EFTA01088806.pdf

GENERALIZED BOND EQUATION Initial question: coupon What will be the most profitable: To buy fewer high yield, risk etc. is the bonds, or more low coupon bonds, assuming their does an investor chose aame at the time of purchase. In other words; how etc. when the yield is between different bonds of the same maturity,risk the same for all? Initial assumption: Buy x high coupon bonds (label I) or buy y low coupon bonds (label 2). tly equal Initially therefore the value of one holdings Is exac to the value of the other holding. x.vi = y.v2 (y>x) interest rate was Diestiort After n years, during which the average the equal to kav , what Is the relationship that determines value of one holding relative to the other? The equation X vi yix .v2 - i/x2 t -h AI ( 1* kav f rt appears to describe this relationship. Here vi = Value of high couponbond after n years v2 = Value of low couponbond after n gears x = Number of high couponbonds y = Number of low couponbonds = Difference in arrual coupon income between the 2 bonds kav= Average interest rates that could have been earned on the couponpayments during the n years.(Approximation) h answer to the question therefore depends on the interest rates that Prevail on the date of sale of the holdings, and also on the interest rates axing the years the bonds were held. It is therefore not possible to select a high couponbond also versus a low couponbond, unless a forecast of interest rates is 'tact EFTA01088806  VALUE OF INVESTMENT WHEN 2000000-, INTEREST RATE IS 20% 0 10% COUPON, 1750000 1000 BONDS ••• 1500000 0 15%COUPON 4 728 BONDS 1250000 0 1000000 750000 500000 86 90 92 94 96 98 2... YEAR EFTA01088807  VALUE OF INVESTMENT WHEN 2000000 INTEREST RATE IS 10% 0 15% COUPON 728 BONDS 1750000 1500000 10%COUPON 1250000 1000 BONDS 1000000 750000 500000 88 90 92 94 96 98 2. YEAR EFTA01088808