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L10_bond

# L10_bond - FINANCE431 INVESTMENTS Lecture 10 Bond Prices...

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FIN 431: Investments 1 FINANCE 431 INVESTMENTS Lecture 10: Bond Prices and Yields

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FIN 431: Investments 2 Bond Characteristics Debt security issued by firms and government Maturity Face value (or par value) Coupon rate Annual interest payment made on the face value Zero coupon bond: no coupons, but selling at a discount Could be Fixed or Floating rate Accrued interest Prorated share of the upcoming coupon payment, which must be paid to the seller by buyer. Invoice price = quoted price + accrued interest
FIN 431: Investments 3 Bond Pricing P C r Par Value r B t T t T T T = + + + = ( ) ( ) 1 1 1 C t = coupon payments T = number of periods to maturity P B = Price of the bond (Present value of all future cash flows) r = yield to maturity (YTM) or discount rate (IRR earned from holding a bond to maturity)

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FIN 431: Investments 4 Example: Compute price of 8%  (semiannual), 10-year with yield at 6% (1.03) 1,000 ) 03 . 1 ( 40 20 20 1 = 1,148.77 + = = P t t B Inputs for a financial calculator (TI BAII+ model): FV Par Value = 1,000 PMT Periodic payment = (8% / 2)×1,000 = 40 (Semiannual) i annual discount Rate = 6 (%) n Periods = 20 semiannual periods (10 years) PV = ?
FIN 431: Investments 5 Bond Prices and YTM Bond prices and YTM have an inverse relation When yields get higher, the bond price will be lower, and vice versa .

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