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Unformatted text preview: Valuation of Bonds
• Valuation of Bonds is relatively easy
because the size and time pattern of cash
flows from the bond over its life are known:
– – • Interest payments are made usually every six
months equal to onehalf the coupon rate
times the face value of the bond:
The principal is repaid on the bond’s maturity
date The bond value is defined as the present
111
value of its future interest and principle Valuation of Bonds
Assume in 2009, a $10,000 par value bond due in
2024 with 10% coupon will pay $500 every six months
for its 15year life. What is the bond price if the
required rate of return is 10%?
• • • Present value of the interest payments
$500 x 15.3725 = $7,686
The present value of the principal
$10,000 x .2314 = $2,314
The bond value
$7,686+$2,314=$10,000
112 Valuation of Bonds
• • • The $10,000 valuation is the amount that
an investor should be willing to pay for this
bond, given the required rate on a bond of
10%
If the required rate of return changes, then
bond value will change inversely.
What is the bond value if the return is
12%?
$500 x 13.7648 = $6,882 113 Valuation of Preferred Stock
• • • Owner of preferred stock receives a
promise to pay a stated dividend,
usually quarterly, for perpetuity
Since payments are only made after the
firm meets its bond interest payments,
there is more uncertainty of returns
Tax treatment of dividends paid to
corporations (80% taxexempt) offsets
the risk premium
114 Valuation of Preferred Stock
The value is simply the stated annual
dividend divided by the required rate of
return on preferred stock (kp) • Dividend
V=
kp • Assume a preferred stock has a $100 par
value and a dividend of $8 a year and a
required rate of return of 9 percent
$8
V=
= $88.89
.09
115 Valuation of Preferred Stock
• Given a market price, you can derive its
promised yield
Dividend
kp = • Price At a market price of $85, this preferred
$8
k=
stock yield pwould be= .0941
$85.00 116 ...
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This note was uploaded on 01/24/2012 for the course FIN 4360 taught by Professor Davidbray during the Spring '12 term at Kennesaw.
 Spring '12
 DAVIDBRAY
 Interest, Valuation

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