BM2004

NAME: DATE: SCORE:

I. PROBLEM SOLVING (10 points: 2 items x 5 points)

Read and analyze the given scenarios and provide what is asked. Show your complete solutions in the
space provided below.

1. Entero Company issued bonds with a 6% nominal rate for a Php 1,000 par value bond payable for six
(6) years. The bonds were sold for P1,250. How much is the interest rate of the said bond in the
market?

I = 1000 x 6% = 60

V = 1000

M = 1250

n=6

i = 60 + ((1000 - 1250) / 6) / (1000 + 1250) / 2 x 100%

= 60 - 41.67 / 1125 x 100%

= 18.33 / 1125 x 100%

= 1.60%

2. Assume instead that Entero Company issued bonds with a 6% nominal rate for a P1,000 par value
bond payable for 10 years. The bonds were sold for P700. How much is the interest rate of the said
bond in the market?

I = 1000 x 6% = 60

V = 1000

M = 700

n = 10

i = 60 + ((1000 - 700) / 10) / (1000 + 700) / 2

= 60 + 30 / 850

= 90 / 850

= 11.12%
II. INTERPRETING THE NEWS (15 points: 3 items x 5 points)
Given below are news about the events in the Philippine financial system. Your task is to interpret each
story.

1. The Philippines once again received a credit rating upgrade from Moody’s. Its bond yields went down.

Interpretation:

As the government's credit rating improves, so does public confidence in its capacity to repay its debt.
In other words, the risk has reduced, and as a result, investors are demanding lower yields.

2. The Duterte administration starts to push through with its infrastructure projects. The government
decides to hype borrowings. Government bond yields went up by 50 bps.

Interpretation:

Borrowings increase the risk because there is a higher probability that they will not be repaid. As a
result, investors want higher returns or a huge risk premium.

3. San Mig Company experiences liquidity pressures due to the 2-month lockdown. Its bond that was
issued two (2)_years ago with a coupon rate of 4% is now trading at 7% yield.

Interpretation:

If the bond was issued at par two years ago, the value has dropped and was below par. This is due
to a decrease in demand for the company's bonds or to investors demanding a higher cost to invest
in the company's bonds
III. CASE ANALYSES (15 points: 3 items x 5 points)
Answer each question thoroughly.

1. Term Structure
The Philippines’ slower than expected Gross Domestic Product (GDP) growth has resulted in a
flattening of the yield curve. Investors are buying long-term bonds, which decreased its yield; thus,
increasing bond prices. Short-term bonds, on the other hand, has remained the same.

Questions:
a. Why are bond investors buying the long-end more? Use the pure expectations theory in explaining
your answer.

Explanation:

Bond investors are buying the long end more because, according to the Pure Expectations theory,
they are expecting a period of lower growth in the overall economy, which means that the
expected bond yield on long term bonds will be lower because investors are hurry in to buy bonds
for the longer term because they want to invest in bonds but they also know that they will be
getting a lower rate of interest because they finally want the security of a bond

b. Although not all the time, why is flattening of the yield curve signifies a recession?

Explanation:

It should be remembered that bond prices and bond yields have an inverse connection, and
bond prices often rise during times of economic adversity, indicating that investors foresee
slow economic development.

2. Sectors in the Market

The recent COVID-19 has put the country on lockdown for three (3) months. The Bangko Sentral ng
Pilipinas (BSP) implemented a series of rate cuts in 2020 from 4% at the start of the year to only 2.25%
by June. Why did the BSP decide to decrease policy rates?

Explanation:

Flattening of the yield curve does not indicate a recession, but it does indicate a smaller rate of return
expectation on longer-term bonds, whereas only reversal of the yield curve is a representation of the
expectation of an upcoming recession in the corner, so flattening of the yield curve does not indicate a
recession because recessions are only reflected through reversal of the yield curve.

03 Task Performance 2 *Property of STI

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 BM2004

Rubric for grading of Part I

CRITERIA POINTS
Complete solution with correct answer 5
Incomplete solution with correct answer 3
No solution with correct answer 1

Rubric for grading of Part II and III

CRITERIA PERFORMANCE INDICATORS POINTS
Content The answer is based on the applicable concepts of interest. 3
Organization The answer is concise. It is clear and direct to the point. 2
of Ideas
Total 5

03 Task Performance 2 *Property of STI

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