L07 Valuation Models

L07 Valuation Models - 1 Copyright 2003 Stephen G. Buell...

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Unformatted text preview: 1 Copyright 2003 Stephen G. Buell Valuation Models Bonds, Preferred Stock and Common Stock Copyright 2003 Stephen G. Buell Market Value Market value of any asset, whether it be a bond, a share of preferred or common stock, a rare painting or a classic car, is theoretically the discounted value of the expected cash flows Copyright 2003 Stephen G. Buell Valuation Models - Bonds AT&T has a bond issue outstanding: Coupon rate = 8%/yr comp semiannually Matures in 20 years Par value = face value = principal = 1,000 Calculate its market value One additional piece of information is needed 2 Copyright 2003 Stephen G. Buell Synonyms interest rate yield to maturity on comparable securities market rate of return or market yield going rate of return Copyright 2003 Stephen G. Buell Given i, find P Lets assume that the yield to maturity or interest rate on similar bonds is 10%/yr compounded semiannually P is the discounted value of the expected cash flows P is the discounted value of the annuity of coupon payments and the return of principal at maturity Copyright 2003 Stephen G. Buell Value of the AT&T bond discount a at sells Bond 1000 828.41 PV FV 1000 n 40 I/yr 5 PMT 40 ) 05 . 1 ( 1000 ) 40 % 5 ( 40 ) 05 . 1 ( 1000 ) 05 . 1 ( 40 ) 05 . 1 ( 40 ) 05 . 1 ( 40 ) 1 ( 1000 ) 1 ( ) 1 ( ) 1 ( /period 05 . 2 .10 i and periods 40 2 20 n 40/period, 2 1000 .08 C 40 40 40 2 1 2 1 < = +-- = + + + + = + + + + + + + + = = = = = = = PVIFa P P i i C i C i C P n n L L 3 Copyright 2003 Stephen G. Buell Yield to Maturity on the AT&T bond ly semiannual compounded 10 or 05 FV 1000 n 40 PV 828.41- PMT 40 ) 1 ( 1000 ) 40 % ( 40 41 . 828 ) 1 ( 1000 ) 1 ( 40 ) 1 ( 40 ) 1 ( 40 41 . 828 ) 1 ( 1000 ) 1 ( ) 1 ( ) 1 ( $828.41 P and periods 40 2 20 n 40/period, 2 1000 .08 C 40 40 40 2 1 2 1 /yr . i /period . i i i PVIFa i i i i i i C i C i C P n n = = + +-- = + + + + + + + + = + + + + + + + + = = = = = = L L Copyright 2003 Stephen G. Buell IRR r project the of life n t period of end flow, cash CF r) (1 CF r) (1 CF r) (1 CF r) (1 CF CF t n 1 t t t n n 2 2 1 1 = = = + = + + + + + + = = L Internal Rate of Return (IRR) Copyright 2003 Stephen G. Buell Why the discount? New 20 year securities being issued today probably are paying a coupon of $100/yr If it did sell for $1,000 it would yield only 8% which is less than other similar bonds Price must adjust to bring the yield or interest rate into line with similar bonds 4 Copyright 2003 Stephen G. BuellCopyright 2003 Stephen G....
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L07 Valuation Models - 1 Copyright 2003 Stephen G. Buell...

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