Finance - CH 6

What is a corporate bond's yield to maturity (YTM)?

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

When interest rates in the market rise, we can expect the price of bonds to

decrease

Debt cannot be subordinated to

equity

A limitation of bond ratings is that they

focus exclusively on default risk

What does the dirty price represent?

includes the quoted price and accrued interest.

Indentures and loan agreements often contain protective covenants designed to protect the interests of

lenders

A zero coupon bond is a bond that

makes no interest payments

What are the two major forms of long-term debt?

private issue public issue

A part of the indenture limiting certain actions during the term of the loan are termed

protective covenants

The term structure of interest rates examines the

relationship between short-term and long-term interest rates

Which type of debt is given preference in the event of default?

senior

The relationship between nominal rates, real rates, and inflation is called

the Fisher Effect

What does a bond's rating reflect?

the ability of the firm to repay its debt and interest on time

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

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

What are the three components that influence the Treasury yield curve?

the interest rate risk premium expected future inflation the real rate of return

The term structure of interest rates describes

the pure time value of money the relationship between nominal rates and time to maturity

The degree of interest rate risk depends on

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

What four variables are required to calculate the value of a bond?

time remaining to maturity yield to maturity par value coupon rate

What is the purpose of a sinking fund?

to create a fund to repay bonds when they fall due

It is the duty of the bond _______ to manage the sinking fund so that bonds can be repaid.

trustee

A debenture is a(n) ______ bond, for which no specific pledge of property is made.

unsecured

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

upward sloping downward sloping humped

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

with a lag to some base rate

As an investor in the bond market, why should you be concerned about changes in interest rates?

Changes in interest rates cause changes in bond prices.

What is a discount bond?

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

What is a bond's accrued interest?

Interest that has been earned but not yet received by the current bondholder.

What is a real rate of return?

It is a rate of return that has been adjusted for inflation. It is a percentage change in buying power.

What is the nominal rate of return on an investment?

It is the actual percentage change in the dollar value of an investment unadjusted for inflation.

What is the inflation premium?

It is the additional return demanded by investors to compensate for expected inflation.

What is the definition of a bond's time to maturity?

It is the number of years until the face value is paid off.

What is the asked price?

It is the price at which an investor can buy a particular security from a dealer. It is the price at which a dealer is willing to sell a particular security.

What does a Treasury yield curve show?

It shows the yield for different maturities of Treasury notes and bonds

Why is the bond market less transparent than the stock market?

Many bond transactions are negotiated privately.

What does the AAA rating assigned by S&P mean?

The firm is in a strong position to meet its debt obligations

What does the clean price for a bond represent?

The quoted price excluding accrued interest

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

Treasury bonds offer certain tax benefits to investors that 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 U.S. government, while corporate bonds are issued by corporations.

What are the two unique features of a U.S. federal government bond?

U.S. Treasury issues are exempt from state income taxes. U.S. Treasury issues are considered to be default-free.

What is a premium bond?

a bond that sells for more than face value

A bond's coupon payment is

a fixed amount of interest that is paid annually or semiannually by the issuer to its bondholders

The bid-ask spread represents the

dealer's profit

Current Yield =

annual coupon payment/current price

To find the total bond value, add the present value of the amount paid at maturity to the ______ of the annual coupon payments.

annuity present value

What are municipal bonds?

bonds that have been issued by state or local governments

What are crossover bonds?

bonds that have both an investment grade and a junk bond rating

What are "fallen angel" bonds?

bonds that have dropped from investment grade to junk bond status

If a bond is issued with a _______ provision it allows the issuer to repurchase part or all of the bond at defined prices and times.

call

A bond's ________ payment is a fixed amount of interest that is paid annually or semiannually by the issuer to its bondholders.

coupon