These are my summarized notes from class and the book These are the main topics and terms discussed from chapters 7 9 Effective annual interest rate a good way to compare things Interest only if the loan was 1000 at the beginning pay interest every period and then pay all of the principal back at end of period Interest would be the same for all periods Interest rates paid to the bondholder are called coupon payments The coupon rate is calculated by annual coupon face value The amount that gets repaid at the end is called face value or par value The bond is worth more when interest rates fall The yield to maturity is the value of a bond at a particular point in time and is the interest rate required in the market When corporations and governments want to borrow money from the public they can issue bonds Capital is invested in the company in the form of loans Expect the principal and interest to be returned to them Interest is the cost of money Syndicated loan market financial institutions banks group together to make a loan Like insurance companies pooling together Securitization loans there is collateral pledged Company assets legally the bank if you can t pay All specified in document what assets what terms what would trigger this problem A R is the most common because it can be collected quickly Automatically the creditors so they aren t worried about repayment because it s the most liquid asset With this you can borrow and repay like revolving credit facility The rate is dependent on your customers because of the A R so the lenders have to collect data to understand you re A R Creditors don t have voting power interest payment on debt is fully tax deductible Dividends are not tax deductible Leasing creditor legally owns the asset big form of financing Companies can rent equipment for a few years instead of buying this is an alternate form of financing Instead of borrowing money borrow asset Interest rates are nice Bank has depreciation expense which saves them some taxes Treasury bonds have no default risk and are exempt from state but not federal taxes state and local bonds have default risks and are exempt from federal but not state income taxes The yields are much lower on these than federally taxable bonds Registered bonds have a list of people who own those bonds All of the bonds in the U S for tax reasons Bearer an older secret type of bond considered a certificate Just paper so it s gone if there s a fire but secret so it can t be taxed Coupon rate annual percentage rate of interest payments generally paid every 6 months Debenture an unsecured public bond Note 10 years or fewer debentures Senior subordinate Senior 1st issued higher claims Subordinate junior document says it s later in the collection line More risk higher coupon rate Sinking fund requires a company starts putting money away prior to maturity Call and put provision changing the maturity rate Call the company can ask to end the bond early giving you the money sooner but ending the coupons Put you can call them and ask for it early Convertible exchange bond for number of stocks Bonds are quoted as a percentage of the par value 1 8s or 1 32 in treasury bonds Clean Dirty without accrued interest with accrued interest o Dirty quotes are calculated when the bond switches hands in between coupon payments Basically the new owner will get the payment for the whole period even when the previous owner owned it for part of that time To make up for that they calculate how much of that time the previous owner had it 60 days out of a 180 day period so 60 180 or 1 3 and calculate that proportion of the coupon so 1 3 of whatever the coupon is in this case Then they add that to the clean price so the previous owner can get all the money they deserve up front Bond ratings determine what coupon will be paid 3 main bond rating agencies S P Moodys and Fitch Most bonds get rated by more than one and it is required to be rated before it can be issued Investment grade big investment companies are allowed to invest in at least BBB rating These bonds have lower interest rates but are less likely to default Bond values calculating present value of all cash flows in future Periodic coupon payments PMT C Coupon payments are detailed in contracts Market rate fair return for this investment determines coupon rate Yield to maturity interest rate you earn if you buy a bond and hold on to it until maturity When the bond is issued the coupon rate market rate and yield to maturity all equal each other If the coupon rate and the market rate are the same the bond is selling at par If market rate is greater than coupon rate it is selling at a discount If market rate is less than coupon rate it is selling at a premium Current yield annual coupon bond price When calculating this remember this doesn t involve maturity at all If the bond is selling at par this is the same as the coupon rate market rate and yield to maturity Interest rate risk bond price risk that is due to interest rate changes 2 factors that can affect this risk How much time until maturity more time more risk Cash flows are getting smaller leading to more discounting Coupon rate Nominal include the effect of inflation Real rates rates with inflation rate removed Default risk how likely to repay Liquidity how frequently do the bonds trade Equity holders care about the company s growth Term structure of interest rates includes the real rate an inflation premium which usually increases throughout time and an interest rate risk premium Common stock is more difficult to value than a bond because no cash flows are known in advance the life of the investment is essentially forever and there is no way to figure out the rate of the return in the market Sometimes we can value the stock if we can assume patterns if the dividend has a zero growth rate the dividend has a constant growth rate and if the dividend grows at a constant rate after some length of time Preferred stock this consists of ownership but is almost like permanent debt in the company They are nonvoting members and can t control decisions or even elect the board But they do get dividends first which is a set amount declared in a contract If the company skips a year of dividends they have to skip paying dividends for common stock that year and preferred will be paid for both the next year Equity is usually undervalued on the balance sheet because while liabilities and debts are usually listed at fairly reasonable amounts the
View Full Document
Unlocking...