BONDS

VALUATION
Lecture

By Vo Khanh Thien, MF
LAST TOPIC:
Time value of money
Compounding & Simple interest
𝐹𝑉 = 𝑃𝑉 ×(1+𝑟 )𝑡 𝐹𝑉 = 𝑃𝑉 ×(1+𝑟 ×𝑡)

Ordinary Annuity vs Annuity Due

PV = PV =

Presen
t time PMT
PMT PMT PMT …
to t1 t2 t3

PMT PMT PMT … PMT

LEARNING OBJECTIVES

• Understand the fundamental concepts of debt,

bond and different types of bond
• Understand bond characteristics
• Bond price calculation/ valuation
• Bond’s risks
BOND
• Introduction of b
ond
BOND

• A contract indicating the bond issuer’s (borrower)

obligations to make specified payment to bond
holder (lender) on specified future date.
• A security that is commonly used to raise fund, as
a debt/ loan.
• Bond issuers can be governments or companies.
• Bond’s value equals the present value of future
WHY INVESTING IN BOND?

• Low risk investment

• Future income is fixed
• Bond holders are priority in the event of
bankruptcy
• Hedge risk: to protect asset against possible
changes in interest rate
 U.S
TREASURY

• US Treasury Note is bond with short term maturity: 1 – 10 years

• US Treasury Bond is long-term: up to 30 years
• They all pay coupons semi-annually
 VIETNAM
GOVERNMEN
T
BOND
 VIETNAM
CORPORATE
BOND
BOND
• Most bonds has following important features:

Face value

the amount will be paid on maturity

Coupon rate

the rate of interest on the bond. Interests can be paid semi-

annually, annually… Most bonds pay coupon semi-annually

Maturity date

the specified date the bond matures

BOND

Time to Maturity

the period of time between now and maturity date

Price

the current market price of the bond

Yield to maturity (YTM)

the rate of return if the bond is held to maturity

EXAMPLE OF BOND FEATURES
Face Terms Explanation
Value

Face $5,000 Holder will receive 5,000 on

Value maturity date
15/8/198 The bond matured on
Coupon Maturity 6 15/8/1986 and face value will
rate Date be paid
If you get quoted on
15/8/1977, Time to Maturity is
Coupon 2/3;2/9 9 years
paymen The bond pays coupon every
Maturit t dates 2/3 and 2/9.
y Date
Coupon 8% Or pay coupons semi-annually
The bond paying coupon at
rate of 8% per annum (p.a).
Each semi-annual payment (2
Coupon payment in a year) is Face Value * 8%/2
dates = $200
EXAMPLE OF BOND FEATURES
Terms Explanation

• Face Value $5,000 Holder will receive 5,000 on maturity date

• Maturity Date The bond matured on 15/8/1986 and face value will be paid
15/8/1986 If you get quoted on 15/8/1977, Time to Maturity is 9 years
The bond pays coupon every 2/3 and 2/9.
• Coupon payment 2/3;2/9 Or pay coupons semi-annually
dates
• Coupon 8% The bond paying coupon at rate of 8% per annum (p.a). Each
semi-annual payment (2 in a year) is Face Value * 8%/2 =
$200
• Offer price $4,500 The bond is being sold at $4,500 on the market
• Yield To 9.69% Bond holder will earn 9.69% in return if held until
Maturity AAA (S&P) maturity
• Rating S&P is a leading rating agency. AAA is their highest
rating meaning the risk of this bond is very low
BOND VARIATIONS
Zero coupon bond: there is no interest/ bond payment. Only the
face value paid on maturity

Deferred coupon bond: only pays interest after a specific period

Bond with embedded options: bond can be bought back by

issuers (callable) or bond that holders can sell back to issuers
(puttable)

Convertible bond: holders have option to convert to equity

(share) at specified price at specified time
BOND PAYMENT TIMELINE
Bond price is the present value of all future cash flows associated
with holding the bond.
Coupon/ Interest Payment (PMT) =
Coupon/
Interest
Presen
Payment
t time Maturit
to t1 t2 t3 … y

PMT PMT PMT PMT

Maturit
to t1 t2 t3 … y
Face Value

Face
Value
BOND PRICE CALCUL ATION
Presen
t time Maturit
Coupon/
to t1 t2 t3 … y
Interest
Payment

PV PMT PMT PMT PMT

PV = r (discounted rate): yield to maturity

(p.a)
t: number of payment period until
maturity Maturit
to t1 t2 t3 n:…number of payments
y in a year
Face Value
PV
Face
Value
PV ==
BOND PRICE CALCUL ATION
Presen
t time Maturit
to t1 t2 t3 … y
Bond
Timeline
PV PMT PMT PMT PMT +
Face Value

PV = + r (discounted rate): yield to

maturity (p.a)
t: number of payment period until
maturity
n: number of payments in a year
BO N D P R I C E C A L C U L AT I O N E X A M P L E

A $1,000 face value bond paying semi-annual coupons with 5

years to maturity, 9% coupon rate. Current yield to maturity (YTM)
of the bond is 10%. Calculate the bond price.

Face Value: 1,000

Coupon = Face Value * = $45
5 years to maturity = 10 payment periods
Yield = 10% p.a
n =2 (2 payments in a year)
BO N D P R I C E C A L C U L AT I O N E X A M P L E
A $1,000 face value bond paying semi-annual coupons with 5 years to
maturity, 9% coupon rate. YTM of the bond is 10%. Calculate the bond price.
Maturit
Face Value: 1,000 to t1 t2 t3 t4 y t10
Coupon = $45
5 years to maturity = 10 payment periods
Yield = 10% p.a PV 45 45 45 45
45 +
n =2 (2 payments in a year) 1,000

PV = + +
Price = PV = $961.39
The bond is trading at $961.39
BO N D Y I E L D T O M AT U R I T Y C A L C U L AT I O N
It is important to calculate bond’s yield to maturity
(YTM)
YTM is the return of investor if holding to maturity.
YTM is more commonly used to construct yield curve.
YTM directly affects the price of bond.
There is a negative relationship between YTM and Price.

PV = +

YTM (discounted rate): yield to

maturity (p.a)
t: number of payment period until
maturity
n: number of payments in a year
BO N D Y I E L D C A L C U L AT I O N E X A M P L E
A $1,000 face value bond with a semi-annual coupon with 5 years to maturity,
9% coupon rate. The bond is trading at $1,100. Calculate the bond yield
Face Value: 1,000
Coupon = $45
5 years to maturity = 10
payment periods
n =2 (2 payments in a year)
Price = $1,100
PV = 1,100 = + +
=> r = 6.62%
The bond current YTM is 6.62%
RISKS
Default risk

Risk that the bond issuer cannot make payment on time or go bankrupt.
Government bonds are called risk-free because they are not likely to default.

Interest rate risk

Interest rate fluctuations cause price to change, affect capital gain

Liquidity risk

How quick can holders convert the bond to cash?

Other risks: foreign exchange rate risk (foreign bond), inflation risks,
operation risk (convertible bond)…
COMPENS ATION
Interest rate is the compensation securities offer to
compensate for the risk taker.

Different bonds have different risks exposure. The more

risk a bond has, the more interest rate it has to offer.

Longer term bonds usually offer higher interest rate than

shorter ones.

Bonds have higher rating will pay less than the less credit.
NOTES

Understand, define bond and its variations

Understand bond features

Know how to valuate bond and its YTM

Negative relationship between YTM and bond price

Be aware of bond’s risks

THANK YOU!