S65

A TIPS bond is issued in the principal amount of $1,000, paying 3.5%. Over the security's 5-year term, the annual inflation rate is 6%. What is the principal value of the bond at the end of 4 years? A) $1,344 B) $1,267 C) $1,300 D) $1,240

$1,267 The unique feature of a TIPS bonds is its semiannual adjustment to principal based on the inflation rate. With an annual inflation rate of 6%, there is a 3% increase to the principal value every 6 months. The arithmetic is $1,000 multiplied by 103% consecutively 8 times (there are 8 semiannual periods in 4 years). Be sure to stop at 4 years—the question doesn't ask for the ending value for the 5th year. If this math is too challenging, there is a simple method that always works. That simple method has you take the annual inflation rate (6% = $60) for 4 years ($240) and add that to the original $1,000 face value. That is $1,240, and the correct answer on the exam will always be the next higher number ($1,267 in this case). This simple step means you are calculating the simple interest while the bond's principal growth is actually compounding.

Issuance of which of the following would most likely increase the leverage in a company's capital structure? A) Common stock B) Bonds C) Preferred stock D) Warrants

B) Bonds Leverage is the use of borrowed money. This is reflected in a company's debt-to-equity ratio. Of these choices, the only one that is borrowed money is the bonds.

Which of the following statements regarding U.S. government agency securities is true? A) They are direct obligations of the U.S. government. B) They generally offer higher yields than direct U.S. obligations. C) Interest received on agency securities is exempt from federal income tax. D) They generally trade on the major stock exchanges.

They generally offer higher yields than direct U.S. obligations.

Which items change when a company pays a cash dividend? I. Working capital II. Total assets III. Total liabilities IV. Shareholders' equity A) II and III B) II, III, and IV C) I and IV D) I, II, and III

A) II and III From an accounting standpoint, once a corporation declares a cash dividend, it becomes a current liability on the company's balance sheet. When that dividend is paid, cash—a current asset—is decreased by the amount of the dividend. Payment of the dividend removes it from the balance sheet as a current liability. Therefore, there is no change to the company's working capital (current assets minus current liabilities) because they are both reduced by the same amount. The total assets (of which cash is one) and the total liabilities (of which the dividend payable is one) both decrease. Because assets and liabilities are changed by an identical amount, there is no change to shareholders' equity (net worth).

A fundamental analyst would be interested in funds available for use in the business. Doing which of the following would have the greatest impact on future cash flow? A) Retiring outstanding bonds B) Depreciation on assets used in the business C) Amortizing goodwill D) Retaining earnings

A) Retiring outstanding bonds The retirement of outstanding bonds means that there will be no future interest payments made. Because a major component of cash flow is a company's net income, this reduced expense would lead to increased income resulting in higher cash flow.

An analyst comparing revenues with expenses is most likely analyzing A) liquidity. B) working capital. C) cash flow. D) capitalization.

C) Cash Flow

Generally, an inverted yield curve is caused by A) investors buying short-term bonds and selling long-term bonds. B) rising interest rates. C) investors buying long-term bonds and selling short-term bonds. D) declining interest rates.

C) investors buying long-term bonds and selling short-term bonds

Due to changes in market rates, a corporation is able to purchase some of its outstanding 20-year bonds at a discount. Which of the following is correct? A) I and IV B) I and III C) II and IV D) II and III

D) II and III Even though the bonds are purchased for less than par value, working capital is reduced because the company is using a current asset—cash—to pay off a long-term liability. However, the fact that it is reducing its debt for less than the amount shown on the books will result in an increase to net worth.

Components of a company's net worth would include all of these except A) inventory. B) fixed assets. C) goodwill. D) operating income.

D) operating income Net worth is all of the company's assets minus its liabilities as found on the balance sheet. Operating income is found on the income statement and is neither an asset nor a liability.

A potential investor in mutual funds is bewildered by the different share classes. You are asked for advice. When comparing Class A, B, and C shares, it would be fair to state that all of the following are features unique to Class A shares except A) rights of accumulation. B) the method of calculating the redemption price. C) breakpoints. D) low or no 12b-1 charges.

the method of calculating the redemption price.

If the U.S. dollar is devalued relative to other world currencies, which of the following will occur with respect to the prices of goods? 1. U.S. exports will be more price competitive overseas. 2. U.S. exports will be less price competitive overseas. 3. Foreign imported goods will be more price competitive with ours. 4. Foreign imported goods will be less price competitive with ours. Which 2?

1 & 4 If the dollar goes down in relation to foreign currencies, then foreigners can buy more U.S. goods with the same amount of their currency, making U.S. goods more competitive in foreign markets. This same movement in the dollar means it takes more dollars to buy the same amount of foreign goods in domestic markets, making foreign goods less competitive with U.S. goods.

Which of the following statements about closed-end investment companies are true? 1. Investors in closed-end investment companies may trade only in full shares. 2. Shares in closed-end investment companies may trade at more or less than the net asset value of the shares. 3. A closed-end investment company offers a fixed number of shares and does not continually offer new shares in response to investor demand.

1, 2, & 3

KPT, Inc., is preparing to report its net income for the past year. An increase in which of the following causes a decrease in the reported net income? A) Tax rate B) Cash dividend C) Interest charged on bank loans

A & C Higher taxes mean less net income. Interest charged on loans is an expense item; increasing it lowers operating income. Dividends are paid out of retained earnings and have no effect on the net income the company reports.

While listening to a commentator on cable TV, you hear the statement, "The flight to quality has ended." What would you expect the effect of this to be? A) Yield spreads are narrowing. B) Airline stocks are in for a beating. C) Pessimism is spreading. D) Yield spreads are widening.

A) Yield spreads are narrowing

In general, among the advantages to investing in Brady bonds over those issued by countries classified as emerging economies is A) greater risk. B) shorter maturities. C) higher yields. D) increased liquidity.

Increased liquidity Brady bonds are issued to take over the debt of failing commercial loans in emerging economies. They are secured by collateral—often U.S. Treasury zero-coupon bonds—thereby making them more secure than direct issues of that country. This backing also increases the liquidity as there is a larger pool of potential investors. These benefits cause the yields to be lower—less risk, less reward. There is nothing unique about the maturities of Brady bonds.