Ch. 24 - Debt Financing
What kind of corporate debt must be secured by real property? A) Mortgage bonds B) Notes C) Asset-backed bonds D) Debentures
Answer: A
Treasury securities that are pure discount bonds with original maturities ranging from a few days to 26 weeks are called: A) TIPS. B) Treasury bonds. C) Treasury notes. D) Treasury bills.
Answer: D
Which of the following statements regarding municipal bonds is FALSE? A) A single municipal bond issue will often contain a number of different maturity dates. Such issues are often called multi-muni bonds because the bonds are scheduled to mature over a multiple number of years. B) Revenue bonds are where the local government pledges specific revenues generated by projects that were initially financed by the bond issue. C) Municipal bonds are sometimes also referred to as tax-exempt bonds. D) Bonds backed by the full faith and credit of a local government are known as general obligation bonds and are not as secure as bonds backed by the full faith and credit of the federal government.
Answer: A Explanation: A) A single municipal bond issue will often contain a number of different maturity dates. Such issues are often called serial bonds because the bonds are scheduled to mature over a multiple number of years.
Which of the following statements is FALSE? A) By including more covenants, issuers increase their costs of borrowing. B) Once bonds are issued, equity holders have an incentive to increase dividends at the expense of debt holders. C) Covenants may restrict the level of further indebtedness and specify that the issuer must maintain a minimum amount of working capital. D) If the covenants are designed to reduce agency costs by restricting management's ability to take negative NPV actions that exploit debt holders, then the reduction in the firm's borrowing cost can more than outweigh the cost of the loss of flexibility associated with covenants.
Answer: A Explanation: A) By including more covenants, issuers decrease their costs of borrowing.
Which of the following statements is FALSE? A) If the issuer fails to live up to any covenant, the issuer goes into bankruptcy. B) The stronger the covenants in the bond contract, the less likely the issuer will default on the bond, and so the lower the interest rate investors will require to buy the bond. C) Covenants are restrictive clauses in a bond contract that limit the issuer from taking actions that may undercut its ability to repay the bonds. D) Bond agreements often contain covenants that restrict the ability of management to pay dividends.
Answer: A Explanation: A) If the issuer fails to live up to any covenant, the issuer goes into default.
Which of the following statements is FALSE? A) In the case of a Treasury note or Treasury bond offering, the stop-out yield determines the coupon of the bond and then all bidders pay the discounted value for the bond or note. B) All competitive bidders submit sealed bids in terms of yields and the amount of bonds they are willing to purchase. C) In the past, the Treasury has issued bonds with maturities of 30 years (often called long bonds) and 20 years. D) Noncompetitive bidders (usually individuals) just submit the amount of bonds they wish to purchase and are guaranteed to have their orders filled at the auction.
Answer: A Explanation: A) In the case of a Treasury note or Treasury bond offering, the stop-out yield determines the coupon of the bond and then all bidders pay the par value for the bond or note.
In January 2010, the U.S. Treasury issued a $1000 par, five-year, inflation-indexed note with a coupon of 5%. On the date of issue, the consumer price index (CPI) was 250. By January 2015, the CPI had decreased to 200. The coupon payment that was made in January 2015 is closest to: A) $20 B) $25 C) $30 D) $40
Answer: A Explanation: A) The CPI depreciated by 200/250 = 0.8. Consequently the principal amount of the bond decreases (for interest purposes) by this amount so the new principal = $1000 × 0.8 = $800. Therefore, with a 5% coupon and semiannual compounding this bond would pay $800 × .05/2 = $20
The largest sector of the asset-backed security market is the ________ market. A) collateralized debt obligation B) mortgage-backed security C) real property-backed security D) double-barreled security
Answer: B
Rearden Metal has just issued a callable, $1000 par value, twenty-year, 8% coupon bond with semiannual coupon payments. The bond can be called at par in five years or anytime thereafter on a coupon payment date. If the bond is currently trading for $1040.79, then its yield to call is closest to: A) 3.8% B) 7.0% C) 7.6% D) 8.0%
Answer: B Explanation: B) PV = -1040.79, PMT = 80/2 = 40, FV = 1000, N = 5 × 2= 10, compute i = 3.509305 × 2 = 7.0186%
In January 2010, the U.S. Treasury issued a $1000 par, ten-year, inflation-indexed note with a coupon of 4%. On the date of issue, the consumer price index (CPI) was 200. By January 2020, the CPI had increased to 300. The coupon payment that was made in January 2020 is closest to: A) $20 B) $30 C) $40 D) $50
Answer: B Explanation: B) The CPI appreciated by 300/200 = 1.50. Consequently the principal amount of the bond increases by this amount so the new principal = $1000 × 1.5 = $1500. Therefore, with a 4% coupon and semiannual compounding this bond would pay $1500 × .04/2 = $30
In January 2010, the U.S. Treasury issued a $1000 par, five-year, inflation-indexed note with a coupon of 5%. On the date of issue, the consumer price index (CPI) was 250. By January 2015, the CPI had decreased to 200. The principal payment that was made in January 2015 is closest to: A) $800 B) $1000 C) $1250 D) $1500
Answer: B Explanation: B) The CPI depreciated by 200/250 = 0.8. Consequently the principal amount of the bond decreases (for interest purposes) by this amount so the new principal (for interest purposes) = $1000 × 0.8 = $800. However, in the event of depreciation with the CPI these bonds will repay par, which is $1000 in this case.
Which of the following statements is FALSE? A) Mortgage-backed securities, such as GNMAs, are pass-through securities. That is, each security is backed by an underlying portfolio or pool of mortgages. B) The Government National Mortgage Association (GNMA, or "Ginnie Mae") is an example of an enterprise; the Student Loan Marketing Association ("Sallie Mae") is an example of a government-sponsored agency. C) Sovereign debt is debt issued by national governments. D) Agency securities are issued by agencies of the U.S. government or by U.S. government sponsored enterprises.
Answer: B Explanation: B) The Government National Mortgage Association (GNMA, or "Ginnie Mae") is an example of an agency; the Student Loan Marketing Association ("Sallie Mae") is an example of a government-sponsored enterprise.
Which of the following statements is FALSE? A) Zero-coupon Treasury securities with maturities longer than one year also trade in the bond market. B) Treasury securities are initially sold to the public through dealers. C) Municipal bonds ("munis") are issued by state and local governments. D) Municipal bonds' distinguishing characteristic is that the income on municipal bonds is not taxable at the federal level.
Answer: B Explanation: B) Treasury securities are initially sold to the public through auction.
A(n) ________ cash flows come from the cash flows of underlying financial securities. A) general obligation security's B) revenue bond's C) asset-backed security's D) double-barreled bond's
Answer: C
The cash flows of a collateralized debt obligation are usually divided into how many different branches? A) 2 B) 3 C) 4 D) 6
Answer: C
Treasury securities that are semiannual coupon bonds with original maturities of between 1 and 10 years are called: A) Treasury bonds. B) Treasury bills. C) Treasury notes. D) TIPS.
Answer: C
Treasury securities that are standard coupon bonds where the outstanding principal is adjusted for inflation are called: A) Treasury notes. B) Treasury bonds. C) TIPS. D) Treasury bills.
Answer: C
What kind of corporate debt can be secured by any specified assets? A) Mortgage bonds B) Notes C) Asset-backed bonds D) Debentures
Answer: C
What kind of corporate debt has a maturity of less than 10 years? A) Asset-backed bonds B) Debentures C) Notes D) Mortgage bonds
Answer: C
What kind of unsecured corporate debt has a maturity of less than 10 years? A) Mortgage bonds B) Asset-backed bonds C) Debentures D) Notes
Answer: C
When banks resecuritize other asset-backed securities, the new asset-backed security is known as a: A) mortgage-backed security. B) double-barreled security. C) collateralized debt obligation. D) resecuritized security.
Answer: C
Which of the following statements is FALSE? A) Almost all bonds that are issued today are registered bonds. B) The trust company represents the bondholders and makes sure that the terms of the indenture are enforced. C) For private placements, the prospectus must include an indenture, a formal contract between the bond issuer and a trust company. D) In the case of default, the trust company represents the bondholders' interests.
Answer: C Explanation: C) For public debt issue, the prospectus must include an indenture, a formal contract between the bond issuer and a trust company.
Which of the following statements regarding private placements is FALSE? A) A private placement is a bond issue that does not trade on a public market but rather is sold to a small group of investors. B) Privately placed debt need not conform to the same standards as public debt; as a consequence, it can be tailored to the particular situation. C) In 1990, the U.S. Securities and Exchange Commission (SEC) issued Rule 144A, which significantly decreased the liquidity of certain privately placed debt. D) Because a private placement does not need to be registered, it is less costly to issue.
Answer: C Explanation: C) In 1990, the U.S. Securities and Exchange Commission (SEC) issued Rule 144A, which significantly increased the liquidity of certain privately placed debt.
Which of the following statements is FALSE? A) The registered bond system also facilitates tax collection because the government can easily keep track of all interest payments made. B) Asset backed bonds and mortgage bonds are secured debt: Specific assets are pledged as collateral that bondholders have a direct claim to in the event of bankruptcy. C) Notes typically have longer maturities (more than ten years) than debentures. D) Although the word "bond" is commonly used to mean any kind of debt security, technically a corporate bond must be secured.
Answer: C Explanation: C) Notes typically have shorter maturities (less than ten years) than debentures.
Rearden Metal has just issued a callable, $1000 par value, twenty-year, 8% coupon bond with semiannual coupon payments. The bond can be called at par in five years or anytime thereafter on a coupon payment date. If the bond is currently trading for $1040.79, then its yield to maturity is closest to: A) 3.8% B) 7.0% C) 7.6% D) 8.0%
Answer: C Explanation: C) PV = -1040.79, PMT = 80/2 = 40, FV = 1000, N = 20 × 2 = 40, compute i = 3.800007 × 2 = 7.6%
Galt Industries has just issued a callable, $1000 par value, five-year, 6% coupon bond with semiannual coupon payments. The bond can be called at par in three years or anytime thereafter on a coupon payment date. If the bond is currently trading for $978.94, then its yield to maturity is closest to: A) 3.4% B) 6.0% C) 6.5% D) 6.8%
Answer: C Explanation: C) PV = -978.94, PMT = 60/2 = 30, FV = 1000, N = 5 × 2 = 10, compute i = 3.250048 × 2 = 6.5%
Which of the following statements is FALSE? A) With registered bonds, on each coupon payment date, the bond issuer consults its list of registered owners and mails each owner a check (or directly deposits the coupon payment into the owner's brokerage account). B) If a coupon bond is issued at a discount, it is called an original issue discount bond. C) The face value or principal amount of the bond is denominated in standard increments, most often $10,000. D) In a public offering, the indenture lays out the terms of the bond issue.
Answer: C Explanation: C) The face value or principal amount of the bond is denominated in standard increments, most often $1,000.
Bonds issued by a foreign company in a local market, intended for local investors, and denominated in the local currency are known as: A) domestic bonds. B) Yankee bonds. C) Eurobonds. D) foreign bonds.
Answer: D
Mortgages that do not meet certain credit criteria and have a high probability of default are know as ________ mortgages. A) prepayment B) pooled C) under-water D) subprime
Answer: D
Which of the following does NOT issue asset-backed securities? A) Government National Mortgage Association B) Federal National Mortgage Association C) Student Loan Marketing Association D) Federal Reserve
Answer: D
Which of the following statements is FALSE? A) Global bonds combine the features of domestic, foreign, and Eurobonds, and are offered for sale in several different markets simultaneously. B) In a leveraged buyout (LBO), a group of private investors purchases all the equity of a public corporation. C) A term loan is a bank loan that lasts for a specific term. D) Eurobonds are international bonds that are denominated in the local European currency of the country in which they are issued.
Answer: D Explanation: D) Eurobonds are international bonds that are not denominated in the local currency of the country in which they are issued.
Which of the following statements is FALSE? A) In the event of default, the assets not pledged as collateral for outstanding bonds cannot be used to pay off the holders of subordinated debentures until all more senior debt has been paid off. B) Because more than one debenture might be outstanding, the bondholder's priority in claiming assets in the event of default, known as the bond's seniority, is important. C) When a firm conducts a subsequent debenture issue that has lower priority than its outstanding debt, the new debt is known as a subordinated debenture. D) Most debenture issues contain clauses restricting the company from issuing new debt with equal or lower priority than existing debt.
Answer: D Explanation: D) Most debenture issues contain clauses restricting the company from issuing new debt with equal or higher priority than existing debt.
Galt Industries has just issued a callable, $1000 par value, five-year, 6% coupon bond with semiannual coupon payments. The bond can be called at par in three years or anytime thereafter on a coupon payment date. If the bond is currently trading for $978.94, then its yield to call is closest to: A) 3.4% B) 6.0% C) 6.5% D) 6.8%
Answer: D Explanation: D) PV = -978.94, PMT = 60/2 = 30, FV = 1000, N = 3 × 2 = 6, compute i = 3.393852 × 2 = 6.7877%
In January 2010, the U.S. Treasury issued a $1000 par, ten-year, inflation-indexed note with a coupon of 4%. On the date of issue, the consumer price index (CPI) was 200. By January 2020, the CPI had increased to 300. The principal payment that was made in January 2020 is closest to: A) $1000 B) $1020 C) $1030 D) $1500
Answer: D Explanation: D) The CPI appreciated by 300/200 = 1.50. Consequently the principal amount of the bond increases by this amount so the new principal = $1000 × 1.5 = $1500
Asset securitization is the process of creating a(n): A) collateralized security. B) asset-backed security. C) municipal security. D) payment security.
Answer: B
Which of the following statements regarding the private debt market is FALSE? A) Private debt has the advantage that it avoids the cost of registration. B) Bank loans are an example of private debt, debt that is not publicly traded. C) Private debt has the disadvantage of being illiquid. D) The public debt market is larger than the private debt market.
Answer: D Explanation: D) The private debt market is larger than the public debt market.
An asset-backed security backed by home mortgages is a: A) mortgage-backed security. B) primary home-backed security. C) bond-backed security. D) real estate-backed security.
Answer: A
Bonds issued by a local entity, denominated in the local currency, traded in a local market, but purchased by foreigners are called: A) domestic bonds. B) Yankee bonds. C) Eurobonds. D) foreign bonds.
Answer: A
Packaging a portfolio of financial securities and issuing an asset-backed security backed by this portfolio is known as: A) asset securitization. B) revenue securitization. C) backup securitization. D) payment securitization.
Answer: A
Treasury securities that are semiannual-paying coupon bonds with maturities longer than 10 years are called: A) Treasury bonds. B) TIPS. C) Treasury bills. D) Treasury notes.
Answer: A
