Upgrade to remove ads
Only $35.99/year

FINANCE: Chapter 7 Reading Assignment

Terms in this set (28)

Which on of these correctly defines a bond feature?
- The annual interest expressed as a percentage of face value is called a bond's yield to maturity.
- The maturity date is the initial date a bond was issued.
- The principal value of a bond is referred to as the par value, or face value.
- Bonds are fixed-income equity securities.
The principal value of a bond is referred to as the par value, or face value.
Which one of these best explains the current value of a bond?
- The current value equals the par value plus the present value of the bond's expected future interest payments.
- The current value is the present value of the bond's expected future cash flows discounted at the market rate of interest.
- The current value is the present value of the bond's expected future interest payments discounted at the coupon rate.
- The current value is the future value of the bond's cash flows compounded at the market rate of interest.
The current value is the present value of the bond's expected future cash flows discounted at the market rate of interest.
Which one of these is the best description of a 5-year zero coupon bond?
- A bond with a current value equal to its discounted par value
- A bond that will sell at par throughout the entire five years
- A bond that will make a total of 5 payments over its life
- A bond that will make a total of 10 payments over its life
A bond with a current value equal to its discounted par value
What term indicates a bond is unsecured?
Debenture
Which of these statements is correct?
- The average daily trading volume of the U. S. bond market reached over $760 billion in 2017.
- The bond market is an insignificant source of funds for business firms.
- The value of the bond market is about half of the value of the stock market.
- The U. S. bond market consists of only government-issued bonds.
The average daily trading volume of the U.S. bond market reached over $760 billion in 2017
What is the yield spread?
Difference between the yields to maturity on bonds with differing levels of credit risk.
Assume a $1,000 Treasury inflation-protected bond has a 2 percent coupon and a face value at issuance of $1,000. The reference CPI is 202.34 and the current CPI is 203.18. What do you know for certain about this bond?
The coupon rate is still 2 percent but the interest payments have increased.

- the current par value is greater than 1,000 since the CPI has increased
- the current semiannual interest payment will be greater than $10 since the par value has increased due to inflation
- the coupon is still 2 percent but the par value has increased due to inflation
Which of these characteristics apply to a discount bond? Select all that apply.
- coupon rate equals the market rate
- coupon rate exceeds market rate
- selling for less than face value
- market price is less than the principal amount of the loan
Selling for less than face value
Market price is less than the principal amount of the loan

- if the coupon rate equals the market rate, the bond will sell at par
- if the coupon rate exceeds the market rate, the bond will be more desirable and will sell at a premium
Which of the following affect the coupon rate a firm must set on its bonds if the bonds are to be sold at par? Select all that apply.
- default risk
- face amount
- bond term
- market rates of interest
market rates of interest
bond term
default risk

- coupon rates are affected by the level of default risk, bond terms, and market rates of interest
- the coupon rate is not affected by the face value of an individual bond, but it is affected by the level of default risk, the bond's term, and market rates of interest
Which of these statements correctly applies to the NYSE bond market? Select all that apply.
- Treasury bonds are the primary source of bond trading volume on the NYSE.
- The NYSE operates the largest centralized U. S. bond market.
- Transactions on the NYSE indicate the volume of trading in corporate bonds is quite high.
- Corporate bonds are the primary source of bond trading volume on the NYSE.
the NYSE operates the largest centralized U.S. bond market
corporate bonds are the primary source of bond trading volume on the NYSE

- the majority of bond trading volume on the NYSE is in corporate debt
-Corporate bond trading is relatively low even though corporate bonds represent the majority of bond trading volume on the NYSE
Which of the following are sources of information on the bond markets? Select all that apply.
- Merrill Lynch
- Foreign Exchange Market
- Internet
- The Wall Street Journal
Merrill Lynch
Internet
The Wall Street Journal

- the foreign exchange market deals with foreign currencies, not bonds.
Which one of the following bond quotes indicates a corporate bond is selling at a premium?
- 100.00
- 101.49
- 99.67
- 99.96
101.49

- a quote of 100 indicates the bond is selling at par. Premium bonds sell for more than par value.
- Premium bonds sell for more than par value so their quotes must be greater than 100
How much will you pay to purchase a $100,000 U. S. Treasury bond that is quoted at 99.6250?
$99,625.00

Reason: 99.6250 x $100,000 = $99,625.00
Assume a corporate bond pays a 5 percent coupon and matures in ten years. What will be the change in the current price of this bond if market interest rates increase from 5 to 5.5 percent?
- +19.04
- -$38.07
- +38.07
- -19.04
- $38.07

Reason: When the coupon rate matches the market rate, a bond sells at par, which is assumed to be $1,000. Using a financial calculator, the price at 5.5 percent is- N =20, I/Y = 2.75, PMT = 25; FV = 1,000; PV = -961.93
Change in price = $961.93 - $1,000 = -$38.07

- Since the market rate of interest increased, the bond price decreased. This means the change must be a negative value!
Which statement related to bonds is true?
- All bonds are considered to be low-risk.
- Bonds that offer high potential returns are low-risk.
- Bonds are rarely traded.
- Bonds have varying levels of risk.
Bonds have varying levels of risk
- some bonds are high risk
- high potential returns are associated with higher risks
- many bonds are traded frequently
What is the current yield formula?
Annual Interest / Current Value
Which one of the following should be used to compare various corporate bonds if you plan to purchase a bond today, hold it until maturity, and want to select the bond with the highest rate of return?
- coupon rate
- current yield
- current price
- yield to maturity
Yield to Maturity
Reason: the yield to maturity is the annual return that will be earned if a bond is purchased at the current price and held until maturity

- the coupon rate determines the annual amount of interest that will be paid. The yield to maturity is the annual return on a bond that is purchased at the current price and held until maturity
- The current yield only considers the interest payments.
- The current price does not tell you the rate of return you will earn.
How does the yield to call differ from the yield to maturity for the same bond?
- The interest payments are annual in the yield to call and semiannual in the yield to maturity.
- There are fewer time periods in the yield to call.
- The call price used in the yield to call usually exceeds the face value used in the yield to maturity.
- The interest payments will vary as the coupon rate is applied to the call price rather than the par value in the yield to call.
There are fewer time periods in the yield to call
The call price used in the yield to call usually exceeds the face value used in the yield to maturity
Reason: Bonds are called prior to maturity, so there are less time periods when computing a yield to call as compared to a yield to maturity
The call price equals the face value plus the call premium

- The timing of the interest payments is the same in the yield to call as in the yield to maturity.
- The interest payments will be the same in both yields as the coupon rate is always applied to the par value.
Which of the following affect the coupon rate a firm must set on its bonds if the bonds are to be sold at par? Select all that apply.
- face amount
- market rates of interest
- default risk
- bond term
market rates of interest
default risk
bond term
Reason: coupon rates are affected by the level of default risk, bond terms, and market rates of interest

- the coupon rate is not affected by the face value of an individual bond, but it is affected by the level of default risk, the bond's term, and market rates of interest
What is a common means of reporting the daily direction of overall bond price movements?
- Reporting the latest price of 10-year Treasury bonds
- Reporting the average price change in all daily corporate bond trades
- Reporting the average coupon rate for all bonds issued that day
- Reporting the yield-to-maturity on the 10-year Treasury bonds
Reporting the yield-to-maturity on the 10-year Treasury bonds
Reason: Since the rate of interest is the key factor that affects bond prices, it is common practice to report the latest rate and daily yield change for the 10-year Treasury. Remember, interest rates and bond prices are INVERSELY related.

- The market interest rate is the key factor affecting bond prices. Thus, the latest yield and daily yield change for the 10-year Treasury is reported
The market rate of interest that is used to compute the present value of a bond is affected by which of the following? Select all that apply.
- credit quality of the bond
- bond's coupon rate
- tax status of the bond
- bond's face value
credit quality of the bond
tax status of the bond
Reason: the market rate of interest used is affected by the term to maturity, the credit quality, and the tax status of the bond

- The coupon rate does not affect the rate used to discount a bond's cash flows.
- The face, or par, value does not affect the rate used to discount a bond's cash flows.
Which one of these correctly defines equivalent taxable yield?
- The after-tax rate earned on either a taxable or nontaxable bond.
- The pretax rate needed on a taxable bond to produce the same after-tax rate as a muni bond
- The pretax rate required on a taxable bond to yield the same rate as a muni bond
- The after-tax rate needed on a corporate bond to equal the after-tax rate on a muni bond
The pretax rate needed on a taxable bond to produce the same after-tax rate as a muni bond

- The taxable equivalent yield is the pretax rate needed on a taxable bond to yield the same after-tax rate as a muni.
Which one of these defines the yield to call?
- Rate earned by buying a bond at today's price and holding it until the first call date
- The call premium expressed as a percentage of the par value
- Coupon rate compounded by the number of periods until a bond can be called
- Purchasing a bond on its first call date and holding it until its maturity date
Rate earned by buying a bond at today's price and holding it until the first call date

- The yield to call is the rate earned by buying a bond at the current price and having it called on the first call date. The yield includes both interest earnings and capital gains, which includes the call premium.
- The yield to call considers both the interest earnings and the capital gain, which includes the call premium.
- The yield to call is based on buying a bond at the current price and having it called on the first call date.
True or false: The financial status of the issuer will affect the coupon rate that issuer pays on its bonds.
True
Reason: The financial status of an issuer DOES affect the coupon rate on the issuer's bonds
A corporate bond has a current yield of 6.39 percent and a price quote of 97.8. What is the coupon rate?
- 6.00 percent
- 6.50 percent
- 6.60 percent
- 6.25 percent
6.25 percent
Reason: 0.0639 = Annual interest/$978; Annual interest = $62.49
Coupon rate = $62.49/$1,000 = 0.0625 = 6.25%
Equivalent Taxable Yield Formula
Muni Yield / (1 - Tax Rate)
A corporate bond has a yield to maturity of 6.48 percent, a current price of $916.58, and matures in 5 years. What is the coupon rate?
- 6.50 percent
- 4.25 percent
- 6.25 percent
- 4.50 percent
4.50 percent
Reason:
N = 10, I/Y = 3.24, PV = -916.58, FV = 1,000 ; PMT = 22.50 which is the semi annual interest payment
Coupon rate = (2 x $22.50) / $1,000 = 0.045 = 4.50%
What is the definition of credit quality risk?
- The chance that a bond issuer may repay a bond prior to maturity
- Credit quality risk is the risk that a bond issuer will default on a payment. Calling a bond means the issuer repays the bond prior to maturity.
- Credit quality risk is the chance that an issuer may default on payment. Taxability risk refers to changes in tax status or rates.
The chance that an issuer will either be late paying or will not pay an interest or principal payment

- Credit quality risk is the chance that an issuer may default on payment. Taxability risk refers to changes in tax status or rates.
- Calling a bond means the issuer repays the bond prior to maturity.
- Credit quality risk does not consider this risk but only the risk of default.
Sets found in the same folder