Derivatives

Derivatives Lecture 7 Bond Prices Example If today is October 2001, what is the value of the following bond? An IBM Bond pays 115 every Sept for 5 years In Sept 2006 it pays an additional 1000 and retires the bond The bond is rated AAA (WSJ AAA YTM is 75%) Cash Flows Sept 0203040506 1151151151151115 Bond Prices Example continued If today is October 2001, what is the value of the following bond? An IBM Bond pays 115 every Sept for 5 years In Sept 2006 it pays an additional 1000 and retires the bond The bond is rated AAA (WSJ AAA YTM is 75%) Bond Prices Yields Price Yield Yield To Maturity All interest bearing instruments are priced to fit the term structure This is accomplished by modifying the asset price The modified price creates a New Yield, which fits the Term Structure The new yield is called the Yield To Maturity (YTM) Yield to Maturity Example A 1000 treasury bond expires in 5 years It pays a coupon rate of 105% If the market price of this bond is 10788, what is the YTM? Yield to Maturity Example A 1000 treasury bond expires in 5 years It pays a coupon rate of 105% If the market price of this bond is 10788, what is the YTM? C0C1C2C3C4C5 -1078801051051051051105 Calculate IRR = 85% Bond Prices Yields Price Yield Bond Price Sensitivity Bond B YTM = 350% Maturity = 5 years Coupon = 7% or 70 Par Value = 1,000 Price = 1,15803 Bond A YTM = 400% Maturity = 8 years Coupon = 6% or 60 Par Value = 1,000 Price = 1,13465 Bond Price Sensitivity Bond B YTM = 425% Maturity = 5 years Coupon = 7% or 70 Par Value = 1,000 New Price =1,12157 Price dropped by 315 % Bond A YTM = 475% Maturity = 8 years Coupon = 6% or 60 Par Value = 1,000 New Price= 1,10861 Price dropped by 230 % Yields increased 075%prices dropped differently Problems Class examples Homework FinCoach 5 Bond price problems 5 Bond YTM problems