Chapter 7
Which one of these correctly specifies the relationship between the nominal rate and the real rate?
(1 + R) = (1 + r) × (1 + h)
In terms of time to maturity, U.S. Treasury notes and bonds have initial maturities ranging from ___ years.
2-30 years
A bond pays annual interest payments of $50, has a par value of $1,000, and a market price of $1,200. How is the coupon rate computed?
50/1000 Coupon rate is a percentage of par value, so in this case it's $50/$1,000 = 0.05 = 5%.
Structured Note
Based on financial securities, commodities, or currencies
In financial markets the difference between the _______ price and the ask price is known as the spread.
Bid
If a given set of cash flows is expressed in _______ terms and discounted at _______ the rate, the resulting present value will be the same as if the cash flows were expressed in real terms and discounted at the real rate.
Blank 1: nominal Blank 2: nominal
Convertible bond
Can be exchanged for shares of stock
A bond with exotic features is often called a _____ bond.
Cat
As an investor in the bond market, why should you be concerned about changes in interest rates?
Changes in interest rates cause changes in bond prices.
What is the coupon rate on a bond that has a par value of $1,000, a market value of $1,100, and a coupon interest payment of $100 per year?
Coupon rate = $100/$1,000 = .10, or 10% 10%
Which of the following is not a difference between debt and equity?
Equity is publicly traded while debt is not
True or false: A bond's value is not affected by changes in the market rate of interest.
False
True or false: The real rate of return will generally be higher than the nominal rate of return.
False
What are three important features of Treasury notes and bonds?
Highly liquid Default-free Taxable
In terms of time to maturity, U.S. Treasury notes and bonds have initial maturities ranging from ___ years.
In terms of time to maturity, U.S. Treasury notes and bonds have initial maturities ranging from ___ years.
What is a real rate of return?
It is a rate of return that has been adjusted for inflation.
The U.S. Treasuries market is the _____ in the world in terms of trading volume.
Largest
Which six factors determine the yield on a bond?
Liquidity Real rate of return Expected future inflation Default risk Interest rate risk Taxability
The maximum reward for owning debt is fixed Equity represents an ownership interest
Market interest rate fluctuations
Which one of the following is the most important source of risk from owning bonds?
Market interest rate fluctuations
Put Bond
Owner can force issuer to repay prior to maturity at a stated price
CAT bond
Protects insurance companies from natural disasters
If a given set of cash flows is expressed in nominal terms and discounted at the nominal rate, the resulting present value will be the same as if the cash flows were expressed in real terms and discounted at the ____ rate.
Real
Within the context of financial markets, complete the following equation: Bid − Ask =
Spread
Which is the largest security market in the world in terms of trading volume?
The U.S. Treasuries market
Why does a bond's value fluctuate over time?
The coupon rate and par value are fixed, while market interest rates change
The federal government can raise money from financial markets to finance its deficits by ___.
The federal government can raise money from financial markets to finance its deficits by ___.
As a general rule, which of the following are true of debt and equity?
The maximum reward for owning debt is fixed Equity represents an ownership interest
What does the clean price for a bond represent?
The quoted price, which excludes interest accrued since the last coupon date.
Which of the following are usually included in a bond's indenture?
The total amount of bonds issued The repayment arrangements
Select all that apply The U.S. government borrows money by issuing
Treasury notes Treasury bills Treasury bonds
When the U.S. government wants to borrow money for the long-term (more than one year) it issues:
Treasury notes Treasury bonds
True or false: Equity represents an ownership interest.
True
True or false: The major difference between Western financial practices and Islamic law is that Islamic law does not permit charging or paying interest.
True
The main reason it is important to distinguish between debt and equity is that the benefits and risks _____.
are different
Secondary markets in sukuk are extremely illiquid because most sukuk are:
bought and held to maturity
With -rate bonds, the coupon payments are adjustable.
floating
A limitation of bond ratings is that they ____.
focus exclusively on default risk
The written agreement between the corporation and the lender detailing the terms of the debt issue is the
indenture
If the term structure of interest rates is upward sloping, then ____.
long-term rates are higher than short-term rates
A zero coupon bond is a bond that ____.
makes no interest payments
Bond ratings are based on the probability of default risk, which is the risk that ___.
the bond's issuer may not be able make all the required payments
The Fisher effect decomposes the nominal rate into:
the inflation rate and the real rate
If you own corporate bonds, you will be concerned about interest rate risk as it affects ____.
the market price of the bonds
Most of the time, a floating-rate bond's coupon adjusts ____.
with a lag to some base rate
True or false: Interest earned on Treasury notes and bonds is taxable
True
When the term structure of interest rates is downward sloping, ____.
When the term structure of interest rates is downward sloping, ____.
Which of the following are usually included in a bond's indenture?
Which of the following are usually included in a bond's indenture?
The _______ yield is the bond's annual coupon divided by its price.
Current
What is a bond's current yield?
Current yield = Annual coupon payment/Current price
Which of these risks is addressed by bond ratings?
Default risk
What are some reasons why the bond market is so big?
Many corporations have multiple bond issues outstanding. Federal government borrowing activity in the bond market is enormous. Various state and local governments also participate in the bond market.
What are the cash flows involved in the purchase of a 5-year zero coupon bond that has a par value of $1,000 if the current price is $800? Assume the market rate of interest is 5 percent.
Pay $800 today and receive $1,000 at the end of 5 years Reason: A zero coupon bond pays no coupon interest. The cash flows are just the purchase today and the repayment of par value in 5 years.
Which of the following institutions issue bonds that are traded in the bond market?
State governments The federal government Public corporations