Valuing Debt and Equity
Valuing Debt Securities (Bond Valuation)
A bond is a financial instrument that is issued by a company or government to investors. In return investors receive a coupon payment either annually or semi annually depending on the terms of the bond. In short investors lend companies and governments money in exchange for regular interest payments. On maturity the initial amount loaned is repaid to the investor. The present value of a bond can be determined by discounting all the future cash flows (the coupon payment) and the face value.
A bond can be broken down into several features. A bond has:
A coupon payment: Regular payments made by the borrower (company or government) to the lender (investor).
Face value: The amount that is repaid upon maturity of the bond.
Coupon rate: The rate of interest that is paid on the face value of the bond. (coupon payment divided by the face value).
Maturity: The bonds remaining life.
Interest rates and bond prices have an inverse relationship. When interest rates rise, the present value of the bond’s remaining cash flows decline, and the bond is worth less. When the interest rates fall, the bond is worth more.
12-09-2012, 08:36 PM
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