#3- Valuation Of Bonds And Stocks.docx

Valuation of Bonds and Stocks The Financial Management function is centered around corporate finance, which attempts to find answer to the following questions: Definition and Features of a Bond Bond Payments There are two cash flow streams:  Repayment of the principal at maturity,  Coupon interest payments throughout the life of the bond.  Bond Issuer: Person who issues the bond and must repay the face value at maturity, i.e. the borrower Bond Holder: Person who holds the bond certificate and will receive the face value at maturity Coupons will also be paid to the holder at a constant rate. The last coupon is to be paid on the date of maturity. A bond is a tradeable financial instrument i.e. a bond can be bought and sold Cash Flows for a Bond: o Coupon (C) o Face Value (F) o Time to Maturity (n) Cash flows of a typical bond:

Bond Value:

Bond Value (B0) = PV(Coupons) + PV(Face Value):

Pure Discount (Zero Coupon) Bonds:

Information needed for valuing pure discount bonds:  Time to maturity (n) = Maturity date - today’s.  date Compounding frequency (m)  Face value (F)  Discount rate (i)  This bond does not pay coupons. Present value of a pure discount bond at time 0:

Level Coupon Bonds

Information needed to value level coupon bonds:  Coupon payment dates and time to maturity (n)  Coupon payment (C) per period and face value (F)  Discount rate (i) Value of a level coupon bond: PV of coupon payment annuity + PV of face value