Finance Exam 2

What is the shortest maturity for a newly issues U.S. Treasury bond?

10 years

A corporate bond has a yield to maturity of 6.48 %, a current price of $916.58 and matures in 5 years. What is the coupon rate?

4.5%

At what tax rate will an investor be indifferent between a 4.2 % municipal bond and a 7% corporate bond?

40%

The sale of which of these securities matches the definition of a money market transaction?

6-month U.S. Treasury secuirty, 90-day U.S. Treasury bill

A corporate bond pays $45 in interest every six months and matures in 11 years. What is the yield to maturity if the bond currently sells for $1213?

6.29

What is an indenture agreement?

A legal contract between the issuer and the bondholders

What is the definition of a money market?

A money market is a market that trades securities that mature in one year or less

What is the definition of a nominal interest rate?

A nominal interest rate is the rate of interest that includes all risk premiums

How is a primary market defined?

A primary market is a market in which corporations and other fund demanders obtain funds by issuing new securities

What is the definition of a real risk-free rate?

A real risk-free rate is the rate that would exist on a default-free security if no inflation were expected.

Which of these defines a secondary market?

A secondary market is a market where previously issued securities are traded; The secondary market involves the resale of a stock by a shareholder

What is a zero coupon bond?

A zero coupon bond is sold at a steep discount and pays no semiannual interest payments

What is the definition of an initial public offering (IPO)?

An IPO is the first offering of financial securities by a firm to the general public

Which one of these is the current yield formula?

Annual Interest/Current Value

Which of these Standard & Poor's bond ratings is the lowest investment grade rating of those shown here?

BBB

Which of these represents the compensation of a bond dealer?

Bid-ask spread

Most secondary trades in the U.S. bond market occur between which two parties?

Bond dealers and large institutions

Which of these is the special provision that grans an issuer the right to retire a security prior to maturity?

Call option

Which of the following are commonly included in an indenture agreement?

Call premium, Par Value, Coupon Rate

Which of these are benefits provided by secondary markets?

Centralized marketplace, liquidity, price information

Which of these statements correctly applies to the NYSE bond market?

Corporate bonds are the primary source of the bond trading volume of the NYSE; The NYSE operates the largest centralized U.S. bond market

If a bond is selling at a premium which one of these rates will be the highest?

Coupon rate

Which one of these is correct if a bond is selling at a premium?

Coupon rate > current yield > yield to maturity

What does a bond rating measure?

Credit quality, or default risk

Which of these terms indicates a bond is unsecured?

Debenture

What is the definition of default risk?

Default risk is the possibility that an issuer may pay late or miss an interest or principal payment

How is default risk definied?

Default risk is the risk that payments will not be paid as agreed

Which of the following affect the coupon rate a firm must set on its bonds if the bonds are to be sold at par?

Default risk, Market rates of interest, bond term

What is the yield spread?

Difference between the yields to maturity of bonds with differing levels of credit risk

Which one of these terms best describes the relationship between the rate of inflation and the rate of interest?

Direct relationship

Which one of these statements correctly applies to the market segmentation theory?

Each individual investor has a preferred maturity based on his or her own financial situation

Which of these are common features of a corporate bond?

Face value of $1000, Semi-annual interest payments, publicly traded debt security

Identify the sequence of events from the terrorist attacks in 2001 to the financial crisis of 2008

Federal Reserve lowered short-term interest rates, Increased debt financing and lower credit standards, Increased interest rates on adjustable-rate mortgages, Mortgage defaults and foreclosures

Mortgage-backed securities are repaid from which funding source?

Homeowners' mortgage payments

Which of the following apply to high-yield bonds?

Increased credit risk, Low-quality

What is inflation?

Inflation is the rate of increase in a price index?

Which of the following are sources of information on the bond markets?

Internet, Foreign exchange market, Merrill Lynch, The Wall Street Journal

Which of the following may be financed with corporate bonds?

Inventory, plant and equipment, research and development

Which one of these best defines the role of investment banks?

Investment banks are financial intermediaries between demanders and suppliers of funds

What key role does an investment bank play?

Investment banks arrange primary market transactions for business entities.

Which one of these characteristics fits the definition of an agency bond?

Issued to support a sector of the U.S. economy

Speculative bonds are frequently referred to as which type of bonds?

Junk bonds

Which of these factors affecting nominal rates is the risk that a security cannot be sold quickly at full value?

Liquidity Risk

Which 3 of the following are key factors that limit direct investment in financial claims?

Liquidity costs, Monitoring costs, price risk

Which one of these sets of characteristics applies to money market securities?

Low risk, low price volatillity, short-term

Which one of these characteristics designates a premium bond?

Market price exceeds par value

Which of the following are classified as asset-backed securities?

Mortgage-backed security, Security repaid from a group of credit card loans, Debt security with payments originating from a pool of auto loans

Which one of these formulas correctly computes the equivalent taxable yield?

Muni Yield/(1-tax rate)

Which type of bond will generally pay the lowest rate of interest based on its taxability provision

Municipal bond

For a typical bond, which of the following values are expressed in semiannual terms when computing the yield to maturity?

Number of time periods (N), Interest Payments (PMT), Discount rate, or rate of return (I)

For a typical corporate bond, which one of these applies to the calculation of the bond's yield to maturity? Assume the PMT is input as a positive amount

PV = -(Current bond price)

The Fish effect is based on the theory that investors must be compensated for which two of the following factors?

Premium for foring present consumption; Lost purchasing power on loaned funds

The risk that an asset's value may be less than its purchase price is referred to as which type of risk?

Price risk

Which one of these defines the yield to call?

Rate earned by buying a bond at today's price and holding it until the first call date

What is a common means of reporting the daily direction of overall bond price movements?

Reporting the yield-to-maturity on the 10-year Treasury bonds

Which one of these is a private placement?

Sale of newly-issued, unregistered securities to a group of five financial institutions

To minimize liquidity risk, which 3 factors must exist?

Sale on short notice; Predictable sale price; Low transaction cost

Which of these characteristics apply to a discount bond?

Selling for less than face value, Market price is less than the principal amount of the loan

If you expect interest rates to increase significantly within the next two years, which one of these bonds would you prefer to own?

Short-term, high coupon

Which one of these is a key reason why issues call bonds?

Significant drop in market interest rates

Which of the following securities pay income which is exempt from federal income taxes?

State bond to build a highway, County bond to build a school

Which of these fits the definition of a secondary market transaction?

The Feel Good Co. sold 500 shares of ABC Inc to The Better Health Co. ; Martha sold 100 shares of stock to her son

What is a call premium?

The additional amount an issuer pays in excess of par value if the issuer redeems a bond prior to maturity

You need to select one of two premium bonds to purchase. You plan to hold whichever bond you select until it matures in 10 years. Which bond should you select and why?

The bond with the highest yied to maturity as you prefer to earn the highest rate of return over the 10 years

How does the yield to call differ from the yield to maturity for the same bond?

The call price used in the yield to call usually exceeds the face value used in the yield to maturity; There are fewer time periods in the yield to call

What is the definition of a credit quality risk?

The chance that an issuer will either be late paying or will not pay an interest or principal payment

Which of these best explains the current value of a bond?

The current value is the present value of the bond's expected future cash flows discounted at the market rate of interest

What does it mean if the nominal rate of interest, i, is less than the real rate, RIR?

The expected rate of inflation is negative indicating deflation

Which of these statements are correct regarding the liquidity premium formula?

The liquidity premium increases the tendency for the yield curve to be upward-sloping, The liquidy premium increases the current rate on a long-term security

Which of the following correctly explains how a factor affects interest rate risk?

The lower the coupon rate, the greater the interest rate risk will be, The longer the term to maturity, the greater interest rate risk will be

If both the real rate of interest and the expected rate of inflation are positive, then which of these is correct?

The nominal rate will exceed both the real rate and the inflation rate

Which one of these correctly defines equivalent taxable yield?

The pretax rate needed on a taxable bond to produce the same after-tax rate as a muni bond

Which one of these correctly defines a bond feature?

The principal value of a bond is referred to as the par value, or face value

What is the definition of current yield?

The return provided by the annual interest payments if the bond is purchased at the current price

The market rate of interest that is used to compute the present value of a bond is affected by which of the following?

The tax status of the bond, Credit quality of the bond

The term structure of interest rates compares similar bonds based on which variable?

Time to maturity

Which one of these explains why issuers call bonds?

To refinance debt at a lower rate

True or false: If you buy a bond today at par value and sell it one year from today, also at par value, the rate of return you will earn will equal to current yield

True

Which one of these descriptions defines a treasury inflation-protection security (TIPS)?

U.S. government bond with an inflation-adjusted par value and varying interest payments

Which of these parties are affected by foreign exchange risk?

US exporter of goods to Canada, Individuals who invest in overseas markets, US importer of clothing from Asia

Which shape of the term structure of interest rate is most common?

Upward-sloping

Which one of these is a characteristic of a derivate security?

Value dependent on underlying security

Which one of these price changes meets the definition of price risk?

Willis purchased a lot for $120,000. The lot is now worth $89,000. (Price risk is the risk that an asset's value will be lower than its purchase price)

Which of the following should be used to compare various corporate bonds if you plan to purchase a bond today, hold it until maturity, and want to select the bond with the highest rate of return?

Yield to maturity