(Taxes?)bond value = Par Value (PVIF)Inverse relationship between the current market interest rate (investors’ required rate of return) and bond values.◊When interest rates go up, bond prices fall allowing you to purchase a bond at a discount◊When interest rates go down, bond prices go up which means you are willing to pay a premium.Bond risks: ◊Default risk - chance of losing your capital ◊Call risk – ◊Interest rate risk - price changes due to changing interest rates. Longer term bonds are more sensitive to changes in interest rates.Terms:◊Bond laddering - investing in bonds with varying maturity dates.◊Bond ratings- All publicly traded bonds are rated.Standard & Poor’s “AAA” bestMoody’s “Aaa” ratingsBond valuation: What would you be willing to pay for a $1000 par, 20-year maturity bond with an 8% coupon rate when the current market rate is 10%?◊(Interest rates are above the coupon so the price must be below par.)◊Bond value = $interest (PVIFA) + Par (PVIF)YearsBond value $interest (PVIFA)Par (PVIF)20$83080(8.514)1000(.149)10$87880(6.145)1000(.386)1$98280(.909)1000(.909)What if the current market rate is 6% 20$123080(11.470)1000(.312)10$114780(7.360)1000(.558)1$101880(.943)1000(.943)Calculating your return:◊(Approximate Yield to Maturity-which takes into account the interest received plus any capital gains or losses.)◊AYTM = [$interest + (par – current / years)] / [(par + 2(current)) / 3]◊Ex: What is your AYTM if you purchase a $1000 par value bond with a 7½% coupon rate and 10 years until maturity for $900?
◊What is the value of a PB that pays $85 annually when investors require a return of 9%?
Lecture 6: Stock Valuation Stock Valuation