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Terms in this set (275)

B is correct. Covenant analysis is especially important for high-yield credits because of their reduced margin of safety. Covenants are meant to protect creditors, and high-yield bonds are typically issued by companies with weak business profiles, which makes their risk of default higher relative to investment-grade bonds, which are typically issued by companies with strong business prospects. The increased likelihood of default for high-yield bonds relative to investment-grade bonds makes covenant analysis more important for high-yield investors compared with investment-grade investors.

A is incorrect because Liquidity is important for all issuers but is absolutely critical for high-yield issuers. Investment-grade companies typically have substantial cash on their balance sheets, generate a lot of cash from operations relative to their debt, and/or are presumed to have alternate sources of liquidity, such as bank lines and commercial paper. For these reasons, investment-grade companies can more easily refinance maturing debt. In contrast, high-yield companies may not have those options available, so having adequate cash on hand is essential.

C is incorrect because High-yield bonds are sometimes thought of as a "hybrid" between higher-quality bonds, such as investment-grade corporate debt, and equity securities. Their more volatile price and spread movements are less influenced by interest changes than are higher-quality bonds, and they show a greater correlation with movements in the equity markets.