Friday, October 16, 2009


Valuation of Bond and Shares

IntroductionAsset can be real or financial, like shares and bonds are called financial assets, asset like plant and machinery are called real assets. Real assets can be valued easily but there is no easy way to predict the prices of share and bonds.
The unpredictable nature of the security prices is, in fact, a logical and necessary consequence efficient capital markets.

Concepts of ValueThere are many concepts of value that are used for different purposes,

  • Book value-Assets are recorded at historical cost, and they are depreciated over years. Book value may include intangible assets at acquisition cost minus amortized value.
  • Replacement value-Ignore the benefits of intangibles and utility of existing assets.
  • Liquidation value-If company sold its assets it would be liquidation value.
  • Going concern value
  • Market value-Price which the asset or security is being sold or brought in the market.

Features of a BondA bond is a long-term debt instrument or securities issued by the government do not have any risk default.
The main features of a bond are

  • Face value.
  • Interest rate.
  • Maturity.
  • Redemption value.
  • Market value.
Bonds maybe classified into three categories.
(1).Bonds with maturity.
(2).Pure discount bonds.
(3).Perpetual bonds.
(1).Bonds with Maturity
Issue bonds that specify the interest rate and the maturity period.
  • Value of bond with maturity
    B0=INT X [(1/Kd)-(1/Kd(1+Kd)n] Bn/(1+Kd)n
    Bond Value = Present value of interest + Present value of maturity value
  • Yield to Maturity
    Kd= INT/ B0

(2).Pure Discount Bonds
Bonds do not carry an explicit rate of interest, it provides for the payment of a lump sum amount at a future date.
  • B0 = M / (1+Kd)n

(3).Perpetual Bonds
Also called consols, has an indefinite life and therefore, it has no maturity value.
  • B0 = INT / Kd

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