Basic Financial Concepts

Jinky Dela Torre

FNC6015 – Bank Management
Market Rates

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USD/PHP 50.78
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PSEI 8,834.39
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PH Market Highlights

 OPEC fears rising oil prices could spur a surge in US production

 European Central Bank mulling tighter monetary policy
 Chinese Economy: 2017 GDP beats expectations
 BSP Monetary Policy: No reason to hike rates soon
 BPI and MBT announce stock rights offerings
 Support – 8,772.45 – 8,323.01
 Resistance – 8,969.18 – 8,969.18
The Time Value in Money Market Transactions

1. The Time Value in Money Market Transactions

a. Concept of Present Value, Future Value, & Annuity

2. Interest Rate Conventions

a. Compounding and Decompounding Interest Rates
b. Calculating Interest Rates for Odd Period
c. Converting Yield, Money Market & Bond Basis

3. Interest Rate Quotations

a. Simple Interest Quotation
b. Discount to Yield Quotation
c. Yield to Maturity (YTM) Quotation
The Time Value in Money Market Transactions
Present Value

Present value (PV) is the current worth of a future sum of money or stream
of cash flows given a specified rate of return.

Future cash flows are discounted at the discount rate, and the higher
the discount rate, the lower the present value of the future cash flows.
Determining the appropriate discount rate is the key to properly valuing
future cash flows, whether they be earnings or obligations.

Formula:
The Time Value in Money Market Transactions
Present Value

PV is also referred to as the "discounted value." The basis is that receiving $100
now is worth more than $100 three years from now, because if you got the money
now, you could invest it and receive an additional return over the five years.

How to compute:
The Time Value in Money Market Transactions
Present Value

How to compute:

Divide $115.76 by (1 + i)
The Time Value in Money Market Transactions
Present Value

How to compute:
The Time Value in Money Market Transactions
Present Value

Application for Bond Yields and Spot Rate:

The price quoted for immediate settlement on a commodity, a security or a
currency. The spot rate, also called “spot price,” is based on the value of an
asset at the moment of the quote.
This value is in turn based on how much buyers are willing to pay and how much
sellers are willing to accept, which depends on factors such as current market
value and expected future market value. As a result, spot rates change
frequently and sometimes dramatically.
The Time Value in Money Market Transactions
Future Value

The future value (FV) is the value of a current asset at a specified date in the
future based on an assumed rate of growth over time.

Formula:

If, based on a guaranteed growth rate, a $10,000 investment made today will
be worth $100,000 in 20 years, then the FV of the $10,000 investment is
$100,000. The FV equation assumes a constant rate of growth and a single
upfront payment left untouched for the duration of the investment.

Money Market instruments have short duration and therefore volatility of rates
is not a problem. But if interest rates do change significantly, maturity is not
far away, when they will be redeemed for their face value.
The Time Value in Money Market Transactions
Future Value

How to compute:
The Time Value in Money Market Transactions
Future Value

How to compute:
The Time Value in Money Market Transactions
Annuity

A series of equal payments at fixed intervals for a specified number of

periods.

Types of Annuities
The Time Value in Money Market Transactions
Annuity

Types of Annuities

Fixed Annuities provide regular periodic payments to the annuitant.

Variable annuities allow the owner to receive greater future cash flows
if investments of the annuity fund do well and smaller payments if its
investments do poorly. This provides for a less stable cash flow than a
fixed annuity, but allows the annuitant to reap the benefits of strong
returns from their fund's investments.
The Time Value in Money Market Transactions
Annuity

How to compute (PV of an Annuity):

The Time Value in Money Market Transactions
Annuity

How to compute (PV of an Annuity):

The Time Value in Money Market Transactions
Annuity

How to compute (FV of an Annuity):

The Time Value in Money Market Transactions
Annuity

How to compute (FV of an Annuity):

Interest Rate Conventions
Compounding Interest Rate
A technique which is used to convert an interest rate of a given period into an interest
rate of a longer period.

For example, an investor may need to imply an annual rate from a quarterly rate or semiannual rate.
The compounding formula is:
Rate = (1+i/n)n - 1
where:
i is the interest rate being compounded
n is the number of periods by which the original rate is being expanded

Suppose an investor wants to convert a quarterly rate of 5% to an annual rate. The number
of periods needed to make the shift is 4 (as a year = 4 quarters), as such the annual rate
is:
Annual rate = (1+ 0.05/4)4 - 1 = 5.09%

In this sense, the difference between the annual rate and the quarterly rate is 0.09% or
9 basis points.
Interest Rate Conventions
Decompounding Interest Rate
A technique which is used to convert an interest rate of a given period into an interest
rate of a shorter period.

For example, an investor may need to imply a monthly rate from a quarterly rate or semiannual rate.
The decompounding formula is:
Rate = [(1+i)1/n - 1] x n
where:
i is the interest rate being decompounded
n is the number of periods the original rate is being decompounded into

Suppose an investor is attempting to convert a semiannual rate of 6% to a monthly rate. In

this case, the number of periods (months in our example) is six. Therefore, the
decompounded rate is:
Monthly rate = [(1+6%)1/6 - 1] x 6 = 5.86%
Therefore, the difference between the semiannual rate and the monthly rate is 0.14% or
14 basis points.
Interest Rate Conventions
Odd-days Interest
The interest that accrues on a loan during a period either longer or shorter than the
normal period during which interest accrues.
Interest Rate Conventions
Converting Yield – Money Market

The interest rate earned by investing in securities with high

liquidity and maturities of less than one year such as
negotiable certificates of deposit, treasury bills and municipal
notes. Money market yield is calculated by taking the holding
period yield and multiplying it by a 360-day bank year divided
by days to maturity.
Interest Rate Conventions
Converting Yield – Money Market

Holding Period Yield (HPY) refers to the un-annualized rate of

return one receives for holding a debt instrument until
maturity.

HPY = (FV-MV)/MV
Interest Rate Conventions

Converting Yield – Money Market

90-day T-bill
Interest Rate Conventions
Converting Yield – Bond Basis

The bond equivalent yield (BEY) allows fixed-income securities whose payments are not
annual to be compared with securities with annual yields. The BEY is a calculation for
restating semi-annual, quarterly or monthly discount bond or note yields into an annual yield,
and is the yield quoted in newspapers.
Interest Rate Quotations
Simple Interest Quotation
Interest Rate Quotations
Comparing Interest Rates
Interest Rate Quotations
Compound Interest Quotation
Interest Rate Quotations
Discount to Yield Quotation

Discount yield computes the investor's return on investment (ROI), which is generated
by purchasing the investment at a discount, and by earning interest income.
Interest Rate Quotations
Yield to Maturity Quotation
Interest Rate Quotations
Yield to Maturity

The rate of return earned on a bond if it is held to maturity.

Interest Rate Quotations
Yield to Maturity
Interest Rate Quotations
Yield to Maturity
Thank you