Chapter 7 Bondsstu

# Chapter 7 Bondsstu - Vocabulary 1 Coupon Bonds 2 Zero...

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1 Vocabulary 1. Coupon Bonds 2. Zero Coupon Bonds 3. Return n Current Yield n Capital Gain/Loss 4. Yield to Maturity vs. Yield to Call

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2 Let’s look at cash flows n N I PV PMT FV
3 Bonds n 2 fundamental concepts we want in finance n Bond valuation techniques n Stock valuation techniques

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4 Basic Valuation n From the time value of money we realize that the value of anything is based on the present value of the cash flows the asset is expected to produce in the future n DCFs – discounted cash flows
5 Basic Valuation ^ ^ ^ ^ Asset value CFt = the cash flow expected to be generated by the asset in period t ^ ( 29 ( 29 ( 29 ( 29 = + = + + + + + + = = N 1 t t t N N 2 2 1 1 k 1 k 1 k 1 k 1 V CF CF CF CF

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6 n k = the return investors consider appropriate for holding such an asset - usually referred to as the “required return” n k = i = r Basic Valuation
7 3 Possible Interest Rate “Environments” 1. Rising interest rates n (bond prices drop) 2. Falling interest rates n (bond prices rise) 3. Steady interest rates n (bond prices fairly flat) Bond prices move “inverse (opposite) to interest rates *

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8 Valuation of Financial Assets - Bonds n Bond is a long term debt instrument n Value is based on present value of: 1. Stream of interest payments (annuity) 2. Principal repayment at maturity (Lump Sum FV) Two “streams” of cash flow(s)
9 Valuation of Financial Assets - Bonds n kd = required rate of return on a debt instrument n N = number of years before the bond matures n INT = dollars of interest paid each year (Coupon rate x Par value) n M = par value or f ace v alue, value of the bond to be paid off at maturity (thank you Elizabeth Flood)

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Bond Time Lines are Backwards * 5 4 3 2 1 0 |----------|----------|----------|----------|----------| N = “Periods” to Maturity 10 5th Period 4th Period 3rd Period
Bond value Valuation of Financial Assets - Bonds = V d = INT 1 + k d ( 29 1 + INT 1 + k d ( 29 2 + + INT 1 + k d

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Chapter 7 Bondsstu - Vocabulary 1 Coupon Bonds 2 Zero...

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