Bond Prices and Yields Chapter 14

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Bond Prices and Yields Chapter 14
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Chapter Concepts

• Bond Characteristics
• Bond Pricing and Yields
• Risk of Default

3
Bond Features

• Face Value or Par Value
• Amount the issuer repays at maturity
• Coupon Rate
• Rate of interest the bond pays based on the face
  value
• Coupon rate times face value coupon payment
• Coupon payments are typically made every 6 months
• Note bond prices quoted are typically quoted
  without accrued interest, the actual purchase
  price will include accrued interest
• Bond indenture
• The contract or agreement between the buyer and
  the issuer of the bond

4
Types pf Bonds

• Treasury Bills, Notes and Bonds
• Corporate Bonds
• Municipal Bonds
• International Bonds (govt. and corp.)
• Innovative Bonds
• Not a focus of this class and sections in chapter
  14 on these can be skipped

5
Features

• Secured or Unsecured
• Call provision
• Review yield to call vs. yield to maturity
• Convertible provision
• Put provision
• Floating rate bonds
• Sinking funds

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Bond Pricing

• Primarily intend to use your financial
  calculator, but you must understand the formulas
• Many of the formulas would take significant time
  to calculate out
• T Final period
• t each individual period
• r Bond equivalent yield

PB
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Prices and Coupon Rates
Price
Yield
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Yield Measures

• Bond Equivalent Yield
• 7.72 (3.865 x 2)
• Effective Annual Yield
• (1.0386)2 7.88
• Current Yield
• Annual interest / Market Price
• 70/950 7.37

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Realized Yield vs. Yield to Maturity

• Reinvestment Assumptions
• Holding Period Return
• Changes in rates affects returns
• Reinvestment of coupon payments
• Change in price of the bond
• I interest payment
• P1 Price in one period
• P0 Purchase Price

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Holding Period Example

• CR 8
• YTM 8
• N 10
• Semiannual Compounding
• Face Value 1000
• In 6 months the rate fell to 7
• P1 1068.55
• HPR 40 (1068.55-1000)/1000
• 10.85 semiannually

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Default Risk

• Rating Agencies
• Why are they there
• How do they work
• SP, Moodys, Duff Phelps, Fitch
• Investment Grade vs. High Yield
• Risk Premiums and Risk Spreads