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DedicatedtotheYoungandEnergeticForceofBankers

CAIIBABMLASTMINUTEREVISION

FaceValue:Alsoknownastheparvalueandstatedonthefaceofthebond.Itrepresentstheamountborrowedby
thefirm,whichitpromisestorepayafteraspecifiedperiod.
Couponrate:Abondcarriesaspecificrateofinterest,whichisalsocalledasthecouponrate.
Maturity:Abondisissuedforaspecifiedperiod.Itistoberepaidonmaturity.
RedemptionValue:Thevalue,whichthebondholdergetsonmaturity,iscalledtheredemptionvalue.Abondis
generallyissuedatadiscount(lessthanparvalue)andredeemedatpar.
MarketValue:Abondmaybetradedonastockexchange.Marketvalueisthepriceatwhichthebondisusually
boughtorsoldinthemarket.

BondValue
Abond,whoseparvalueisRs.1,000,bearsacouponrateof12percentandhasamaturityperiodof3years.The
requiredrateofreturnonthebondis10percent.Whatisthevalueofthisbond?

Solution
Annualinterestpayable=1,000*12%=120
Principalrepaymentattheendof3years=Rs.1,000
Thevalueofthebond
=120(PVIFA10%,3yrs)+Rs.1,000(PVIF10%,3yrs)
=120(2.487)+1,000(0.751)
=298.44+751
=Rs.1,049.44

Abond,whoseparvalueisRs.1000,bearsacouponrateof12percentpayablesemiannuallyandhasamaturity
periodof3years.Therequiredrateofreturnonbondis10percent.Whatisthevalueofthisbond?

Solution
Semiannualinterestpayable=1,000x12percent/2=60
Principalrepaymentattheendof3years=Rs.1,000
Thevalueofthebond
=60(PVIFA10%/2,6pds)+Rs.1,000(PVIF10%/2,6pds)=
60(5.0746)+1,000(0.746)=304.48+746=1,050.48

ThefacevalueofthebondisRs.1,000,couponrateis11percent,yearstomaturityissevenyears.Therequired
rateofreturnis13percent,andthenthepresentvalueofthebondis
110xPVIFA(13percent,7)+1,000(PVIF13percent,7)
110(4.423)+1,000(0.425)=911.53
Oneyearfromnow,whenthematurityperiodwillbesixyears,thepresentvalueofthebondwillbe
110xPVIFA(13percent,6)+1,000(PVIF13percent,6)
110(3.998)+1,000(0.480)=919.78
Similarly,whenmaturityperiodis5,4,3,2,1theBondvaluewillbecome929.87,940.14,952.71,966.48,982.35,
respectively.

Currentyield=Couponinterest/currentmarketprice

IfabondoffacevalueRs.1,000,carryingacouponinterestrateof8percent,isquotedinthemarketatRs.800,
thenthe

Currentyieldofthebondis=8percent*1,000/800=10percent

YIELDTOMATURITYOFBOND
Itistherateofreturnearnedbyaninvestor,whopurchasesabondandholdsituntilthematurity.

NumericalproblemsonYTM
ConsideraRs.1,000parvaluebond,whosecurrentmarketpriceisRs.850/.Thebondcarriesacouponrateof8
percentandhasthematurityperiodofnineyears.Whatwouldbetherateofreturnthataninvestorearnsifhe
purchasesthebondandholdsuntilmaturity?

Solution
Ifkdistheyieldtomaturitythen,
850=80(PVIFAkdpercent,9yrs)+1,000(PVIFkd,9yrs)
Tocalculatethevalueofkd,wehavetotryseveralvalues:
=80(PVIFA12percent,9)+1,000(PVIF12percent,9)
=80x5.328+1,000x(0.361)
=426.24+361=787.24
Since,theabovevalueislessthan850,wehavetotrywithvaluelessthan12percent.Letustrywith
kd=10percent
=80(PVIFA10percent,9)+1,000(PVIF10percent,9)=80
x5.759+1.000*0.424=884.72
Fromtheaboveitisclearthatkdliesbetween10%and12%.Nowwehavetouselinearinterpolationintherangeof
10%and12%.Usingit,wefindthatkdisequaltothefollowing:
(884.72850)/(884.72787.24)
34.72/97.48=10%.+
 .71=10.71%
Therefore,theyieldtomaturityis10.71%

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