Bond Valuation John Comiskey Fred Knecht

Terms Principal – Amount of the loan on which the interest is calculated. Also called face value Coupon – Rate of interest Yield – Internal rate of return Yield to Maturity – Internal rate of return over the life of a bond

Types of Bonds Municipal Bonds – State bonds Government Bonds – Federal bonds Corporate Bonds – Corporate debt

Pricing Bonds Discount – Bond selling at less than face value Premium – Bond selling over face value Par – Selling precisely for face value

Price-Yield Relationship Price = NPV (Coupons) + NPV (Principal)

Bond Problem Calculate the price of a 6% August 15, 2009 bond if when issued on August 15, 2005, the prevailing yield was 7%. Face value is $1,000.

Financial Calculator Calculate the price of a 6% August 15 th, 2009 corporate bond if, when it was issued August 15th, 2005, the prevailing yield was 7%. Face value is $1,000. Use the bond spreadsheet 2 nd, 9

Financial Calculator Calculate the price of a 6% August 15 th, 2009 corporate bond if, when it was issued August 15th, 2005, the prevailing yield was 7%. Face value is $1,000. = $ SDT – CPN – 6 RDT – RV – /Y YLD – 7 PRI – CPT =

Accrued Interest 8/15/20058/15/20098/15/20088/15/20078/15/2006 2/15/20062/15/20072/15/20082/15/2009 5/17/2006 At what price does this bond trade at if it were sold for settlement May 17 th, 2006 to a new investor? $30 $1030

Accrued Interest Since the coupon on August 15 th, 2007 will be paid to the new owner, the original owner’s share of the coupon must be accounted for. 2/15/ days 92 days 5/17/20078/15/2007 $30 Corporate Bond semi-annual period = 180 days

Accrued Interest 92/180 * $30 = Accrued Interest = $15.33 This is how much of the coupon the original investor deserves for owning the bond 92 days out of the 180 day period. The price of the bond includes this accrued interest, so that when the bond is sold, the original owner gets his portion of the coupon.

Accrued Interest $1030/1.035^(4+88/180) + $30/1.035^(3+88/180) + $30/1.035^(2+88/180) + = $ = Invoice Price $30/1.035^(1+88/180) + $30/1.035^(88/180) 5/17/2007 $30 $1030 Time = 88/180 period 180 days Time = 4 88/180 period Time =1 88/180 period Time = 2 88/180 period Time = 3 88/180 period 8/15/2007 2/15/2008 8/15/2008 2/15/2009 8/15/2009 $ days 88 days

Accrued Interest If using the calculator, the price calculated is the base price, which you would have to add the accrued interest to in order to get the invoice price. $ $15.33 = $ SDT – CPN – 6 RDT – RV – /Y YLD – 7 PRI – CPT = AI – 1.533

Questions? John Comiskey Fred Knecht Bond Valuation