Unit 2 - Debt, Bonds, Money Market Instruments

Yankee Bond

- a bond issued by a foreign company or gov't but denominated in U.S dollars - sold IN the U.S market

Muni vs Treasury Bonds

1. Munis - 0 federal tax, might have state tax 2. Treasury - 0 state tax, does have federal tax

Current Yield

Annual interest PMT / current market price also, Return / investment

An investor purchases a Treasury note and the confirmation shows a price of 102.21. Rounded to the nearest cent, the investor's cost, excluding commissions, is A) $1,026.56. B) $1,022.21. C) $102.21. D) $1,022.10.

B) $1,022.21. RATIONAL: T-Notes can be quoted in 32nd's The "102" in the quote = $1,020 The "21" is 21/32 which is an additional $6.56 Total is these two figures added together $1,026.56

Bond quoting

Bond prices will be quoted as percentages or "32nd's". Example: 105.5% is saying, - 105.5% x 100 = $10,550 bond price this is the same as... 105-16 - "105" = 105% x 100 = 10,500 - "16" = 16/32 = .5 .5% x 100 = 50 add the two together = $10,550

Conversion Ratio

Face value of the bond / conversion price

Nominal yield vs. Current yield

1. Nominal - what the bond is stated to be paying - the coupon PMT 2. Current yield - what rates are currently paying

Parity Price

DEF: the parity price of a bond is the value of the bond if it were converted into stock How to Find the Parity Price: 1. Use the conversion ratio to find out how many shares you'd get if you converted the bond 2. Multiply the current stock price by the number of shares you'd get from the conversion

For a bond selling at a discount, the yield to maturity will be

higher than the nominal yield YTM is a measure that tells you when you will actually be paid in full the interest and principal owed on the bond If a bond is selling at discount, you will more than likely receive the return much sooner/more than the stated nominal yield

Brady Bond

- bond issued by emerging market countries in exchange for their defaulted loans - used as part of a debt restructure plan

Bond Agreement vs Indenture

1. Bond Agreement - a simple, general doc that outlines the basic terms of the bond 2. Indenture - more comprehensive and legal doc - usually has a trustee

Eurodollar Bond vs Eurobond

1. Eurodollar Bond - issued by a foreign entity but denominated in U.S $'s and sold OUTSIDE the U.S - traded in international markets, not in U.S 2. Eurobond - international bonds issued in a currency different from the currency of the country where it is issued - traded outside of U.S

The DERP Corporation has an outstanding convertible bond issue with a conversion price of $125 per share. If the current market price of the bond is 80, the parity price of the stock is A) $100.00 per share. B) $156.25 per share. C) $64.00 per share. D) $125.00 per share.

A) $100.00 per share. RATIONAL: - Involves using the conversion ratio 1,000 par value / $125 = 8 shares Divide this by the current bond price to get the parity price $800 current bond price* / 8 shares = $100 per share * current bond price is 80% of par or 1,000 = $800

DERP Corporation has issued 5% convertible debentures maturing in 2040. The conversion price is $40 and the common is currently trading at $48 per share. One would expect the DERP debentures to be selling somewhat A) above $1,200. B) above $1,000. C) below $1,000. D) below $1,200.

A) above $1,200. STEPS i) Compute Parity Price - find number of shares $1,000 / $40 = 25 shares - current market price is $48 so, 25 shares x $48 = $1,200 as the parity price Since convertibles usually sell a a premium, we can assume the current market value will be higher than the parity price

If a convertible bond is purchased at its $1,000 par value and is convertible at $83.33 per common share, what is the conversion ratio of common shares per bond? A) 1.2 shares for each bond B) 12 shares for each bond C) 2 shares for each bond D) 8 shares for each bond

B) 12 shares for each bond The conversion ratio is determined by dividing the par value by its conversion price CALCULATION: $1,000 / $83.33 = 12 shares for each bond

Your client with $100,000 to invest is looking for maximum current income. Which of the following would offer the highest current return? A) $100,000 of zero-coupon bonds with a yield to maturity of 6% B) $100,000 AA rated corporate bonds trading at par with a 6% coupon rate C) $100,000 market value of corporate bonds selling at a premium and yielding 6% to maturity D) $200,000 of utility common stock paying a current dividend of 3.5%

C) $100,000 market value of corporate bonds selling at a premium and yielding 6% to maturity RATIONAL: - eliminate options A and D right away (they don't make sense for the question) Why is do bonds sell at a premium to par? - they are currently paying more than the stated yield - therefore, this will give our client the max immediate income

Your client in the 25% federal income tax bracket lives in a state where his earnings place him in the 6% bracket for state income tax purposes. If he were to purchase a 4% bond issued by a political subdivision of another state, his total tax-equivalent yield would be A) approximately 12.90%. B) slightly more than 5.33%. C) slightly less than 5.33%. D) 4.00%.

C) slightly less than 5.33%. RATIONAL: - muni's are exempt from fed. taxes and MAYBE state (depending if it is in state or not) - in this scenario, the muni is OUT OF STATE - therefore, he would pay state tax, still no fed. Compute the TEY and you'll get approx. 5.33% Since we know he will be paying some state tax then we know his actual yield, if he took the muni, will be LESS than this stated yield.

A TIPS bond is issued in the principal amount of $1,000, paying 3.5%. Over the security's 5-year term, the annual inflation rate is 6%. What is the principal value of the bond at the end of 4 years? A) $1,240 B) $1,300 C) $1,344 D) $1,267

D) $1,267 RATIONAL: i) Take annual inflation rate for four years, add this to face value 6% = $60 x 4 yrs = $240 $240 + $1,000 face value = $1,240 The correct answer on the exam will always be the next higher number, - in this case, $1,267

A client approaches the investment adviser representative handling the advisory account with a request to find a preferred stock that will offer a 5.4% income return. The IAR suggests a stock paying a $1.73 quarterly dividend. That stock will meet the income objective if it has a current market price of A) $78.03. B) $37.37. C) $32.04. D) $128.15.

D) $128.15. STEPS: i) Annualize dividend return by multiplying by 4 $1.73 x 4 = $6.92 ii) Divide by 5.4% 6.92 / 5.4% = $128.15