FIXED INCOME

z SECURITIES
Prepared by: Irish M. Lactaotao
 Fixed Income
Securities
A fixed-income security is a debt instrument
z issued by a government, corporation or other
entity to finance and expand their operations.
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What is Bond?

 A bond is a type of investment in which you as the investor loan

money to a borrower, with the expectation that you’ll get your
money back with interest after your term length expires.
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Understanding Bonds

 For example, suppose the Belmonte Co. were to

issue a bond with 10 years to maturity. The bond has
a coupon rate of 8% and it will pay 8,000 per year for
the next 10 years in coupon interest. In 10 years,
Belmonte will pay 100,000 to the owner of the bond.

Issuer – Belmonte Corporation

Coupon Rate – 8%
Face Value – 100,000
Coupon – 8,000
Maturity – 10 years
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Characteristics of Bonds
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ISSUER

A. Supranational organizations (i.e.: International

Monetary Fund, World Trade Organization, etc.)
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ISSUER
B. Government
Types of Government Securities (GS) in the Philippines:

1. Treasury Bills - Treasury Bills are obligations with maturity of one year or less. Various
tenors of T-bills exist: (1) 91 day, (2) 182 or (3) 364 days.

2. Treasury Bonds - bonds that have a maturity of more than 1 year. The most common
tenor lengths for T-bonds are 2-year, 5-year, 7-year, 10-year, 20-year, and 30-year bonds.

3. Retail Treasury Bonds (RTBs) - are like treasury notes but are usually longer in
maturity (10 years and above). They are direct and unconditional obligations of the
national government that primarily caters to the retail market or the end-users.

4. Dollar-Linked Peso Notes (DLPN) - The notes track the movement of the Philippine
Peso and US Dollar exchange rate. Payments of interest and principal are linked to the
movement of the exchange rate and computed based on the foreign exchange factor.
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ISSUER

C. Corporations
Types of Corporate Bonds

1. Callable Bonds - a bond that the issuer may redeem before it reaches the stated
maturity date.  A call usually occurs after a fall in market interest rates that allows
issuers to refinance outstanding debt with new bonds.

2. Convertible Bonds - A convertible bond gives the bondholder the right to convert

the bond into a fixed number of shares of common stock in the issuing company.

3. Puttable Bonds – the holder of the puttable bonds is given the option extend or
retire the bond at a call date.

4. Floating rate bonds - are bonds in which interest rate depends on the interest rate
prevailing in the market.
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COUPON RATE - The coupon rate is an
interest rate that the issuer agrees to pay every year on fixed
income security.

 STEP-UP NOTES WITH INCREASING COUPON RATE - another

security that has a unique coupon structure is step-up bonds. These
are bonds that have a coupon rate that increases over time.

 FLOATING-RATE SECURITIES WITH VARIABLE COUPON RATE -

In the floating-rate securities, the coupon rate need not be fixed over
the life of the security. These securities have coupons that are tied to
a reference rate, and the coupons are reset periodically according to
changes in the reference rate.
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COUPON - The coupon is the interest payment
that the issuer has to pay to the holder.

 A zero coupon bond is a bond that pays no coupon.

 A fixed coupon bond is a bond that pays a fixed amount per time
period.
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MATURITY - The maturity of a bond refers to the time period at which the
principal is due.

Bonds can be classified according to their maturity as follows:

 Money Market instruments have maturities of less than a year

 Short-term bonds have a maturity of 1 to 3 years.

 Medium-term bonds have a maturity of 3 to 10 years.

 Long-term bonds have a maturity of more than 10 years.

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Bond Valuation

Low
Interest
Rate

High Bond
High
Value Inter
est
Rate
Low
Bond
Value
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Bond Valuation
Example no.1

 For example, suppose the Belmonte Co. were to issue

a bond with 10 years to maturity. The Belmonte bond
has a coupon rate of 8%. Similar bonds have an
interest of 8%. The Belmonte bond will pay 8,000 per
year for the next 10 years in coupon interest. In 10
years, Belmonte will pay 100,000 to the owner of the
bond. The cash flows from the bond are shown in
Figure. What would this bond sell for?
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Bond Valuation
Example no.1

YEAR 0 1 2 3 4 5 6 7 8 9 10

COUPON
FACE
VALUE 8,000 8,000 8,000 8,000 8,000 8,000 8,000 8,000 8,000 8,000
100,000
108,000

As illustrated in Figure, the Belmonte bond’s cash fl ow have an annuity component (the coupons) and a lump
sum (the face value paid at maturity). We thus estimate the market value of the bond by calculating the present
value of these two components separately and adding the results together. First, at the going rate of 8 percent, the
present value of the 100,000 paid in 10 years is:
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Bond Valuation
Example no. 1

Present Value of 100,00 paid in 10 years is:

Present value = 100,000 / 1.08^10

= 46,319.35

The present value of this annuity is:

Annuity Present Value = 8,000 x (1-1 / 1.08^10) / .08

= 53,680.65

Total Bond Value = 46319.35 + 53680.65

= 100,000
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Bond Valuation
Example no.2

To illustrate what happens as interest rates change,

suppose a year has gone by. The Belmonte bond now
has nine years to maturity. If the interest rate in the
market has risen to 10 percent, what will the bond be
worth?
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Bond Valuation
Example no.2

Present Value of 100,00 paid in 10 years is:

Present value = 100,000 / 1.10^9

= 42,409.76

The present value of this annuity is:

Annuity Present Value = 8,000 x (1-1 / 1.10^9) / .08

= 46,072.19

Total Bond Value = 42409.76 + 46072.19

= 88,481.95