Basics of Fixed income

1. Fixed income market
By: Kendrick Chua

2. Outline of discussion
• Definition of fixed income
• Pros and cons of investing in fixed income
• Different fixed income investments available
in the market
• Computing for prices and yield
• Exercises

3. What are fixed income?
An investment that provides fixed periodic payments
and the eventual return of principal

4. Components of a fixed income

5. Advantages of investing in fixed
income

6. Disadvantages of investing in
fixed income

7. How do you earn from a fixed income?
Interest income from
periodic payments Capital appreciation
How do you earn from fixed income?

9. Long term negotiable certificate of
deposit
A long term negotiable certificate of time deposit
indicating an amount of a bank’s indebtedness with
a designated maturity

11. Preferred shares
Company shares that have higher claim than
common stocks and typically pay a fixed dividend.
2011 8%

12. Special deposit accounts
Short-term liability offered by the BSP with tenors
ranging from several days to two months
Current interest rate stands at 2.0% as of December
2013

13. Bonds
A debt instrument that promises to pay a specified
sum of money on a specified date
It’s nothing more than a glorified “utang”.

14. Bonds according to issuer:

15. Foreign currency-denominated bonds

16. What are government securities?
Evidence of indebtedness issued by the National
Government and are free from default

17. What are corporate bonds?

18. Bond yield
Yield is a figure that shows the return you get on a
bond.

19. Example 1: How much will a bond with a par value of
P1,000 and coupon rate of 8% pay an investor?
P80.00
(P1,000 par value x 8%)
P80.00
(P1,000 par value x 8%)
Coupon amount
Price

20. A debt instrument that does not pay interest but is
traded at a discount, with the face value repaid at
the time of maturity
Zero coupon bond

21. Bond prices move inversely to interest rates
Bond valuation

22. Example 2: What is the current yield if the bond price goes
down to P980?
8.16%
(P80/P980)
8.16%
(P80/P980)
Example 3: What is the current yield if the bond price goes
up to P1,020?
7.84%
(P80/P1,020)
7.84%
(P80/P1,020)

23. Yield to maturity
An attempt to measure the compounded rate of
return on a bond investment if it were held to
maturity.

24. Example 2: If a P1,000 bond with a 10.0% coupon rate was
selling for 92 and matures in 10 years, what is the yield to
maturity?
Coupon = P100 (10% X P1,000)
Annualized gain = P11.25 ([P1,000 maturity value – P920
current value]/ 10 years
Estimated average value of investment = P960
([P1,000+920/2])
P108 = 11.25%
P960

25. What is a yield curve?
Gives an idea of the future interest rate change and
economic activity
Shows the correlation between interest rate and the
time of maturity

26. Yields rise as the maturity lengthens
Normal yield curve

27. Long term yields fall below short term yields
Inverted yield curve

28. Short and long term yields are equal
Flat yield

29. Exercise 1: How much will a bond holder receive every
quarter if he invests P1M in XYZ bond that has a coupon
rate of 8%.
P20,000

30. Exercise 2: A P1,000 bond that has a coupon rate of 7%
sells in the market for P1,100. What is its yield?
6.36%

31. Exercise 3: A P1,000 bond that has a coupon rate of 12%
sells in the market for P975 What is its yield?
12.31%

32. Exercise 4: The bank is offering you two bonds to invest in.
One has a maturity of 15 years and a coupon rate of 6.5%.
The other matures in 10 years and has a coupon rate of
5.5%. The first bond sells for P1,100 and the second bond
sells for P975. Which is the better deal?
Bond B =
5.82%