UNIT 3

T-bills

- less than 1 year maturity - issued at a discount (and redeemed at par) - book entry - no accrued interest

GO bonds are backed by

- taxes like ad valorem (property) taxes, so voter approval is generally required. - there is also a debt limit imposed. bc they are backed by taxes, the issuer is limited as to how much can be issued - generally have higher rating than the same issuers revenue bonds

A broker-dealer has engaged in a reverse repurchase (repo) agreement. How was this done?

An initial purchase is followed by a sale later, at a higher price expl: in a REPO, dealer agrees to PURCHASE/BUY securities from an investor and sell them back later at a higher price

A customer buys a 4% Treasury bond, maturing in 10 years, at a price of $96.08. The yield to maturity (YTM) is

B) greater than nominal yield. expl: A bond whose price is below par (priced at a discount) has a higher YTM than current yield, which in turn is higher than the nominal yield.

an investor has purchased bonds having a put feature attached. with this put feature, it is likely that these bonds were issued with

B. a lower coupon than similar bonds without the feature expl: when bonds are issued with features that benefit the bondholder, IE put feature, the issuer can generally pay a slightly lower coupon rate of interest

Regarding corporate bond issues, which of the following statements best describes secured debt and unsecured debt?

D. ) Secured debt is asset backed, while unsecured debt is not.

Municipal revenue bonds: I. do not require voter approval. II. generally have a higher rating than general obligation (GO) bonds from the same issuer. III. are not subject to statutory debt limits. IV. are backed and supported by ad valorem (property) taxes.

I. do not require voter approval III. are not subject to statutory limits expl: revenue bonds are self supporting. backed by revenue from project funded by the bonds, not backed by property taxes so voter approval isnt required.

regular way settlement for Treasury bills is

T+1 All U.S. government issues settle next business day (T+1).

U.S. government deposits securities with a trustee against which certificates are sold representing principal only with no regular interest payments. these are known as:

Treasury STRIPS expl: when the govt deposits securities with a trustee, against which it issues certificates representing principal payments only and no regular interest payments, these are strips

which is true about treasury strips and treasury receipts?

Treasury STRIPS are backed in full by the U.S. government. Treasury receipts are not.

A put feature attached to a bond allows

a bondholder to PUT a bond BACK to the issuer for redemption at times that will BENEFIT the BONDHOLDER expl: put feature attached to a bond that allows a bondholder to put a bond back to the issuer for redemption before maturity benefits the bondholder.

an investor who is seeking income might choose a corporate bond because

a corporate bond pays a steady income and are generally reliable

which of the following is a reason an investor might choose to invest in a corporate bond

an corporation is legally obligated to pay interest on its bonds expl: corporate bonds are (depending on rating) generally reliable producers of income thru interest payments. failure to make timely interest payments puts the corp. into default and has legal consequences.

all of the following may be callable except a. corporate bonds b. muni bonds c. common stock d. preferred stock

c. common stock expl: fixed income and debt securities may have a call feature. common stock does not.

regarding bankruptcy proceedings

courts protect both corporate and individual filers from creditors expl: bankruptcy is a general term for court procedures available to both individuals and businesses. during the proceedings, filers are protected by the court from creditors.

a guaranteed bond is

debt backed by another company, such as a parent company (it is also unsecured)

an investor holds a 4% bond, callable in 8 years, and maturing in 12 years. the bond's current yield (CY) measures its annual coupon payment relative to

its market price expl: the CY measures a bond's annual coupon payment (interest) relative to its market price. annual coupon payment/market price=current yield current yield is annual coupon divided by market price

the coupon on a bond can be described as its

nominal (stated) yield. expl: indicates the interest annual paid. IE: a 4% bond pays $40 interest per year (4% x $1,000 par value = 40)

municipal bond interest

tax free at federal level. only tax free at state level if the bondholder is from the same state as the issuer. (so if not this, then not state tax free)

an investor holds a 5% corporate bond with a yield to maturity of 2.75%. how much will be received in interest on each of the scheduled interest payment dates?

$25 expl: with a 5% coupon (nominal or stated), this corporate bond will pay $50 annually (0.05 x 1000 PAR). this question says EACH SCHEDULED INTEREST PAYMENT which means semiannual = $25.

Taxation on Interest from bonds

- Treasury: yes federal tax, no state/local tax, at maturity or biannual - municipal: no federal, yes state/local, biannual - FNMA & FHLMC: yes federal, yes state/local, biannual - GNMA: yes federal, yes state/local, monthly - territory: no federal, no state/local, biannual

Each year a bond pays semiannual interest payments of $20. This bond has a nominal yield of

4% expl: if a bond pays two interest payments of $20 each annually, this means that the total annual interest is $40. annual interest $40 divided by par $1000 equals nominal (stated/coupon) yield 0.04 or 4%

An investor purchases a bond at $900 with a 5% coupon and a 5-year maturity. The bond has a current yield of

5.6% expl: current yield is determined by dividing annual interest (coupon) by the current market price of the bond ($50 / $900 = 5.6%, the 50 comes from %5). years to maturity is not a factor in calculating current yield.

An investor purchases an 8% corporate bond at 93. The bond is scheduled to mature in 2028. What will the investor receive at maturity? A)$1,040 B)$930, plus 8% on the invested funds C)$1,080 D)$1,000

A. $1040 expl: $1040 at maturity. the amount comprises the principal repayment of $1000 plus final semiannual interest payment of $40. 'SCHEDULED'. 1000/.08=$80. 80/2=$40. 40+1000=$1040

Which of the following statements regarding $1,000 par value 6.5% bond trading offered at 110 is true? A) The bond's current yield equals $65 ÷ $1,100 or 5.9%. B) The bond's yield to maturity (YTM) and stated yield are the same. C) The bond is offered at a discount. D) The bond's current yield is lower than its yield to maturity (YTM).

A. The bond's current yield equals $65 ÷ $1,100 or 5.9%. expl: this bond is trading at a premium (110 or $1100 which is 110 x 10). given the bond is trading at a premium, the current (stated) yield will be higher than its YTM. bond's current yield is calculated by dividing its annual interest (6.5% or $65) by its current (market) price ($1100), which in this case equals 5.9%

which of the following would be funded by general obligation (GO) bonds? A) A new city hall B) Toll road C) College dorm D) Public housing

A. a new city hall expl: GO bonds are issued for capital improvement for the ENTIRE community. city halls are funded by local taxes which is what backs GO bonds.

all of the following are true except: A) coupon rates are usually higher than nonconvertible bond rates of the same issuer. B) coupon rates are usually lower than nonconvertible bond rates of the same issuer. C) convertible bondholders are creditors of the corporation. D) if the common stock is above parity, the convertible feature will affect the price.

A. coupon rates are usually higher than nonconvertible bond rates of the same issuer. explanation: coupon rates are not higher than nonconvertible bond rates. they are lower bc of the conversion feature's value to the bondholder. the bondholders are creditors and if the stock price rises above the conversion price, the conversion feature will greatly influence the bond's price.

An investor holds a bond in which the issuer is scheduled to repay small portions of the principal at intervals over a few years and the majority in the final year. This investor is holding a:

BALLOON BOND. expl: bond maturities come in different types: term, serial, and balloon. (THERE IS NO SERIES MATURITY BOND). - a balloon maturity bond is when the issuer is scheduled to repay small portions of the principal in intervals over a few years AND the majority in the final year. think of how you made several small payments for your title loan and then there was a final majority payment at the last payment

a bond with 10 years to maturity and callable in five years at par is sold at a discount. rank the following yields from low to high I. nominal II. current III. yield to call YTC IV. yield to maturity

C. I. nominal, II. current, IV. YTM, III. YTC expl: bond is trading at a discount. lowest of all yields for a discount bond is the nominal or stated yield (coupon), which is fixed percent of par. next is current, then YTM. the highest possible return to owner of a bond bought at discount is the bond called before maturity (YTC), bc less time must elapse for the investor to get the discount

Securities issued by the U.S. federal government are classified as: A) receipts, STRIPs, and bills. B) subordinated and secured. C) bills, notes, and bonds. D) convertible, callable, and secured.

C. bills, notes and bonds expl: securities issued by the US federal govt are classified as bills, notes, and bonds that distinguish each term's issue to maturity (short, intermediate, and long term)

which of the following is considered the primary risk of owning a corporate bond? A) Interest rate risk B) Market risk C) Default risk D) Purchasing power risk

C. default risk expl: all of these are present, BUT DEFAULT risk is considered the most concerning of the risks in debt securities.

accrued interest on U.S. government bonds is calculated using:

D. actual days in each month and actual days in each year expl: corporate and municipal bonds use the artificial 30 day 360 day calendar, but GOVERNMENT BONDS use actual days

which of the following debt issued listed here would produce tax-free interest at all levels? A) Piute County, Utah, general obligation bond B) 30-year T-bond C) City of San Francisco, California, general obligation bond D) City of San Juan, Puerto Rico, general obligation bond

D. city of san juan, puerto rico, general obligation bond expl: issues from a territory of the united stated (puerto rico, guam, us virgin islands) produce interest that is tax free at all levels.

a bond with a 4.5% stated yield might make I. annual interest payments of 45$ II. annual interest payments of 450$ III. semiannual interest payments of 2.50$ IV. semi annual interst payments of 22.50$

I. annual interest payments of $45 IV. semiannual interest payments of $22.50 expl: bond with a 4.5% stated, nominal, or coupon yield pays $45 annual interest (4.5% x $1000 par val). if the $45 annual interest is paid in semiannual payments, each would be 22.50 0.045 x 1000 = $45. $45 / 2 = 22.50 semiannual

twelve years ago your client purchased at par $150,000 of GO bonds maturing in 15 years from now, callable in 6 months. interest rates have gone down over the last five years. which of these should the client do? I. recognise that the bonds have a high profitability to be called II. recognise that the bonds are unlikely to be called III. expect the bond is trading at a large discount IV. expect the bonds are trading at a small premium

I. recognise that the bonds have a high profitability to be called IV. expect the bonds are trading at a small premium expl: if rates have declined, the bonds are likely trading at a premium and very likely to be called at the first call date in 6 months. the proximity of the call date means the bond's premium will be small

A convertible feature for a corporate bond allows

a bondholder to convert a debt instrument into securities that give the investor ownership rights. expl: corporate bonds wiht convertible features allow the bondholders to convert the debt obligation they hold into shares of stock. stock gives the holders an equity position in the company with ownership rights

When selling a bond, the issuer is taking

a borrower's position expl: issuers of bonds are borrowing money from the purchaser of the bond - think of it as when you issue your car title for money to a title loan company, you are borrowing money from the title loan company (the purchaser), and they are 'buying' your title.

when purchasing a bond, the investor is taking on

a creditor position expl: when an investor is purchasing a bond, he is lending money to the issuer and becomes a credit of the issuer. think of it as when an investor is purchasing a bond (your car title), they become the creditors of you (the issuer)

all of the following statements about a bond selling above par value are true EXCEPT: a. nomimal yield is lower than the yield to maturity b. the yield to maturity is lower than the nominal yield c. nominal yield stays the same d. current yield is higher than the yield to maturity

a. the nominal yield is lower than the yield to maturity explanation: the nominal always stays fixed, it is not higher or lower. this is for all bonds. a bond selling above par is selling at premium, so the yield to maturity is lower than the current yield (which in turn is lower than the nominal). above par is at premium = current yield higher, nominal yield fixed, then yield to maturity is lower. below par is discounted: year to maturity highest, nominal fixed/same, current lowera

A company reorganizing with the intent to emerge from a bankruptcy is likely to issue which of the following type of bonds to accomplish that goal?

adjustment bonds expl: income bonds (adjustment bonds) are used when a company is reorganising. (they allow the issuer to only pay interest if the corp has enough income to meet the interest payment obligations, which allows flexibility while attempting to reorganise and emerge from bankruptcy)

a municipal bond has a coupon of 4.25% and at the present time, its yield to maturity is 4.75%. from this information, it can be determined that the municipal bond is trading

at a discount expl: the YTM is greater than the nominal (coupon) yield, so the bond is trading at a discount.

All of the following statements about a bond selling above par value are true EXCEPT A) the yield to maturity is lower than the nominal yield. B) the nominal yield is lower than the yield to maturity. C) the nominal yield always stays the same. D) the current yield is higher than the yield to maturity.

b. the nominal yield is lower than the yield to maturity expl: nominal is fixed and stays the same with all bonds. a bond selling above par is selling at a premium, so the YTM is lower than the current yield--which in turn is lower than the nominal yield

money market instruments guaranteed by a bank that are used to provide capital for international trade are called

bankers acceptances BAs expl: BAs provide short term financing for importers and exporters (capital for international trade)

Regarding a corporate bankruptcy and the liquidation priority, which of the following is accurate? A) Claims for taxes due are satisfied after all shareholder equity claims. B) Wages due employees are satisfied after all debt and equity claims. C) Debt securities claims are satisfied before equity securities claims. D) Subordinated debt claims are satisfied before all other debt claims.

c. debt securities claims are satisfied before equity securities claims. expl: in the event of a corporate liquidation, the order of claims priority is: secured debt, unsecured (debentures, general creditors, taxes and wages), subordinated debt (subordinated debentures), preferred shares (equity), and common shares

Your customer asks to buy a bond that carries a very attractive yield. When checking the bond, you see that it has a B rating from the major credit rating agencies. When communicating such information to a customer, all of the following terms are commonly used in describing a B-rated bond except A) junk bond. B) lower grade. C) noninvestment grade. D) high-yield.

c. lower grade expl: though a b rating is certainly a lower investment grade rating, that is not a typical term used in the industry. all of the other terms are normally associated with these bonds carrying a greater risk of default.

all of the following may be callable except: A) common stock. B) muni bonds. C) preferred stock. D) corporate bonds.

common stock expl: fixed income and debt securities may have a call feature (muni bonds, preferred stock, corporate bonds). common stock does not

One of your new clients explains that she prefers investments paying income with a fixed rate of return, but also allows for the possibility of realizing greater gain potential. She would likely favor investments in:

convertible bonds expl: bonds pay a semiannual interest payment based on nominal rate. CONVERTIBLE bonds allow the owner to exchange the bonds for a fixed number of shares of the issuing corporations common stock. common shares enjoy greater gain potential than debt securities. so convertible bonds have both features favoured by the investor.

for a corporate bond, once issues, nominal yield

does not change in response to interest rate movements expl: nominal yield (coupon) does not change from time of issue thru maturity. current yield, YTM, and YTC are all impacted as bond prices react (inversely) to movement of interest rates in open market.

A bank trustee holds the titles to assets a corporation has purchased and utilizes in its day-to-day business. The corporation issues debt securities backed by these assets. These securities are

equipment trust certificates expl: debt securities issued by corps backed by the assets they use and own daily are known as equipment trust certificates.

To the benefit of the issuer, a callable bond is likely to be called when interest rates

fall expl: bonds with call features are most likely to be called when interest rates fall. -CALLABLE/CALL FEATURE: interest falling, higher coupon rate - PUT/PUTTABLE: interest rising, low coupon

if the dollar price of a municipal bond is 101 (premium) and the basis is 6.10, the nominal yield is

greater than 6.10 expl: for bonds trading at a premium (101) the nominal yield is always higher than the basis YTM (basis always means YTM). for bonds at a premium, yields from lowest to highest are yield to call YTC, YTM, CY, and NY

which of the following statements regarding a bond issued with 4 and 3/4 (4.75)% coupon and now trading in the 2ndary market is true?

if interest rates drop, the coupon rate will remain at 4.75% (4 and 3/4). expl: regardless of where current interest rates move to (up or down), the bond's coupon remains the same. interest rate and bond prices have inverse relationship. if rates go up, the prices of bonds trading in 2ndary market will fall.

when a bond is purchased at a premium, the current yield will be

lower than the coupon rate (nominal, fixed, stated) expl: coupon rate, stated, fixed, nominal all the same - the amount the bond will pay each year - on premium bond the coupon rate is always higher than the current yield.

Being secured by no physical asset and backed only by a bank's good faith and credit, a bank's promise to pay principal and interest can be evidenced in which of the following securities that are traded in the secondary market?

negotiable CDs expl: negotiable CD is an unsecured money market instrument issued by banks. negotiable means that it can be traded in the secondary marker and unsecured means that its only backed by a promise to pay interest and principal--backed by banks good faith and credit

A bank issues and guarantees certificates of deposit, and those that are negotiable are considered money market instruments. What makes a CD negotiable? A) A fixed interest rate B) Short-term maturity C) Secondary market trading D) Backing by the banks good faith and credit

secondary market trading expl: all of these options are characteristics of negotiable certificates of deposit, but what makes them NEGOTIABLE is their ability to trade in the secondary market -issued in amounts of $100,000 - $1 million face values, trade in secondary market, unsecured debt)

Treasury Issues interest

taxed at the federal level. NOT taxed at the state level

The coupon rate on a debt security represents

the interest rate the issuer has agreed to pay the investor. (interest rate paid by issuer to the investor) The coupon rate on a debt security represents the interest rate the issuer has agreed to pay the investor for use of the funds loaned to the issuer.

the coupon rate on a debt security represents

the interest rate the issuer has agreed to pay the investor. expl: The coupon rate on a debt security represents the interest rate the issuer has agreed to pay the investor for use of the funds loaned to the issuer.

An investor pays 102 ($1,020) for a $1,000 par value bond. At maturity,

the premium paid decreases the return expl: whenever a bond is purchased for an amount greater than will be received at maturity, the premium paid decreases the return.

Which of the following regarding Treasury STRIPS, receipts, bills, notes and bonds is true?

they all mature at par value. expl: this is the only commonality b/t them all. - sold at a discounted par = t-bills, receipts and STRIPS -semiannual interest payments = t notes and t bonds. -STRIPS, bills, notes, and bonds are all backed by good faith and credit of the US govt - treasury receipts are NOT backed by good faith and credit