Duration = r
20 Figure 16.5 Price Yield Curve for a Callable Bond Passive Management Two passive bond portfolio strategies: 1.Indexing 2.Immunization Both strategies see market prices as being correct, but the strategies have very different risks. Bond Index Funds Figure 16.8 Stratification of Bonds into Cells Bond indexes contain thousands of issues, many of which are infrequently traded. Bond indexes turn over more than stock indexes as the bonds mature. Therefore, bond index funds hold only a representative sample of the bonds in the actual index.
21 Immunization Immunization Immunization is a way to control interest rate risk. Immunize a portfolio by matching the interest rate exposure of assets and liabilities. Widely used by pension funds, insurance companies, and banks. This means: Match the duration of the assets and liabilities. Price risk and reinvestment rate risk exactly cancel out. Result: Value of assets will track the value of liabilities whether rates rise or fall. Table 16.4 Terminal value of a Bond Portfolio After 5 Years Table 16.5 Market Value Balance Sheet 16-84
22 Figure 16.9 Growth of Invested Funds Figure Immunization Cash Flow Matching and Dedication Cash flow matching = automatic immunization. Cash flow matching is a dedication strategy. Not widely used because of constraints associated with bond choices.
Interest Rates and Bond Valuation
Interest Rates and Bond Valuation Chapter 6 Key Concepts and Skills Know the important bond features and bond types Understand bond values and why they fluctuate Understand bond ratings and what they mean
More informationBonds and Yield to Maturity
Bonds and Yield to Maturity Bonds A bond is a debt instrument requiring the issuer to repay to the lender/investor the amount borrowed (par or face value) plus interest over a specified period of time.
More informationReview for Exam 1. Instructions: Please read carefully
Review for Exam 1 Instructions: Please read carefully The exam will have 20 multiple choice questions and 5 work problems. Questions in the multiple choice section will be either concept or calculation
More informationHow To Value Bonds
Chapter 6 Interest Rates And Bond Valuation Learning Goals 1. Describe interest rate fundamentals, the term structure of interest rates, and risk premiums. 2. Review the legal aspects of bond financing
More informationTopics in Chapter. Key features of bonds Bond valuation Measuring yield Assessing risk
Bond Valuation 1 Topics in Chapter Key features of bonds Bond valuation Measuring yield Assessing risk 2 Determinants of Intrinsic Value: The Cost of Debt Net operating profit after taxes Free cash flow
More informationChapter 6 Interest rates and Bond Valuation. 2012 Pearson Prentice Hall. All rights reserved. 4-1
Chapter 6 Interest rates and Bond Valuation 2012 Pearson Prentice Hall. All rights reserved. 4-1 Interest Rates and Required Returns: Interest Rate Fundamentals The interest rate is usually applied to
More informationChapter 9 Bonds and Their Valuation ANSWERS TO SELECTED END-OF-CHAPTER QUESTIONS
Chapter 9 Bonds and Their Valuation ANSWERS TO SELECTED END-OF-CHAPTER QUESTIONS 9-1 a. A bond is a promissory note issued by a business or a governmental unit. Treasury bonds, sometimes referred to as
More informationCHAPTER 10 BOND PRICES AND YIELDS
CHAPTER 10 BOND PRICES AND YIELDS 1. a. Catastrophe bond. Typically issued by an insurance company. They are similar to an insurance policy in that the investor receives coupons and par value, but takes
More informationBonds and the Term Structure of Interest Rates: Pricing, Yields, and (No) Arbitrage
Prof. Alex Shapiro Lecture Notes 12 Bonds and the Term Structure of Interest Rates: Pricing, Yields, and (No) Arbitrage I. Readings and Suggested Practice Problems II. Bonds Prices and Yields (Revisited)
More informationUnderstanding Fixed Income
Understanding Fixed Income 2014 AMP Capital Investors Limited ABN 59 001 777 591 AFSL 232497 Understanding Fixed Income About fixed income at AMP Capital Our global presence helps us deliver outstanding
More informationExam 1 Morning Session
91. A high yield bond fund states that through active management, the fund s return has outperformed an index of Treasury securities by 4% on average over the past five years. As a performance benchmark
More informationChapter 3 Fixed Income Securities
Chapter 3 Fixed Income Securities Road Map Part A Introduction to finance. Part B Valuation of assets, given discount rates. Fixed-income securities. Stocks. Real assets (capital budgeting). Part C Determination
More informationFNCE 301, Financial Management H Guy Williams, 2006
REVIEW We ve used the DCF method to find present value. We also know shortcut methods to solve these problems such as perpetuity present value = C/r. These tools allow us to value any cash flow including
More informationCHAPTER 14: BOND PRICES AND YIELDS
CHAPTER 14: BOND PRICES AND YIELDS PROBLEM SETS 1. The bond callable at 105 should sell at a lower price because the call provision is more valuable to the firm. Therefore, its yield to maturity should
More informationChapter 5: Valuing Bonds
FIN 302 Class Notes Chapter 5: Valuing Bonds What is a bond? A long-term debt instrument A contract where a borrower agrees to make interest and principal payments on specific dates Corporate Bond Quotations
More informationCHAPTER 14: BOND PRICES AND YIELDS
CHAPTER 14: BOND PRICES AND YIELDS 1. a. Effective annual rate on 3-month T-bill: ( 100,000 97,645 )4 1 = 1.02412 4 1 =.10 or 10% b. Effective annual interest rate on coupon bond paying 5% semiannually:
More informationBond Valuation. Capital Budgeting and Corporate Objectives
Bond Valuation Capital Budgeting and Corporate Objectives Professor Ron Kaniel Simon School of Business University of Rochester 1 Bond Valuation An Overview Introduction to bonds and bond markets» What
More informationThe Term Structure of Interest Rates CHAPTER 13
The Term Structure of Interest Rates CHAPTER 13 Chapter Summary Objective: To explore the pattern of interest rates for different-term assets. The term structure under certainty Forward rates Theories
More informationBond Valuation. FINANCE 350 Global Financial Management. Professor Alon Brav Fuqua School of Business Duke University. Bond Valuation: An Overview
Bond Valuation FINANCE 350 Global Financial Management Professor Alon Brav Fuqua School of Business Duke University 1 Bond Valuation: An Overview Bond Markets What are they? How big? How important? Valuation
More informationChapter Nine Selected Solutions
Chapter Nine Selected Solutions 1. What is the difference between book value accounting and market value accounting? How do interest rate changes affect the value of bank assets and liabilities under the
More informationCHAPTER 9 DEBT SECURITIES. by Lee M. Dunham, PhD, CFA, and Vijay Singal, PhD, CFA
CHAPTER 9 DEBT SECURITIES by Lee M. Dunham, PhD, CFA, and Vijay Singal, PhD, CFA LEARNING OUTCOMES After completing this chapter, you should be able to do the following: a Identify issuers of debt securities;
More informationCIS September 2012 Exam Diet. Examination Paper 2.2: Corporate Finance Equity Valuation and Analysis Fixed Income Valuation and Analysis
CIS September 2012 Exam Diet Examination Paper 2.2: Corporate Finance Equity Valuation and Analysis Fixed Income Valuation and Analysis Corporate Finance (1 13) 1. Assume a firm issues N1 billion in debt
More informationChapter 8. Step 2: Find prices of the bonds today: n i PV FV PMT Result Coupon = 4% 29.5 5? 100 4 84.74 Zero coupon 29.5 5? 100 0 23.
Chapter 8 Bond Valuation with a Flat Term Structure 1. Suppose you want to know the price of a 10-year 7% coupon Treasury bond that pays interest annually. a. You have been told that the yield to maturity
More informationHow To Invest In Stocks And Bonds
Review for Exam 1 Instructions: Please read carefully The exam will have 21 multiple choice questions and 5 work problems. Questions in the multiple choice section will be either concept or calculation
More informationCHAPTER 16: MANAGING BOND PORTFOLIOS
CHAPTER 16: MANAGING BOND PORTFOLIOS PROBLEM SETS 1. While it is true that short-term rates are more volatile than long-term rates, the longer duration of the longer-term bonds makes their prices and their
More informationClick Here to Buy the Tutorial
FIN 534 Week 4 Quiz 3 (Str) Click Here to Buy the Tutorial http://www.tutorialoutlet.com/fin-534/fin-534-week-4-quiz-3- str/ For more course tutorials visit www.tutorialoutlet.com Which of the following
More informationDuration and convexity
Duration and convexity Prepared by Pamela Peterson Drake, Ph.D., CFA Contents 1. Overview... 1 A. Calculating the yield on a bond... 4 B. The yield curve... 6 C. Option-like features... 8 D. Bond ratings...
More informationI. Readings and Suggested Practice Problems. II. Risks Associated with Default-Free Bonds
Prof. Alex Shapiro Lecture Notes 13 Bond Portfolio Management I. Readings and Suggested Practice Problems II. Risks Associated with Default-Free Bonds III. Duration: Details and Examples IV. Immunization
More informationChapter 4 Bonds and Their Valuation ANSWERS TO END-OF-CHAPTER QUESTIONS
Chapter 4 Bonds and Their Valuation ANSWERS TO END-OF-CHAPTER QUESTIONS 4-1 a. A bond is a promissory note issued by a business or a governmental unit. Treasury bonds, sometimes referred to as government
More informationAnswers to Review Questions
Answers to Review Questions 1. The real rate of interest is the rate that creates an equilibrium between the supply of savings and demand for investment funds. The nominal rate of interest is the actual
More informationInvestments Analysis
Investments Analysis Last 2 Lectures: Fixed Income Securities Bond Prices and Yields Term Structure of Interest Rates This Lecture (#7): Fixed Income Securities Term Structure of Interest Rates Interest
More informationHow To Calculate Bond Price And Yield To Maturity
CHAPTER 10 Bond Prices and Yields Interest rates go up and bond prices go down. But which bonds go up the most and which go up the least? Interest rates go down and bond prices go up. But which bonds go
More informationBonds, in the most generic sense, are issued with three essential components.
Page 1 of 5 Bond Basics Often considered to be one of the most conservative of all investments, bonds actually provide benefits to both conservative and more aggressive investors alike. The variety of
More informationCHAPTER 15: THE TERM STRUCTURE OF INTEREST RATES
CHAPTER : THE TERM STRUCTURE OF INTEREST RATES CHAPTER : THE TERM STRUCTURE OF INTEREST RATES PROBLEM SETS.. In general, the forward rate can be viewed as the sum of the market s expectation of the future
More informationChapter 10. Fixed Income Markets. Fixed-Income Securities
Chapter 10 Fixed-Income Securities Bond: Tradable security that promises to make a pre-specified series of payments over time. Straight bond makes fixed coupon and principal payment. Bonds are traded mainly
More information2. Determine the appropriate discount rate based on the risk of the security
Fixed Income Instruments III Intro to the Valuation of Debt Securities LOS 64.a Explain the steps in the bond valuation process 1. Estimate the cash flows coupons and return of principal 2. Determine the
More informationChapter. Bond Prices and Yields. McGraw-Hill/Irwin. Copyright 2008 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter Bond Prices and Yields McGraw-Hill/Irwin Copyright 2008 by The McGraw-Hill Companies, Inc. All rights reserved. Bond Prices and Yields Our goal in this chapter is to understand the relationship
More informationBond valuation. Present value of a bond = present value of interest payments + present value of maturity value
Bond valuation A reading prepared by Pamela Peterson Drake O U T L I N E 1. Valuation of long-term debt securities 2. Issues 3. Summary 1. Valuation of long-term debt securities Debt securities are obligations
More informationGoals. Bonds: Fixed Income Securities. Two Parts. Bond Returns
Goals Bonds: Fixed Income Securities History Features and structure Bond ratings Economics 71a: Spring 2007 Mayo chapter 12 Lecture notes 4.3 Bond Returns Two Parts Interest and capital gains Stock comparison:
More informationChapter 4: Common Stocks. Chapter 5: Forwards and Futures
15.401 Part B Valuation Chapter 3: Fixed Income Securities Chapter 4: Common Stocks Chapter 5: Forwards and Futures Chapter 6: Options Lecture Notes Introduction 15.401 Part B Valuation We have learned
More informationCHAPTER 15: THE TERM STRUCTURE OF INTEREST RATES
CHAPTER 15: THE TERM STRUCTURE OF INTEREST RATES 1. Expectations hypothesis. The yields on long-term bonds are geometric averages of present and expected future short rates. An upward sloping curve is
More informationYou just paid $350,000 for a policy that will pay you and your heirs $12,000 a year forever. What rate of return are you earning on this policy?
1 You estimate that you will have $24,500 in student loans by the time you graduate. The interest rate is 6.5%. If you want to have this debt paid in full within five years, how much must you pay each
More informationCHAPTER 20. Hybrid Financing: Preferred Stock, Warrants, and Convertibles
CHAPTER 20 Hybrid Financing: Preferred Stock, Warrants, and Convertibles 1 Topics in Chapter Types of hybrid securities Preferred stock Warrants Convertibles Features and risk Cost of capital to issuers
More informationCHAPTER 7: FIXED-INCOME SECURITIES: PRICING AND TRADING
CHAPTER 7: FIXED-INCOME SECURITIES: PRICING AND TRADING Topic One: Bond Pricing Principles 1. Present Value. A. The present-value calculation is used to estimate how much an investor should pay for a bond;
More informationLOS 56.a: Explain steps in the bond valuation process.
The following is a review of the Analysis of Fixed Income Investments principles designed to address the learning outcome statements set forth by CFA Institute. This topic is also covered in: Introduction
More informationCHAPTER 15: THE TERM STRUCTURE OF INTEREST RATES
Chapter - The Term Structure of Interest Rates CHAPTER : THE TERM STRUCTURE OF INTEREST RATES PROBLEM SETS.. In general, the forward rate can be viewed as the sum of the market s expectation of the future
More informationPractice Set #1 and Solutions.
Bo Sjö 14-05-03 Practice Set #1 and Solutions. What to do with this practice set? Practice sets are handed out to help students master the material of the course and prepare for the final exam. These sets
More informationPractice Set #2 and Solutions.
FIN-672 Securities Analysis & Portfolio Management Professor Michel A. Robe Practice Set #2 and Solutions. What to do with this practice set? To help MBA students prepare for the assignment and the exams,
More informationReview for Exam 1. Instructions: Please read carefully
Review for Exam 1 Instructions: Please read carefully The exam will have 25 multiple choice questions and 5 work problems covering chapter 1, 2, 3, 4, 14, 16. Questions in the multiple choice section will
More informationChapter 11. Stocks and Bonds. How does this distribution work? An example. What form do the distributions to common shareholders take?
Chapter 11. Stocks and Bonds Chapter Objectives To identify basic shareholder rights and the means by which corporations make distributions to shareholders To recognize the investment opportunities in
More information- Short term notes (bonds) Maturities of 1-4 years - Medium-term notes/bonds Maturities of 5-10 years - Long-term bonds Maturities of 10-30 years
Contents 1. What Is A Bond? 2. Who Issues Bonds? Government Bonds Corporate Bonds 3. Basic Terms of Bonds Maturity Types of Coupon (Fixed, Floating, Zero Coupon) Redemption Seniority Price Yield The Relation
More informationExamination II. Fixed income valuation and analysis. Economics
Examination II Fixed income valuation and analysis Economics Questions Foundation examination March 2008 FIRST PART: Multiple Choice Questions (48 points) Hereafter you must answer all 12 multiple choice
More informationCHAPTER 8 INTEREST RATES AND BOND VALUATION
CHAPTER 8 INTEREST RATES AND BOND VALUATION Solutions to Questions and Problems 1. The price of a pure discount (zero coupon) bond is the present value of the par value. Remember, even though there are
More informationCHAPTER 8 INTEREST RATES AND BOND VALUATION
CHAPTER 8 INTEREST RATES AND BOND VALUATION Answers to Concept Questions 1. No. As interest rates fluctuate, the value of a Treasury security will fluctuate. Long-term Treasury securities have substantial
More informationYIELD CURVE GENERATION
1 YIELD CURVE GENERATION Dr Philip Symes Agenda 2 I. INTRODUCTION II. YIELD CURVES III. TYPES OF YIELD CURVES IV. USES OF YIELD CURVES V. YIELD TO MATURITY VI. BOND PRICING & VALUATION Introduction 3 A
More informationChapter 4 Valuing Bonds
Chapter 4 Valuing Bonds MULTIPLE CHOICE 1. A 15 year, 8%, $1000 face value bond is currently trading at $958. The yield to maturity of this bond must be a. less than 8%. b. equal to 8%. c. greater than
More informationVALUATION OF FIXED INCOME SECURITIES. Presented By Sade Odunaiya Partner, Risk Management Alliance Consulting
VALUATION OF FIXED INCOME SECURITIES Presented By Sade Odunaiya Partner, Risk Management Alliance Consulting OUTLINE Introduction Valuation Principles Day Count Conventions Duration Covexity Exercises
More informationChapter 12. Page 1. Bonds: Analysis and Strategy. Learning Objectives. INVESTMENTS: Analysis and Management Second Canadian Edition
INVESTMENTS: Analysis and Management Second Canadian Edition W. Sean Cleary Charles P. Jones Chapter 12 Bonds: Analysis and Strategy Learning Objectives Explain why investors buy bonds. Discuss major considerations
More informationEcon 330 Exam 1 Name ID Section Number
Econ 330 Exam 1 Name ID Section Number MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. 1) If during the past decade the average rate of monetary growth
More informationM.I.T. Spring 1999 Sloan School of Management 15.415. First Half Summary
M.I.T. Spring 1999 Sloan School of Management 15.415 First Half Summary Present Values Basic Idea: We should discount future cash flows. The appropriate discount rate is the opportunity cost of capital.
More informationInterest Rates and Bond Valuation
and Bond Valuation 1 Bonds Debt Instrument Bondholders are lending the corporation money for some stated period of time. Liquid Asset Corporate Bonds can be traded in the secondary market. Price at which
More informationChapter Two. Determinants of Interest Rates. McGraw-Hill /Irwin. Copyright 2001 by The McGraw-Hill Companies, Inc. All rights reserved.
Chapter Two Determinants of Interest Rates Interest Rate Fundamentals Nominal interest rates - the interest rate actually observed in financial markets directly affect the value (price) of most securities
More informationDistinguishing duration from convexity
Distinguishing duration from convexity Vanguard research May 010 Executive summary. For equity investors, the perception of risk is generally straightforward: Market risk the possibility that prices may
More informationINTERACTIVE BROKERS DISCLOSURE STATEMENT FOR BOND TRADING
INTERACTIVE BROKERS DISCLOSURE STATEMENT FOR BOND TRADING THIS DISCLOSURE STATEMENT DISCUSSES THE CHARACTERISTICS AND RISKS OF TRADING BONDS THROUGH INTERACTIVE BROKERS (IB). BEFORE TRADING BONDS YOU SHOULD
More informationFixed Income: Practice Problems with Solutions
Fixed Income: Practice Problems with Solutions Directions: Unless otherwise stated, assume semi-annual payment on bonds.. A 6.0 percent bond matures in exactly 8 years and has a par value of 000 dollars.
More informationYield Curve September 2004
Yield Curve Basics The yield curve, a graph that depicts the relationship between bond yields and maturities, is an important tool in fixed-income investing. Investors use the yield curve as a reference
More information1. a. (iv) b. (ii) [6.75/(1.34) = 10.2] c. (i) Writing a call entails unlimited potential losses as the stock price rises.
1. Solutions to PS 1: 1. a. (iv) b. (ii) [6.75/(1.34) = 10.2] c. (i) Writing a call entails unlimited potential losses as the stock price rises. 7. The bill has a maturity of one-half year, and an annualized
More informationChapter 5 Bonds, Bond Valuation, and Interest Rates ANSWERS TO END-OF-CHAPTER QUESTIONS
Chapter 5 Bonds, Bond Valuation, and Interest Rates ANSWERS TO END-OF-CHAPTER QUESTIONS 5-1 a. A bond is a promissory note issued by a business or a governmental unit. Treasury bonds, sometimes referred
More informationUnderstanding duration and convexity of fixed income securities. Vinod Kothari
Understanding duration and convexity of fixed income securities Vinod Kothari Notation y : yield p: price of the bond T: total maturity of the bond t: any given time during T C t : D m : Cashflow from
More informationBond Valuation. Chapter 7. Example (coupon rate = r d ) Bonds, Bond Valuation, and Interest Rates. Valuing the cash flows
Bond Valuation Chapter 7 Bonds, Bond Valuation, and Interest Rates Valuing the cash flows (1) coupon payment (interest payment) = (coupon rate * principal) usually paid every 6 months (2) maturity value
More informationChapter 11. Bond Pricing - 1. Bond Valuation: Part I. Several Assumptions: To simplify the analysis, we make the following assumptions.
Bond Pricing - 1 Chapter 11 Several Assumptions: To simplify the analysis, we make the following assumptions. 1. The coupon payments are made every six months. 2. The next coupon payment for the bond is
More informationMULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
ECON 4110: Sample Exam Name MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. 1) Economists define risk as A) the difference between the return on common
More informationLecture 2 Bond pricing. Hedging the interest rate risk
Lecture 2 Bond pricing. Hedging the interest rate risk IMQF, Spring Semester 2011/2012 Module: Derivatives and Fixed Income Securities Course: Fixed Income Securities Lecturer: Miloš Bo ović Lecture outline
More informationFIN 472 Fixed-Income Securities Corporate Debt Securities
FIN 472 Fixed-Income Securities Corporate Debt Securities Professor Robert B.H. Hauswald Kogod School of Business, AU Corporate Debt Securities Financial obligations of a corporation that have priority
More informationHigh-yield bonds. Bonds that potentially reward investors for taking additional risk. High-yield bond basics
High-yield bonds Bonds that potentially reward investors for taking additional risk Types of high-yield bonds Types of high-yield bonds include: Cash-pay bonds. Known as plain vanilla bonds, these bonds
More informationJanuary 2008. Bonds. An introduction to bond basics
January 2008 Bonds An introduction to bond basics The information contained in this publication is for general information purposes only and is not intended by the Investment Industry Association of Canada
More informationA guide to investing in hybrid securities
A guide to investing in hybrid securities Before you make an investment decision, it is important to review your financial situation, investment objectives, risk tolerance, time horizon, diversification
More informationFixed Income Portfolio Management. Interest rate sensitivity, duration, and convexity
Fixed Income ortfolio Management Interest rate sensitivity, duration, and convexity assive bond portfolio management Active bond portfolio management Interest rate swaps 1 Interest rate sensitivity, duration,
More informationThe Empirical Approach to Interest Rate and Credit Risk in a Fixed Income Portfolio
www.empirical.net Seattle Portland Eugene Tacoma Anchorage March 27, 2013 The Empirical Approach to Interest Rate and Credit Risk in a Fixed Income Portfolio By Erik Lehr In recent weeks, market news about
More informationInvestment insight. Fixed income the what, when, where, why and how TABLE 1: DIFFERENT TYPES OF FIXED INCOME SECURITIES. What is fixed income?
Fixed income investments make up a large proportion of the investment universe and can form a significant part of a diversified portfolio but investors are often much less familiar with how fixed income
More informationExam 1 Sample Questions
Exam 1 Sample Questions 1. Asset allocation refers to. A. the allocation of the investment portfolio across broad asset classes B. the analysis of the value of securities C. the choice of specific assets
More informationProblems and Solutions
Problems and Solutions CHAPTER Problems. Problems on onds Exercise. On /04/0, consider a fixed-coupon bond whose features are the following: face value: $,000 coupon rate: 8% coupon frequency: semiannual
More informationMid-Term Exam Practice Set and Solutions.
FIN-469 Investments Analysis Professor Michel A. Robe Mid-Term Exam Practice Set and Solutions. What to do with this practice set? To help students prepare for the mid-term exam, two practice sets with
More informationCHAPTER 22: FUTURES MARKETS
CHAPTER 22: FUTURES MARKETS PROBLEM SETS 1. There is little hedging or speculative demand for cement futures, since cement prices are fairly stable and predictable. The trading activity necessary to support
More informationAlliance Consulting BOND YIELDS & DURATION ANALYSIS. Bond Yields & Duration Analysis Page 1
BOND YIELDS & DURATION ANALYSIS Bond Yields & Duration Analysis Page 1 COMPUTING BOND YIELDS Sources of returns on bond investments The returns from investment in bonds come from the following: 1. Periodic
More informationCHAPTER 11 INTRODUCTION TO SECURITY VALUATION TRUE/FALSE QUESTIONS
1 CHAPTER 11 INTRODUCTION TO SECURITY VALUATION TRUE/FALSE QUESTIONS (f) 1 The three step valuation process consists of 1) analysis of alternative economies and markets, 2) analysis of alternative industries
More informationA guide to investing in high-yield bonds
A guide to investing in high-yield bonds What you should know before you buy Are high-yield bonds suitable for you? High-yield bonds are designed for investors who: Can accept additional risks of investing
More informationGlobal Financial Management
Global Financial Management Bond Valuation Copyright 999 by Alon Brav, Campbell R. Harvey, Stephen Gray and Ernst Maug. All rights reserved. No part of this lecture may be reproduced without the permission
More informationImportant Information about Investing in Bonds
Robert W. Baird & Co. Incorporated Important Information about Investing in Bonds Baird has prepared this document to help you understand the characteristics and risks associated with bonds and other fixed
More informationA guide to investing in high-yield bonds
A guide to investing in high-yield bonds What you should know before you buy Are high-yield bonds suitable for you? High-yield bonds are designed for investors who: Can accept additional risks of investing
More informationBond Mutual Funds. a guide to. A bond mutual fund is an investment company. that pools money from shareholders and invests
a guide to Bond Mutual Funds A bond mutual fund is an investment company that pools money from shareholders and invests primarily in a diversified portfolio of bonds. Table of Contents What Is a Bond?...
More informationINTEREST RATE SWAPS September 1999
INTEREST RATE SWAPS September 1999 INTEREST RATE SWAPS Definition: Transfer of interest rate streams without transferring underlying debt. 2 FIXED FOR FLOATING SWAP Some Definitions Notational Principal:
More informationHow credit analysts view and use the financial statements
How credit analysts view and use the financial statements Introduction Traditionally it is viewed that equity investment is high risk and bond investment low risk. Bondholders look at companies for creditworthiness,
More informationAPPENDIX 3 TIME VALUE OF MONEY. Time Lines and Notation. The Intuitive Basis for Present Value
1 2 TIME VALUE OF MONEY APPENDIX 3 The simplest tools in finance are often the most powerful. Present value is a concept that is intuitively appealing, simple to compute, and has a wide range of applications.
More informationASSET LIABILITY MANAGEMENT Significance and Basic Methods. Dr Philip Symes. Philip Symes, 2006
1 ASSET LIABILITY MANAGEMENT Significance and Basic Methods Dr Philip Symes Introduction 2 Asset liability management (ALM) is the management of financial assets by a company to make returns. ALM is necessary
More informationEstimating Risk free Rates. Aswath Damodaran. Stern School of Business. 44 West Fourth Street. New York, NY 10012. Adamodar@stern.nyu.
Estimating Risk free Rates Aswath Damodaran Stern School of Business 44 West Fourth Street New York, NY 10012 Adamodar@stern.nyu.edu Estimating Risk free Rates Models of risk and return in finance start
More informationInvesting Practice Questions
Investing Practice Questions 1) When interest is calculated only on the principal amount of the investment, it is known as: a) straight interest b) simple interest c) compound interest d) calculated interest
More informationANALYSIS OF FIXED INCOME SECURITIES
ANALYSIS OF FIXED INCOME SECURITIES Valuation of Fixed Income Securities Page 1 VALUATION Valuation is the process of determining the fair value of a financial asset. The fair value of an asset is its
More informationAnswer Key to Midterm
Econ 121 Money and Banking Instructor: Chao Wei Answer Key to Midterm Provide a brief and concise answer to each question. Clearly label each answer. There are 50 points on the exam. 1. (10 points, 3 points
More information