Wednesday, March 28, 2018

Bond Coupon Rate and Yields

After starting this blog back in 2016, I realised that I have yet to write a single post on bonds. Let me start the bond ball rolling by explaining bond coupon rate and the two common bond yields used, current yield and yield to maturity.

Coupon Rate and Current Yield

The coupon rate of a bond is always calculated based on its par value. If a $1,000.00 bond’s annual coupon rate is 5%, the bondholder will get $50.00 per year (5% of $1,000.00 = $50.00).

Like any investments, the market value of a bond will fluctuate depending on its demand and supply. Since the coupon rate is fixed, we could use current yield calculations to see if it is higher or lower than the coupon rate.

If the market price of the bond is $950.00, the current yield would be $50.00/$950.00 x 100% = 5.26%.

If the market price of the bond is $1,050.00, the current yield would be $50.00/$1,050.00 = 4.76%.

From the calculations, it is observed that if the bond is at a premium (above the par value), the yield would be lower than the coupon rate, and vice versa if the bond is at a discount (below the par value).

Yield to Maturity

Another way to look at bond yields would be the yield to maturity (YTM). According to Investopedia, YTM is “the total return anticipated on a bond if the bond is held until it matures”1, and some bond investors prefer to look at YTM as it could be used to compare with other bonds that have different coupon rates and tenures.

Calculating YTM is a bit more difficult than calculating current yield as the former involves present value calculations, but the good news is there are online calculators available.

Providing some examples, if a $1,000.00 bond with a 5% coupon rate (paid annually) and 10-year tenure is priced at $950.00 in the financial markets, the YTM would be 5.67%. If the same bond is priced at $1,050.00 instead, the YTM is 4.37%.

Relationship Between Coupon Rate, Current Yield and YTM

From the above example calculations, we can clearly see the relationship between the coupon rate, current yield and YTM. Below shows the relationship summary conveniently.

Bond priced at par: coupon rate = current yield = YTM
Bond priced at premium: coupon rate > current yield > YTM
Bond priced at discount: coupon rate < current yield < YTM

1 – Investopedia. Yield to Maturity. (accessed 27 Mar 2018).

Sunday, March 18, 2018

Did You Miss The Sale?

Everyone loves a sale. It is during a sale period that you can shop for things at a bargain. There are sale periods in the financial markets as well, but there is a huge difference; Department stores will tell you when the sale starts and how long it will last, but financial markets will never tell you such things.

The most recent sale period was during the market downturn in early February. As above, there was no announcement that share prices were going to take a dip, and also in my post here I had stated that we do not know how long this was going to last.

Looking back, the question asked was did we miss the sale during those few days? For me, it would be yes, for I had only bought into one REIT during that period, and before I could deploy my resources, things were going back to normal.

However, we could learn something from this episode and better prepare ourselves for the next sale. Like an avid shopper, we could draw up a wishlist or shortlist of sorts.

Prepare a Shortlist

In my ebook, I had mentioned about preparing a shortlist of the financial instruments available for your Bedokian Portfolio1. The shortlist contains counters that you are interested in, but it is not at the right time to enter. Also, it could be a list of your existing counters in your portfolio with a new target price of entry.

It is entirely up to you on how much information and parameters to put in the shortlist, but it is important to keep it updated. You could pluck off the figures from Google or Yahoo finance for a first glance, and if you want to go deeper, read them off the last quarterly or annual report available from the companies’ websites.

Such a shortlist serves as a useful quick reference in a sale period, so that you could make a fast decision of whether to buy in or not.

1 – The Bedokian Portfolio, p94-95

Wednesday, March 7, 2018

A Must-Read Investment Book

When it comes to the realm of investment books, there are tons of them. Some are written by famous greats, like Benjamin Graham’s The Intelligent Investor and Peter Lynch’s One Up On Wall Street. There are also books on the different portfolio styles, like The Permanent Portfolio by Craig Rowland and J.M. Lawson, Pioneering Portfolio Management by David E. Swensen, and not forgetting my humble contribution in the form of The Bedokian Portfolio.

There is another investment book which I felt is a must-read by both beginners (for learning) and seasoned investors (for re-learning), and it is Essentials of Investments. It is written by finance professors Zvi Bodie, Alex Kane and Alan J. Marcus.

Hold On, Is This a Textbook?

Well, yes it is, and it is about 700-plus pages thick.

A school textbook usually provides the basics of a subject in a structured, topical manner, along with worked examples, problem questions and a few real-life articles pertaining to the topics covered. Essentials of Investments is just that, as it covers almost everything you need to know about investing (and trading), plus the whats, whys and hows. It talks about equities, bonds, portfolios, options, futures, basic economics, financial statements, etc. Now you know why the book is that thick.

But 700+ Pages, It May Take Too Long To Read

In my opinion, if a reader has the drive, focus and passion, no measurement of book thickness is able to stop him/her (Harry Potter book fans are a good example). Granted, however, that the mathematics and formulae inside may be a bit daunting and dry to some, but you could casually read through at your own leisure or you could just jump around the chapters; After all your time limit is not one semester.

I personally feel the key takeaways in terms of additional knowledge gained are priceless and can open additional doors in your investment journey.

Happy reading!

You can purchase Essentials of Investments from bookstores such as Amazon and Books Kinokuniya, or borrow it from the public and institutional libraries (use the respective library portals to search for it). Currently it is at the tenth edition, but you could still read up the previous editions.