FIN 510 CHPT 14

A particular asset that the bondholders receive if the firm defaults on a bond is the bond's ______________.

Collateral

A bond with an option allowing the bondholder to exchange the bond for a specified number of shares of common stock in the firm is a(n) ______________ bond.

Convertible

The curvature of the price-yield relationship of a bond is referred to as its ___________.

Convexity

A bond whose interest rate is reset periodically according to a specified market rate is a(n) ______________-___________ bond.

Floating Rate

True or false: Holding-period return is the rate of return over a particular investment period and depends on the market price of the bond at the end of that holding period; the price is known today

False. notes: Reason: the price is not known today

Select all that apply Which statements are true of zero-coupon bonds? The IRS treats their price appreciation as imputed taxable interest income to the investor. The yield to maturity of a zero coupon bond is the same as its holding period return over any holding period. Prices of zero-coupon bonds rise exponentially over time. The realized compound return over the life of a zero-coupon bond can only be known at maturity.

The IRS treats their price appreciation as imputed taxable interest income to the investor. Prices of zero-coupon bonds rise exponentially over time. notes: Since there are no coupon payments, there is no reinvestment risk. This is true if interest rates are constant, but if they are not they will differ.

Select all that apply Which of the following statements regarding floating-rate bonds is not true? The yield spread is variable over the life of the security* Floating-rate bonds pay approximately current market rates. The coupon rate on floaters does not adjust to changes in the general level of market interest rates. Floating-rate bonds make interest payments tied to some measure of current market rates.

The yield spread is variable over the life of the security The coupon rate on floaters does not adjust to changes in the general level of market interest rates.

Select all that apply For what purposes are credit default swaps bought or sold? To hedge default risk To exchange currencies at a specified future date To speculate that a firm is in a better financial condition than generally believed To hedge interest rate risk

To hedge default risk To speculate that a firm is in a better financial condition than generally believed notes: Selling CDS's can be profitable if the riskiness of an issuer's debt is overestimated. People buy CDS's as insurance on debt when they believe it's likely the issuer will default. Interest rate swaps are used to hedge interest rate risk. Exchanging currencies would be done with a currency swap.

True or false: Convexity refers to the curvature that reflects the fact that progressive increases in the interest rate results in progressively smaller reductions in the bond price. True False

True

True or false: The yield to maturity differs from the current yield of a bond, which is the bond's annual coupon payment divided by its price. True False

True

When interest rates are positive, a zero-coupon bond will be issued at ______. a discount a premium par

a discount

Grant Manufacturing has issued two bonds recently, one that is callable and one that is not. The callable bond is most likely to have ______. a lower coupon rate a longer time to maturity a higher yield to maturity

a higher yield to maturity notes: Callable bonds typically have higher coupon rates to attract potential bondholders. Otherwise there would be a "free lunch" for the issuer. There is no need for the maturity to differ.

A basic debt security is a ______. call option warrant bond share of stock

bond

A bond that the issuer may repurchase at a given price in some specified period is a(n) ____________ bond.

callable

Select all that apply The risk that an issuer will not fully make a bond's promised payments is referred to as ______ risk. duration reinvestment credit default

credit default

The name for the derivative contract in which one party sells insurance concerning the credit risk of another firm is ________________ _____________ ____________ .

credit default swap

A bond's annual coupon payment divided by its price is defined as its ___________ yield.

current

The two most common liquidity ratios are the ___________ ratio and the __________ ratio.

current quick

Select all that apply When a bond matures, the issuer repays the debt by paying the bond's ______. present value face value par value future value

face value par value

When rates rise, bond prices _______________ , which _____________ the value of the portfolio. Reinvestment rate risk offsets ______________ risk.

fall reduces price

When a bond pays its coupon, _________ ___________ equals invoice price because at the moment, accrued interest reverts to zero

flat price

For premium bonds, the coupon rate is _____ the yield to maturity. less than greater than the same as

greater than note: When a bond's yield to maturity equals the coupon rate, it trades at par. For a premium bond, the YTM is lower--that is, the coupon rate is higher.

The rate of return of a bond over a given period is referred to as its ____________-period return.

holding

Forecasting the realized compound yield over various holding periods is referred to as ___________ analysis.

horizon

When the interest rate ______, the price of a bond will ______. decreases; increase increases; increase increases; decrease decreases; decrease

increases; decrease decreases; increase

The document defining the contract between the bond issuer and the bondholder is referred to as the bond __________.

indenture

The two segments of the __ market are __. international bond; foreign bonds and Eurobonds Eurobond; international bonds and foreign bonds foreign bond; Eurobonds and international bonds

international bond; foreign bonds and Eurobonds

The price of a bond is the sum of the ______ values of its coupon payments and par value. real annuity future present

present

Select all that apply The forecast of total return depends on your forecasts of a longer investment horizon price of the bond when you sell it at the end of your horizon the rate at which you are able to reinvest coupon income

price of the bond when you sell it at the end of your horizon the rate at which you are able to reinvest coupon income

Select all that apply A bond that the holder may choose either to exchange for par value at some date or to extend for a given number of years is known as a(n) ______ bond. convertible put puttable extendable

put puttable extendable note: For a convertible bond, the issuer has the exchange option.

Select all that apply Bonds with low credit ratings are referred to as ______. junk bonds risk-free investment-grade speculative-grade

speculative-grade junk bonds

A provision in a bond indenture that restricts the issuer's future borrowing by lessening the new lenders' claims on the firm relative to those of the existing bond holders is referred to as a(n) ______________ clause.

subordination

The extendability of a put bond makes the bond more valuable to ______. . the issuer both the issuer and the bondholder neither the issuer nor the bondholder the bondholder

the bondholder

The slices of pooled loans used by CDOs to create safer and riskier securities are referred to as ______. CDS contracts tranches mezzanines SIVs

tranches

Matching: 1. CDO 2. CDS 3. SIV a. A pool of loans sliced into several tranches with different levels of risk b. A contract that provides insurance against the risk of default c. An off-balance sheet virtual bank, frequently operated by a commercial bank or an investment bank, that raises short-term funds to finance longer-term investment

1. A 2. B 3. C SIV matches Choice, An off-balance sheet virtual bank, frequently operated by a commercial bank or an investment bank, that raises short-term funds to finance longer-term investment An off-balance sheet virtual bank, frequently operated by a commercial bank or an investment bank, that raises short-term funds to finance longer-term investment CDO matches Choice, A pool of loans sliced into several tranches with different levels of risk A pool of loans sliced into several tranches with different levels of risk CDS matches Choice, A contract that provides insurance against the risk of default A contract that provides insurance against the risk of default

Match the numbers with correct terms in the bond value formula as it is typically written. 1 ∑ 3/4 + 5/6 2 (1+r)^T T t=1 (1+r)^t Par value Coupon

1. T (system wants: t=1) 2. t=1 (system wants: T) 3. Coupon 4. (1+r)^t 5. Par value 6. (1+r)^T

What is the formula for the present value of a $1 annuity that lasts for T periods when the interest rate equals r? r [1−1/(1+r)T] 1/r [1−1/(1+r)T] 1/r [1−(1+r)T] r [1−(1+r)T]

1/r [1−1/(1+r)T]

Select all that apply Which statements about realized compound return are correct? A bond's realized compound return will equal its yield to maturity if its coupons are reinvested at an interest rate equal to the YTM. The realized compound return of a zero-coupon bond equals its yield to maturity. A bond's realized compound return generally cannot be calculated in advance. The realized compound return of a bond is higher than its yield to maturity.

A bond's realized compound return will equal its yield to maturity if its coupons are reinvested at an interest rate equal to the YTM. The realized compound return of a zero-coupon bond equals its yield to maturity. A bond's realized compound return generally cannot be calculated in advance. notes: The relationship between RCR and YTM for a bond depends on the interest rate at which its coupons are reinvested.

The invoice price a buyer actually pays for the bond includes ____________ ________________.

Blank 1: accrued Blank 2: interest

The number of shares for which each convertible bond may be exchanged is given by the ___________ _____________ .

Blank 1: conversion Blank 2: ratio

Preferred stock has features similar to both __________ and ____________ .

Blank 1: equity Blank 2: debt

An indenture provision specifying requirements of collateral, sinking fund, dividend policy, etc., designed to guard the interests of bondholders is a(n) ____________ ____________ .

Blank 1: protective Blank 2: covenant

The yield on a bond and its reinvested coupons over the life of a bond is its _____________ _____________ ___________.

Blank 1: realized Blank 2: compound Blank 3: return or rate

The interest rate that makes the present value of a bond's payments equal to its price is defined as the bond's ________________________ ______________________ ________________ .

Blank 1: yield Blank 2: to Blank 3: maturity

A bond paying no coupons that sells at a discount and provides payment of face value only at maturity is referred to as a(n) ___________ -__________ bond.

Blank 1: zero Blank 2: coupon

Original-issue discount bonds that are issued intentionally with low coupon rates that cause the bond to sell at a discount from par value are referred to as _____________-____________ bonds.

Blank 1: zero Blank 2: coupon

Select all that apply A claim on a specified periodic stream of income is a(n) ______ security. fixed-income derivative debt equity

Debt Fixed-income

A bond denominated in a particular currency but sold to investors in national capital markets other than the country that issued the denominating currency is a(n) ________________ issue.

Eurobond

Select all that apply Which statements about preferred stock are true? It conveys voting power regarding the management of the firm. Their dividends are tax deductible expenses to the issuing firms. It pays a fixed stream of income without a contractual obligation to make the payments. Corporations may exclude 70% of dividends received from domestic corporations from taxable income.

It pays a fixed stream of income without a contractual obligation to make the payments. Corporations may exclude 70% of dividends received from domestic corporations from taxable income.

The _____________ ____________ is the present value of a single payment of $1 to be received in T periods.

PV factor

Bonds selling above par value are _____________ bonds, and those selling below par value are ______________ bonds.

Premium Discount

_________________ ratios measures rates of return on assets of equity and are indicators of a firm's overall financial health.

Profitability

The uncertainty surrounding the cumulative future value of bond payments when future rates are uncertain is referred to as _________ ___________ risk.

Reinvestment Rate

A convertible bond becomes more valuable to the bondholder when stock prices ______. rise fall remain the same

Rise

A bond that is not backed by specific collateral is a(n) ______ bond. debenture secured equipment obligation mortgage

debenture note: Secured bonds have collateral; unsecured bonds do not. These are collateralized by equipment. A mortgage is a bond that is collateralized by property.

The difference between the promised yield on a corporate bond and the yield of an otherwise-identical government bond that is riskless is defined as the ______________ premium.

default

Since a bond is a series of cash flows, an increase in the interest rate makes all of the cash flows _____ valuable and ______ the price of the bond. more; increases less; increases less; reduces more; reduces

less; reduces

Select all that apply Which of the following must an investor consider in the purchase of a bond that is not quoted a promised rate of return? maturity date rate of return over bond's life coupon payments bond price

maturity date coupon payments bond price

When bonds are subject to potential default, the stated yield to maturity is the ______ yield to maturity that can be realized by the bondholder. minimum possible average historical maximum possible

maximum possible