Chapter 7 Flashcards
Some Important terminology:
Bond: long term debt issues by Gov/Corporations/Uni’s
Par/Face/Maturity value: always gonna be 1000
Coupon payment: annual payment the bond pays to the bondholder
Maturity: How many periods the bond is in the market
Maturity date: When the bond expires
Term bonds: expire on same date
Serial bonds: expire on different dates
Yield to Maturity (YTM)= market interest rate
Bond price/Bond Value: how much the bonds are sold for in the market
What each component of the bond formula represents:
C= (1000 * coupon rate) - this is the coupon payment
F= face value, always 1000 unless specified otherwise
R= YTM (The market interest rate)
T= Number of periods
Coupon rate formula=
Coupon payment (Other wise known as C)/ 1000
And the multiple by 100
- to calculate the coupon rate formula, you need to calculate c
Three types of price change for coupon Bond:
Face Value=
ytm= coupon rate &
face value= bond price
Discount
YTM > Coupon rate
Face value > bond price
Premium
YTM< coupon rate
Face value< price
Two things to determine how sensitive a bond will be to interest rate risk:
Time to Maturity – All other things being equal, the longer the time to maturity, the greater the interest rate risk.
Coupon rate – All other things being equal, the lower the coupon rate, the greater the interest rate risk.
Bonds of similar risk (and maturity) will be priced to yield :
about the same return, regardless of the coupon rate
If you know the price of one bond, you can estimate its YTM and use that to find the price of the second bond
The coupon rates depends on:
the risk characteristics of the bond when issued
4 components of bond security and their meaning:
Collateral: secured by financial securities
Mortgage: Secured by real property, like land or building
Debentures: unsecured debt with an original maturity of 10 years or more
Notes: unsecured debt with original maturity of less than 10 years.
