Industry

In order to analyse the YTM of a bond of a particular company within an industry, you have to find several bonds of other companies in this industry with similar maturity dates and same credit rating and use their YTM to calculate the bond’s fair value. It is essential to take bonds with not simply the similar, but the same YTM. Many unsophisticated investors look at them in order to evaluate the level of risk of investment in this company and therefore, the YTM on different credit ratings varies significantly.

In our case, all bonds have the credit rating of “A”, but none of companies within the media industry has the same. Many of them have “BBB”, the adjacent one, but the difference in yields was evident.

Therefore we had to switch to more difficult approach. We calculated the average YTM for these securities of “BBB” credit rating. Then we chose similar industries (leisure equipment & services and telecommunication in our case). For these industries we found bonds for both “A” and “BBB” credit ratings. Then we applied the ratio between average “A” and “BBB” bonds for similar industries to the average for “BBB” media industry and got the estimation of the YTM of our bonds. All this was done for the every maturity date of Disney’s bonds.

For easier understanding of this approach, let us have a look at the following table of YTMs:

Table 5 Industry Credit Rating

Credit rating	Industry X	Industry Y
A	(1.21%)	(1.43%)
BBB	(1.83%)	(2.14%)
Difference	(1.51)	(1.5)

We see a typical example of YTMs for the American economy for maturity dates in about 5 years. We can see that the YTMs are small enough and the ratio of YTMs between different credit ratings are almost the same across industries. In the stable economy with low inflation rates and for investment-grade bonds this ratio is likely to remain the same across different industries, so this approach is valid in case of Disney’s financial analysis. Please note that it is that ratio rather than difference that represents such a transition from one industry to another, because the complex rate is compounded as a product of several rates responsible for particular factors, so the ratio represents differences between the industries.

Using this approach, we got the following results:

Figure 4 Results

The weighted average price is 113.18 and weighted average fair value is 115.21. This means that on average bonds are overvalued by 1.7%, so we can conclude that there are approximately the same. In the rightmost column showing the ratio between fair value and price ratio we can see that this ratio tends to grow, which can be explained as investors prefer to buy bonds with low time to maturity in order to return their investments sooner. For the medium-term bonds of 5 years (maturing in Fall 2016) the fair value approximately equals the market value.

Date: 2015-01-29; view: 888