Bonds and Their

Valuation
MAULANA RIZKY FAADILLAH - 195020207111058
Matrials

 Who Issues Bonds?

 Key Characteristics of Bonds
 Bond Valuation
 Bond Yields
 Changes in Bond Values over Time
 Bonds with Semiannual Coupons
 Assessing a Bond’s Riskiness
 Default Risk
 Bond Markets
Who Issues Bonds?

A bond is a long-term contract under which a borrower agrees to make payments of

interest and principal on specific dates to the holders of the bond.

Bonds are grouped in several ways. One grouping is based on the issuer:

 Treasury Bonds
 Corporate Bonds
 Municipal Bonds
 Foreign Bonds
Key Characteristics of Bonds

Although all bonds have some common characteristics, different types of bonds can
have different contractual features.

 PAR VALUE
The face value of a bond.
 COUPON INTEREST RATE
 MATURITY DATE
 CALL PROVISIONS
 SINKING FUNDS
 OTHER FEATURES
Bond Valuation
The value of any financial asset—a stock, a bond, a lease, or even a physical asset
such as an apartment building or a piece of machinery—is the present value of the
cash flows the asset is expected to produce.
Bond Yields

To be most useful, the bond’s yield should give us an estimate of the rate of return we
would earn if we purchased the bond today and held it over its remaining life.

Yield to Maturity (YTM) The rate of return earned on a bond if it is held to

maturity.
Yield to Call (YTC) The rate of return earned on a bond when it is called before its
maturity date.
Changes in Bond Values over Time

 When a coupon bond is issued, the coupon is generally set at a level that causes
the bond’s market price to equal its par value. If a lower coupon were set,
investors would not be willing to pay $1,000 for the bond, but if a higher coupon
were set, investors would clamor for it and bid its price up over $1,000.
Investment bankers can judge quite precisely the coupon rate that will cause a
bond to sell at its $1,000 par value.
Bonds with Semiannual Coupons
 Although some bonds pay interest annually, the vast majority actually make
payments semiannually.

1. Divide the annual coupon interest payment by 2 to determine the dollars of interest paid each 6 months.
2. Multiply the years to maturity, N, by 2 to determine the number of semiannual periods.
3. Divide the nominal (quoted) interest rate, rd, by 2 to determine the periodic (semiannual) interest rate.
Assessing a Bond’s Riskiness

 In this section, we identify and explain the two key factors that impact a bond’s
riskiness. Once those factors are identified, we differentiate between them and
discuss how you can minimize these risks.

 PRICE RISK
 REINVESTMENT RISK
 COMPARING PRICE RISK AND REINVESTMENT RISK
Default Risk

Potential default is another important risk that bondholders face. If the issuer
defaults, investors will receive less than the promised return. Recall from Chapter 6
that the quoted interest rate includes a default risk premium—the higher the
probability of default, the higher the premium and thus the yield to maturity. Default
risk on Treasuries is zero, but this risk is substantial for lower-grade corporate and
municipal bonds.

 VARIOUS TYPES OF CORPORATE BONDS

 BOND RATINGS
 BANKRUPTCY AND REORGANIZATION
Bond Markets

 Corporate bonds are traded primarily in the over-the-counter market. Most bonds
are owned by and traded among large financial institutions (e.g., life insurance
companies, mutual funds, hedge funds, and pension funds, all of which deal in
very large blocks of securities), and it is relatively easy for over-the-counter bond
dealers to arrange the transfer of large blocks of bonds among the relatively few
holders of the bonds.
Thank you