Institute of

Accounts
Business and
Finance

COURSE CODE: COURSE DESCRIPTION: LECTURE No.:

MATH INVS Mathematics of Investments FLN01A
 is a long-term contract under which a borrower
agrees to make payments of interest and principal,
on specific dates, to the holders of the bond.

 a long-term debt instrument.

 On January 3, 2003, Allied Food Products borrowed
P50m by issuing P50m of bonds, which will mature
on January 2, 2018. Bond requires coupon payment
of 100,000.

 We can assume it sold 10 bonds with a P5m face

value.

 Allied received the P50m, and in exchange it

promised to make annual interest payments and to
repay the P50 million on a specified maturity date.
 Primarily traded in the over-the-counter (OTC)
market.
 Most bonds are owned by and traded among large
financial institutions.
 The Wall Street Journal reports key developments in
the Treasury, corporate, and municipal markets.
Online edition lists trading each day for the most
actively-traded investment-grade, high-yield, and
convertible bonds.
 Treasury bonds – government bonds, are issued by
the federal government.
◦ No default risk.
 Corporate bonds – issued by corporations.
◦ Exposed to default risk or credit risk.
Municipal bonds – issued by state and local
governments.
• Exposed to default risk.
• Exempt from federal taxes
• Interest rates are lower than those on corporate bonds with
the same default risk.

Foreign bonds – are issued by foreign

governments or foreign corporations.
• Exposed to default risk.
Par value
• The stated face value of the bond.
• Generally represents the amount of money the firm borrows
and promises to repay on the maturity date.

Coupon Interest Rate

• Stated interest rate paid by the issuer.

Maturity Date
• A specified date on which the par value of a bond must be
repaid.
Issue Date
• Date when the bond was issued

Yield to Maturity (YTM)

• rate of return earned on a bond held
until maturity (also called the
“promised yield”)
Callable Bonds
• allows issuer to refund the bond issue if rates
decline (helps the issuer, but hurts the investor).

Sinking Fund Bonds

• Provision to pay off a loan over its life rather
than all at maturity.
• Similar to amortization on a term loan.
• Reduces risk to investor, shortens average
maturity.
• But not good for investors if rates decline after
issuance.
Convertible bond
• may be exchanged for common stock of the firm, at the
holder’s option.
Warrant
• long-term option to buy a stated number of shares of
common stock at a specified price.
Putable bond
• allows holder to sell the bond back to the company prior
to maturity.
Income bond
• pays interest only when interest is
earned by the firm.

Indexed bond
• interest rate paid is based upon the
rate of inflation.
 0 1 2 N
r% ...
Value CF1 CF2 CFN

CF1 CF2 CFN

Value     
1  r 1 1  r 2 1  r N
 What is the value of a 10-year, 10% annual coupon
bond, if rd=10%?

0 1 2 N
10% ...
VB = ? 100 100 100 + 1,000

$100 $100 $1,000

VB   
1.101
1.1010
1.1010
VB  $90.91    $38.55  $385.54
VB  $1,000
 GSM Company issued bonds that pay an annual coupon
rate of 10%. They have 8 years before maturity. The
maturity value is P1,000. The market interest rate on
these class of bonds is 12%. Determine the price of these
bonds.

 Pahamblin Inc. has bonds that pay a coupon rate of 11%

and a maturity value of P1,000. The yield in the market
for this risk class of bonds is 10.5 %. The bonds have 18
years before maturity. How much would one Pahamblin
bond be worth on the market?
 • What would happen to the value of these three
bonds if the required rate of return remained at
10%?
VB
1,184
13% coupon rate

10% coupon rate

1,000

816 7% coupon rate

Years
to Maturity
10 5 0
7-16
Institute of
Accounts
Business and
Finance