What Is an Interest Rate?

The interest rate is the amount a lender charges for the use of assets expressed as a
percentage of the principal. The interest rate is typically noted on an annual basis known as
the annual percentage rate (APR). The assets borrowed could include cash, consumer
goods, or large assets such as a vehicle or building.

For loans, the interest rate is applied to the principal, which is the amount of the loan. The
interest rate is the cost of debt for the borrower and the rate of return for the lender.

When Are Interest Rates Applied?

Interest rates apply to most lending or borrowing transactions. Individuals borrow money to
purchase homes, fund projects, launch or fund businesses, or pay for college tuition.
Businesses take loans to fund capital projects and expand their operations by purchasing
fixed and long-term assets such as land, buildings, and machinery. Borrowed money is
repaid either in a lump sum by a pre-determined date or in periodic installments.

The money to be repaid is usually more than the borrowed amount since lenders require
compensation for the loss of use of the money during the loan period. The lender could have
invested the funds during that period instead of providing a loan, which would have
generated income from the asset. The difference between the total repayment sum and the
original loan is the interest charged. The interest charged is applied to the principal amount.

How Interest Rates Drive Economic Growth

A country's central bank sets interest rates. High interest rates make loans more
expensive. When interest rates are high, fewer people and businesses can afford to borrow.
That lowers the amount of credit available to fund purchases, slowing consumer demand. At
the same time, it encourages more people to save because they receive more on
their savings rate. High-interest rates also reduce the capital available to expand
businesses, strangling supply. This reduction in liquidity slows the economy.

Low interest rates have the opposite effect on the economy. Low mortgage rates
have the same effect as lower housing prices, stimulating demand for real estate. Savings
rates fall. When savers find they get less interest on their deposits, they might decide to
spend more. Low-interest rates make business loans more affordable. That encourages
business expansion and new jobs.

PHILIPPINES CUTS POLICY INTEREST RATE TO 4.25%

The central bank of the Philippines lowered its overnight reverse repurchase facility by
25bps to 4.25 percent during its August meeting, saying inflation expectations have
moderated further amid weakening global growth. Meanwhile, data showed the country's
economic growth slowed to an over four-year low in the second quarter of the year.
Policymakers also noted that the benign inflation outlook provides room for a further
reduction in the policy rate.
 Bangko Sentral ng Pilipinas policy statement:

At its meeting on monetary policy today, the Monetary Board decided to cut the
interest rate on the BSP’s overnight reverse repurchase (RRP) facility by 25 basis points
(bps) to 4.25 percent. Accordingly, the interest rates on the overnight deposit and lending
facilities were reduced to 3.75 percent and 4.75 percent, respectively.

The Monetary Board noted that prospects for global economic activity are likely to
remain weak amid sustained trade tensions among major economies. Domestically, the
outlook for growth continues to be firm on the back of a projected recovery in household
spending and the accelerated implementation of the government’s infrastructure spending
program, after the delay in expenditures due to the legislative impasse in the approval of the
budget in January to April 2019.

On balance, therefore, the Monetary Board believes that the benign inflation outlook
provides room for a further reduction in the policy rate as a pre-emptive move against the
risks associated with weakening global growth. Going forward, the BSP will continue to
monitor price and output conditions to ensure that monetary policy remains appropriately
supportive of sustained non-inflationary economic growth over the medium term.

Calendar GMT Actual Previous Consensus TEForecast

2019-03-21 08:00 AM Interest Rate Decision 4.75% 4.75% 4.75% 4.75%

2019-05-09 08:00 AM Interest Rate Decision 4.5% 4.75% 4.5% 4.5%

2019-06-20 08:00 AM Interest Rate Decision 4.5% 4.5% 4.25% 4.5%

2019-08-08 08:00 AM Interest Rate Decision 4.25% 4.5% 4.25% 4.25%

2019-09-26 08:00 AM Interest Rate Decision 4.25% 4%

2019-11-14 08:00 AM Interest Rate Decision 4%

2019-12-12 08:00 AM Interest Rate Decision 4%

An Introduction to Bonds

What are Bonds?

Bonds form a significant portion of the financial market and are a key source of capital for
the corporate world

A bond is a debt instrument that provides a periodic stream of interest payments to investors
while repaying the principal sum on a specified maturity date. A bond’s terms and conditions
are contained in a legal contract between the buyer and the seller, known as the indenture.

Key Bond Characteristics

a) Face Value

The face value (also known as the par value) of a bond is the price at which the bond is sold
to investors when first issued; it is also the price at which the bond is redeemed at maturity.

b) Coupon Rate

The periodic interest payments promised to bond holders are computed as a

fixed percentage of the bond’s face value; this percentage is known as the coupon rate.

c) Maturity

A bond’s maturity is the length of time until the principal is scheduled to be repaid.
Occasionally a bond is issued with a much longer maturity; There have also been a few
instances of bonds with an infinite maturity; these bonds are known as consols. With a
consol, interest is paid forever, but the principal is never repaid.

d) Call Provisions

Many bonds contain a provision that enables the issuer to buy the bond back from the
bondholder at a pre-specified price prior to maturity. A bond containing a call provision is
said to be callable. This provision enables issuers to reduce their interest costs if rates fall
after a bond is issued, since existing bonds can then be replaced with lower yielding
bonds. Since a call provision is disadvantageous to the bond holder, the bond will offer a
higher yield than an otherwise identical bond with no call provision.
e) Put Provisions

Some bonds contain a provision that enables the buyer to sell the bond back to the issuer at
a pre-specified price prior to maturity. This price is known as the put price. A bond
containing such a provision is said to be putable. This provision enables bond holders to
benefit from rising interest rates since the bond can be sold and the proceeds reinvested at a
higher yield than the original bond. Since a put provision is advantageous to the bond
holder, the bond will offer a lower yield than an otherwise identical bond with no put
provision.

f) Sinking Fund Provisions

Some bonds are issued with a provision that requires the issuer to repurchase a fixed
percentage of the outstanding bonds each year, regardless of the level of interest rates. A
sinking fund reduces the possibility of default; default occurs when a bond issuer is unable to
make promised payments in a timely manner. Since a sinking fund reduces credit risk to
bond holders, these bonds can be offered with a lower yield than an otherwise identical bond
with no sinking fund.

BOND PRICING

the price of a bond and its yield-to-maturity are negatively correlated to each other.
When the yield-to-maturity is higher than the coupon rate, the price of a bond is less than the
face value and vice-versa. Usually bonds are issued at coupon rates close to the prevailing
interest rate, so that they can be sold close to their face values.

However as time passes, bonds frequently trade at prices that are different from their
face values. While two parties can agree on a price and execute a trade, a vast majority of
bonds are sold either through a public sale or through an exchange platform and the price of
the bond is thus determined by the market, and as a result, may vary every minute.

The price of a bond issued by a party is directly linked to the credit rating of that
party, since there is always a default risk associated with a bond, which means that the
borrower might not be able to pay the full or partial amount of the loan taken. So, bonds with
low ratings, called junk bonds, are sold at lower prices and those with higher ratings, called
investment-grade bonds, are sold at higher prices.

When interest rates rise, bond prices fall, which results in a rise in yields of the older
bonds and brings them into the same category as newer bonds being issued with higher
coupons and vice-versa.
INTRODUCTION

• Bonds are Long-term fixed income securities. Debentures are also long-term fixed income
securities. Both of these are debt securities.

• The two major categories of bonds are

– Government bonds

– Corporate bonds.

• There are the two main features of bonds such as Callability and Convertibility

Theorem 1

If bond market price increases

Then its yield must decrease 

Conversely if a bond market price decreases 

Then its yield must increase

Theorem 2 

Bond Price Variability is directly related to the term to maturity 

For the given change in the level of market interest rate, the change in bond prices are greater for
long term maturity

Theorem 3

If the bond's yield does not change over its life 

Then the size of its discount or premium will decrease

At an increasing rate as it life shortens

Theorem 4

The percentage change in a bond’s price owing to change in its yield

Will be smaller if the coupon rate is higher

. Theorem 5

 A decrease in a bonds yield will rise the bonds price by an amount that is Greater in size than the
corresponding fall in the bonds price that would occur if there where an equal sized increase in the
bonds yield 

The price-yield relation is convex

. CONVEXITY Definition A measure of a curvedness of the price-yield relationship 17