Finance

FIN158

Lecture 8

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Bond
Bond Valuation
Valuation

4-2
 Overview of the Last Lecture
• Impact of Frequency in PV and PVA
• Finding i and n in TMV problems
• Amortizing a Loan
• Loan Amortization Schedule

4-3
 Bond Valuation
• What is a Bond?
• Types of Bond
• Characteristics of Bonds
• Legal Aspects of Bonds
• Bond Ratings
• Bond Valuation
• Yield on Bonds
• Yield to maturity
• Yield to Call
• Current Yield

4-4
 Bonds
 A bond is a long-term debt instrument issued by a corporation or
government.
 A bond is a Long term contract under which borrowers agrees to make
payments of interest and principal on specific dates to the bond holder.

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 Types of Bonds
 Treasury Bonds :
o Bonds issued by the government
o No default risk
 Corporate Bonds:
o Bonds issued by the corporations
o Exposed to default risk
 Municipal Bonds:
o Issued by state or local government
o It has default risk and low interest rate
 Foreign Bonds:
o Default risk is involved
o Currency risk
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 Characteristics of Bonds

 The bond’s coupon rate is the stated rate of interest.

• The maturity value (MV)

MV [Par value or face value] of a bond
is the stated value. It represents the amount of money the
firm borrows or promises to repay on maturity date

• The discount rate (required rate of return) is dependent on the

risk of the bond and is composed of the risk-free rate plus a
premium for risk.

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 Characteristics of Bonds
• Maturity date - Bonds have specified maturity date on which
the par value be repaid
• Provisions to Call (or redeem bonds) –
• Call Price
• Call premium
• Deferred call and Call protection
• Call redemtion
• Convertible Bonds
• Bonds with purchase warrants
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• Income Bonds
 Different Types of Bonds

A non-zero coupon-paying bond is a coupon-

paying bond with a finite life.

A zero-coupon bond is a bond that pays no

interest but sells at a deep discount from its
face value.

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Legal Aspects of Bonds

Indenture Trustee

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 Bond Ratings
• Bonds are given ratings to reflect their
probability of going into default.
RATING IMPORTANCE
AAA Investment grade bonds
AA (high quality bonds, less risk)
A
BBB
BB Speculative bonds
CCC (high risk , low cost)
CC
C
D In default
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 Bond Ratings
• Ratings effects the stability and cost

• International credit rating agencies:

• Moody’s International
• Standards and Poors Inc.
• CRA in Pakistan:
• PACRA
• JCR-VIS

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 Summary
• What is a Bond?
• Types of Bond
• Characteristics of Bonds
• Legal Aspects of Bonds
• Bond Ratings

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