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4310 HW 9b
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Gravity
Terms in this set (30)
The way TIPS are priced with the rate of inflation reflected in the principal of the bond, the cash coupon represents the Real Rate of return.
True
The Negative Pledge debt covenant is always in reference to any future borrowings of the issuer
True
When you buy a bond with a Negative Pledge indenture you can be sure that the issuer is not going to use any of the current assets of the company as collateral for future debt issues.
True
Bonds issued by subsidiaries that are Senior obligations could be considerded structurally subordinated if the issue is not fully guaranteed by the Holding
True
If bond A ranks pari-passu with bond B that means that in bankruptcy bond A will be paid before bond B.
False
The yield differential between a BBB corporate bond and a Treasury bond of the same maturity would be referred to as the BBB credit spread
True
If the Liquidity Preference hypothesis of the term structure of interest rates is correct then a totally flat yield curve (horzontal) will signal falling short term interest rates in future.
True
Default Premium and Credit Spread are synonyms for the differential in yield between corporate and Treasury bonds.
True
The pure Expectation Hypothesis of the yield curve says that forward rates implied by the shape of the yield curve are the truly expected future interest rates at which we expect to be able to invest money.
True
Non-investment grade bonds typically have a Total Debt / EBITDA multiple of 3.5x or higher.
True
A collateralized bond is commonly referred to as a debenture.
False
A debenture is ________.
unsecured
If you are holding a premium bond, you must expect a(n) ________ each year until maturity. If you are holding a discount bond, you must expect a(n) ________ each year until maturity. (In each case assume that the yield to maturity remains stable over time.)
Ammortization item; accretion item
To earn a high rating from the bond rating agencies, a company would want to have:
I. A low EBITDA/Interest coverage ratio
II. A low debt-to-equity ratio
III. A high quick ratio
IV. A high net debt / EBITDA
II and III only
You hold a subordinated debenture in a firm. In the event of bankruptcy which of the following will be paid off after you have been paid?
preferred stock
Everything else equal, the ________ the maturity of a bond and the ________ the coupon, the greater the sensitivity of the bond's price to interest rate changes.
longer; lower
Consider the expectations theory of the term structure of interest rates. If the yield curve is downward-sloping, this indicates that investors expect short-term interest rates to ________ in the future.
decrease
A convertible bond has a par value of $1,000, but its current market price is $950. The current price of the issuing company's stock is $19, and the conversion ratio is 40 shares. The bond's conversion premium is ________. (Hint: look up the definition of conversion premium. It is the difference beween the prevailing bond price and the value of the conversion property)
$190
Conversion premium = 950 - 40(19) = 190
A Treasury bond due in 1 year has a yield of 6.3%, while a Treasury bond due in 5 years has a yield of 8.8%. A bond due in 5 years issued by High Country Marketing Corp. has a yield of 9.6%, while a bond due in 1 year issued by High Country Marketing Corp. has a yield of 6.8%. The default risk premiums on the 1-year and 5-year bonds issued by High Country Marketing Corp. are, respectively, ________ and
.5%; .8%
Default premium for 1-year bond = .068 - .063 = .005
Default premium for 5-year bond = .096 - .088 = .008
$1,000 par value zero-coupon bonds (ignore liquidity premiums)
Bond YearsTM YieldTM
A 1 6.00%
B 2 7.50%
C 3 7.99%
D 4 8.49%
E 5 10.70%
The expected 1-year interest rate 1 year from now should be about ________.
9.02%
1.0752 = 1.06(1 + f2)
1.155625 = 1.06(1 + f2)
1 + f2 = 1.55625/1.06 = 1.0902123
f2 = 9.02%
$1,000 par value zero-coupon bonds (ignore liquidity premiums)
Bond YearsTM YieldTM
A 1 6.00%
B 2 7.50%
C 3 7.99%
D 4 8.49%
E 5 10.70%
One year from now bond C should sell for ________ (to the nearest dollar).
$842
1.07993 = 1.06(1 + 1F3)2
1.2593621/1.06 = (1 + 1F3)2
1F3 = 11.81%
Price of bond C in 1 year = 1,000/1.1181 = 841.69
$1,000 par value zero-coupon bonds (ignore liquidity premiums)
Bond YearsTM YieldTM
A 1 6.00%
B 2 7.50%
C 3 7.99%
D 4 8.49%
E 5 10.70%
The expected 2-year interest rate 3 years from now should be ________.
14.89%
(1 + 0R5)5 = (1 + 0R3)3(1 + 3F5)2
1.10705 = (1.07993)(1 + 3F5)2; 3F5 = 14.89%
A bond has a par value of $1,000, a time to maturity of 10 years, and a coupon rate of 8% with interest paid annually. If the current market price is $750, what is the (taxable) capital gain yield of this bond over the next year? (hint: cap gain yield = cap gain/$750)
1.85%
Calculator entries to find the YTM are
N = 10
PV = -750
PMT = 80
FV = 1,000
CPT = I/Y 12.52
The current yield = 80/750 = 10.67%
Then we use the relationship YTM = Current yield + Capital gain yield
12.52% = 10.67% + Capital gain yield, so Capital gain yield = 1.85%
$1,000 par value zero-coupon bonds (ignore liquidity premiums)
Bond YearsTM YieldTM
A 1 6.00%
B 2 7.00%
C 3 8.32%
D 4 8.49%
E 5 10.70%
The expected 1-year interest rate 3 years from now should be ________.
9%
(1+.0849)^4 / (1+.0832)^3 - 1 = .09
A 1% decline in yield will have the least effect on the price of a bond with a ________.
10-year maturity, selling at 100
You buy a bond with a $1,000 par value today for a price of $875. The bond has 6 years to maturity and makes annual coupon payments of $75 per year. You hold the bond to maturity, but you do not reinvest any of your coupons. What was your effective EAR over the holding period?
8.78%
N = 6
PV = -875
PMT = 0
FV = 1450
CPT I/Y ---> 8.78
You buy an 8-year $1,000 par value bond today that has a 6% yield and a 6% annual payment coupon. In 1 year promised yields have risen to 7%. Your 1-year holding-period return was ________.
.61%
N = 7
I/Y = 7
PMT = 60
FV = 1000
CPT PV ---> -946.11
946.11 + 60 = 1006.11
HPR = 1066.11/1000 - 1 = .6107%
You buy a 10-year $1,000 par value zero-coupon bond priced to yield 6%. You do not sell the bond. If you are in a 28% tax bracket, you will owe taxes on this investment after the first year equal to ________.
$9.38
P10 = 1000/1.06^10 = $558.39
P9 = 1000/1.06^9 = $591.90
Taxes owed ($591.90 - $558.39)(.28) = $9.38
You pay $1,092 for a 10yr bond today with a semi-annual coupon of 6%. You re-invest all coupon payments at an annual rate of 5%. After a period of 5 years you have a sudden need for cash and are forced to sell the bond. The 5-yr market rate at that point is equal to 4%. What was the effective annual yield that you have earned over the holding period of 5 years? (note semi annual coupon pmts)
5.48%
You pay $1,092 for a 10yr bond today with a semi-annual coupon of 6%. You re-invest all coupon payments at an annual rate of 5%. After a period of 5 years you have a sudden need for cash and are forced to sell the bond. The 5-yr market rate at that point is equal to 4%. What was the effective annual yield that you have earned over the holding period of 5 years? (note semi annual coupon pmts) .
Why was your holding period yield so much higher than the yield to maturity (YTM) at the time of purchase?
because you have re-invested coupons at a rate higher than the initial YTM and you gained from a move lower in the market interest rate
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