Finance 450 Exam 2 Concepts

The NYSE differs from the NASDAQ primarily because the NYSE has:

-a physical location -a face-to-face auction market

real rate of return

-change of percentage in buying power -rate of return that has been adjusted for inflation

Preferred stock has preference over common stock in the:

-distribution of corporate assets -payment of dividends

What information do we need to determine the value of a stock using the zero growth model?

-dividend -discount rate

In the dividend growth model, the expected return for investors comes from which two sources?

-dividend yield -growth rate

As a general rule, which of the following are true of debt and equity:

-equity represents an ownership interest -the maximum reward for owning debt is fixed

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

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

Which three components determine the shape of the term structure of interest rates?

-interest rate risk premium -inflation premium -real interest rate

The term structure of interest rates is primarily based on which three of the following?

-interest rate risk premium -real rate of interest -inflation premium

Synonyms for dirty price

-invoice price -full price

NASDAQ has which of these features?

-multiple market maker system -computer network of securities dealers

Which of the following ratios might be used to estimate the value of a stock?

-price to earnings -price to sales

2 major forms of long-term debt

-public issue -private issue

Which of the following are reasons that make valuing a share of stock more difficult than valuing a bond?

-stock has no set maturity -the required rate of return is unobservable -dividends are unknown and uncertain

Which of the following represents the valuation of stock using a zero growth model?

Dividend/Discount rate = D/R

What is the formula for the present value of a growing perpetuity where C1 is the net cash flow, R is the required return and g is the growth rate?

P = C1/(R-g)

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

The Fisher Effect

A PE ratio that is based on estimated future earnings is known as a ____________ PE ratio.

forward

Longer-term bonds have __________ interest rate sensitivity because a large portion of a bond's value comes from the face amount

greater

The higher the coupon rate, the _______ the interest rate risk, all other things being equal

greater

The __________ can be interpreted as the capital gains yield.

growth rate

The value of a firm is derived using the firm's ______ rate and its _______ rate

growth; discount

If shareholders are granted a preemptive right they will:

have priority in the purchase of any newly issued shares.

"Inside Quotes" represent the _________ and the ________.

highest bid price; lowest ask price

When interest rates in the market fall, bond values will increase because the present value of the bond's remaining cash flows ____.

increases

A(n) _______________ is a contract between a bond's issuer and its holders.

indenture

The bonds of a firm in financial distress may have a market value that is ____________ than the face value at maturity.

less

higher coupon is ________ risk

less

shorter time is ______ risk

less

The model that precisely specifies the relationship between the nominal rate and the real rate is

(1 + R) = (1 + r)×(1 + h)

P0=

(D1 + P1)/(1 + R)

A corporate bond's yield to maturity:

- is usually not the same as a bond's coupon rate - changes over time

What are some features of the OTC market for bonds?

-OTC dealers are connected electronically -The OTCH has no designated physical location

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

-Treasury bonds are considered free of default risk while corporate bonds are exposed to default risk. -Treasury bonds are issued by the US government while corporate bonds are issued by corporations. -Treasury bonds offer certain tax benefits to investors that corporate bonds cannot offer.

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

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

Which of the following are bonds that have actually been issued?

-a CoCo bond -a convertible bond -a put bond

A benchmark PE ratio can be determined using:

-a company's own historical PEs -the PEs of similar companies

What is the bid price?

-the price a dealer is willing to pay for a security -the price an investor will receive if he sells a bond to a dealer

Bid price

-the price a dealer is willing to pay for a security -the price an investor will receive if he sells a bond to a dealer.

The term structure of interest rates describes ________.

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

The term structure of interest rates describes:

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

Which of the following are rights of common stock holders?

-the right to share proportionally in any residual value in the event of liquidation. -the right to share proportionally in any common dividends paid. -the right to vote on matters of importance.

Which of the following are true of bonds?

-they are normally interest only bonds -they are issued by both corporations and governments

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

-upward sloping -humped -downward sloping

Four variables required to calculate the value of a bond:

-yield to maturity -coupon rate -par value -time remaining to maturity

If you are holding a municipal bond that is trading at par to yield 6%, by how much will your after-tax yield change if your federal income tax bracket increases from 15% to 20%. Assume there are no state or local taxes

0%

Crossover bonds can also be called

5B bonds

What are municipal bonds?

Bonds that have been issued by state or local governments

Dividend Yield Formula=

D1/P0

R=

D1/P0+g

The constant growth model can be used to value the stock of firms that have which type(s) of dividends?

Dividends that are either constant or change annually at a constant rate

Websites that allow investors to trade directly with one another are termed _______.

ECNs

Bonds that have dropped into junk territory are called:

Fallen Angels

What does the dirty price represent?

It includes the quoted price and accrued interest

What is a bond's accrued interest?

It is interest that has been earned but not yet received by the current bondholder

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

inflation premium

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

What does a Treasury yield curve show?

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

What will happen to a bond's time to maturity as the years go by?

It will decline.

What does a bond's rating reflect?

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

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

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

___________ is calculated by adding the dividend yield and the capital gains yield.

Total return

Low-grade bonds (junk bonds) may not be rated by major rating agencies T/F

True

Two unique features of U.S. fedreal government bonds

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

When long-term rates are higher than short-term rates, which of the following shapes will the term structure of interest rates usually have?

Upward sloping

The nominal rate is found by adding the _____ and the real rate of return.

`inflation

zero-coupon bonds

a bond that makes no interest payments and is thus initially priced at a deep discount

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

proxy vote

a vote cast by one person for or in place of another

The coupon payments on floating-rate bonds are _____.

adjustable

A debenture is:

an unsecured bond

Current yield=

annual coupon payment/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

A person who brings buyers and sellers together is called a(n) ______.

broker

A provision in the bond indenture giving the issuing company the option to repurchase the bonds before maturity is termed a

call provision

Which one of the following must equal zero if a firm pays a constant annual dividend?

capital gains yield

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

changes in interest rates can cause changes in bond prices

From a legal perspective, preferred stock is a form of ____________ _________.

corporate equity

If unpaid preferred dividends must be "caught up" before any common dividends can be paid, they are called _________ dividends.

cumulative

Someone who maintains an inventory of stocks and buys and sells those stocks is known as a ___________

dealer

The bid-ask spread represents the _________

dealer's profit

All else constant, the dividend yield will increase if the stock price ___________

decreases

Bond ratings are concerned only with the possibility of __________

default

Treasury bonds have no

default risk

YTM > coupon rate

discount bond

What is a discount bond?

discount bonds are bonds that sell for less than the face value

A key difference between interest payments and dividend payments is?

dividends are not tax deductible and interest is tax deductible

The constant-growth model assumes that ____________.

dividends change at a constant rate

When short-term rates are higher than long-term rates, we say it is __________________.

downward sloping

Debt cannot be subordinated to

equity

In general, the price that is paid for a bond will __________ its quoted price.

exceed (because of accrued interest)

The price of a share of common stock is equal to the present value of all ______ future dividends.

expected

The price of a share of common stock is equal to the present value of all _________ future dividends.

expected

Which one of the following components of a bond's yield will be affected by the fact that no active secondary market is expected for these bonds?

liquidity premium

The interest rate risk premium is the additional compensation demanded by investors for holding ____ bonds

longer-term

A zero-coupon bond is a bond that ____.

makes no interest payments

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

many bond transactions are negotiated privately

Which one of the following is the most important source of risk from owning bonds?

market interest rate fluctuations

The government sells Treasury notes and bonds to the public every __________.

month

Bonds issued by state and local governments are called _______ ______

municipal bonds

When voting for the board of directors, the number of votes a shareholder is entitled to is generally determined as follows:

one vote per share held

The fundamental business of the New York Stock Exchange is to attract _______.

order flow

Which of the following variables is NOT required to calculate the value of a bond?

original issue price of bond

Investors require a __________ for the risk that issuers other than the Treasury may not make all promised payments on the issued bonds.

premium

YTM<coupon rate

premium bond

Initial public offerings of stock occur in the ________ market.

primary

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

protective covenants

A _______ bond allows the holder to force the issuer to buy the bond back at a stated price.

put

The term structure of interest rates examines the _____________

relationship between short-term and long-term interest rates

The trading of existing shares occurs in the _________ market.

secondary

New York Stock Exchange Designated Market Makers (DMMs) were formerly called _____________

specialists

Earnings over the coming year are expected to be $3 and a benchmark PE of 15 applies to earnings over the previous year. The _____, or forecast, price over the coming year is $45.

target

If you are holding two identical bonds, except that one matures in 10 years and the other matures in 5 years, which bond's price will be more sensitive to interest rate risk?

the 10-year bond

A put bond allows

the holder to force the issuer to buy the bond back at a stated price

Clean price

the quoted price excluding accrued interest

The current yield on a bond is:

the return an investor would expect to earn they purchased the bond and held it for a year

The degree of interest rate risk depends on ____________

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

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

unsecured

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

with a lag to some base rate

The market-required rate of return on a bond that is held for its entire life is called the

yield to maturity

All else held constant, the present value of a bond increases when the

yield to maturity decreases

Which one of the following terms applies to a bond that initially sells at a deep discount and only makes one payment to bondholders?

zero coupon