chapter 7 smartbook

What is the future value of $1,000 invested for 15 years at a rate of 5%?

$2,079 N=15 1/yr=5 pv=1000 pmt=0 press cpt then Fv

A firm decides to raise money by issuing 5 million bonds with a par value of $5,000 each for 10 years at a coupon rate of 7 percent. At the time of issue, the bonds were sold for $5,500 each. What will the par value of the bonds be in year 5? Multiple choice question. It will depend on the market price in year 5 $5,350 per bond $5,000 per bond $5,500 per bond

$5,000 per bond

A bond pays annual interest payments of $50, has a par value of $1,000, and a market price of $1,200. How is the coupon rate computed?

$50/$1,000

The interest from a municipal bond is exempt from ____ income taxes. Multiple choice question. federal state

federal

With --------rate bonds, the coupon payments are adjustable.

float

A limitation of bond ratings is that they ____. Multiple .focus on both default risk and interest rate risk focus exclusively on default risk are generated by the issuing corporations, not an external independent agency change every day

focus exclusively on default risk

A Warrant Bond:

gives the buyer of a bond the right to purchase shares of stock in the company at a fixed price.

The longer the term, the (smaller/greater) the interest rate sensitivity

greater

The longer the term, the -------(smaller/greater) the interest rate sensitivity.

greater

The price you actually pay to purchase a bond will generally exceed the clean price.

greater than

Longer-term bonds have-------- (smaller/greater) interest rate sensitivity because a ---------------(smaller/larger) portion of a bond's value comes from the face amount.

greater, larger,

The three components of the Treasury yield curve include the real rate, expected future------------- , and the interest rate risk premium.

inflation

The -----------premium is the portion of a nominal interest rate that represents compensation for expected future------------- .

inflation, inflation

Interest on municipal bonds ------- (is/isn't) federally taxed.

isn't

If a $1,000 par value bond is trading at a discount, it means that the market value of the bond is ______ $1,000. Multiple choice question. less than more than equal to

less than

Bond ratings are based on the probability of default risk, which is the risk that ___.

the bond's issuer may not be able make all the required payments

The Fisher effect decomposes the nominal rate into:

the inflation rate and the real rate

The inflation premium will be higher if the rate of inflation is low.

true

True or false: Interest earned on Treasury notes and bonds is taxable

true

True or false: The major difference between Western financial practices and Islamic law is that Islamic law does not permit charging or paying interest.

true

Most of the time, a floating-rate bond's coupon adjusts ____.

with a lag to some base rate

Which six factors determine the yield on a bond?

Taxability Interest rate risk Real rate of return Expected future inflation Default risk Liquidity

Select all that apply What are three important features of Treasury notes and bonds? Multiple select question. Taxable Highly liquid Default-free Tax-free

Taxable Highly liquid Default-free

True or false: The price you actually pay to purchase a bond will generally exceed the clean price.

True

Which one of these correctly specifies the relationship between the nominal rate and the real rate?

(1 + R) = (1 + r) × (1 + h)

If an investment appreciates by 7 percent while the rate of inflation is 2 percent, what is the nominal rate of return?

7%

What is a discount bond? Multiple choice question. Discount bonds are bonds that a distressed corporation sells at fire sale prices to raise emergency funds. Discount bonds are bonds that sell for less than the face value. Discount bonds are junk bonds that are rated below investment grade. Discount bonds are bonds with short maturities.

Discount bonds are bonds that sell for less than the face value.

Which of the following is not a difference between debt and equity? Multiple choice question. A corporation's interest payments on debt are tax deductible, but the dividends it pays to equity holders are not Equity represents ownership interest while debt does not Unlike dividend omissions to equity holders, unpaid debt obligations can lead to bankruptcy Equity is publicly traded while debt is not

Equity is publicly traded while debt is not

The variables in a present value of a lump sum problem include all of the following, except:

Free Cash Flow

The variable that you are solving for in a future value of a lump sum problem is:

Future value

The features of Municipal bonds make them attractive to high income, _________ bracket investors. Low-tax Average-tax High-tax No-tax Extra-tax

High-tax

What are the three components of the Treasury yield curve?

Interest rate risk premium Expected inflation Real rate of return

Which of the following is true about a typical multiple-year bond's coupon? It is a fixed annuity payment. The interest payment will vary with the market rate of interest. Interest payments are paid at the discretion of CFO. It is a fixed interest payment paid at the time the bond matures.

It is a fixed annuity payment.

When the U.S. government wants to borrow money for the long-term (more than one year) it issues: Multiple select question. Treasury bills Treasury stocks Treasury notes Treasury bonds

Treasury notes Treasury bonds

True or false: Equity represents an ownership interest. True false question. True False

True

When comparing a 10-year bond versus a 1-year bond, the 10-year bond has a much greater interest rate risk.

True ?

The relationship between bond prices and the market rate of interest is ____. Multiple choice question. positive during the initial years and negative during the later years direct; if the market rate of interest falls, bond prices will fall non-existent; there is no specific relationship between bond price and market rates inverse; if the market rate of interest rises, bond prices will fall

inverse; if the market rate of interest rises, bond prices will fall

In general, a corporate bond's coupon rate ____, Multiple choice question. -changes in sync with market interest rates -decreases as a bond nears maturity -changes every year -is fixed until the bond matures

is fixed until the bond matures

The federal government can raise money from financial markets to finance its deficits by ___. -raising taxes -issuing stocks -issuing bonds -requesting foreign aid

issuing bonds

The U.S. Treasuries market is the _____ in the world in terms of trading volume.

largest

The reason that interest rate risk is greater for Blank______ term bonds than for Blank______ term bonds is that the change in rates has a greater effect on the present value of the Blank______ than on the present value of the Blank______.

long; short; face value; coupon payments

The information needed to compute a bond's yield to maturity includes the bond's-------------- , coupon rate, and maturity date.

price, or cost

Which of the following is not one of the six factors used to determine the yield on a bond?

Voting rights

The term structure of interest rates includes all of the following basic components, except: Real Rate of Interest Rate of Inflation Weighted Average Cost of Capital Interest Rate Risk

Weighted Average Cost of Capital

The two major forms of long-term debt are ---------issue and privately placed.

public

Within the context of financial markets, complete the following equation: Bid − Ask = Bid-Ask

spread

An Income bond:

states that the bond's coupon payment depends on company income.

If you own corporate bonds, you will be concerned about interest rate risk as it affects ____. Multiple choice question. the market price of the bonds coupon rates the time to maturity the par value of the bonds

the market price of the bonds

Which of the following is true about interest rate risk?

All else equal, the longer the time to maturity, the greater the interest rate risk. All else equal, the lower the coupon rate, the greater the interest rate risk.

As an investor in the bond market, why should you be concerned about changes in interest rates? Changes in interest rates lead to changes in the par value of a bond. You shouldn't be as interest rate changes do not affect bonds. Changes in interest rates change the interest payments on fixed coupon bonds. Changes in interest rates cause changes in bond prices.

Changes in interest rates cause changes in bond prices.

Which three of the following are common shapes for the term structure of interest rates?

Humped Downward sloping Upward sloping

What does historical data suggest about the nature of short-term and long-term interest rates?

Sometimes short-term rates are higher and sometimes long-term rates are higher.

If you are holding two identical bonds, except that one matures in 10 years and the other matures in 5 years, which bond's price will be more sensitive to interest rate risk?

The 10-year bond

True or false: The real rate of return will generally be higher than the nominal rate of return.

fals

If you were classified as a high income/high tax bracket investor, you might find municipal bonds an attractive investment because ____.

income from municipal bonds is exempt from federal taxes

The written agreement between the corporation and the lender detailing the terms of the debt issue is the--------------

indenture

A bond's yield to maturity considers the interest earnings and the change in the bond's price while the current yield considers ____.

interest earnings only

What is a real rate of return?

It is a rate of return that has been adjusted for inflation.

What is the nominal rate of return on an investment?

It is the rate that has not been adjusted for inflation.

What are the federal income tax implications of receiving $50 in interest income from a municipal bond versus a corporate bond?

Only the interest on the corporate bond will be taxed.

Why does a bond's value fluctuate over time? -A bond's par value changes over time. -The coupon rate varies, while market interest rates are fixed. A bond's value does not fluctuate over time. -The coupon rate and par value are fixed, while market interest rates change.

The coupon rate and par value are fixed, while market interest rates change

Which of the following are features of municipal bonds? The interest on municipal bonds is always exempt from state taxes. They are not subject to default risk. The interest on municipal bonds is exempt from federal taxes. They are issued by state and local governments.

The interest on municipal bonds is exempt from federal taxes. They are issued by state and local governments.

What does the clean price for a bond represent?

The quoted price, which excludes interest accrued since the last coupon date.

How is the real rate of return different from the nominal rate of return?

The real rate of return is adjusted for the effect of inflation whereas nominal rate is not adjusted for the effect of inflation.

Which of the following are usually included in a bond's indenture? The repayment arrangements The total amount of bonds issued The names of the bondholders The bond's rating

The repayment arrangements The total amount of bonds issued

A bond's YTM will exceed its current yield when the bond is selling at ____. Multiple choice question. a discount par a premium

a discount

The main reason it is important to distinguish between debt and equity is that the benefits and risks _____. Multiple choice question. are different never change are similar

are different

In financial markets the difference between------------price and the ask price is known as the spread.

bid

Secondary markets in sukuk are extremely illiquid because most sukuk are:

bought and held to maturity

A corporate bond's yield to maturity ____. Multiple select question. remains fixed over the life of the bond is always equal to the bond's coupon rate changes over time can be greater than, equal to, or less than the bond's coupon rate

changes over time can be greater than, equal to, or less than the bond's coupon rate

A bond's --------rate is the stated interest payment made on a bond.

coupon

When interest rates in the market rise, we can expect the price of bonds to ____. Multiple choice question. increase decrease not change

decrease

A Treasury yield curve depicts the _____.

yields for different maturities of Treasury securities

The relationship between bond prices and the market rate of interest is ____. -inverse; if the market rate of interest rises, bond prices will fall. -direct; if the market rate of interest falls, bond prices will fall. -positive during the initial years and negative during the later years. -non-existent; there is no specific relationship between bond price and market rates.

inverse; if the market rate of interest rises, bond prices will fall

How is investing in U.S. Treasury bonds different from investing in corporate bonds? Interest from U.S. Treasuries is exempt from taxes at the state level but corporate interest is not. Treasury issues have no default risk. Interest from U.S. Treasuries is exempt from all taxation while corporate bond interest is taxable at all levels. U.S. Treasury bonds have longer maturities than corporate bonds. Need help? Review these concept

Interest from U.S. Treasuries is exempt from taxes at the state level but corporate interest is not. Treasury issues have no default risk.

What shape does the term structure of interest rates usually have?

Upward sloping

What are some reasons why the bond market is so big?

Various state and local governments also participate in the bond market. Federal government borrowing activity in the bond market is enormous. Many corporations have multiple bond issues outstanding.

Select all that apply Which of the following are true about a bond's face value? -It is the market value of the bond at the time of maturity. -A bond's face value is the same for all corporations. -It is the principal amount repaid at maturity. -It is also known as par value.

*It is the principal amount repaid at maturity. *It is also known as par value

What is a corporate bond's yield to maturity (YTM)? Multiple select question. -YTM is the expected return for an investor who buys the bond today and holds it to maturity. -YTM is another term for the bond's coupon rate. -YTM is the yield that will be earned if the bond is sold immediately in the market. -YTM is the prevailing market interest rate for bonds with similar features.

- YTM is the expected return for an investor who buys the bond today and holds it to maturity. - YTM is the prevailing market interest rate for bonds with similar features

Which of these correctly identify differences between U.S. Treasury bonds and corporate bonds?

-Treasury bonds offered to certain tax benefits to investors the corporate bonds cannot offer. Treasury bonds are considered free of default risk while corporate bonds are exposed to default risk. Treasury bonds are issued by the US government while corporate bonds are issued by corporations.

Which of the following terms apply to a bond?

-par value -coupon rate - time to maturity

In terms of time to maturity, U.S. Treasury notes and bonds have initial maturities ranging from ___ years. Multiple choice question. 2 to 30 10 to 30 5 to 20 5 to 25

2 to 30

Select all that apply Which of the following is true about interest rate risk? All else equal, the longer the time to maturity, the greater the interest rate risk. All else equal, the lower the coupon rate, the lower the interest rate risk. All else equal, the longer the time to maturity, the lower the interest rate risk. All else equal, the lower the coupon rate, the greater the interest rate risk.

All else equal, the longer the time to maturity, the greater the interest rate risk. All else equal, the lower the coupon rate, the greater the interest rate risk.

The variables in a future value of a lump sum problem include all of the following, except:

Annuity Payments

Which of these are required to calculate the current value of a bond?

Applicable market rate Time remaining to maturity Coupon rate Par value

What are municipal bonds? U.S. Treasury bonds that are only available in some states Bonds that have been issued by state or local governments Bonds issued by a corporation for state and local projects Secured loans obtained from a local bank by state or local governments

Bonds that have been issued by state or local governments

As an investor in the bond market, why should you be concerned about changes in interest rates? You shouldn't be as interest rate changes do not affect bonds. Changes in interest rates lead to changes in the par value of a bond. Changes in interest rates change the interest payments on fixed coupon bonds. Changes in interest rates cause changes in bond prices.

Changes in interest rates cause changes in bond prices.

What are the three components of the nominal rate of return?

Compensation for the inflation effect on the investment earnings Real rate of return Compensation for the inflation effect on the original investment

Which of these is included in the calculation of a bond's yield to maturity?

Coupon rate Current price Par value

Which of the following terms apply to a bond?

Coupon rate Time to maturity Par value

How would a decrease in the interest rate effect the future value of a lump sum, single amount problem (all other variables remain the same)? Increase the time needed to save. Increase the present value. Decrease the present value.

Decrease the present value.

Which of these risks is addressed by bond ratings? Interest rate risk Maturity risk Call risk Default risk

Default risk

When short-term rates are higher than long-term rates, we say it is-------------------

Downward sloping.

Treasury issues are: Exempt from state income taxes but, not federal income taxes. Exempt from federal income taxes but, not state income taxes. Have large amounts of default risk. Securities that the U.S. government issues for periods up to 50 years. Dependent on whether the treasury can obtain money to make payments.

Exempt from state income taxes but, not federal income taxes.

The Fisher Effect has all of the following components, except: Real Rate on the Investment, r Compensation for Inflation of Original Investment, h Expected Rate of Return, E Compensation for Inflation on Investment Earned

Expected Rate of Return, E

Municipal bonds are taxable for federal, state and local taxes.

Fals

What is an interest-only loan? It's a loan in which the borrower pays interest periodically and repays the principal when the bond matures. It's a loan in which the borrower pays both interest and principal periodically. It's a loan in which the borrower pays all of the interest owed when the bond matures. It's a loan in which the borrower never repays the principal.

It's a loan in which the borrower pays interest periodically and repays the principal when the bond matures.

In general, a corporate bond's coupon rate ____, -decreases as a bond nears maturity. -is fixed until the bond matures. -changes in sync with market interest rates -changes every year

It's fixed until the bond matures.

Interest Rate Risk is the risk that arises for bond owners from fluctuating interest rates. All other things being equal, the _______ the time to maturity, the _________ the interest rate risk.

Longer, greater

Interest Rate Risk is the risk that arises for bond owners from fluctuating interest rates. All other things being equal, the _______ the coupon rate, the _________ the interest rate risk. Lower, lower Lower, greater Higher, greater

Lower, greater

The term structure of interest rates tells us what _________ interest rate are on default-free, pure discount bonds of all maturities.

Nominal

What are the federal income tax implications of receiving $50 in interest income from a municipal bond versus a corporate bond? Only the muni bond interest will be taxed. The interest from both bonds is tax exempt. Only the interest on the corporate bond will be taxed. The interest from both bonds will be taxed the same.

Only the interest on the corporate bond will be taxed.

What are the cash flows involved in the purchase of a 5-year zero coupon bond that has a par value of $1,000 if the current price is $800? Assume the market rate of interest is 5 percent.

Pay $800 today and receive $1,000 at the end of 5 years

The variables in a present value of a lump sum problem include all of the following, except:

Payments

You own two bonds—one with a 5 percent coupon and one with a 6 percent coupon. Which one is more sensitive to interest rate risk, all other things being equal? Multiple choice question. The bond with the 5 percent coupon rate is more sensitive. Interest rate risk is not affected by coupon rates. The bond with the 6 percent coupon rate is more sensitive. Both bonds are equally sensitive.

The bond with the 5 percent coupon rate is more sensitive.

Why does a bond's value fluctuate over time?

The coupon rate and par value are fixed, while market interest rates change

Suppose you buy a 7 percent coupon, 20-year bond today when it's first issued. If interest rates suddenly rise to 15 percent, what happens to the value of your bond? multiple choice The price of the bond will fall. The price of the bond will rise.

The price of the bond will fall.

A Put bond:

allows the holder to force the issuer to buy back the bond at a stated price.

A Convertible bond:

can be swapped for a fixed number of shares of stock anytime before maturity at the holder's option.

The Catastrophe Bond:

covers hurricanes and earthquakes in the U.S.

True or false: The inflation premium will be higher if the rate of inflation is low.

fals

Current Yield is the bond's annual coupon divided by its yield to maturity.

false because the Bond annual coupon divided by its price

The reason that interest rate risk is greater for Blank______ term bonds than for Blank______ term bonds is that the change in rates has a greater effect on the present value of the Blank______ than on the present value of the Blank______. Multiple choice question. long; short; coupon payments; face value short; long; face value; coupon payments long; short; face value; coupon payments

long; short; face value; coupon payments

All other things being equal, the ------------- (lower/higher) the coupon rate, the greater the interest rate risk.

lower

A zero coupon bond is a bond that ____.

makes no interest payments

Select all that apply Which of the following variables are required to calculate the value of a bond? Multiple select question. Coupon rate Issue price of the bond Remaining life of bond Market yield

market yield coupon rate remaining life of bond

The Treasury yield curve plots the yields on Treasury notes and bonds relative to------------

maturity

If a given set of cash flows is expressed --------in terms and discounted at the ------------rate, the resulting present value will be the same as if the cash flows were expressed in real terms and discounted at the real rate.

nominal /nominal

Which of the following are true about a bond's face value? Multiple select question. -It is also known as the par value. -It is the market value of the bond at the time of maturity. -It is the principal amount repaid at maturity. -A bond's face value is the same for all corporations.

It is also known as the par value. It is the principal amount repaid at maturity.

The variables in a future value of a lump sum problem include all of the following, except: Future Value Payments Correct Time period Interest rate

Payment

The variable that you are solving for in a present value of a lump sum problem is:

Present value

What are the two major forms of long-term debt? Current and deferred Privately placed and unsecured Indentured and free Public issue and privately placed

Public issue and privately placed

What are the two major forms of long-term debt? Indentured and free Public issue and privately placed Current and deferred Privately placed and unsecured

Public issue and privately placed

Which is the largest security market in the world in terms of trading volume?

The U.S. Treasuries market

The degree of interest rate risk depends on ____. Multiple choice question. the sensitivity of the bond's coupon rate to interest rate changes the face value of a bond how many times the interest rate changes in a year the sensitivity of the bond's price to interest rate changes

the sensitivity of the bond's price to interest rate changes

As a general rule, which of the following are true of debt and equity? Multiple select question. Equity represents an ownership interest Debt and equity represent the same financial claims Creditors generally have voting power The maximum reward for owning debt is fixed

Equity represents an ownership interest The maximum reward for owning debt is fixed

The two major forms of long-term debt are ------- bond , Unavailable issue and privately placed.

public

If a given set of cash flows is expressed in nominal terms and discounted at the nominal rate, the resulting present value will be the same as if the cash flows were expressed in real terms and discounted at the ____ rate.

real

The term structure of interest rates examines the ____.

relationship between short-term and long-term interest rates