Ch6 - Chapter 6 Interest Rates and Bond Valuation 1 Issues...

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1 Chapter 6 Interest Rates and Bond Valuation
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2 Issues in Chapter 6 Bond valuation Finding a price (annual vs. semiannual) Finding a yield (annual vs. semiannual) Premium, discount, and par bonds A relationship between price and yield Reading Wall Street Journal corporate bond quotation Assessing risk Default risk, interest rate risk, and reinvestment risk Types of bonds Financial Markets The Fisher Effect Term structures Bond market
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3 Debt Securities Bonds are debt securities. When a corporation issues bonds , it is in essence issuing an IOU to bondholders. The IOU or bond contract sets out the terms, including the principal that will be owed, the interest that will be paid, and the time at which these payments will occur.
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4 Largest U.S. Corporate Bond Financings Issuer GM Ford Motor Co. RJR Holdings WorldCom Sprint Date June 2003 July 1999 Mar 1999 May 1989 Aug 1998 Nov 1998 Amount $16.5 billion $8.6 billion $8.0 billion $6.1 billion $6.1 billion $5.0 billion
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5 Who issues a bond? - Domestically, 1. Treasury bill, note, or bond: Issued by federal government, Called “risk-free” securities, about $4 trillion market 2. Municipal bond: Issued by a local government (e.g., state or city), Often called “munis” 3. Corporate bond: our focus, about $5 trillion market - Internationally, 4. Euro bond: Dollar-denominated bonds sold in Germany by GM 5. Foreign bond: “Yankee” bond (dollar-denominated bond sold in U.S. by non-U.S. issuer), “Samurai” bond (Yen bonds sold in Japan by a non-Japanese borrower), etc
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8 U.S. National Debt
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9
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10 Bond Features Bond - evidence of debt issued by a corporation or a governmental body. A bond represents a loan made by investors to the issuer . In return for his/her money, the investor receives a legal claim on future cash flows from the borrower. The issuer promises to: Make regular coupon (interest) payments every year or six months until the bond matures, and Pay the face/par/maturity value of the bond when it matures. That is, principal payment.
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11 Bond Pricing: Cash flows AMD (Issuer, Seller, or Borrower) Investor (Buyer, Lender) Price? Coupons at t=1,2, …. T Face Value at T
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12 Elements of Bond Pricing 1. Par value (par): Face amount. paid at maturity. Usually $1,000. Entered into FV. 2. Coupon interest rate (PMT): Stated interest rate on the bond certificate. Multiply by par value to get dollars of interest to be paid. Generally fixed. Entered into to PMT. 3. Maturity (N): Years until bond must be repaid. Declines over time. Entered into N. 4. Yield-to-Maturity (YTM): The required return by investors that is used to discount the future coupon payments and face amount. Entered into I.
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AMD promises to pay investors $60 (=6% coupon rate of $1,000) per year at year-end for next 7 years and one-time only $1,000 upon maturity. $60
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Ch6 - Chapter 6 Interest Rates and Bond Valuation 1 Issues...

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