Institutions and Markets ch 5
The risk structure of interest rates is explained by A) default risk. B) liquidity. C) tax considerations. D) all of the above
d
When yield curves are steeply upward-sloping, A) long-term interest rates are above short-term interest rates. B) short-term interest rates are above long-term interest rates. C) short-term interest rates are about the same as long-term interest rates. D) medium-term interest rates are above both short-term and long-term interest rates. E) medium-term interest rates are below both short-term and long-term interest rates.
a
Which of the following long-term bonds should have the highest interest rate? A) Corporate Baa bonds B) U.S. Treasury bonds C) Corporate Aaa bonds D) Municipal bonds
a
Which of the following statements are true? A) Because coupon payments on municipal bonds are exempt from federal income tax, the expected after-tax return on them will be higher for individuals in higher income tax brackets. B) An increase in tax rates will increase the demand for Treasury bonds, lowering their interest rates. C) Interest rates on municipal bonds will be higher than on comparable bonds without the tax exemption. D) Only A and B are true statements
a
(I) If a corporation suffers big losses, the demand for its bonds will rise because of the higher interest rates the firm must pay. (II) The spread between the interest rates on bonds with default risk and default-free bonds is called the risk premium. A) (I) is true, (II) false. B) (I) is false, (II) true. C) Both are true. D) Both are false.
b
The liquidity premium theory of the term structure A) assumes investors tend to prefer short-term bonds because they have less interest-rate risk. B) assumes that interest rates on the long-term bond respond to demand and supply conditions for that bond. C) assumes that an average of expected short-term rates is an important component of interest rates on long-term bonds. D) assumes all of the above. E) assumes none of the above.
d
The term structure of interest rates is A) the relationship among interest rates of different bonds with the same risk and maturity. B) the structure of how interest rates move over time. C) the relationship among the terms to maturity of different bonds from different issuers. D) the relationship among interest rates on bonds with different maturities but similar risk.
d
When the corporate bond market becomes less liquid, other things equal, the demand curve for corporate bonds shifts to the ________ and the demand curve for Treasury bonds shifts to the ________. A) right; right B) right; left C) left; left D) left; right
d
According to the expectations theory of the term structure, A) when the yield curve is steeply upward-sloping, short-term interest rates are expected to rise in the future. B) when the yield curve is downward-sloping, short-term interest rates are expected to decline in the future. C) buyers of bonds prefer short-term to long-term bonds. D) all of the above. E) only A and B of the above.
e
According to the expectations theory of the term structure, A) yield curves should be equally likely to slope downward as to slope upward. B) when the yield curve is steeply upward-sloping, short-term interest rates are expected to rise in the future. C) when the yield curve is downward-sloping, short-term interest rates are expected to remain relatively stable in the future. D) all of the above. E) only A and B of the above
e
A bond with default risk will always have a ________ risk premium, and an increase in its default risk will raise the risk premium. A) positive B) negative C) unpredictable D) minimal
a
A moderately upward-sloping yield curve indicates that short-term interest rates are expected to A) neither rise nor fall in the near future. B) remain relatively unchanged, but that long-term rates are expected to fall. C) neither rise nor fall, but that long-term rates are expected to rise moderately. D) rise moderately in the near future
a
Closely related to the ________ is the preferred habitat theory, which takes a somewhat less direct approach to modifying the expectations hypothesis but comes to a similar conclusion. A) liquidity premium theory B) expectations theory C) market segmentation theory D) supply theory
a
Corporate bonds are not as liquid as government bonds because A) fewer bonds for any one corporation are traded, making them more costly to sell. B) the corporate bond rating must be calculated each time they are traded. C) corporate bonds are not callable. D) all of the above. E) only A and B of the above
a
If the expected path of one-year interest rates over the next five years is 2 percent, 4 percent, 1 percent, 4 percent, and 3 percent, then the pure expectations theory predicts that the bond with the lowest interest rate today is the one with a maturity of A) one year. B) two years. C) three years. D) four years.
a
Of the four theories that explain how interest rates on bonds with different terms to maturity are related, the one that views long-term interest rates as equaling the average of future short-term rates expected to occur over the life of the bond is the A) pure expectations theory. B) preferred habitat theory. C) liquidity premium theory. D) segmented markets theory.
a
Typically, yield curves are A) gently upward-sloping. B) gently downward-sloping. C) flat. D) bowl shaped. E) mound shaped.
a
When a municipal bond is given tax-free status, the demand for Treasury bonds shifts ________, and the interest rate on Treasury bonds ________. A) leftward; rises B) leftward; falls C) rightward; rises D) rightward; falls
a
A bond rating of Aa or AA would mean that the quality of the bond is A) the highest. B) high. C) medium grade. D) speculative
b
According to the expectations theory of the term structure, A) the interest rate on long-term bonds will exceed the average of expected future short-term interest rates. B) interest rates on bonds of different maturities move together over time. C) buyers of bonds prefer short-term to long-term bonds. D) all of the above. E) only A and B of the above.
b
According to the liquidity premium theory of the term structure, A) because buyers of bonds may prefer bonds of one maturity over another, interest rates on bonds of different maturities do not move together over time. B) the interest rate on long-term bonds will equal an average of short-term interest rates that people expect to occur over the life of the long-term bonds plus a term premium. C) because of the positive term premium, the yield curve cannot be downward-sloping. D) all of the above. E) only A and B of the above.
b
An increase in marginal tax rates would likely have the effect of ________ the demand for municipal bonds and ________ the demand for U.S. government bonds. A) increasing; increasing B) increasing; decreasing C) decreasing; increasing D) decreasing; decreasing
b
If the yield curve has a mild upward slope, the liquidity premium theory indicates that the market is predicting A) a rise in short-term interest rates in the near future and a decline further out in the future. B) constant short-term interest rates in the near future and further out in the future. C) a decline in short-term interest rates in the near future and a rise further out in the future. D) a decline in short-term interest rates in the near future and an even steeper decline further out in the future.
b
In actual practice, short-term interest rates are just as likely to fall as to rise; this is the major shortcoming of the A) market segmentation theory. B) expectations theory. C) liquidity premium theory. D) separable markets theory.
b
The risk structure of interest rates is A) the structure of how interest rates move over time. B) the relationship among interest rates of different bonds with the same maturity. C) the relationship among the terms to maturity of different bonds. D) the relationship among interest rates on bonds with different maturities
b
When the default risk on corporate bonds decreases, other things equal, the demand curve for corporate bonds shifts to the ________ and the demand curve for Treasury bonds shifts to the ________. A) right; right B) right; left C) left; left D) left; right
b
________ are investment advisory firms that rate the quality of corporate and municipal bonds in terms of probability of default. A) Financial institutions B) Credit-rating agencies C) Securities companies D) none of the above
b
Bonds with relatively low risk of default are called A) zero coupon bonds. B) junk bonds. C) investment-grade bonds. D) none of the above.
c
Holding everything else constant, if a corporation begins to suffer large losses, then the default risk on its bonds will ________ and the expected return on those bonds will ________. A) increase: increase B) decrease; increase C) increase; decrease D) decrease; decrease
c
If a bond has a favorable tax treatment, its required interest rate (all else equal) A) will be higher. B) will not be affected. C) will be lower. D) all of the above could happen
c
If income tax rates rise, then A) the prices of municipal bonds will fall. B) the prices of Treasury bonds will rise. C) the interest rate on Treasury bonds will rise. D) the interest rate on municipal bonds will rise.
c
If income tax rates were lowered, then A) the interest rate on municipal bonds would fall. B) the interest rate on Treasury bonds would rise. C) the interest rate on municipal bonds would rise. D) the price of Treasury bonds would fall.
c
Moody's and Standard and Poor's are agencies that A) help investors collect when corporations default on their bonds. B) advise municipal bond issuers on the tax exempt status of their bonds. C) produce information about the probability of default on corporate bonds. D) maintain liquid markets for corporate bonds.
c
The relationship among interest rates on bonds with identical default risk but different maturities is called the A) time-risk structure of interest rates. B) liquidity structure of interest rates. C) yield curve. D) bond demand curve
c
The spread between interest rates on low-quality corporate bonds and U.S. government bonds ________ during the Great Depression. A) was reversed B) narrowed significantly C) widened significantly D) did not change
c
(I) An increase in default risk on corporate bonds shifts the demand curve for corporate bonds to the right. (II) An increase in default risk on corporate bonds shifts the demand curve for Treasury bonds to the left. A) (I) is true, (II) false. B) (I) is false, (II) true. C) Both are true. D) Both are false.
d
According to the market segmentation theory of the term structure, A) the interest rate for bonds of one maturity is determined by the supply and demand for bonds of that maturity. B) bonds of one maturity are not substitutes for bonds of other maturities; therefore, interest rates on bonds of different maturities do not move together over time. C) investors' strong preference for short-term relative to long-term bonds explains why yield curves typically slope downward. D) only A and B of the above.
d
If the expected path of one-year interest rates over the next five years is 1 percent, 2 percent, 3 percent, 4 percent, and 5 percent, then the pure expectations theory predicts that the bond with the highest interest rate today is the one with a maturity of A) one year. B) two years. C) three years. D) four years. E) five years.
e
Since yield curves are usually upward sloping, the ________ indicates that, on average, people tend to prefer holding short-term bonds to long-term bonds. A) market segmentation theory B) expectations theory C) liquidity premium theory D) both A and B of the above E) both A and C of the above
e
The risk premium on corporate bonds becomes smaller if A) the riskiness of corporate bonds increases. B) the liquidity of corporate bonds increases. C) the liquidity of corporate bonds decreases. D) the riskiness of corporate bonds decreases. E) either B or D of the above occur.
e
