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19 Cards in this Set
- Front
- Back
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Discount future cash flows to Present Value (formula) |
PV = C1/(1+r) + C2/(1+r)² + C2/(1+r)³ + ... |
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Express PV as function of FV after n years (assuming no coupons, just PV of future amount)
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PV = FV/(1+r)ⁿ
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GRY - 2 main underlying assumptions |
1. Bond is held until maturity date 2. All coupons immediately reinvested at same GRY |
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Arithmetic return |
Simple average return over n years |
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Geometric Return - 4 steps to calculate |
1. Convert each annual return to decimal, e.g. 10% = 1.1 2. Multiply each annual return 3. Calculate the nth root of this figure 4. Express answer as %, e.g. 1.0594 = 5.94% |
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Calculate geometric return from known PV and FV, over n years (3 steps) |
1. Calculate total return = FV/PV 2. Calculate nth root of total return 3. Express answer as % return |
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Calculate impact of yield changes on return (geometric), over n years (7 steps) |
1. Calculate PV
2. Calculate capital gain/loss per €100 nominal 3. Sum income received to date 4. Calculate total gain loss 5. Sum 3 + 4 6. Express as % return over n years 7. Calculate geometric return (convert to decimal and take nth root) |
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Duration - definition |
Weighted average maturity of a bond's cash flows on a present value basis |
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Calculate Macauley Duration - 3 steps |
1. Discount all FVs to PV 2. Weight (multiply) by time to maturity 3. Divide by price of bond = duration |
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Relationship between Maturity & Duration |
More time to maturity = higher duration |
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Relationship between Coupon & Duration |
Higher coupon = Lower duration (higher cash flows received earlier) |
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Modified Duration - definition |
Formula to determine the effect that a 1% change in interest rates will have on the price of a bond. |
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Modified Duration - formula |
Divide Macauley Duration by 1 + GRY (1.0X) |
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Term premium - meaning |
Difference between long-term and short-term yields on fixed rate bonds |
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Credit spread - meaning |
Differences in yields between higher risk & lower risk bonds |
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Fix rate bonds - advantages (4) |
1. Income fixed in nominal terms 2. Capital Gains if yields fall 3. Principal repaid at par (in nominal terms) 4. Nominal Return (GRY) certain if held to maturity |
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Fix rate bonds - disadvantages/risks (3) |
1. Rising inflation 2. Rising interest rates (yields) 3. Credit Risk |
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Index-linkedbonds - advantages (4) |
1. Income rises with inflation 2. Capital Gains if yields fall 3. Principal repaid at par (adjusted for inflation) 4. Real Return certain if held to maturity |
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Index-linked bonds - disadvantages/risks (3) |
1. Falling inflation 2. Rising interest rates (yields) 3. Credit risk |
