Inv - Type/Char Fixed Income

b -An investment adviser representative has a client who needs a safe, secure investment that generates regular income. Which of the following choices would be appropriate? U.S. Treasury bill. U.S. Treasury bond. U.S. Treasury note. U.S. Treasury STRIP. A)II and IV. B)II and III. C)I and IV. D)I and II.

B)II and III. Treasury Bills and STRIPS are purchased at a discount and pay no interest so neither of them would be appropriate investments based upon the client's need for regular income.

b- A client has a TIPS with a coupon rate of 3.5%. The inflation rate has been 4% for the last year. What is the inflation-adjusted return? A)7.50% B)-0.50% C)3.50% D)4.00%

C)3.50% Treasury Inflation Protected Securities (TIPS) adjust the principal value each 6 months to account for the inflation rate. Therefore, the real rate of return will always be the coupon.

dur - If a bond has a long duration, it will: A)be more sensitive to small changes in interest rates than a bond with a shorter duration. B)continue paying interest into perpetuity. C)be relatively unaffected by small changes in interest rates. D)be less sensitive to small changes in interest rates than a bond with a shorter duration.

A)be more sensitive to small changes in interest rates than a bond with a shorter duration. Duration measures how sensitive a bond will be to a small change in interest rates. The longer the duration of a bond, the more volatile (sensitive to interest rate changes) it will be.

A client has indicated that his primary objective is maximizing current income regardless of the risk. Which of the following mutual funds would probably be most suitable for achieving that goal? A)ABC Growth and Income Fund. B)DEF High Yield Bond Fund. C)JKL Municipal Bond Fund. D)GHI Index Fund.

B)DEF High Yield Bond Fund. High yield (junk) bonds, although carrying more risk, produce higher current income than other funds.

Ginnie Mae pass-throughs will pay back both principal and interest: A)quarterly. B)monthly. C)annually. D)semiannually.

B)monthly. Ginnie Mae (GNMA) securities are called pass-through certificates because the monthly home mortgage payments, which consist of both principal and interest, pass through to the GNMA investor monthly.

With respect to safety of principal, of the following investments, the least risky is: A)equity options. B)common stock. C)corporate AA debentures. D)exchange-listed warrants.

C)corporate AA debentures. The least risky investment listed is the corporate debenture because, as a debt instrument, it has priority over the others.

Which of the following issues is most affected by credit risk? A)common stock. B)preferred stock. C)corporate zero-coupon bonds. D)debentures.

C)corporate zero-coupon bonds. Credit risk is the risk of default, found only with debt instruments. Although debentures are issued strictly on the issuer's credit rating, they have the advantage over any zero-coupon bond in that interest payments begin approximately six months after issuance while in a zero-coupon bond, nothing is paid until maturity date.

dur -A bond's duration is: A)expressed as a percentage. B)identical to its maturity for an interest-bearing bond. C)longer for a 10-year bond with a 5% coupon than it is for a 10-year bond with a 10% coupon. D)an indication of a bond's yield that ignores its price volatility.

C)longer for a 10-year bond with a 5% coupon than it is for a 10-year bond with a 10% coupon. Duration measures a bond's price volatility by weighting the length of time it takes for a bond's cash flow to pay for itself. If two bonds with differing coupon rates have identical maturities, the one with the lower coupon has the longer duration. The cash flow from an interest-bearing bond makes its duration shorter than its maturity. Bonds with longer duration carry greater price volatility. Duration is expressed in years (time) rather than in percentage.

Corporate bonds that are issued on the general credit of the issuer and are NOT otherwise secured are called: A)consolidated mortgages. B)participating. C)convertible. D)debentures.

D)debentures. Debentures are corporate bonds issued on the general credit of the corporation and are not backed by any specific assets.

b - Which of the following bonds is most affected by interest rate risk? A)7s of '22 yielding 7%. B)7.6s of '31 yielding 7.2%. C)7.8s of '27 yielding 7.3%. D)7.5s of '24 yielding 7.2%.

B)7.6s of '31 yielding 7.2%. Interest rate risk is the loss in value due to a rise in interest rates. Since there is little difference in coupon rates, the bond with the longest maturity (highest duration) will experience the greatest fall in a rising interest rate market.

dis -A method of valuing an investment, particularly debt securities, by calculating what future cash returns will be worth at the time they are received, based on estimates of future inflation and interest rates is known as A)net present value B)dividend discount model C)discounted cash flow D)yield to maturity

C)discounted cash flow This is the basic definition of discounted cash flow, a useful tool in determining the value of debt securities.

b -A TIPS bond is issued in the principal amount of $1,000, paying 3.5%. Over the security's 5-year term, the inflation rate is 4%. What is the principal value of the bond at the end of 5 years? A)$1,000. B)$1,200. C)$1,440. D)$1,219.

D)$1,219. In addition to paying interest, a TIPS bond increases its principal value semiannually by the amount of inflation. If the inflation rate is 4% for 5 years, the principal value of the bond increases semiannually by that inflation rate. Allowing for compounding, the best choice would be the $1,219. This is computed by multiplying $1,000 by 102% 10 times.

b -Which of the following best describes that which secures a debenture issued by an industrial corporation? A)The assets of a company other than the issuing company. B)The mortgages and real estate of the issuing company. C)The securities of the issuing company. D)The assets of the issuing company.

D)The assets of the issuing company. Debentures are general obligations of the issuing company. They are actually backed by the assets of the company. Prior claims to those specific assets by secured debt issues take precedence over the debentures.

b -Of the following securities, which is most commonly recommended to fund a child's college education? A)Investment-grade corporate bonds. B)Municipal bonds. C)Zero-coupon Treasury bonds. D)Treasury bills

C)Zero-coupon Treasury bonds. Zero-coupon bonds, particularly those carrying the guarantee of the US Treasury, are a favored investment vehicle for saving for a child's higher education. They have the advantage of providing a certain, quantifiable sum at a certain date in the future.

Bondholders are paid interest: A)after the common stockholders are paid, but before the preferred stockholders are paid. B)after the preferred stockholders receive their dividends, but before the common stockholders are paid. C)before both the preferred and the common stockholders are paid. D)at any time determined by the board of directors.

C)before both the preferred and the common stockholders are paid. Dividends are paid to both preferred and common stockholders only after interest has been paid on all of the corporation's outstanding debts and debt securities.

All of the following statements regarding Government National Mortgage Association (GNMA) pass-through securities are true EXCEPT: A)investors receive a monthly check representing both interest and a return of principal. B)investors own an undivided interest in a pool of mortgages. C)GNMAs are considered to be the riskiest of the agency issues. D)the minimum initial investment is $25,000.

C)GNMAs are considered to be the riskiest of the agency issues. GNMA securities, which are backed by the full faith and credit of the U.S. government, are considered to be the safest of the agency issues.

Which of the following debt instruments generally present the least amount of default risk? A)Municipal revenue bonds. B)High-yield corporate bonds. C)Municipal general obligation bonds. D)Convertible senior debentures.

C)Municipal general obligation bonds. Because the full taxing power of the municipality backs a general obligation municipal bond, it will exhibit the least amount of default risk. A corporate debenture is an unsecured bond with a greater degree of risk, as is a junk or high-yield corporate bond.

b -Which of the following debt instruments is unsecured? A)Junior lien mortgage bonds. B)Collateral trust certificates. C)Equipment trust certificates. D)Aaa/AAA rated debentures.

D)Aaa/AAA rated debentures. Corporate debentures are unsecured bonds backed by the credit of the issuing corporation; they are not secured by underlying collateral. Mortgage bonds are secured with real estate serving as collateral. Collateral trust bonds are secured by securities that a corporation owns in other companies or bonds. Equipment trust certificates are secured by transportation equipment owned by the corporation.

Which of the following regarding corporate debentures are TRUE? They are certificates of indebtedness. They give the bondholder ownership in the corporation. They are unsecured bonds issued to finance capital expenditures or to raise working capital. They are the most senior security a corporation can issue. A)II and IV. B)I and III. C)III and IV. D)I and II.

B)I and III. Debentures are debt securities that represent unsecured loans of the issuer. They are senior to common and preferred stock in claims against an issuer. They are issued to finance capital expenditures or raise working capital.

Which of the following statements are NOT true concerning revenue bonds? They are secured by a specific pledge of property. They are a type of general obligation bond. Generally, their interest is tax-exempt at the federal level. They are analyzed primarily on the project's ability to generate earnings. A)I and III. B)I and II. C)III and IV. D)II and IV.

B)I and II. Revenue bonds are not secured by a specific pledge of property and are not a type of general obligation bond. They are secured by user fees, such as tolls.

b -Which of the following investments gives the investor the least exposure to reinvestment risk? A)Common stock in an electric utility. B)Treasury STRIPS/zero-coupon bonds. C)Preferred stock in a growth company. D)Treasury notes.

B)Treasury STRIPS/zero-coupon bonds. Treasury STRIPS (Separate Trading of Registered Interest and Principal of Securities) are zero-coupon bonds paying no interest. Thus, there is no income to reinvest during the holding period and therefore no reinvestment risk.

dis -A client interested in fixed income is viewing different bonds with the same rating and a coupon of 5%. Using the discounted cash flow method, which bond should have the highest market value? A)6 year maturity when the discount rate is 3% B)6 year maturity when the discount rate is 7% C)12 year maturity when the discount rate is 7% D)12 year maturity when the discount rate is 3%

D)12 year maturity when the discount rate is 3% Remember, the discount rate is just another way of stating the current interest rate in the marketplace. If the discount rate is higher than the coupon rate, the expected market price, (the present value), will be below par. Conversely, if the discount rate is lower than the coupon rate, the present value will be above the par value. As we've learned with duration, when interest rates change, the longer the time to maturity, the greater the effect on the market price of a bond.

b -All of the following are money market instruments EXCEPT: A)jumbo (negotiable) CDs. B)Treasury bills. C)commercial paper. D)newly issued Treasury notes.

D)newly issued Treasury notes. Money market securities have a maximum maturity of 1 year. Treasury notes are issued with maturities of 2 to 10 years. Treasury bills are money market instruments with maturities of 6 months or less. Jumbo CDs are issued by banks and have maturities of 1 year or less. Commercial paper (issued by corporations) is unsecured short-term debt with maturities of 270 days or less.

dur -A company has two outstanding bond issues, both with a coupon rate of 8%. Bond A will mature in 2 years while Bond B will mature in 15 years. If market interest rates were to increase to 10%, which of the following statements is CORRECT? A)The company will attempt to postpone the maturity of Bond A. B)Bond B will be selling at a greater discount than Bond A. C)Both bonds will be selling at a premium. D)Bond B will be selling at a greater premium than Bond A.

B)Bond B will be selling at a greater discount than Bond A. An increase in interest rates in the marketplace will cause the price of a debt security to fall. The nearer the maturity, the shorter the duration, hence the less impact. Therefore, Bond B with a much longer maturity (and longer duration), will see its market price fall far more than Bond A.

b -For a bond selling at a discount, the yield to maturity will be: A)equal to the nominal yield. B)higher than the nominal yield. C)lower than the nominal yield. D)higher than the yield to call.

B)higher than the nominal yield. Yield to maturity is a measure of the total return on a long-term bond, including capital appreciation and interest, while nominal yield measures the interest rate stated on the face of the bond. An investor who buys a $1,000 bond at a discount (for less than $1,000) will receive the interest payments on the bond at the nominal rate and will still receive $1,000 for the bond when it matures. As a result, the total return will be higher than the nominal yield. When a bond is selling at a discount the YTC will always be higher than the YTM.

b -Market interest rates rise by 50 basis points. If each of these bonds has about the same maturity date, which of the following would decline the least? A)AAA corporate bond carrying a 6% coupon. B)Treasury bond issued at par carrying a 6% coupon. C)Treasury bond issued at par carrying a 7% coupon. D)AA corporate bond carrying a 7% coupon.

C)Treasury bond issued at par carrying a 7% coupon. All other factors being equal, bonds of higher quality experience less price volatility than do bonds of lower quality. Treasury securities have higher quality than other debt securities due to the elimination of default risk. When market interest rates rise, bonds having higher coupons will decline less than bonds having lower coupons.

b -Which of the following U.S. government securities do NOT bear a stated interest rate but are sold at a discount through weekly auctions? A)Treasury notes. B)TIPS. C)Treasury bonds. D)Treasury bills.

D)Treasury bills. Treasury bills bear no stated interest rate. They are sold at a discount through weekly auctions and are actively traded in the money market. Treasury notes and Treasury bonds as well as Treasury Inflation Protection Securities (TIPS), all carry stated interest rates.

Your client has been saving for the purchase of a home. She calls to tell you that her bank CD matured and she is not pleased with the renewal rate offered by the bank. The client plans to purchase the home within the next 9-12 months and will probably need these funds for the down payment. Which of the following would be the most suitable recommendation? A)Treasury bills. B)Public utility stock paying liberal dividends. C)Large-cap stock. D)Growth stock.

A)Treasury bills. When customers need access to funds within a short period of time, their primary consideration is liquidity. The most suitable investment recommendation for this client is US Treasury bills, which are highly liquid and safe. In addition, recommending investments in stocks that carry market risk to a client who traditionally purchases bank CDs may not meet the client's nonfinancial considerations.

dur -An investment adviser representative has a client who prefers the safety of securities guaranteed by the U.S. Government, yet is concerned about volatility due to uncertainties in the future direction of interest rates. Which of the following recommendations would best address these concerns? A)Treasury STRIPS, maturing in 2036. B)8% Treasury bond maturing in 2036. C)6% Treasury bond maturing in 2035. D)5% Treasury bond, maturing in 2037.

B)8% Treasury bond maturing in 2036. Generally speaking, those bonds with the highest coupons have the shortest duration, therefore, are the least subject to interest rate risk. STRIPS, which are zero-coupon bonds, are the most volatile since they have the longest duration. The actual calculation of the duration of each of the other bonds given is beyond the scope of this exam.

dur-Of the following bonds, which has the greatest price volatility? A)AA corporate bond with 7 years to maturity. B)Zero-coupon bond with 15 years to maturity. C)Zero-coupon bond with 5 years to maturity. D)Corporate bond fund.

B)Zero-coupon bond with 15 years to maturity. The longer the duration of a bond, the greater the volatility will be of its market price when interest rates change. Because zero-coupon bonds do not make interest payments but are priced at a deep discount to par value, they are more volatile than coupon-bearing bonds.

b -A bond issued by the GEMCO Corporation has been rated BBB by a major bond rating organization. This bond would be considered: A)callable. B)an investment grade corporate bond. C)secured. D)a high-yield corporate bond.

B)an investment grade corporate bond. An investment-grade bond has a bond rating between AAA and BBB. Lower-rated bonds are considered high-yield bonds and are often referred to as junk bonds The bond may or may not be secured: the rating does not indicate that fact.

Which of the following statements about zero-coupon bonds are TRUE? b- Zero-coupon bonds are sold at a deep discount from face value. Zero-coupon bonds pay periodic interest payments. The owner of a zero-coupon bond receives his return only at maturity. A)I, II and III. B)I and II. C)I and III. D)II and III.

C)I and III. A zero-coupon bond is a type of debt security that pays no periodic interest payments. Instead, the investor receives his return only at maturity, when the bonds are redeemed. Zero-coupon bonds are sold at a deep discount from face value, but are redeemed at full face value when they mature.

dis -One popular method of determining the value of certain securities is discounted cash flow. Using the DCF with the current discount rate at 3%, which of the following would be expected to have the highest market value? A)Bay Area Rapid Transit Authority 4% revenue bond maturing in 15 years B)XYZ Corporation mortgage bond maturing in 10 years with a coupon of 4.5% C)U.S. Treasury bond maturing in 20 years with a 4% coupon D)ABC Corporation debenture maturing in 25 years with a 5% coupon

D)ABC Corporation debenture maturing in 25 years with a 5% coupon The current discount rate represents market interest rates. At 3%, each of these bonds should sell at a premium (their coupon rates are higher than 3%). When a bond is paying interest at a rate higher than the current market rate, the longer the investor will be receiving that higher rate, the higher the premium. Therefore, the 5% bond with 25 years to maturity will have the highest present value using the DCF.

Rank the following from highest to lowest yield when a bond is trading at a premium. Current yield. Nominal yield. Basis or yield to maturity. A)I, II and III. B)III, II and I. C)I, III and II. D)II, I and III.

D)II, I and III. Trading at a premium indicates that current interest rates are lower than when the bonds were issued. The nominal (coupon) yield is the highest, followed by the current (annual income) yield, then the yield to maturity (basis).

Corporate bonds are considered safer than common stock issued by the same company because: A)if there is a shortage of cash, dividends are paid before interest. B)bonds place the issuer under an obligation but stock does not. C)bonds and similar fixed-rate securities are guaranteed by SIPC. D)the par value of bonds is generally higher than that of stock.

B)bonds place the issuer under an obligation but stock does not. A bond represents a legal obligation to repay principal and interest by the company. Common stock carries no such obligation, and is therefore considered riskier.

dis -Some analysts use the discounted cash flow to determine the theoretical value of a debt security. Under DCF, the bond price can be summarized as the sum of the A)future value of the par value repaid at maturity plus the future value of the coupon payments B)future value of the par value repaid at maturity plus the present value of the coupon payments C)present value of the par value repaid at maturity plus the future value of the coupon payments D)present value of the par value repaid at maturity plus the present value of the coupon payments

D)present value of the par value repaid at maturity plus the present value of the coupon payments A bond's price can be calculated using the present value approach. As with any security or capital investment, the theoretical fair value of a bond is the present value of the stream of cash flows it is expected to generate. Therefore, the value of a bond is obtained by discounting the bond's expected cash flows to the present using an appropriate discount rate. The two choices using future value of the par value at maturity make no sense because we already know that is $1,000 (or whatever the par value might happen to be).

b -On the initial public offering, an investor buys a $10,000 Aa rated 20 year corporate bond with a 4% coupon rate. One year later, the prevailing market rate is 5% and the bond has had its rating increased to Aa1. Which of the following is most likely true with reference to the current market price of this bond? A)Cannot be determined from the information given B)Discount C)Par value D)Premium

B)Discount When interest rates go up, bond prices go down. Had interest rates remained the same, the slight improvement in rating would have probably caused the bond to sell at a very slight premium, but that rating increase is not nearly strong enough to offset a 25% increase in market interest rates.

b - If interest rates fall, which of the following bonds would be most affected? A)Long-term maturities with high coupons. B)Long-term maturities with low coupons. C)Short-term maturities with low coupons. D)Short-term maturities with high coupons.

B)Long-term maturities with low coupons. As a general statement, the longer it has to maturity, the more a bond will react to changes in interest rates. In addition, discount bonds (lower than market coupons) will react more than premium bonds (higher than market coupons) because they have a longer duration. Thus, long-term bonds with low coupons will react more to rate changes than other bonds. Conversely, short-term bonds with high coupons will react the least to changes in interest rates.

dur -Which of the following statements regarding the properties of duration is NOT true? A)Duration is a weighted-average term-to-maturity of a bond's cash flows. B)Duration measures a bond's price volatility by weighting the length of time it takes for a bond to pay for itself. C)Duration measures the holding period return on a bond. D)Duration measures the effect of an interest rate change on the price of a bond or bond portfolio.

C)Duration measures the holding period return on a bond. Duration does not measure the holding period return on a bond, it measures the effect of an interest rate change on the price of a bond or bond portfolio. Duration measures a bond's price volatility by weighting the length of time it takes for a bond to pay for itself. Duration is also a weighted-average term-to-maturity of a bond's cash flows.

dis -Which of the following methods of calculating investment returns are discounted cash flow (DCF) techniques? Net present value (NPV). Holding period return (HPR). Internal rate of return (IRR). A)I and III. B)II and III. C)I and II. D)I, II and III.

A)I and III. A discounted cash flow (DCF) technique is one that takes into account the time value of money. Holding period return (HPR) is the total of the income cash flows and capital growth earned by an investment during the period for which it is held. It does not take into account the time value of money. Both net present value (NPV) and internal rate of return (IRR) take the time value of money into account.

Which of the following are discretionary orders? A customer sends a check for $25,000 to an agent and instructs the agent to purchase bank and insurance company stocks when the price appears favorable. A customer instructs an agent to buy 1,000 shares of ABC Corporation at a time or price determined by the agent. A customer instructs an agent to purchase as many shares of XYZ as the agent considers appropriate. A customer instructs an agent to sell 300 shares of LMN, Inc., when the agent deems the time or price appropriate. A)II and IV B)I and III C)I and IV D)II and III

B)I and III Discretion authorizes a representative to choose the security, the amount of shares, or whether to buy or sell. Time or price alone are not discretionary decisions.

b -An investor purchases zero-coupon bonds issued by the U.S. Treasury due to mature in 18 years at $100,000. Which of the following might describe the primary reason for selecting that investment vehicle? The investor is 65 years old and needs the reliability of current income. The investor is 45 years old and has purchased these in an IRA rollover account and wants the assurance of funds for retirement. The investor is 30 years old and has a newborn child and wishes to assure funds for a college education. The investor is 20 years old, has just received an inheritance, and wishes to shelter income for as long as possible. A)III and IV. B)I and IV. C)II and III. D)I and II.

C)II and III. Zero-coupon bonds maturing in 18 years would assure the 45-year-old of the face value at age 63. Being in an IRA, there would be no current taxation and, upon maturity, if desired, the funds could be distributed without the 10% penalty. Zero-coupon bonds are one way to guarantee funds for college education. However, with no current income, they would not be suitable for the 65-year-old and would not offer any tax shelter to the 20-year-old.

b -Which of the following indicates a bond selling at a discount? A)7% coupon yielding 7.5% B)10% coupon yielding 9% C)5% coupon yielding 5% D)7% coupon yielding 6.5%

A)7% coupon yielding 7.5% Whenever the yield is higher than the coupon, the bond is selling at a discount from the par value.

Managers of bond portfolios who anticipate an increase in interest rates should: A)invest in high-yield or junk bonds. B)decrease the portfolio duration. C)increase the portfolio duration. D)assume higher risk in the secondary market.

B)decrease the portfolio duration. A bond portfolio manager who anticipates periods of rising interest rates should decrease the duration of a bond portfolio to minimize the price decline. Duration is inversely related to changes in market and coupon interest rates.

One of the advantages of owning a corporation's debentures is that you have: prior claim over common stockholders. prior claim over preferred stockholders. prior claim over general creditors. prior claim over secured creditors. A)III and IV. B)II and IV. C)I and II. D)I and III.

C)I and II. Holders of a company's debentures are general creditors and, as such, only have prior claim over equity holders.

b -A TIPS bond is issued in the principal amount of $1,000, paying 3.5%. Over the security's 5-year term, the inflation rate is 4%. What is the amount of the final semiannual interest check? A)$21.33. B)$42.66. C)$35.00. D)$17.50.

A)$21.33. The semiannual interest of a TIPS bond is computed on the basis of the inflation-adjusted principal. Because the principal increases with the inflation rate, at the end of the 5-year term, it has grown to $1,219 ($1,000 × 102% ten times). Therefore, the final interest check is for $1,219 × 1.75% (remember it is a semiannual check).

b- When an investor notices that a bond's coupon yield is lower than its current yield, that is an indication that the bond: A)is selling at a discount. B)is selling at a premium. C)is in danger of going into default. D)is probably rated investment grade.

A)is selling at a discount. The coupon yield, or nominal yield, is the rate stated on the face of the bond. It never changes. However, because the current yield is computed by dividing the coupon rate by the current market price, this return will constantly be in flux. Anytime the price of the bond is below par (selling at a discount), its current yield will be higher than the coupon.

If interest rates decline sharply, which of the following bonds is likely to appreciate the most? A)15-year 7% bond trading at par B)15-year zero coupon bond trading on a 7.80 basis C)15-year 8% bond trading on an 8.10 basis D)15-year 8% bond trading on a 7.90 basis

B)15-year zero coupon bond trading on a 7.80 basis Prices of zero-coupon bonds tend to be more volatile than prices of interest-bearing bonds because of their longer duration.

b- Which of the following statements regarding corporate zero-coupon bonds are TRUE? Interest is paid semiannually. The discount is in lieu of periodic interest payments. The discount must be accreted and is taxed annually. The discount must be accreted annually with taxation deferred until maturity. A)I and IV. B)II and III. C)II and IV. D)I and III.

B)II and III. The investor in a corporate zero-coupon bond receives the return in the form of growth of the principal amount over the bond's life. The bond is purchased at a deep discount and redeemed at par at maturity. That discount from par represents the interest that will be earned at maturity date. However, the discount is accreted annually and the investor pays taxes yearly on the imputed interest.

b - Your client with $100,000 to invest is looking for maximum current income. Which of the following would offer the highest current return? A)$100,000 AA rated corporate bonds trading at par with a 6% coupon rate. B)$100,000 of zero-coupon bonds with a yield to maturity of 6%. C)$100,000 market value of corporate bonds selling at a premium and yielding 6% to maturity. D)$200,000 of utility common stock paying a current dividend of 3.5%.

C)$100,000 market value of corporate bonds selling at a premium and yielding 6% to maturity. Bonds selling at a premium have higher coupons than those selling at par. Therefore, the current yield on those bonds is higher than the ones at par, even though they would have the same yield to maturity. The zero-coupon bonds offer no current income and the investor only has $100,000 to invest so the utility stock is not a viable option.

Investors seeking higher income may be interested in mortgage-back securities. To prepare a cash flow analysis on these, the most important of the following factors is: A)current tax rates. B)the quality of the mortgages. C)the average maturities. D)whether there is a real estate "bubble."

C)the average maturities. Mortgage-backed pass-through securities pass through interest and principal payments to their investors. The rate at which the cash flows are generated depends, among other things, on the rate at which the mortgages mature.

b -When current interest rates are at 6%, you would expect a bond with a nominal yield of 4% to be: A)selling at a premium. B)selling at par. C)in danger of default. D)selling at a discount.

D)selling at a discount. With the market rate of return at 6%, a 4% bond just isn't as valuable so, the only way investors would be interested is if they could acquire it at a discount. That discount would work out to be a figure that would work out to a 6% return for the purchaser. Remember, as interest rates go up, bond prices go down and vice versa.

In the event of a company's insolvency, which of the following has first claim on assets? A)Bondholders. B)Common stockholders. C)Preferred stockholders. D)Members of the board of directors.

A)Bondholders. Bondholders have contractual rights to the assets of a business that must be honored on insolvency before claims of stockholders or directors.

Which of the following statements about municipal bonds is NOT true? A)Municipal bonds are bonds issued by governmental units at levels other than the federal. B)Municipal bonds are generally considered riskier than corporate bonds. C)The interest on municipal bonds is usually not subject to federal income tax. D)Municipal bonds generally carry lower coupon rates than corporate bonds of the same quality.

B)Municipal bonds are generally considered riskier than corporate bonds. Municipal bonds are generally considered second only to treasury instruments in relative safety.

dis - A method of assessing the value of a fixed income security by looking at the future expected free cash flow and discounting it to arrive at a present value is known as: A)Internal rate of return. B)Current yield. C)Discounted cash flow. D)Future value.

C)Discounted cash flow. The discounted cash flow, DCF, is used to assess the value of a fixed income security is by looking at the future expected free cash flow and discounting it to arrive at a present value. This is basically nothing more than taking the income payments you are scheduled to receive over a given future period and adjusting that for the time value of money.

b -Those who place bonds in client's portfolios usually focus their attention on yields. When computing yield to maturity, all of the following information is necessary EXCEPT: A)maturity date. B)purchase price. C)current yield. D)coupon rate.

C)current yield. A bond's yield to maturity (YTM) reflects the annualized return of the bond if held to maturity. In calculating YTM, the bondholder takes into account the difference between the price paid for a bond and par value. One does not need to know the current yield in order to compute YTM.

b -If yields should change by 75 basis points, which of the following bonds would have the greatest price change? A)GHI 4s 2030 B)DEF 4s 2035 C)JKL 4s 2020 D)ABC 4s 2040

D)ABC 4s 2040 When all coupons are the same, the bond with the longest maturity will have the longest duration and, therefore, will be subject to the greatest price fluctuations.

b -Which of the following bonds would most likely be exposed to the greatest amount of interest rate risk? A)ABC 5s of 2040 B)DEF 6s of 2041 C)GHI 7s of 2042 D)JKL 4s of 2020

A)ABC 5s of 2040 The bond with the longest duration is generally going to have the greatest exposure to interest rate risk. Since there is very little difference between maturity dates of 2040 through 2042, the bond with the lowest coupon will have the longest duration. The 4s of 2020 have a relatively short duration, even though their coupon is low.

b -The price of which of the following will fluctuate most with a change in interest rates? A)Short-term bonds. B)Money-market instruments. C)Common stock. D)Long-term bonds

D)Long-term bonds Long-term debt prices fluctuate more than short-term debt prices as interest rates rise and fall.

b -A bond with a par value of $1,000 and a nominal yield of 6% paid semi-annually is currently selling for $1,300. The bond matures in 25 years and is callable in 15 years at $1,080. In the computation of the bond's yield to call, which of these would be a factor? A)Interest payments of $30 B)Present value of $1,080 C)Future value of $1,300 D)50 payment periods

A)Interest payments of $30 The YTC computation involves knowing the amount of interest payments to be received, the length of time to the call, the current price, and the call price. With a 15-year call, there are only 30 semiannual interest payment periods, not 50. The present value is $1,300 and the future value is $1,080; the reverse of the numbers indicated in the answer choices.

dur -Assuming all of the following mature at about the same time, which of the following bonds should experience the greatest price decline if interest rates rise by 1%? A)Treasury bond issued at par carrying a 5% coupon. B)Treasury bond issued at par carrying a 7% coupon. C)Treasury bond issued at par and carrying a 4% coupon. D)Treasury bond issued at par carrying a 6% coupon.

C)Treasury bond issued at par and carrying a 4% coupon. This is an example of duration. With approximately equal maturity dates, the bond with the lowest coupon will always have the longest duration. The longer the duration, the greater susceptibility to price changes due to fluctuations in interest rates.

b- A corporation has issued a 4% $60 par convertible stock with a conversion price of $20. With the preferred stock selling at $66 per share, an investor holding 100 shares of this stock would benefit by converting if the price of the common stock was A)above $20 per share B)above $18.20 per share C)above $22 per share D)below $22 per share

C)above $22 per share With a conversion price of $20 and a par value of $60, this preferred stock is convertible into 3 shares of the company's common stock. We divide the current price of the preferred ($66) by the 3 shares to arrive at the parity price of $22. If the common stock is selling for more than the parity price, the investor can benefit by converting and selling the stock in the marketplace.

dur -An investment adviser is constructing a bond portfolio for an income oriented investor. Wishing to use a duration-based strategy to immunize the portfolio against adverse movements in interest rates, the adviser would evaluate which of the following factors? Coupon rate of the bond. Dividend rate on the issuer's underlying common stock. Market price of the bond. Maturity date of the bond. A)I and IV. B)I, II, III and IV. C)II and III. D)I, III and IV.

D)I, III and IV. Who manages accounts, solicits services, or makes recommendations on behalf of a registered investment adviser? Who manages accounts, solicits services, or makes recommendations on behalf of a registered investment adviser?Bonds don't pay dividends and the dividend on the issuer's stock has no effect upon its bonds. The duration of a bond measures its volatility. The longer the duration, the higher the price volatility. A simplistic view of duration is a question of how many years of interest payments does it take to repay our original cost? So, we need to know the cost, the interest rate and the maturity.

b- If a customer buys a 6% bond maturing in 8 years on a 7.33 basis, the price of the bond is: A)below par. B)at par. C)inverted. D)above par.

A)below par. A bond with a basis, or yield to maturity, greater than its coupon is trading at a discount, or below par.

Which two of the following investments would offer your clients the best chance of minimizing inflation risk? Common stock. Cumulative preferred stock. Money market mutual funds. TIPS. A)I and IV. B)I and II. C)III and IV. D)II and III.

A)I and IV. Historically, common stock has been the best hedge against inflation. TIPS (Treasury Inflation Protection Securities) are Government guaranteed debt issues that automatically adjust the principal based upon the inflation rate.

ds -Accounting for the time value of money is a critical component of: A)discounted cash flow. B)correlation. C)duration. D)beta.

A)discounted cash flow. Discounted cash flow considers the expected income from an investment over a defined period of time and then factors in the time value of money.

dis-One of the reasons why the discounted cash flow method of valuation is useful in assessing the value of fixed income instruments is the: A)availability of ratings. B)priority of claim on earnings. C)known maturity date. D)predictability of income.

D)predictability of income.Discounted cash flow evaluates the expected cash flow from an investment and then factors in the time value of money. Obviously, if there is no predictable cash flow (as there is with the interest payments on a bond), there are no reliable numbers to plug into the formula.