Cash flow yield analysis, Financial Management

Assignment Help:

A cash-flow yield is the discount rate that makes the price of a mortgage-backed or asset-backed security equal to the present value of its cash flows. It is equivalent to the yield to maturity measure. In mortgage-backed and asset-backed securities, because of prepayments, the cash flow is unknown; so some assumption about the prepayment rate must be made to calculate the cash-flow yield.

Different from a normal bond, which typically pays a coupon semi-annually, a mortgage-backed or asset-backed security makes monthly payments. Therefore, the investor has the opportunity to generate greater reinvestment income by reinvesting the monthly cash flows. In a treasury coupon security, bond-equivalent yield can be found out by doubling the semi-annual yield, but because of more frequent payments the same concept cannot be used in calculating the
bond-equivalent yield for mortgage-backed and asset-backed securities. The market convention is to calculate a yield so as to make it comparable to the yield to maturity on a bond-equivalent basis. The formula for annualizing the monthly cash flow yield for a monthly pay product is as follows:

         Bond-equivalent yield = 2 [(1 + iM)6 - 1]

Where, iM is the monthly interest rate that will equate the present value of the projected monthly cash flow equal to the market price (plus accrued interest) of the security.

Example: If the monthly cash flow yield is 0.8%, then the bond equivalent yield is  

2 x [(1.008)6 - 1] = 0.0979 = 9.79%.


Related Discussions:- Cash flow yield analysis

Define factor fx call or put option model price is function, List the argum...

List the arguments (variables) of which a FX call or put option model price is a function.  How does the call and put premium change with respect to a change in the arguments?

Calculate current cash debt coverage ratio, Calculate Current cash debt cov...

Calculate Current cash debt coverage ratio: Financial statements for Delta Company are presented below:   Delta Company Balance Sheet December 31, 2012

Yield on treasury bills, Treasury Bills, popularly known as T-bills, ...

Treasury Bills, popularly known as T-bills, are issued in India by the RBI on behalf of the Government of India. T-bills are short-term securities with a maturity of 91

What do you mean by working capital, Q. What do you mean by Working Capital...

Q. What do you mean by Working Capital? Meaning of Working Capital:- Working capital management is a significant aspect of financial management. In business money is necessar

Find the nominal rate of interest, (a) Find the nominal rate of interest j ...

(a) Find the nominal rate of interest j compounded quarterly which is equivalent to a 5% e ective rate of interest. (b) Which one will deliver a higher future value on a deposit

Find out weighted average cost of capital, The Beta Corporation has an opti...

The Beta Corporation has an optimal debt ratio of 40%. Its cost of equity capital is 12% and its before-tax borrowing rate is 8%.  Given a marginal tax rate of 35%, calculate (

Board of directors, Q. Board of Directors Board of Directors - Individu...

Q. Board of Directors Board of Directors - Individuals responsible for overseeing the affairs of an entity including the election of its officers. Board of a CORPORATION which

Explain about death benefit, Q. Explain about Death Benefit? Death Bene...

Q. Explain about Death Benefit? Death Benefit - Amounts received under a life insurance contract and paid by reason of death of the insured. (Even though most death benefits ar

Valuation methods, Valuation Methods: 2 - Year Method Perpetual ...

Valuation Methods: 2 - Year Method Perpetual Growth Method Constant Growth Method Zero Growth Method Growth Phases Valuation Model:  'Constant Growth Met

Define the wave of mergers in the banking industry, What is behind the wave...

What is behind the wave of mergers in the banking industry? A: Various economic factors have caused banking institutions to merge over the past various years. These factors inclu

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd