investing in bonds. descriptive terms for bond features., review book: personal finance. retrieved...
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Investing in Bonds
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Descriptive Terms for Bond Features
., REVIEW BOOK: Personal Finance. Retrieved Oct 1, 2009 from http://www.flatworldknowledge.com/node/50890 .
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Registered and bearerZero-couponCallableWarrantsConvertibility
Language of Bond Investing
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Indenture
Face value, coupon rate, maturity date
Secured and unsecured
Senior and subordinated
Language of Bond Investing
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Interest Income
Assume you purchase $1,000 corporate bond issued by AT&T Corporation. The interest rate for this bond is 6.70%. The annual interest is $67 as shown below:
Dollar amount of annual return = Face value x interest rate
= 1,000 x 6.7%
= 1,000 x .067
= $67.00
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Corporate bonds
U.S. government securities
Treasury bills, notes, and bonds Federal agency issues
Municipal Bonds
Types of Bonds
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Approximate Bond Value
Assume you purchase a Verizon Communications bond that pays 5.5% interest based on a face value of $1,000 until maturity in 2017. Also assume new corporate bond issues of comparable quality are currently paying 7%. The approximate market value of your Verizon bond is $786 calculated as follows:
Dollar amount of annual interest = $1,000 x 5.5% = $55
Approximate market value = Dollar amount of annual interest
Comparable interest rate
= $55
7%
= $786
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Current Yield
Current yield = current annual income current market price = $55 $786 = 7%
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State and Local Government Securities
Municipal Bonds
General Obligation Bonds
Revenue Bonds
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Effective Yield of a Tax-Free Investment Not paying tax effectively increases your rate of
return you get to keep all of your profits, instead of only
a portion
Example: 28% tax bracket, 5% rate of return
= 6.94%
1001
taxbracket
r
10028.1
05.
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What is the Yield or Rate of Return on a Financial Investment?
Annualized Percentage Change:
Example: original price=$20/share, current price=$100/share, stock held for 9 years
10011
1
n
old
oldnew
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Comparison of Taxable vs Tax Exempt Investments
Tax-Exempt
Yield
15% Tax Rate
25% Tax Rate
28% Tax Rate
33% Tax Rate
35% Tax Rate
4% 4.71% 5.33% 5.56% 5.97% 6.15%
5% 5.88% 6.67% 6.94% 7.46% 7.69%
6% 7.06% 8.00% 8.33% 8.96% 9.23%
7% 8.24% 9.33% 9.72% 10.45% 10.77%
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What is the Yield or Rate of Return on a Financial Investment?
=19.58%
100120
201001
9
1
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Bond Price Calculation
Assume that a bond has a price quote of 84. The actual price for the bond is $840, as calculated below:
Bond price = Face value (usually $1,000) x bond quote = $1,000 x 84 percent = $1,000 x .84 = $840
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Bond Ratings
., REVIEW BOOK: Personal Finance. Retrieved Oct 1, 2009 from http://www.flatworldknowledge.com/node/50890 .
A plus sign (“+”) following a rating indicates that it is likely to be upgraded, while a minus sign (“-“) following a rating indicates that it is likely to be downgraded.
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Susceptibility to certain risks
Credit
Callability
Inflation
Interest rate
Considerations Before Investing in Bonds
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Premiums and discounts
Current yield
Yield to maturity
Tax-equivalent yields
When to sell
Considerations Before Investing in Bonds
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Bond Prices, Bond Yields, and Interest Rates
., REVIEW BOOK: Personal Finance. Retrieved Oct 1, 2009 from http://www.flatworldknowledge.com/node/50890 .
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Yield to Maturity
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Effective Yield of a Tax-Free Investment Not paying tax effectively increases your rate of
return you get to keep all of your profits, instead of only
a portion
Example: 28% tax bracket, 5% rate of return
= 6.94%
1001
taxbracket
r
10028.1
05.
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Pay higher interest rates than savings
Offer safe return of principle
Have less volatility than stocks
Offer regular income
Require smaller initial investment
Advantages of Investing in Bonds
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No hedge against inflation
Can be quite volatile
Compounding is almost impossible
Subject to investors tax rate
Poor marketability
Disadvantages of Investing in Bonds
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Bond Characteristics and Risk
., REVIEW BOOK: Personal Finance. Retrieved Oct 1, 2009 from http://www.flatworldknowledge.com/node/50890 .
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