EFB210 Lecture Notes - Lecture 4: Dividend Yield, Debenture, Weighted Arithmetic Mean
Week 4 Finance 1 Lecture Notes
Security Valuation
Valuation
• Standard financial securities entitle the owner to a stream of payments in the future
• The value/ price of such a security is the present value of its future payments (cash
flows)
o Debit: Interest/ Coupon (C) + Repayment of Face Value (FV)
o Equity: Dividends
Debt Securities
• Bond/ Debenture (with fixed coupons)
o Securities which offer fixed interest payments (coupon) and repayment of
face value ($100 unless otherwise stated) at maturity
▪ Example 1: $100 bond, 10% annual coupon and 10 years to maturity
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• What is Kd?
o It is commonly known as the yield
o Its the constant rate that equates a bonds price to its coupon, face-value
and maturity
o It represents the market required rate of return given the current economic
cost of funds, default risk, time-to-maturity and coupon of a particular bond
• Whats the relationship between yield and price?
o Inverse! The higher the yield the lower the price and vice versa
• Something to note about bond price
o if P0 < FV, bond is selling at a discount, kd > C(%)
o if P0 = FV, bond is selling at a par, kd = C(%)
o if P0 > FV, bond is selling at a premium, kd < C(%)
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• Calculating yield
o In the market, we observe prices not yields
o How do we observe yield?
▪ By using the bond pricing formula and taking guesses (educated
guesses) until we find the Kd That equates the present value of cash
flows with the market price
▪ Well calculate yield later in the semester when we undertake the
weighted average cost of capital (WACC) lecture
o Influences on yields include:
▪ Cost of Funds
▪ Default Risk
▪ Time-to-Maturity
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