Because learning changes everything.

# Debt-financing

Chapter 06
Interest Rates and Bond
Valuation

© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.
 Key Concepts and Skills
After studying this chapter, you should be able to:
• Identify important bond features and types of bonds.
• Describe bond values and why they fluctuate. I
• Discuss bond ratings and what they mean.
Loading…
• Evaluate the impact of inflation on interest rates.
• Explain the term structure of interest rates and the
determinants of bond yields.
=Y Fi in FiF] EtEAEs-

> My
-
cool down
I
T FRE FEYE

73
#LEL343EHABL
=4 E

© McGraw Hill, LLC 3

 Chapter Outline
6.1 Bonds and Bond Valuation.
6.2 More on Bond Features.
6.3 Bond Ratings.
6.4 Some Different Types of Bonds.
6.5 Bond Markets.
6.6 Inflation and Interest Rates.
6.7 Determinants of Bond Yields.

© McGraw Hill, LLC 4

 Bond Definitions
Bond.
• Debt contract.
• Interest-only loan. E
Par value (face value) approximately $1,000.
Coupon rate. ) Loading…
Coupon payment.
=
Maturity date. EITAA
Yield to maturity. YTM (EA)

© McGraw Hill, LLC 5

 Key Features of a Bond 1

Par value:
• Face amount.
• Repaid at maturity.
• Assume $1,000 for corporate bonds.

Coupon interest rate: · F /I

• Stated interest rate. ↓ FEEG1-EERit
• Usually = YTM at issue. = YTM (itBHE) (A) E
• Multiply by par value to get coupon payment.
t

© McGraw Hill, LLC 6

 Key Features of a Bond 2

Maturity:
• Years until bond must be repaid.E

&
Yield to maturity (YTM):
• The market required rate of return for bonds of similar risk
and maturity.
• The discount rate used to value a bond.
• Return if bond held to maturity. NEE /EA E FE I REM
• Usually equals the coupon rate at issue.
• Quoted as an APR.

© McGraw Hill, LLC 7

 12 3 4

Bond Value
⑧
FU 1000
=

& I I
I I
CReto %
100 100 100 100

ERIL Ma
Bond Value = PV(coupons) + PV(par). 5
EBE IAEFX %
ex . **
CR 12
Bond Value = PV(annuity) + PV(lump sum)
=

Remember:
+it +↑
*** FER
&K
• As interest rates increase present values decrease.

=
( r ↑→ PV ↓ )

• As interest rates increase, bond prices decrease and vice

versa.

© McGraw Hill, LLC 8

 Valuation

The Bond-Pricing Equation

/E
annuity i
⎡ 1 ⎤ lump Sum it
⎢1 − 1 + YTM t ⎥
Bond Value = C ⎢ ( ) ⎥+ F
⎢ YTM ⎥ (1 + YTM )t
YTM X EXAN ⎢ ⎥
.

⎣ ⎦
Ez
PV(Annuity) PV(lump sum)

C = Coupon payment; F = Face value

Return to Quick Quiz

© McGraw Hill, LLC 9

 Texas Instruments BA-II Plus
N = Number of periods to maturity.
I/Y = Period interest rate = YTM.
PV = Present value = Bond value.
PMT = Coupon payment.
FV = Future value = Face value = Par value.

© McGraw Hill, LLC 10

 Spreadsheet Formulas Excel
=FV(Rate,Nper,Pmt,PV,0/1).
=PV(Rate,Nper,Pmt,FV,0/1).
=RATE(Nper,Pmt,PV,FV,0/1).
=NPER(Rate,Pmt,PV,FV,0/1).
Loading…
=PMT(Rate,Nper,PV,FV,0/1).

Inside parentheses: (RATE,NPER,PMT,PV,FV,0/1).

“0/1” Ordinary annuity = 0 (default).

Annuity Due = 1 (must be entered).

© McGraw Hill, LLC 11

 Pricing Specific Bonds on the TI BAII+
Bond Worksheet: 2nd BOND (above “9”).
SDT CPN RDT RV 2/Y YLD PRI.
ACT
• SDT = Actual Settlement date (enter MM.DDYY).
• CPN = Annual rate in percent.
• RDT = Actual Redemption (maturity) date.
• RV = Redemption value as a percent of par.
• ACT = ACT/360 day count setting.

• 2/Y = 2/Y – 1/Y coupons per year.

• YLD = Yield to redemption.
• PRI = Dollar price per $100 of par value.

© McGraw Hill, LLC 12

 Pricing Specific Bonds in Excel
=PRICE(Settlement,Maturity,Rate,Yld,Redemption,
Frequency,Basis).
=YIELD(Settlement,Maturity,Rate,Pr,Redemption,
Frequency,Basis).
• Settlement = Actual date as a serial number.
• Maturity = Actual date as a serial number.
• Redemption and Pr(ice) = percent of par value.
• Rate (coupon) and Yld = Annual rates as decimals.
• Frequency = # of coupons per year.
• Basis = Day count convention (enter “2” for
ACT/360).

© McGraw Hill, LLC 13

 Valuing a Premium Bond with Annual
Coupons
Coupon rate = 10% Using the calculator:
Annual coupons 5 N
Par = $1,000 11 I/Y
Maturity = 5 years 100 PMT
YTM = 11% 1000 FV
CPT PV = − 963.04
Using the formula:
B = PV(annuity) + PV(lump sum) ⎡ 1 ⎤
1 −
⎢ 1.115 ⎥ $1,000
B = $369.59 + 593.45 = $963.04 B = $100 ⎢ ⎥+ 5
⎢ .11 ⎥ 1.11
Using Excel: =PV(.11,5,100,1000,0) ⎣ ⎦

Note: When YTM > Coupon rate → Price < Par = “Discount Bond”

© McGraw Hill, LLC 14

 Valuing a Discount Bond with Annual
Coupons
Coupon rate = 10% Using the calculator:
Annual coupons 20 N
Par = $1,000 8 I/Y
Maturity = 20 years 100 PMT
YTM = 8% 1000 FV
CPT PV = − 1196.36
Using the formula:
B = PV(annuity) + PV(lump sum) ⎡ 1 ⎤
1 −
⎢ 1.0820 ⎥ $1000
B = $981.81 + 214.55 = $1196.36 B = $100 ⎢ ⎥+ 20
⎢ .08 ⎥ 1.08
Using Excel: =PV(.11,5,100,1000,0) ⎣ ⎦

Note: When YTM < Coupon rate → Price > Par = “Premium Bond”

© McGraw Hill, LLC 15

 Graphical Relationship Between Price and
Yield-to-Maturity
↑

FEE'E
* convex (f)

YTMAESFE discounthe
=
FREE
Access the text alternative for these images

© McGraw Hill, LLC 16

 Bond Prices: Relationship Between
Coupon and Yield
& 24F
Coupon rate = YTM S
→ Price = Par. *** It FIG
I
:

F #H(x 3
& Coupon rate < YTM S→ Price < Par. ↑ FtBi T5
,
2 Fit
*R
• “Discount bond” … Why?
&Coupon rate > YTMC→ Price > Par. ↑ TNE > Eit
E
• “Premium bond” … Why?

* Ent

© McGraw Hill, LLC 17

 Bond Value ($) versus Years Remaining to
Maturity

Access the text alternative for slide images.

© McGraw Hill, LLC 18

 Bond Value ($) CR =
10 %

1,37 · kd = 7 % =
YTM
I

D
2
1,211 ↑ 7%.

kd = 10 % =
YTM =
CR
1,00 M
10%.
0

83
↑ kd = 13 % =
YTM
7
77
·
I 13%.
5
30 25 20 15 10 5 0
Years remaining to Maturity
- /ARTIES
EFAN
© McGraw Hill, LLC 19
 The Bond-Pricing Equation Adjusted for
Semiannual Coupons

⎡ 1 ⎤
1 −
⎢
( so
2t ⎥
C 1 + YTM / 2 ) ⎥+ F
Bond Value = ⎢ &
&2⎢ YTM & /2 D
⎥ (1 + YTM / 2)
2t

⎢ ⎥
⎣ ⎦

C=
c 5$
= Annual coupon payment → CE2 = semiannual coupon
C ÷ 2 = Semiannual coupon
thEx YTM
-P
r = Annual yield → r ÷ 2 = Semiannual yield
AA in
-

t = Years to maturity →
2t = Number of 6-month
' * FAM--2-periods to maturity
-R
C= z

224 V= 2
r = 4 t
2
4t
© McGraw Hill, LLC 20
 Semiannual Bonds Example 6.1
Coupon rate = 14 percent semiannually.
r = 16 percent.
Maturity = 7 years
Number of coupon payments? (2t or N).
• 14 = 2 × 7 years.
Semiannual coupon payment? (C / 2 or PMT ).

• $70 = (14% × Face value ) / 2.

Semiannual yield? (r / 2 or I/Y ).
• 8% = 16% / 2

© McGraw Hill, LLC 21

 Example 6.1
Semiannual coupon = $70. ⎡ 1 ⎤
⎢ 1 − 2t ⎥
⎢ (1 + YTM ) ⎥ F
Semiannual yield = 8%. Bond Value = C ⎢ 2 +
2 YTM ⎥ 2t
⎢ 2 ⎥ 1 + YTM 2
( )
Periods to maturity = 14. ⎢ ⎥
⎣ ⎦

Bond value = $70 ⎡1 –1/1.0814 ⎤ / .08 + $1,000 /1.0814 = $917.56.

⎣ ⎦
⎡ 1 ⎤
⎢1 − 1.0814 ⎥ $1,000 Using the calculator:
B = $70 ⎢ ⎥+ 14
⎢ .08 ⎥ 1.08 14 N
⎣ ⎦
8 I/Y
Using Excel: =PV(.08,14,70,1000,0). 70 PMT
1000 FV
CPT PV = − 917.56

© McGraw Hill, LLC 22

 Interest Rate Risk / 1
1259)

1.
Price Risk. T
• Change in price due to changes in interest rates.
• Long-term bonds have more price risk than short-term
bonds.
↑ it
• Low coupon rate bonds have more price risk than high
coupon rate bonds. [p 2 FIRE /T

↓ GERATME r4
WYTMV
= YTM4 => Pronad
Pod T
#LEAJE
(Irink
DCONCouponrate if i t Al

EAX E

© McGraw Hill, LLC 23

 Interest Rate Risk 2 1% = 100 BP (Basis Point)
B

2 Reinvestment Rate Risk.

.
EJEA 0 . 1% = 10 BP

• Uncertainty concerning rates at which cash flows can be

reinvested.
EF
• Short-term bonds have more reinvestment rate risk than
long-term bonds.
%
• High coupon rate bonds have more reinvestment rate risk
than low coupon rate bonds.
12A* Ad 1752
DULTAinY2 -Treinvestment
[255) >
-

>
-
+I TRIM A4
E
-
E

© McGraw Hill, LLC 24

 Figure 6.2
Figure 6.2: Interest rate risk and time to maturity

T &Gi *, o R

Access the text alternative for these images

© McGraw Hill, LLC 25

 Computing Yield-to-Maturity (YTM) thER3
Yield-to-maturity (YTM): Market required rate of return
implied by the current bond price.
With a financial calculator:
Enter N, PV, PMT, and FV.
Remember the sign convention.
• PMT and FV need to have the same sign (+).
• PV the opposite sign (−).
• CPT I/Y for the yield.

© McGraw Hill, LLC 26

 YTM with Annual Coupons
Consider a bond with a 10 percent annual coupon rate, 15
years to maturity, and a par value of $1,000. The current
price is $928.09.
• Will the yield be more or less than 10 percent?

15 N
928.09 PV (enter as a
negative)
1000 FV
100 PMT
CPT PV = 11% ← Result = YTM

Using Excel: =RATE(15,100,−928.09,1000,0).

© McGraw Hill, LLC 27
 YTM with Semiannual Coupons 1

Suppose a bond with a 10 percent coupon rate and

semiannual coupons, has a face value of $1000, 20 years to
maturity, and is selling for $1,197.93.
• Is the YTM more or less than 10 percent?
• What is the semiannual coupon payment?
• How many periods are there?

© McGraw Hill, LLC 28

 YTM with Semiannual Coupons 2

Suppose a bond with a 10 percent coupon rate and

semiannual coupons, has a face value of $1,000, 20 years
to maturity, and is selling for $1,197.93.

40 N
NOTE: Solving a
1197.93 Loading…
PV (negative) semiannual payer for
1000 FV YTM results in a 6-month
50 PMT yield.
CPT PV 4% (= ½ YTM) The calculator and Excel
YTM = 4%×2 = 8% solve what you enter.

Using Excel: =RATE(40,50,−1197.93,1000,0) = 4%.

© McGraw Hill, LLC 29

 Table 6.1 1

Table 6.1 Summary of Bond Valuation

I. Finding the value of a bond
t t
Bond value = C × ⎡1 − 1/ (1 + r ) ⎤ / r + F / (1 + r )
⎣ ⎦
where:
C = Coupon paid each period
r = Rate per period
t = Number of periods
F = Bond’s face value

© McGraw Hill, LLC 30

 Table 6.1 2

II. Finding the yield on a bond

Given a bond value, coupon, time to maturity, and face value, it
is possible to find the implicit discount rate, or yield to maturity,
by trial and error only. To do this, try different discount rates in
the preceding formula until the calculated bond value equals the
given bond value. Remember that increasing the rate decreases
the bond value.

© McGraw Hill, LLC 31

 Debt or Equity
Debt. **, 77 EstE Equity. #134it
LAZ)
• Not an ownership interest. • Ownership interest. E
• No voting rights. • Common stockholders vote to
elect the board of directors and
• Interest is tax deductible.
on other issues.
• Creditors have legal
• Dividends are not tax deductible.
recourse if interest or
principal payments are • Dividends are not a liability of the
missed. firm until declared. Stockholders
have no legal recourse if
• Excess debt can lead to
dividends are not declared.
financial distress and
bankruptcy. • An all-equity firm cannot go
bankrupt.

© McGraw Hill, LLC 32

 The Bond Indenture “Deed of Trust”
Contract between issuing company and
bondholders includes:
Basic terms of the bonds.
Total amount of bonds issued.
Secured versus Unsecured. tE 30 (AY . %14)

Sinking fund provisions. *

Call provisions. DAY ( ** )
• Deferred call.
• Call premium.

Details of protective covenants. Return to Quiz

© McGraw Hill, LLC 33

 Bond Classifications ***
Registered versus Bearer Bonds.
Security.
# Je
• Collateral – secured by financial securities.
& FREY
• Mortgage – secured by real property, normally land or
buildings.
EXAEE ,
APELEXE
• Debentures – unsecured.
• Notes – unsecured debt with original maturity less than 10
years.

Seniority. III/ . *** ]15-9

• Senior versus Junior, Subordinated.

© McGraw Hill, LLC 34

 Bond Characteristics and Required
Returns
Coupon rate.
• A function of the risk characteristics of the bond when
issued.
• Usually ≈ yield at issue.
Which bonds will have the higher coupon, all else equal?
• Secured debt versus a debenture.
• Subordinated debenture versus senior debt.
• A bond with a sinking fund versus one without.
• A callable bond versus a non-callable bond.

© McGraw Hill, LLC 35

 Bond Ratings – Investment Quality
High Grade.
• Moody’s Aaa and S&P AAA – capacity to pay is extremely
strong.
• Moody’s Aa and S&P AA – capacity to pay is very strong.
Medium Grade.
• Moody’s A and S&P A – capacity to pay is strong, but
more susceptible to changes in circumstances.
• Moody’s Baa and S&P BBB – capacity to pay is adequate,
adverse conditions will have more impact on the firm’s
ability to pay.

Return to Quiz

© McGraw Hill, LLC 36

 Bond Ratings – Speculative
Low Grade.
• Moody’s Ba, B, Caa and Ca.
• S&P BB, B, CCC, CC.
• Considered speculative with respect to capacity to pay. The
“B” ratings are the lowest degree of speculation.
Very Low Grade.
• Moody’s C and S&P C – income bonds with no interest
being paid. Junk es
• Moody’s D and S&P D – in default with principal and
interest in arrears.

© McGraw Hill, LLC 37

 Government Bonds 1

Municipal Securities.
• Debt of state and local governments.
• Varying degrees of default risk, rated similar to corporate
debt.
• Interest received is tax-exempt at the federal level.
• Interest usually exempt from state tax in issuing state.

© McGraw Hill, LLC 38

 Government Bonds 2

E
Treasury Securities = Federal government debt.
Treasury Bills (T-bills). E (52AE2E

• Pure discount bonds.

• Original maturity of one year or less.
Treasury notes. (T notes)

• Coupon debt.
• Original maturity between one and ten years.
Treasury bonds. 2T bonds)

• Coupon debt.
• Original maturity greater than ten years.

© McGraw Hill, LLC 39

 Example 6.4
to g
A taxable bond has a yield of 8 percent and a municipal bond
has a yield of 6 percent.
If you are in a 40 percent tax bracket, which bond do you
prefer?
• 8%(1 − .4) = 4.8%.
• The aftertax return on the corporate bond is 4.8 percent,
compared to a 6 percent return on the municipal.
At what tax rate would you be indifferent between the two
bonds? ExBi
• 8%(1 − t*) = 6%.
• t* = 25%.

© McGraw Hill, LLC 40

 Zero Coupon Bonds F
z(B
Make no periodic interest payments (coupon rate = 0
percent). &G 0 112 RETTE
.

Full
Entire yield-to-maturity comes from the difference between
the purchase price and the par value (capital gains).
Cannot sell for more than par value.
Sometimes called zeroes, or deep discount bonds.
Treasury Bills and U.S. Savings bonds are good examples of
zeroes.

© McGraw Hill, LLC 41

 5: 5 in
Floating Rate Bonds
:i
Coupon rate floats depending on some index value.
F 2 Th / 4t #E 11525 @
Examples – adjustable rate mortgages and inflation-linked
(ARM)
Treasuries. TIPS

Less price risk with floating rate bonds.

• Coupon floats, so is less likely to differ substantially from
the yield-to-maturity.
Coupons may have a “collar” – the rate cannot go above a
specified “ceiling” or below a specified “floor.”

© McGraw Hill, LLC 42

 Other Bond Types
de
Structured notes.
Convertible bonds. ↑ &"notE CB

Put bonds.
Many types of provisions can be added to a bond.
• Important to recognize how these provisions affect required
returns.
• Who does the provision benefit?

© McGraw Hill, LLC 43

 Bond Markets
Primarily over-the-counter transactions with dealers
connected electronically.
Extremely large number of bond issues, but generally low
daily volume in single issues.
Getting up-to-date prices difficult, particularly on small
company or municipal issues.
Treasury securities are an exception.

© McGraw Hill, LLC 44

 Work the Web Example
Bond information is available online.
One good site:
finra-markets.morningstar.com/BondCenter
Click on this link to go to the site.
• Use “Quick Bond Search” to observe the yields for various
bond types, and the shape of the yield curve.

© McGraw Hill, LLC 45

 Corporate Bond Quotations
ABC 8.375 Jul 15, 2033 100.641 8.316 362 30 763,528

What company are we looking at?

What is the coupon rate? If the bond has a $1,000 face
value, what is the coupon payment each year?
When does the bond mature?
What was the trading volume on that day?
What is the quoted price? (Ask price).
What is the bond’s yield?

© McGraw Hill, LLC 46

 Treasury Quotations 1

Figure 6.3 Sample Wall Street Journal U.S. Treasury note and bond prices

U.S. Treasury Quotes

Treasury note and bond data are representative over-the-counter quotations as of 3 p.m.
Eastern time.
X E GTE
Maturity Coupon Bid Asked Chg Asked Yield

8/15/2021 2.125 101.040 101.044 −0.006 0.077

2/28/2022 1.125 101.036 101.042 −0006 0.089
3/31/2023 1.500 102.310 102.314 −0004 0.128
4/30/2025 0.375 100.042 100.046 0.012 0.340
12/31/2026 1.750 106.256 106.262 0.024 0.579
11/15/2027 6.125 136.020 136.024 0.710 0.688
11/15/2028 3.125 117.020 117.030 0.708 0.856
8/15/2029 6.125 143.034 143.044 0.720 0.880
5/15/2030 6.250 147.014 147.024 0.728 0.951
2/15/2031 5.375 141.126 141.136 0.026 1.028
2/15/2037 4.750 148.126 148.136 0.090 1.378
© McGraw Hill, LLC 47
 Treasury Quotations 2

Figure 6.3 Sample Wall Street Journal U.S. Treasury note and bond prices (Continued)

U.S. Treasury Quotes

Treasury note and bond data are representative over-the-counter quotations as of 3 p.m.
Eastern time.
Maturity Coupon Bid Asked Chg Asked Yield
5/15/2039 4.250 144.006 144.026 0.780 1.489
2/15/2040 4.625 151.024 151.044 0.808 1.523
2/15/2041 4.750 154.232 154.252 0.126 1.559
2/15/2043 3.125 126.162 126.182 0.112 1.679
8/15/2044 3.125 126.312 127.012 0.120 1.724
11/15/2045 3.000 125.006 125.026 0.784 1.749
5/15/2046 2.500 114.194 114.214 0.098 1.777
5/15/2047 3.000 125.200 125.220 0.100 1.774
8/15/2048 3.000 126.014 126.034 0.780 1.795
11/15/2049 2.375 112.090 112.110 0.778 1.822
11/15/2050
Source: 1.625
www.wsj.com, 6/14/2018. 94.242 94.262 0.090 1.852
© McGraw Hill, LLC 48
 Treasury Quotations 3

Highlighted quote in Figure 6.4.

5/15/2038 4.500 146.230 146.250 0.098 1.437

• When does the bond mature?

• What is the coupon rate on the bond?
• What is the bid price? What does this mean?
• What is the ask price? What does this mean?
• How much did the price change from the previous day?
• What is the YTM based on Ask price?

© McGraw Hill, LLC 49

 Treasury Quotations 4

5/15/2038 4.500 146.230 146.250 0.098 1.437

Maturity = May 15, 2038.
Coupon rate = 4.500 percent per year.
Bid price = 146.230 percent of par.
• Price at which dealer is willing to buy from you.
Ask price = 146.250 percent of par.
• Price at which dealer is willing to sell to you.
Bid-Ask spread = Dealer’s profit.
Change = Ask price is up .098 percent since the previous
day.
Asked yield = 1.437 percent.
© McGraw Hill, LLC 50
 Quoted Price versus Invoice Price
Quoted bond prices = “clean” price.
• Net of accrued interest.
Invoice Price = “dirty” or “full” price.
• Price actually paid.
• Includes accrued interest.
Accrued Interest.
• Interest earned since last coupon payment is owed to bond
seller at time of sale.

© McGraw Hill, LLC 51

 Inflation and Interest Rates EA
inflation > /E
-

Real rate of interest. >

-
F
. As
= Change in purchasing power.
Nominal rate of interest.
= Quoted rate of interest.
= Change in purchasing power and inflation.
The ex ante nominal rate of interest includes our desired real
rate of return plus an adjustment for expected inflation.

© McGraw Hill, LLC 52

 The Fisher Effect &
The Fisher effect defines the relationship between real rates,
nominal rates and Inflation.
(1 + R ) = (1 + r )(1 + h ).
R = Nominal rate (Quoted rate). Fo * 1TW5 PE *34).

r = Real rate. * 1 * (FEAR's Exi a

h = Expected inflation rate. FAA2

EIR

Approximation: R = r + h.
To %14
In Aly
.

( + V) (1 + h) 47
As a
0

1 + R =

Xtrth th No
-

=> XR
=

0
Return to Quiz
47 =

© McGraw Hill, LLC 53

 Example 6.6
If we require a 10 percent real return and we expect inflation
to be 8 percent, what is the nominal rate?
• R = (1.1)(1.08) − 1 = .1880, or 18.80%.
• Approximation: R = 10% + 8% = 18%.
• Because the real return and expected inflation are
relatively high, there is significant difference between the
actual Fisher effect and the approximation.

© McGraw Hill, LLC 54

 Term Structure of Interest Rates #APE
*
Term structure: The relationship between time to maturity
and yields, all else equal.
• The effect of default risk, different coupons, etc., has been
removed.
Yield curve: Graphical representation of the term structure.
• Normal = upward-sloping → L/T > S/T.
• Inverted = downward-sloping → L/T < S/T.

Return to Quiz

© McGraw Hill, LLC 55

 Figure 6.6 A: Upward-Sloping Yield Curve
- /the EEEYTM
E EYgY EStYR
& EYTM >
57 32
-

All

DEE4d 14 BEARIN
O

↑ FT/ADJin]

viii @
H 51.
8 30 EABJIN
Access the text alternative for these images
-
123430
© McGraw Hill, LLC 56
 1311 F3FE FEE* inverted
Figure 6.6 B: Downward-Sloping Yield Curve
=***T E %- T
>
-
IRLYGETH I PE

viii
-

DF

© McGraw Hill, LLC 57

 Figure 6.7: Treasury Yield Curve
Figure 6.7: Treasury Yield Curve June 14, 2018

Source: www.treasury.gov, June 14. 2018

More information can be found at this link.

Access the text alternative for these images

© McGraw Hill, LLC 58

 Factors Effecting Required Return
Default risk premium – bond ratings.
Taxability premium – municipal versus taxable.
Liquidity premium – bonds that have more frequent trading
will generally have lower required returns.
Maturity premium – longer term bonds will tend to have
higher required returns.
Anything else that affects the risk of the cash flows to
the bondholders will affect the required returns.

Return to Quiz

© McGraw Hill, LLC 59

 Quick Quiz
How do you find the value of a bond and why do bond prices
change? (Slide 6.8).
What is a bond indenture and what are some of the important
features? (Slide 6.31).
What are bond ratings and why are they important? (Slide
6.34).
How does inflation affect interest rates? (Slide 6.51).
What is the term structure of interest rates? (Slide 6.53).
What factors determine the required return on bonds? (Slide
6.57).

© McGraw Hill, LLC 60

 End of Main Content

Because learning changes everything.®

www.mheducation.com

© McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC.