Investment Management#4 2010

7/25/2019 Investment Management#4 2010

1/83

Whatsto begin

with?


2/83

Its a time toIts a time to

check ourcheck our

understandingunderstanding

of theof thepreviousprevious

sessions!!!sessions!!!


3/83

In what way, Real Assets are different from Financial Assets?

Whats the difference between Yield and Return?

Given share prices, how can one calculate ontinuouslyompoundin! Return?

What is Yield"to"#aturity? What is $%%? And, what is its relation with re!ard to short"

term capital !ains and lon!"term capital !ains?

&ow Ris' is different from (ncertainty? What is the difference between the Ris' as a measure of

variation and as measure of co"variation?

Whats the relation between ris' and return?


4/83

What are the differences between a debt instrument

and an ownership instrument?

What is a bond?

What are the junk bonds?

What is Mortgage Backed Bond?

What is an indexed bond?

Whats an appropriate measure of Return for a bond?


5/83

Whats rational onWhats rational on

Wall Street isntWall Street isnt

usually aligned withusually aligned with

the best interests ofthe best interests of

you as an investor.you as an investor.


6/83

NOW, WE MOVE ON TOOUR JOURNEY

TOWARDS FIXEDINCOME SECURITIES

BONDS


7/83

ondsonds


8/83

What we unde!tand a"#ut aBOND$$


9/83

We understand bonds as


10/83

Va%#u! t&'e! #( "#nd!

Types of Bonds:

ZERO COUPON BONDS

CONVERTIBLE BONDS

CALLABLE BONDS

PUTTABLE BONDS

FLOATING RATE BONDS

INDEXED BONDS

ASSET-BACKED BONDS

UNK BONDS


11/83

How do we evaluate BONDS?How do we evaluate BONDS?

THINK!!!THINK!!!

in terms ofin terms ofReturn anReturn anRisk!!!!!Risk!!!!!


12/83


13/83

RETURNS ON BONDS HAVERETURNS ON BONDS HAVE

DIFFERENT EANIN!S"""DIFFERENT EANIN!S"""

Returns may be Returns may be

REALIZED OR EX-POST RETURNREALIZED OR EX-POST RETURN

EXPECTED OR EX-ANTE RETURNEXPECTED OR EX-ANTE RETURN

!OLDING PERIOD RETURN!OLDING PERIOD RETURN

"IELD TO #ATURIT""IELD TO #ATURIT"

SI#PLE "IELD TO #ATURIT"SI#PLE "IELD TO #ATURIT"

"IELD TO CALL"IELD TO CALL

CURRENT "IELDCURRENT "IELD

AFTER TAX OR BEFORE TAX RETURNAFTER TAX OR BEFORE TAX RETURN

NO#INAL OR REAL $INFLATION ADUSTED% RETURNNO#INAL OR REAL $INFLATION ADUSTED% RETURN


14/83

Will interest

rates in the

economy go

up during

inflation?


15/83

Is it #e$essar% that withi#&latio#, #o'i#al i#terest

rate i#$reases with the sa'e

(er$e#ta)e?

It takes us to Fishers Eet


16/83

"IS#$%S $""$&'((("IS#$%S $""$&'(((

In "#$%& Ir'ing Fisher suggeste( thatIn "#$%& Ir'ing Fisher suggeste( that

)or(ing to this& the re*ation between nomina* interest)or(ing to this& the re*ation between nomina* interest

rate an( rea* interest rate an be shown as +rate an( rea* interest rate an be shown as +

%n ) %r * %i * %r%n ) %r * %i * %r %i%i

%n%n %r * %i%r * %i

It means that Rea* Return an be a,,ro-imate( byIt means that Rea* Return an be a,,ro-imate( by

subtrating In.ation Rate /rom Nomina* Return0subtrating In.ation Rate /rom Nomina* Return0


17/83

Return on a bon( isReturn on a bon( is

un(erstoo( in theun(erstoo( in the

sense o/sense o/1IE23 T41IE23 T4

5)TURIT15)TURIT1000000


18/83

+I$,- ' /0'1%I'+ ...+I$,- ' /0'1%I'+ ...

Return on a seurity 61T57 isReturn on a seurity 61T57 is thatthat discount ratediscount rate

which makes the present value of futurewhich makes the present value of future

cash inows from a bond equal to thecash inows from a bond equal to the

present price of a bond over its maturitypresent price of a bond over its maturity

period.period.

"T#o&&'(ed)s*o+n(&

,'-+e&ede.p()onRV

pe&)od)of*o+pon*

/ondofp&)*eP

01e&e

%$222

%$%$

(1)

=

=

=

=

+

+++

+

+

+

=n

n

r

RVc

r

c

r

cP

111 2

2

1

1


19/83

A# E*a'(leA# E*a'(le

8u,,ose that a bon( with /ae 'a*ue o/ Rs0 "&%%% has a8u,,ose that a bon( with /ae 'a*ue o/ Rs0 "&%%% has a

maturity o/ 9 years& an( ou,on o/ "%:0 I/ it ismaturity o/ 9 years& an( ou,on o/ "%:0 I/ it is

,resent*y tra(ing at Rs0 "&%;;0$;& then (etermine the,resent*y tra(ing at Rs0 "&%;;0$;& then (etermine the

1T5 o/ the bon(01T5 o/ the bon(0

1 2 8

100 100 100 1, 000.1, 055.35 ...

(1 ) (1 ) (1 )

Rs

Y Y Y

B'n?)n@- Go,( BondsB*s 5a22 a-&a* 5 '&ta" 02!+"

Our Bureau

Mumbai, Jan. 29

Bond prices ell by more than !" paise ahead o the #uarterly revie$ o themonetary policy on %ednesday. Total traded volumes on the order matchingsystem $ere &s !,'"' crore. Mar(et participants $ere apprehensive ahead o the

monetary policy and $ere cutting their positions. The domestic bond mar(et $asalso trac(ing the hardening )* !'-year yield, $hich inched up to +. per cent+. per cent/. 0Traders $ere staying light ahead o the policy revie$. The vie$is that the central ban( is li(ely to hi(e the reverse-repo and repo rates,0 said adealer at a private ban(.


51/83

CONNECTIN8 T5EORY TO6RACTICE 111

Ass+.e (1'( yo+ /+y ' 53-ye'& /ond 0)(1 *o+pon 537 p2'2(od'y '( ' y)ed (o .'(+&)(y of 7 'nd )n(e&es( &'(es s1oo(

+p (o =7 (1e ,e&y ne( d'y2 1'( 1'ppens (o yo+&

)n,es(.en(

A. Yu 2s& '&".

B. Yu 'a8& '&".

C. Nt-: -a00&s.

D. A22 5 t-& a31&.

D+&)n@ )nf'()on )n(e&es( &'(es )n*&e'ses o,e& (1e pe&)od of

().e2 T1e&efo&e peope )?e (o )n,es( .o&e )n /onds

&es+()n@ )n )n*&e'se )n p&)*es of /ond2 Do yo+ '@&ee 0)(1

(1e s('(e.en( G),e &e'sons2

Assume that you have been


52/83

Assume that you have been

offered the following two bonds...

BOND A: I( )s 1',)n@ ' .'(+&)(y of 9 ye'&s 'nd )s

p'y)n@ ' y)ed-(o-.'(+&)(y of 5972

BOND B: I( )s 1',)n@ ' .'(+&)(y of 53 ye'&s 'nd )s

p'y)n@ ' y)ed-(o-.'(+&)(y of 597

Are %ou i#di&&ere#t/etwee# these two /o#ds?


53/83

If you say NO, it means that

for dierent maturityperiods, you need dierentYTMs.

-oes it mean that there is

some relation between +'/

and time to maturity(


54/83

Be(#e we an!we %t, *et!

9!t unde!tand:

;S6OT Intee!t Rate!

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Investment Management#4 2010