Risk and Return, Time Value of Money and Credit Rating Agencies.

1. Topic
Risk and Return, Time Value of Money And
Credit Rating Agencies

2. Prepared By:
Wasif Ali Syed
(18221554-001)
Department:
Commerce
Submitted To:
Sir Saqib Mehmood

3. What is Risk?
 Risk is the variability between the
expected and actual returns.

4. Types of Risk
 Interest Rate Risk
 Market Risk
 Financial Risk
 Liquidity Risk

5. Interest Rate Risk
 It is the risk that an investment’s value will change as a result of change in interest rates. This risk
affects the value of bonds more directly than stocks.

6. Market Risk
 Market Risk refers to the variability in
returns resulting from fluctuations in
the overall market conditions

7. Financial Risk
 It is the risk associated
with the use of debt
financing. The larger
proportion of assets
financed by debt, the
larger variability in
returns, other things
remaining equal.

8. Liquidity Risk
 An investment that can be bought or sold
quickly without significant price concession is
considered liquid.
 The more uncertainty about time element and
the price concession, the greater the liquidity
risk

9. What is Return?
 Income received on an investment plus
any change in market price, usually
expressed as a percent of the beginning
market price of the investment

10. Components of Return
 Yield
The most common form of return for
investors is the periodic cash flows (income)
on the investment, either interest from bonds
or dividends from stocks.
 Capital Gain
The appreciation (or depreciation)
in the price of the asset,
commonly called the
Capital Gain (Loss)

11. Time Value Of Money
 The time value of money (TVM) is the idea that money available
at the present time is worth more than the same amount in the
future due to its potential earning capacity. This core principle
of finance holds that, provided money can earn interest, any
amount of money is worth more the sooner it is received
 Time Value of Money (TVM) is an important concept in
financial management. It can be used to compare investment
alternatives and to solve problems involving loans, leases,
saving

12. Time Value Of Money
 TVM help us in knowing the value of money invested. As time
changes value of money invested on any project/ firm also
changes. And its present value is calculated by using
“mathematical formula”, which tell us the value of money with
respect of time. i.e.

13. Reason for Time value of Money
There are certain reason which determine that money has time
value following are the reason;
 Risk and Uncertainty – As we know future is never certain
and we can’t determines the risk involved in future because
outflow of cash is in our hand as payment where as there is no
certainty for future cash inflows.
 Inflation - In an inflationary economy, the money received
today, has more purchasing power than the money to be
received in future. In other words, a rupee today represents a
greater real purchasing power than a rupee in future.
Reason for Time value of Money.

14. Reason for Time value of Money
 Consumption - Individuals generally prefer current
consumption to future consumption.
 Investment opportunities - An investor can profitably use
the received money today to get higher return tomorrow or
after a certain period of time.
e.g.- if an individual is given an alternative either to receive
Rs.10,000 now or after one year, he will prefer Rs.10,000 now.
This is because, today, he may be in a position to purchase more
goods with this money than what he is going to get for the same
amount after one year

15. Techniques of time value of money.
There are two techniques for adjusting time value of money. They
are:
 Compounding Techniques/Future Value Techniques
The process of calculating future values of cash flows. In this
concept, the interest earned on the initial principal amount
becomes a part of the principal at the end of the compounding
period.
 Discounting/Present Value Techniques
The process of calculating present values of cash flows.

16. Types of Interest
 Compounding. - It is the process of finding the future values
of cash flows by applying the concept of compound interest.
 Compound interest. - It is the interest that is received on the
original amount (principal) as well as on any interest earned
but not withdrawn during earlier periods.
 Simple interest. - It is the interest that is calculated only on
the original amount (principal), and thus, no compounding of
interest takes place.

17. What Is Credit Rating?
 An assessment of the credit
worthiness of individuals and
corporations. It is based upon the
history of borrowing and repayment,
as well as the availability of assets
and extent of liabilities.

18. Credit Rating Agencies
 A Credit rating agency (CRA) is a company
that assigns Credit ratings for issuers of certain
types of debt obligations as well as the debt
instruments themselves. In some cases, the
servicers of the underlying debt are also given
ratings.

19. Uses of Credit Ratings
By The Bond Issuers
 an independent verification of their own
credit-worthiness.
 Issuers also use credit ratings in
certain structured finance transactions.
 Advantage of credit rating advisory
services.

20. Uses of Credit Ratings
By The Govt. Regulators
 Used for several regulatory purposes .
 Role in capital formation too

21. Uses of Credit Ratings
By The Structured Finance
 determines the interest rate or price
ascribed to a particular tranche, based on
the quality of loans or quality of assets
contained within that grouping.
 help them determine how to structure the
individual tranches so that each receives a
desired credit rating

22. INTERNATIONAL AGENCIES
 MOODY’S INVESTORS SERVICES
 STANDARD AND POOR’S CORPORATION

23. MOODY’S INVESTORS SERVICES
 John Moody founded the Moody’s agency at
the beginning of the 20th century.
 It undertakes the rating of wide range of debt
related securities , international issues ,
commercial papers , etc. Both in USA and
international markets.
 Other services include- assessing financial
strength of insurance companies , mutual
funds, banks , public utilities.

24. STANDARD AND POOR’S CORPORATION
 One of the first credit rating institutions which
has a history of 157 years, founded in the year
1860.
 Offers rating on wide range of debt securities ,
both in the US and overseas markets.

25. OTHER INTERNATIONAL AGENCIES
 Duff and Phelps Credit Rating Company
 Japan Credit Rating Agency
 Fitch Investors Service
 Thomason Bank Watch
 IBCA Ltd

26. CREDIT RATING SYMBOLS
 AAA: Highest credit quality.
 AA: Very high credit quality.
 A: High credit quality.
 BBB: Good credit quality.
 BB: Speculative
 B: Highly speculative
 CCC, CC, C: High default risk

27. RATING STANDARAD AND POOR
CORPORATION