entire chapter 2 qbank
All of the following concerning CMOs are true EXCEPT:
CMOs are issued by government agencies CMOs are created by broker/dealers, who buy pass-through securities from government agencies and government-sponsored corporations, place the certificates in trust, and issue participation interests in the trusts that are tied to specific maturity periods (tranches).
Which of the following risk factors would be least important to disclose in recommending CMO securities to public customers?
Credit risk. The majority of CMOs offered to the public are backed by mortgages held by government-sponsored corporations: Fannie Mae, Ginnie Mae, Freddie Mac, etc. Credit risk would be a minimal consideration. The other risks are inherent to mortgage-backed securities.
Which of the following is NOT part of the Federal Farm Credit System (FFCS)?
Federal Home Loan Bank
Which of the following statements are TRUE of CMO investors? I.They have interest rate risk. II.They do not have interest rate risk. III.They have little or no risk exposure. IV.They can be exposed to extension and prepayment risk.
I and IV
Two conservative customers in their 50s are interested in preserving principal and high-current income from their investments. In which order, from first to last, are the following bonds ranked in meeting your customer's needs? I.A1 Fort Worth Gas 9¼s of '25. II.AA+ San Antonio Transit 9¼s of '25. III.Aaa Texas Telecom 9¼s of '25. IV.AA- Dallas Electric 9¼ of '25.
III, II, IV, I. Because the maturity and coupon rates are all the same, we can rank the bonds by rating. Based on the ratings given, the highest-quality bond is the Texas Telecom, rated Aaa, followed in order by the bonds rated AA+, AA-, and A1.
You have a client who is about to retire and wants to rearrange his portfolio in order to have predictable income. Which of the following would NOT be a good investment vehicle?
income bonds Income bonds, also known as adjustment bonds, are issued when a company is reorganizing and coming out of bankruptcy. Income bonds pay interest only if the company has enough income to meet the interest payment. As a result, these bonds normally trade flat, without accrued interest. Therefore, they are not suitable for customers seeking income.
The best time for an investor seeking returns to purchase long-term, fixed-interest-rate bonds is when:
long-term interest rates are high and beginning to decline.
A customer purchases five 6-1/4% U.S. Treasury notes at 98.24. How much will the customer receive on each interest payment date?
$156.25 While minimum purchase denominations can be less, always use par value ($1,000) for these calculations. A 6-1/4% bond pays $62.50 annually (6-1/4% × $1,000 = $62.50). Therefore, a customer purchasing 5 bonds receives $312.50 each year. As Treasury notes pay semiannually, each interest payment equals $156.25.
ABC Company issues a 10% bond due in 10 years. The bond is convertible into ABC common stock at a conversion price of $25 per share. The ABC bond is quoted at 90. Parity of the common stock is:
22.50 The bond is quoted at 90, so it is selling for $900. The parity price of the common stock is $22.50, calculated as follows: the bondholder could convert the bond into 40 shares of stock ($1,000 face amount / $25 per share = 40 shares). Because the bond has a current price of $900, divide $900 by 40 to get the underlying parity price (90% × $25 = $22.50).
All of the following have been recognized by the SEC under the Credit Rating Agency Reform Act as being registered with the commission to rate debt instruments. Which of the following historically has specialized in ratings for the insurance sector?
A.M. Best.
A Treasury bond is quoted in "The Wall Street Journal" as follows: Bid 100:15 Asked 100:17 Bid Chg. -1 Yield 7.9 From this information, you know that the nominal yield is:
greater than 7.9% The "Bid" and "Asked" prices show that the Treasury bond is being quoted at a premium (above par), with a yield to maturity of 7.9%. When bonds are trading at a premium, the nominal yield (coupon rate) is greater than the yield to maturity.
A client of your broker/dealer is interested in collateralized mortgage obligations (CMOs). While determining suitability for the client all of the following should be discussed EXCEPT
how currency exchange rates may affect the value of the securities Currency exchange rates are not applicable to the risks associated with CMOs. However, when determining suitability, a discussion of all of the characteristics and risks of CMOs, should occur. This would include how changing interest rates may affect prepayment rates and therefore the average life of the security, tax considerations (CMOs are taxable at all levels), and the relationship between actual mortgage loans and mortgage-backed securities.
If general interest rates increase, the interest income of an open-end bond fund will:
increase Most mutual funds do not have 100% of their assets in securities and they continually receive new money from investors. Any increase in the general interest rate would allow the fund to purchase new, higher-yielding, lower-cost instruments, which would increase the fund's income.
A bond convertible at $50 is selling at 105% of parity, while the common stock has a current market value of $45. What is the market value of the bond?
$945 Each $1,000 bond would allow conversion into 20 shares of stock ($1,000 divided by $50). Parity is 20 × $45 (CMV) or $900; 105% of parity is $945.
From first to last, in what order would claimants receive payment in the event of bankruptcy?I. Holders of secured debt. II. Holders of subordinated debentures. III. General creditors. IV. Preferred stockholders.
I, III, II, IV.
Rank the following in order of payment at liquidation, from first to last. I.Employee wages. II.Preferred stock. III.Subordinated debentures. IV.Accrued taxes.
I, IV, III, II.
Accrued interest for U.S. government bonds is computed on the basis of:
actual days elapsed
Bond laddering is intended to
add diversification and decrease reinvestment risk in fixed income portfolios
If ABC Corporation reports a loss for the year, it is obligated to pay interest on all of the following EXCEPT:
adjustment bonds
The current yield of a callable bond selling at a premium is calculated:
as a percentage of its market value.
DMF Company has $50 million of convertible bonds (convertible at $50) outstanding. The current market value of DMF's stock is $42. The bond indenture contains a nondilution feature. If DMF declares a 10% stock dividend, the new conversion price will be:
below $50 With an antidilution feature, the issuer will increase the number of shares available upon conversion if the company declares a stock split or stock dividend. This means the bondholder must be able to convert it to more shares, which requires a lower conversion price.
All of the following will affect the marketability of a block of corporate bonds EXCEPT:
bond denominations
An investor purchasing long-term AAA rated bonds should be concerned most with:
inflation risk
The terminology "guaranteed full faith and credit" is most applicable to:
interest and principal on a U.S. government issued bond.
All of the following statements regarding CMOs are true EXCEPT:
interest is paid semiannually.
If an investor watches the latest T-bill auction fall to 4.71% from 4.82%, the best interpretation is that:
investors who purchased bills at this auction paid more for them than purchasers last week.
Treasury bills are:
issued in book entry form
A corporation plans to make a public tender for 50% of its outstanding subordinated debentures. The price of the tender will be set by the:
issuer In a tender offer, the issuer is offering to buy back all or a portion of the issue at a stated price. The price of the tender is set by the issuer although the issuer may engage an underwriter to help it set the price.
The price of which of the following will fluctuate most with fluctuating interest rates?
long term bonds Long-term debt prices will fluctuate more than short-term debt prices as interest rates rise and fall.
A customer purchases an ABC 6-½% convertible preferred stock at $80. The conversion price is $20. If the common stock is trading 2 points below parity, the price of ABC common is:
$14 The conversion ratio is computed by dividing par value by the conversion price ($100 par / $20 = 5). Parity price of the common stock is computed by dividing the market price of the convertible by the conversion ratio ($80 / 5 = $16). $16 − 2 = $14.
All of the following statements regarding Government National Mortgage Association (GNMA) pass-through securities are true EXCEPT
GNMAs are considered to be the riskiest of the agency issues
XYZ Corporation has outstanding a 7% convertible bond currently trading at 102. The bond, which has a conversion price of $50, was issued with an antidilution covenant. If XYZ declares a 10% stock dividend, the new conversion price, as of the ex-date, will be:
$45.45. To compute a new conversion price, divide the current conversion price by 100% plus the percent increase in shares. $50 / 110% = $45.45.
A customer bought a bond that yields 6-½% with a 5% coupon. If the bond matures at this point, the customer will receive:
$1025 Upon redemption of a bond, whatever current interest rates may be, the investor receives par ($1,000) plus the final semiannual interest payment ($25 in this case), for a total of $1,025.
If LMN, Inc. has filed for bankruptcy, in what order would interested parties be paid? 1.Holders of secured debt. 2.Holders of subordinated debentures. 3.General creditors. 4.Preferred stockholders.
1,3,2,4
Expressed as a percentage of par, one basis point equals:
1/100 of 1%
A customer purchased a callable XYZ Corporation 5% debenture to yield 4.5%. The price paid for the bond would most likely be:
100 1/2 In this example the stated coupon is greater than the yield or yield to maturity. This relationship exists when a bond is trading at a premium to par.
Which of the following securities is an original issue discount obligation?
13-week U.S. Treasury bills. U.S. Treasury bills are always originally issued at a discount and mature at par, with the investor making the appreciation between the original discounted amount and the par value at maturity. This appreciation is treated as interest, however, as opposed to a capital gain.
In a scenario of falling interest rates and a positive yield curve, assuming all to be of equal face value which of the following bonds will appreciate the most?
20-year bond selling at a discount In general, prices of long-term bonds are more volatile than prices of short-term bonds. Therefore, the 20-year bonds will appreciate more than the 1-year bonds when interest rates fall. Also, prices of bonds with low coupon rates tend to be more volatile than prices of bonds with high coupon rates. A bond sells at a discount when its coupon is lower than prevailing interest rates. Because of its lower coupon, the 20-year discount bond tends to appreciate more than the 20-year premium bond.
A May and November Treasury bond is traded the regular way on Wednesday, June 8th. The number of days of accrued interest is:
39 Accrued interest on government bonds is based on actual days in a year. Settlement occurs on the next business day. This bond pays interest in May and November, with the most recent payment on May 1st. Interest has accrued on this bond for 31 days in May and 8 days in June, for a total of 39 days. Settlement date is Thursday, June 9th.
On February 13, your customer buys an 8% Treasury bond maturing in 2009 for settlement on February 14. If the bonds pay interest on January 1 and July 1, how many days of accrued interest are added to the buyer's price?
44
A J & J Treasury bond with a 5% coupon due July 1, 2007, is purchased in a cash transaction on February 24. What is the number of days of accrued interest?
54
Which of the following statements regarding negotiable CDs are TRUE? I.The issuing bank guarantees them. II.They are callable. III.Minimum denominations are $1,000. IV.They can be traded in the secondary market.
I and IV minimum $100,000
The current yield on a bond with a coupon rate of 7.5% currently selling at 105-½ is approximately:
7.1% A bond with a coupon rate of 7.5% pays $75 of interest annually. Current yield equals annual interest amount divided by bond market price, or $75 / $1,055 = 7.109%, or approximately 7.1%.
Which of the following appreciates most during a period of falling interest rates?
7.6% coupon, 3-1/2 year maturity. Although all bonds would appreciate in value as a result of falling interest rates, bonds with longer maturities experience a greater appreciation than do shorter maturities. While lower coupon bonds tend to be more price sensitive the over riding factor will first be length of time to maturity.
A bond would be considered speculative below which of the following Standard & Poor's (S&P) ratings?
BBB
Which of the following CDs, all maturing in ten years, would be most suitable for an investor wanting long-term consistent income without incurring much risk?
CD with no call feature A noncallable CD would best meet the needs of this investor. Step-Down CDs have lower yields in later years. Callable CDs might limit the length of time the investor will hold the CD and brokered CDs issued by Broker/dealers carry additional risk because FDIC insurance does not apply.
A customer expresses the need to invest a fixed dollar sum now that will return a fixed dollar sum in 10 years. He mentions several investments. Of those listed which would not be a suitable recommendation for his objective?
CMO Due to the interest rate sensitivity of mortgage-backed securities and the possibility of high prepayment risk (receiving the invested funds back earlier than anticipated) CMOs would not be suitable. TIPs, designed to protect against inflation, and the high yield corporate bond if held to maturity, could each meet the objective. Zero coupon bonds are specifically designed to meet the objective of investing a fixed sum now and realizing a fixed sum later and in this regard would be the most suitable of those listed.
Which of the following statements regarding the international currency spot market is TRUE?
Currencies traded in the spot market settle in one or two business days.
An investor interested in monthly interest income should invest in:
GNMA
Which of the following agencies approves private lending institutions to issue bonds that are backed by the full faith and credit of the US government?
GNMA
Question ID: 605137 Of the following system characteristics which can be associated with TRACE (Trade Reporting and Compliance Engine)? I.Both sides of the transaction must report. II.Only the buyer is required to report . III.Municipal securities are excluded from the reporting system. IV.It is an execution and trade reporting system.
I and III
Seventy-five basis points are equal to which of the following? I..75%. II.7.5%. III.$7.50. IV.$75.00.
I and III
Treasury Inflation Protection Securities (TIPS) offer which of the following benefits to an investor? I.Semiannual adjustments to principal based on the CPI. II.A Guarantee of profit upon sale. III.The interest payments will keep pace with inflation. IV.TIPS provide investors with an income they can't outlive.
I and III
Assume that a corporation issues a 5% Aaa/AAA rated debenture at par. Two years later, similarly rated debt issues are being offered in the primary market at 5.5%. Which of the following statements regarding the outstanding 5% debenture are TRUE?I. The current yield on the debenture will be higher than 5%. II. The current yield on the debenture will be lower than 5%. III. The dollar price per bond will be higher than par. IV. The dollar price per bond will be lower than par.
I and IV
Which of the following are ordinarily TRUE concerning prepayment of CMOs?I. If interest rates fall, prepayments increase. II. If interest rates rise, prepayments increase. III. If interest rates fall, prepayments decrease. IV. If interest rates rise, prepayments decrease.
I and IV
Assume that a corporation issues a 5% Aaa/AAA rated debenture at par. Two years later, similarly rated debt issues are being offered in the primary market at 5.5%. Which of the following statements regarding the outstanding 5% debenture are TRUE?I. The current yield on the debenture will be higher than 5%. II. The current yield on the debenture will be lower than 5%. III. The dollar price per bond will be higher than par. IV. The dollar price per bond will be lower than par.
I and IV Because interest rates have risen after the issue of the 5% debenture, the bond's price will be discounted to result in a higher current yield (computed as annual income divided by current market price). Accordingly, the discounting of the issue will make the 5% debenture competitive with new issues offered with a 5.5% coupon.
Which of the following statements are TRUE regarding Sallie Mae debentures?I. Interest is generally paid monthly. II. Interest is generally paid semiannually. III. Interest is exempt from state and local taxation. IV. Interest is not exempt from state and local taxation.
II and III
Which of the following are characteristics of commercial paper? I.Registered with the SEC II.Short-term debt instrument. III.Issued by commercial banks. IV.Unsecured debt.
II and IV
PACs have
PACs have two companion tranches; one to absorb prepayments and one to buffer against extension risk. Because there is less risk and a more certain maturity date, PACs tend to have lower yields than comparable TACs.
A customer interested in a collateralized mortgage obligation (CMO) might look to which of the following for historical data or projections regarding mortgage prepayments?
PSA The Public Securities Association (PSA) uses historical data and projections of mortgage prepayments to estimate yield and maturity of different CMO tranches.
Which of the following disclosures regarding a CMO is accurate?
Rate of return may vary as a result of early prepayment.
Planned amortization class (PAC) CMOs were designed to provide which of the following benefits compared to plain vanilla tranches?
Reduce prepayment risk for tranche holders PACs reduce but cannot eliminate prepayment risk for tranche holders. The companion tranches will have higher prepayment risk than the PAC, as they were designed to absorb the bulk of the prepayment risk.
All of the following are characteristics of certificates of deposit EXCEPT:
The Federal Deposit Insurance Corporation (FDIC) provides insurance for CDs to $500,000. they provide up to $250,000
If a fund has a fixed portfolio of municipal bonds with long maturities, how will substantial changes in general interest rates affect the fund's portfolio?
The current value will fluctuate significantly, but the investment income will remain relatively unchanged.
Which of the following statements regarding corporate zero-coupon bonds are TRUE?
The discount is in lieu of periodic interest payments. and The discount must be accreted and is taxed annually. The investor in a corporate zero-coupon bond receives the return in the form of growth of the principal amount over the bond's life. The bond is purchased at a deep discount and redeemed at par at maturity. That discount from par represents the interest that will be earned at maturity date. However, the discount is accreted annually and the investor pays taxes yearly on the imputed interest.
Which of the following is TRUE concerning the payment of the repo rate?
The original seller pays the original buyer.
Consider a municipal bond issue that has been defeased. Which of the following statements is NOT true?
The rating on the issue decreases. Once a municipal issue has been defeased (pre-refunded), its rating increases as it is now backed by U.S. government securities held in escrow. As the rating of a bond increases, so does its marketability. Once defeased, the issue is no longer considered part of the issuer's outstanding debt (although it will remain outstanding with interest paid until called).
A customer buys an 8% bond on an 8.20 basis. If the bond is callable in 5 years at par and matures in 10 years, which of the following statements is TRUE?
YTC is higher than YTM. A bond with a YTM (basis) greater than its coupon is trading at a discount. When a bond is trading at a discount, the YTC is greater than the YTM. Nominal yield is lower than both YTM and YTC.
EE bonds
They are an accrual-type security. They are no longer exchangeable for Series HH bonds. are issued at 100% if face
Which of the following statements regarding private label CMOs is TRUE?
They carry no guarantee other than that of the good faith and credit of their issuer.
A money market mutual fund would be least likely to invest in which of the following assets?
US T notes
Which of the following corporate bonds is backed by other securities?
collateral trust bond
Bond trust indentures are required for:
corporate debt securities
The dated date on a municipal bond issue is the:
date on which the bonds begin accruing interest
All of the following securities are exempt from the Trust Indenture Act of 1939 EXCEPT:
debentures
A corporation is likely to call eligible debt when interest rates are:
declining
Which of the following interest rates is NOT market driven?
discount rate The discount rate is set by vote of the Federal Reserve Board. The remaining interest rates are directly or indirectly set by their markets.
All of the following are derivative securities EXCEPT:
general obligation bonds A derivative security is one whose value is dependent on (derived from) the value of another security. The value of an equity option is derived from the value of the underlying stock as is the value of a warrant. The value of a CMO is derived from the values of the underlying mortgages.
All of the following can be associated with asset-backed securities EXCEPT
minimal risk The value of asset-backed securities is backed by the expected cash flow from a pool of assets such as mortgages, other types of loans, credit card debt, and leases. Pooling individual smaller and sometimes less liquid assets into larger securities allows them to be sold easier to investors. This process is known as securitization. However, the cash flow from these assets is not guaranteed in any way, and therefore, these securities can not be characterized as carrying minimal risk.
The following is taken from the S&P Bond Guide: FLB Zr 12 87 87-½. What is the coupon rate on this bond?
no coupon FLB is the issuer, Zr means zero-coupon, 12 indicates the year of maturity (2012), 87 is the bid price ($870), and 87-½ is the asked price ($875).
An investor anticipating a fall in interest rates would likely purchase
noncallable bonds if interest falls bonds are likely to be called
An investor purchases $10,000 worth of Treasury bills on November 27 and holds them until they mature on March 30 of the following year. For purposes of taxation, the interest from those Treasury bills is treated as:
ordinary income
A corporate bond with a nominal yield of 6% is currently trading at a yield to maturity (YTM) of 5.8%. It would be accurate to state that this bond is trading at
premium because YTM is below nominal yield
A planned amortization class (PAC) CMO offers:
protection from both prepayment and extension risk.
If interest rates increase, the interest payable on outstanding corporate bonds will:
remain unchanged The interest payable is the nominal yield, which is stated on the face of the bond. It is the percentage of face value the bond will pay each year regardless of the prevailing interest rates in the market. It is the market price of bonds, not the interest payable, that responds inversely to changes in interest rates.
Your customer has listed income and safety of principal as his primary investment objectives. Which of the following might be the least suitable recommendation?
sovereign debt securities The least suitable of the answer choices given would be sovereign debt securities due to the unique and varied risks with which they are associated. Amongst those risks would be the instability of the issuing government, unfavorable changes in currency exchange rates, or inaccurate estimates of the payback from the projects the bonds finance. All of these risks can adversely impact the investment.
Which of the following is TRUE of taxation of CMO interest?
subject to all levels of taxation
A CMO makes an interest-only payment to an investor. This payment will be:
taxed as ordinary income.
If interest rates are dropping, an investor with a maturing bond will be most concerned with:
the difficulty in finding another investment with a like yield.
Interest on direct debt issued by the U.S. government is taxable at:
the federal level and exempt at the state level.
If a customer buys bonds that have already been called, the trade confirmation must disclose all of the following EXCEPT:
the yield to original maturity. must include: YTC, redemption price and redemption date
All of the following statements are true regarding the federal Farm Credit System securities EXCEPT:
they are direct obligations of the U.S. government. With the exception of Ginnie Mae, all agency securities are indirect obligations of the U.S. government.
All of the following statements regarding discount bonds are correct EXCEPT:
they are more likely to be called than comparable premium bonds.
All of the following statements are true regarding eurodollar bonds EXCEPT:
they are registered with the SEC
Which of the following statements regarding Series EE bonds is NOT true?
they earn tax free interest
In comparing long-term and short-term bonds, all of the following are characteristics of long-term bonds EXCEPT that they:
usually provide greater liquidity LT bonds: will fluctuate in price more in response to interest rate changes. usually have higher yields. are more likely to be callable.
An investor interested in acquiring a convertible bond as part of his investment portfolio would:
want the safety of a fixed-income investment along with potential capital appreciation. An investor who wants the safety of a fixed-income investment with the potential for capital gains would be most interested in purchasing a convertible bond. However, because convertible bonds can be exchanged for common stock, their market price tends to be more volatile during times of steady interest rates than other fixed-income securities.
Treasury STRIPS and Treasury receipts are quoted based on
yield to maturity
Each of the following securities trade "and interest" EXCEPT:
zero coup bonds
