BOND VALUATION

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PRINCE DANIELS 2023

A bond is a debt instrument used by a company to borrow money from
investors.

Types of Bonds

1. Zero Coupon Bonds.

These are bonds that do not pay interest.

M = V (1 +r) t

Where:

M – Par Value/Face Value/ Nominal Value

V – Value/ Price of the bond today

r – Discount rate/ yield to Maturity

t – Period to maturity

Example 1.1

XYZ purchases K1, 000 par value zero bonds. At the time of purchase, the
bonds had a maturity of 7 years at 8% market yield

Find the value of the bond today.

2. Perpetual/ Non – redeemable Bonds

These are bonds with no maturity date.

𝐼
V=
𝑟

Where,

I – the Coupon Payment (I = Coupon Rate x Par Value)

r – is the discount rate

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Example 1.2

ABC company purchased K1, 000 par value Bonds. At the time of purchase
the bonds had coupon of 8% and a yield of 10%.

What is the value of the bonds today?

3. Redeemable Bonds.

These are bonds that have a maturity date.

1− (1+𝑟)−𝑡
Vb = I[ ] + M (1 + r)-t
𝑟

Example 1.3.

Two years ago, you purchased ten K1, 000 par bonds of XYZ Company. The
bonds carry an annual coupon rate of 8%. At the time of purchase, the
bonds had 7 years remaining until maturity. Market yield is 9%.

a. Find the value of each bond today

b. Find the value of each bond the time it was purchased.

4. CURRENT YIELD.

Current Yield = Annual Coupon x 100

Current Price

5. YIELD TO MATURITY

YTM = I + (M – V)/n

[2V + M]/3

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6. YIELD TO CALL

YTM = I + (V – CP)/n

[2CP + V]/3

EXAMPLE 1.4.

You are evaluating two similar bonds. Both mature in four years, both have a
K1, 000 par value, and both pay a coupon rate of 10 percent. However, one
bond pays that coupon in annual instalments, whereas the other makes
semi-annual payments. Suppose you require a 10 percent return on either
bond.

Should these bonds sell at identical prices or should one be worth more than
the other? What prices do you obtain for these bonds? Can you explain the
apparent paradox?

EXAMPLE 1.5.

The Rite Company’s bonds have 3 years remaining until maturity. Interest is
paid annually, the bonds have a K1, 000 par value, and the coupon interest
rate is 10 percent. What is the yield to maturity at a current market price of
K1, 052?

EXAMPLE 1.6.

Mwila is considering a bond, Bond D. It has 8% semi-annual coupon and a

K10 000 face value. Bond D is scheduled to mature in 9 years and has a
price of K11 500. It is also callable in 5 years at a call price of K10 400.

(i) What is the bonds yield to maturity?

(ii) What is the bonds yield to call?

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EXAMPLE 1.7.

A bond that currently sells for 1167.89 has a par value of K1 000 and annual
coupon rate of 12%. The bond makes semi –annual coupon payments and
the appropriate discount rate for the bond is 10%. How many years does this
bond have remaining until it matures?

EXAMPLE 1.8.

Electronics Co. issues a K1, 000 face value, eight-year zero coupon bond.
What is the yield to maturity on the bond if the bond is offered at
K627?,[Assume annual compounding]

THE END – NEXT STOCK VALUATION

PRINCE DANIELS 2023