Money and Banking: Chapter 4
You have just won $20,000 in the state lottery, which promises to pay you $1,000 (tax free) every year for the next twenty years. The interest rate is 5%.In reality, you receive the first payment of $1,000 today, which is worth ______________ today.
$1000.00
The value of the second $1,000 payment is worth_____________ today.
$952.38
The current yield is a good approximation to the yield to maturity when:
1.) the maturity of the bond occurs over a ten-year period. 2.) the bond price is very close to par.
Suppose the interest rate (and therefore the yield to maturity) decreases by the same amount on Treasury bills and bonds. Between a one-year Treasury bill, and a twenty-year Treasury bond, an investor would prefer a
20 year Treasure Bond
To pay for college, you have just taken out a $1,000 government loan that makes you pay $126 per year for 25 years. However, you don't have to start making these payments until you graduate from college two years from now. Why is the yield to maturity necessarily less than 12% (this is the yield to maturity on a normal $1,000 fixed-payment loan in which you pay $126 per year for 25 years)?
This is the case because the first payment due begins at a future date.
True: A discount bond has no coupon payments so the return on the bond is equal to the rate of capital gain.
True or False: With a discount bond, the return on a bond is equal to the rate of capital gain.
The following are reasons why the yield to maturity can be less than than the return of a bond except that
the coupon payment over the purchase price remains the same.
Interest rates were lower in the mid-1980s than in the late 1970s, yet many economists have commented that real interest rates were actually much higher in the mid- 1980s than in the late 1970s. Consider the diagram to the right that shows the nominal interest rate and the inflation rate. The real interest rate
was higher in 1985 than 2005, when the real interest rate was zero.
If the nominal interest rate was originally 1313% while the expected inflation rate was 1010%, and then both changed to 55% and 33%, respectively, then the real interest rate____________.
Decreased
The interest rate that is adjusted for actual changes in the price level is called the ___________.
Ex-post real interest rate.
Retired persons often have much of their wealth placed in savings accounts and other interest-bearing investments, and complain whenever interest rates are low. Which of the following, if true, would be a valid complaint?
Expected inflation is falling at a slower rate than nominal interest rates.
_____________ is a coupon bond with no maturity.
Consol
Which of the following instruments pays the holder of the instrument a fixed interest payment every year until maturity, and then at maturity pays the holder the face value (principle) of the instrument?
Coupon Bond
When the real interest rate is ____________ there are lower incentives to borrow and more incentives to lend.
High
_______________ is a bond where the principal and interest payments are adjusted for changes in the price level over time.
Indexed Bond
Compared to bonds with longer maturity, bonds with shorter maturity respond___________ dramatically to changes in interest rates.
Less
Your total lottery winnings are actually worth ______________ $20,000 to you today.
Less Than
If interest rates decline, which would you rather be holding, long-term bonds or short-term bonds?
Long-term bonds because their price would increase more than the price of short-term bonds
Bonds with a maturity that is as short as the holding period have_____________ interest-rate risk.
No
A financial adviser has just given you the following advice: "Long-term bonds are a great investment because their interest rate is over 20%." Is the financial adviser necessarily right?
No. If interest rates rise sharply in the future, long-term bonds may suffer a sharp fall in price, causing their return to be quite low.
Which of the following statements is true?
Only a coupon bond can have a negative nominal interest rate.
Assuming the terms of issuance to be the same for different types of loans, a government would choose to issue a:
Perpetuity
A rise in interest rates can mean that a bond has been a/an ________ investment
Poor
________________is based on the notion that a dollar paid in the future is less valuable than a dollar paid today.
Present Discounted Value
A discount bond will have a negative nominal interest rate when the:
current bond price is greater than its face value.
Is it better for bondholders when the yield to maturity increases or decreases?Bondholders are better off when the yield to maturity:
decreases, since this represents an increase in the price of the bond and a decrease in potential capital losses.
A U.S. Treasury bill is an example of a
discount bond.
