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107 terms

Finance Ch. 6

STUDY
PLAY
When you refer to a bond's coupon, you are referring to what type of payment?
annual interest payment
What is the principal amount of a bond that is repaid at the end of the loan term called?
Face value
Coupon rate
the annual interest divided by the face value of a bond
Maturity date
the date the principal amount of a bond repaid
Yield to maturity
a bond's rate of return that is required by the market place
The current yield on a bond is equal to the annual interest divided by:
current market price
Indenture
a written agreement that contains the specific details related to a bond issue
A registered form bond:
a bond that pays coupon payments directly to the owner of record
This morning, Jeff found a bond certificate lying on the floor of a bank. He picked it up and noticed that the bond matured today. He presented the bond to the bank teller and received both the principal and interest payment. The bond that Jeff found must have been:
bearer form bond
Miller Farm Products is issuing a 15-year, unsecured bond. Based on this information, you know that this debt can be described as a:
debenture
Note
unsecured debt that is generally payable within the next 10 years
Sinking fund
an account that a bond trustee manages for the sole purpose of redeeming bonds early
Call Provision grants the bond issuer:
the option of repurchasing the bonds prior to maturity at a pre-specified price
The call premium is the amount by which:
the call price exceeds the par value
Dexter, Inc. has a bond issue outstanding. The issue's indenture provision prohibits the firm from redeeming the bonds during the first three years. This provision is referred to as the _____ provision
deferred call
Travis recently purchased a callable bond. However, that bond cannot be currently redeemed by the issuer. Thus, the bond must currently be:
call protected
Protective covenant:
limits the actions of the borrower
Fallen angel
involves the issuance of bonds that were originally rated investment grade and then later downgraded to junk status
Zero coupon
a bond that initially sells at a deep discount and pays no interest payments
Bid price
the price at which a dealer will purchase a bond
Asked price
the price at which an investor can purchase a bond from a dealer
Bid-ask spread
the amount of profit earned by the trader from the purchase and resale of a bond
Clean price
quoted price of a bond
Dirty Price
price that an investor pays to purchase an outstanding bond
Real rate of return:
a rate that has been adjusted for inflation
Nominal rate
the rate of return an investor earns on a bond before adjusting for inflation
Fisher effect
refers to the relationship between nominal returns, real returns and inflation
Structure of interest rates represents:
the relationship between nominal rates on default-free, pure discount bonds and time to maturity
Inflation premium:
compensates investors for expected price increases
Interest rate risk premium
compensates bond investors for the risk of changing interest rates that affect their bonds
The Treasury yield curve plots:
the yields on treasury notes and bonds relative to the maturity of those securities
Default Risk Premium
represents additional compensation provided to bondholders to offset the possibility that the bond issuer might not pay the interest or principal payments as expected
Taxability premium
the premium paid on a corporate bond due to its tax status
Liquidity premium
provides compensation to a bondholder when a bond is not readily marketable at its full value
When a bond's yield to maturity is less than the bonds coupon rate, the bond:
is selling at a premium
The yield to maturity on a discount bond is:
greater than both the current yield and the coupon rate
The discount bond has a coupon rate that is
less than the bond's yield to maturity
What is the value of a bond dependent upon?
coupon rate and the yield to maturity
Bonds issued in the US pay interest on a __ basis
semi annual
An unexpected decrease in market interest rates will cause a
coupon's bond yield-to-maturity to decrease
Decrease in the time to maturity and an increase in the coupon rate decreases what of a bond?
the interest rate sensitivity
Indenture
a contract between a bond's issuer and its holders
3 Things that can be found in an indenture agreement:
1) terms of repayment
2) protective covenants
3) total amount of the bond issue due
Corporate bonds in the US are said to be: (2)
1) Registered form
2) Semiannual coupon payments
Limiting cash dividends to $1 per share or less may be included in a bond's list of:
negative covenants
What denotes for certain that a bond is unsecured?
debenture
Debenture
a bond for which no specific property has been pledged as security
Sinking funds may be used to purchase bonds in:
the open market
Callable bond
may be structured to pay bondholders the current value of the bond on the date of call
If a bond has a make-whole call provision then the call price is:
inversely related to the market rate of interest
What is the primary purpose of bond covenants?
lender protection
What is the primary purpose of protective covenants:
help protect bondholders from issuer actions
The lowest rating a bond can receive from Moody's and still be classified as an investment quality-bond is:
Baa
In relation to bonds, which one of the following terms has the same meaning as the term "crossover"?
5B
Which one of the following terms applies to a junk bond that was originally issued with a bond rating of AA?
Fallen angel
3 ratings that indicate bond is low-quality?
1) BB
2) B
3) Ba
Municipal bonds are generally
callable
Highly compensated business owners are most likely to purchase what type of bond?
municipal
Zero coupon bond:
create annual taxable income to individual stockholders
A "floater bond" frequently has
a put provision
Coupon payments are dependent upon the issuer's income is a unique characteristic of which type of bond?
income bond
Bond markets are
dealer based
A bond dealer sells at the ___ price and buys at ___ price
1) asked
2) bid
Mortgage backed securities (MBSs) investors are subject to
real estate deflation risk
"R" in fisher effect formula represents the
nominal return
An upward-sloping term structure of interest rates indicates
the nominal return is increasing even though the real rate is constant as the time to maturity increases
If inflation is expected to steadily decrease in the future, the term structure of interest rates will most likely be:
downward sloping
If intermediate-term, default-free, pure discount bonds have a higher rate of return than either the comparable shorter-term or longer-term bonds, the term structure of interest rates will be
humped
The term of structure interest rates is affected by: (3)
1) Interest rate risk premium
2) Real rate of interest
3) inflation premium
Suppose that a small, rural city in the countryside of North Dakota plans to issue $150,000 worth of 10-year bonds. Which one of the following components of the bond's yield will be affected by the fact that no active secondary market is expected for these bonds?
liquidity premium
Which bond is most apt to have the smallest liquidity premium?
treasury bill
A bond has a 1,000 face value, a market price of 1,036, and pays interest payments of $70 every year. What is the coupon rate?
7.00%

$70/1,000
A 1,000 face value bond is currently quoted at 101.2. the bond pays semiannual payments of $27.50 each and matures in 6 years. What is the coupon rte?
5.50 percent

CR= (27.50x2)/1,000
A 6% bond has a YTM of 6.5%. The bond matures in 7 years, has a face value of 1,000 and pays semi annual interest payments. What is the amount of each coupon payment?
$30

(1,000x0.06)/2
A bond has a par value of 1,000 a current yield of 7.606 percent, and semi-annual interest payments. The bond quote is 98.6. What is the amount of each coupon payment?
37.50

[0.07606x(0.986x1,000)]/2
A 5.5 % $1,000 bond matures in 7 years, pays interest semiannually and has a ytm of 6.23 %. What is the current market price of the bond?
959.09
A $1,000 face value bond currently has a yield to maturity of 6.69 percent. The bond matures in 3 years and pays interest annually. The coupon rate is 7 percent. What is the current price of this bond?
1,008.18
Red Mountain, Inc. bonds have a face value of $1,000. The bonds carry a 7 percent coupon, pay interest semiannually, and mature in 13.5 years. What is the current price of these bonds if the yield to maturity is 6.82 percent?
1,015.72
A 6-year, semiannual coupon bond is selling for $991.38. The bond has a face value of $1,000 and a yield to maturity of 9.19 percent. What is the coupon rate?
9.00%
A 12-year, semiannual coupon bond is priced at $1,102.60. The bond has a $1,000 face value and a yield to maturity of 5.33 percent. What is the coupon rate?
6.50%
AB Builders, Inc. has 12-year bonds outstanding with a face value of $1,000 and a market price of $974. The bonds pay interest annually and have a yield to maturity of 4.03 percent. What is the coupon rate?
3.75%
The 7 percent annual coupon bonds of TPO, Inc. are selling for $1,021. The bonds have a face value of $1,000 and mature in 6.5 years. What is the yield to maturity?
6.59%
Best Lodging has $1,000 face value bonds outstanding. These bonds pay interest semiannually, mature in 5 years, and have a 6 percent coupon. The current price is quoted at 101. What is the yield to maturity?
5.77%
The $1,000 face value bonds of Jasper International have a 7.5 percent coupon and pay interest annually. Currently, the bonds are quoted at 98.27 and mature in 3.5 years. What is the yield to maturity?
8.09%
Global Trade, Inc. has $1,000 face value bonds outstanding with a market price of $1,013. The bonds pay interest annually, mature in 11 years, and have a yield to maturity of 5.34 percent. What is the current yield?
5.43
The 8 percent, $1,000 face value bonds of Glenmore Foods are currently selling at $1,027. These bonds have 16 years left until maturity. What is the current yield?
Current yield = (0.08 × $1,000)/$1,027 = 7.79 percent
A bond has a yield to maturity of 9.38 percent, a 7.5 percent annual coupon, a $1,000 face value, and a maturity date 21 years from today. What is the current yield?
Current yield = $75/$830.07 = 9.04 percent
The 6 percent coupon bonds of Precision Engineering are selling for 98 percent of par value. The bonds mature in 8 years and pay interest semiannually. These bonds have current yield of _____ percent, a yield to maturity of _____ percent, and an effective annual yield of _____ percent.
6.12; 6.32; 6.42
A bond has a 7 percent coupon rate, a face value of $1,000, semiannual payments, and sells at par. The current yield is _____ percent and the effective annual yield is _____ percent.
Current yield = (0.07 × $1,000)/$1,000 = 7 percent

Effective annual yied: (1+0.07/2)^2-1
. The Hot Dog Shack wants to raise $1.2 million by selling some coupon bonds at par. Comparable bonds in the market have a 6.5 percent annual coupon, 15 years to maturity, and are selling at 97.687 percent of par. What coupon rate should The Hot Dog Shack set on its bonds?
N=?
I/y=15
PV= -975.87
PMT=65
FV=1000

6.75%
The Road House would like to issue some semiannual coupon bonds at par. Comparable bonds have a current yield of 8.16 percent, an effective annual yield of 8.68 percent, and a yield to maturity of 8.50 percent. What coupon rate should The Road House set on its bonds?
8.50
One year ago, Alpha Supply issued 15-year bonds at par. The bonds have a coupon rate of 6.5 percent and pay interest annually. Today, the market rate of interest on these bonds is 7.2 percent. How does the price of these bonds today compare to the issue price?
-6.05%
One year ago, you purchased a 7.5 percent annual coupon bond for a clean price of $980. The bond now has 7 years remaining until maturity. Today, the yield to maturity on this bond is 6.87 percent. How does today's clean price of this bond compare to your purchase price?
5.52% higher
You own two bonds. Both bonds pay annual interest, have 6 percent annual coupons, $1,000 face values, and currently have 6 percent yields to maturity. Bond A has 12 years to maturity and Bond B has 4 years to maturity. If the market rate of interest rises unexpectedly to 7 percent, Bond _____ will be the most volatile with a price decrease of _____ percent
Bond A; 7.94
Kurt's Forest Products is currently issuing both 5-year and 10-year bonds at par. The bonds each pay 6.5 percent annual interest and have face values of $1,000. You decide to purchase one of each of these bonds. Assume the yield to maturity on each of these bonds is 7.4 percent one year from now. Given this, you will realize _____ percent price depreciation on the 5-year bond and _____ percent price depreciation on the 10-year bond.
3.02; 5.77
A corporate bond pays 8.5 percent interest. You are in the 15 percent tax bracket. What is your after-tax yield on this bond?
7.23%

After-tax yield= 0.085x (1-0.15)
A corporate bond pays 7 percent interest. How much would a municipal bond have to pay to be equivalent to this on an after-tax basis if you are in the 28 percent tax bracket?
5.04%

After-tax yield = 0.07 × (1 - 0.28) = 5.04 percent
The Outlet needs to raise $3.2 million for an expansion project. The firm wants to raise this money by selling zero coupon bonds with a par value of $1,000 that mature in 20 years. The market yield on similar bonds is 7.8 percent. How many bonds must The Outlet sell to raise the money it needs? (Assume semi-annual compounding.)
14,783 bonds

Number of bonds = 3,200,000/216.46
Arts and Crafts Warehouse wants to issue 15-year, zero coupon bonds that yield 7.5 percent. What price should it charge for these bonds if the face value is $1,000? (Assume semi-annual compounding.)
331.40
Deltona Motors just issued 225,000 zero coupon bonds. These bonds mature in 20 years, have a par value of $1,000, and have a yield to maturity of 7.45 percent. What is the approximate total amount of money the company raised from issuing these bonds? (Assume semi-annual compounding)
$52.10 million

Total amount raise = 231.56 x 225000
Today, you are buying a $1,000 face value bond at an invoice price of $987. The bond has a 6 percent coupon and pays interest semiannually. There are 2 months until the next coupon date. What is the clean price of this bond?
$967
You are buying a bond at a clean price of $1,140. The bond has a face value of $1,000, an 8 percent coupon, and pays interest semiannually. The next coupon payment is 1 month from now. What is the dirty price of this bond?
1,173.33
A $100,000 Treasury bond has a bid price quote of 115:21 and an asked quote of 115:22. In dollars, what is the value of the bid-ask spread on this bond?
31.25


Bid-ask spread = 115:22 - 115:21 = 0:01 = 1/32 of 1 percent = 0.0003125
Spread in dollars = $100,000 × 0.0003125 = $31.25
. Last year, you earned a rate of return of 11.29 percent on your bond investments. During that time, the inflation rate was 4.6 percent. What was your real rate of return?
6.40%

(1 + 0.1129) = (1 + r)(1 + 0.046); r = 6.40 percent
. A bond yielded a real rate of return of 3.87 percent for a time period when the inflation rate was 4.75 percent. What was the actual nominal rate of return?
8.80%

R = (1 + 0.0387)(1 + 0.0475) - 1 = 8.80 percent
If your nominal rate of return is 14.38 percent and your real rate of return is 3.97 percent, what is the inflation rate?
10.01%

(1 + 0.1438) = (1 + 0.0397)(1 + h); h = 10.01 percent
Jeffries, Inc. has 6 percent coupon bonds on the market that have 11 years left to maturity. The bonds make annual payments. If the YTM on these bonds is 7.4 percent, what is the current bond price?
897.08