Topic 6. Quantitative Financial Analysis of Fixed Income Securities

- market price of bond - face value - bond rate The main tasks of bond analysis: 1) determine the total yield of the bond; 2) determine the intrinsic value of the bond and disclose securities incorrectly evaluated by the market; 3) evaluate the risk connected with investing in bonds.

Determining the Total Yield of Bonds Definition. The annual domestic return of thebond is the annual compound interest rate according to which the present value of cash flows from the bond equals the market value of the bond at the moment= 0: The Yield of the Bond without Interest Payment

Determining the Yield of the Bond without Mandatory Redemption with Regular Interest Payments - coupon rate - annual income The Yield of the Bond with Interest Payments at the End of the Term

Determining the Yield of the Bond with Regular Interest Payments to be Discharged at the End of the Term Determining the Yield of the Bond in the General Case - face value of the bond; - annual coupon rate; - amount of coupons paid per year; - amount of a separate coupon payment; t = 0 – moment of a bond purchase or moment when an investment in a bond is supposed; T (in years) – the term before the bond maturity from the moment t = 0;

- the time from the last coupon payment prior to the bond sale to the bond purchase (till the moment t = 0) - coupon period if is a whole, then and if is not a whole, then and

Example 1. Coupon payments are made once per three months on a bond. The term before the bond maturity is a) 10.5 months; b) 6 months. Determine the number of coupon payments left before the bond maturity and the time elapsed from the last coupon payment prior to the bond sale to the bond purchase Solution a) b)

- market price of bond at the moment t = 0 - the number of coupon payments Let us assume that the bond will be soldtime after the coupon payment, when there are n coupon payments left before its maturity

Example. It is promised to carry out coupon payments once every six months on a 9 % coupon bond with a face value of 1000 currency units. Determine the domestic return of the bond if its value equals 1050 currency units, and 3,8 years are left before its maturity. Here = 1000 currency units; = 0.09; = 2; = 45 currency units. = 3.8 years; = 1050 currency units. = [7.6]+1; = = 0.2 years

The Yield of the Bond with Tax Accounting m – rate of tax on capital gain; h – current income tax rate; – amount of tax on capital gain; – amount after tax payment; – current income tax; – current income amount after tax payment Bond Portfolio Return

Bond Evaluation. Bond Evaluation Base Model Yield to Maturity - bond market value; - expected payment stream if - the bond is undervalued on the market; if - the bond is overvalued; if - the bond is valued fairly.

Intrinsic Value (Bond Evaluation Base Model) if > 0, then the bond is undervalued by the market; if < 0, then the bond is overvalued.

Formulas for Bond Evaluation Bonds without mandatory redemption with regular interest payments Bonds without regular interest payments Bonds with a zero coupon Bonds with a regular income payment and maturity at the end of the term

Valuation of Risk Connected with Investments in Bonds - expected payment on a bond; - веса