Deck 6: Debt Valuation and Interest Rates

Question 1

A short-term debt obligation with an initial maturity less than 1 year is best described as a:

A) bill.
B) note.
C) bond.

Answer 1

bill.

Question 2

A debt obligation with a maturity between 1 and 7 years is best described as a:

A) Bill.
B) note.
C) bond.

Answer 2

note.

Question 3

A long-term debt instrument in which the borrower promises repayment, usually with interest, with an initial maturity longer than 7 years is best described as a:

A) bill.
B) note.
C) bond.

Answer 3

bond.

Question 4

The lender in a bond transaction is referred to as the:

A) issuer.
B) bondholder.
C) bond underwriter.

Question 5

The legal document that specifies the payment requirements, all other salient matters relating to a bond is best described as:

A) issuer.
B) collateral.
C) bond indenture.
D) term to maturity.

Question 6

Which of the following would not be contained in an indenture agreement?

A) Par value
B) Collateral
C) Interest rate
D) Credit rating
E) Term to maturity

Question 7

A bond is quoted at 102.816. This would mean that a $1,000 par value bond would be selling at what price?

A) $100.00
B) $102.82
C) $1,000.00
D) $1,028.16

Question 8

A debt instrument that is not secured is best described as a:

A) debenture
B) mortgage bond
C) collateral trust bond
D) equipment trust bond

Question 9

A debt instrument secured by a general claim on the issuer's unencumbered assets is a:

A) debenture
B) mortgage bond
C) collateral trust bond
D) equipment trust bond

Question 10

Your client likes to invest in debt with a rating of BBB (Standard & Poor's and Fitch Ratings) or Baa (Moody's) and higher. This class of investment would best be described as:

A) in default
B) high-yield debt
C) investment grade debt

Question 11

Which additional bond feature provides protection against rising interest rates and results in the bonds generally trading near their par value?

A) Putable bond
B) Callable bond
C) Extendible bond
D) Convertible bond
E) Floating rate bond

Question 12

Which of the following additional bond features does not primarily benefit the bond issuer?

A) Callable bond
B) Sinking fund provision
C) Purchase fund provision

Question 13

Which of the following additional bond features does not primarily benefit the bondholder?

A) Putable bond
B) Callable bond
C) Extendible bond
D) Convertible bond
E) Purchase fund provision

Question 14

The bond quote of a 5-year, 8 percent, semi-annual coupon bond when the market rate is 8 percent is closest to:

A) 91.89
B) 100.00
C) 104.61
D) 108.53

Question 15

The bond quote of a 15-year, 7 percent, semi-annual coupon bond when the market rate is 7 percent is closest to:

A) 91.89
B) 100.00
C) 104.61
D) 108.53

Question 16

The sensitivity of bond prices to changes in interest rates is:

A) credit risk.
B) default risk.
C) inflation risk.
D) interest rate risk.

Question 17

The bond quote of a 15-year, 7 percent, semi-annual coupon bond when the market rate is 11 percent is closest to:

A) 70.93
B) 95.62
C) 100.00
D) 136.78

Question 18

The bond quote of a 5-year, 8 percent, semi-annual coupon bond when the market rate is 10 percent is closest to:

A) 92.28
B) 95.62
C) 100.00
D) 108.81

Question 19

Which of the following is not true regarding yield to maturity?

A) Yield to maturity is also called market rate of interest.
B) When yield to maturity is equal to the coupon rate, the bond will trade at par value.
C) A callable bond always trades based on its yield to call instead of its yield to maturity.
D) Yield to maturity is the discount rate used to value the cash flows of a debt obligation.
E) The yield to maturity calculation assumes that coupon payments are reinvested in similar-yielding investments.

Question 20

The bond quote of a 5-year, 8 percent, semi-annual coupon bond when the market rate is 6 percent is closest to:

A) 91.89
B) 100.00
C) 104.61
D) 108.53

Question 21

The bond quote of a 15-year, 7 percent, semi-annual coupon bond when the market rate is 5 percent is closest to:

A) 81.61
B) 100.00
C) 104.61
D) 120.93

Question 22

Consider bonds A, B, C, and D, each with a par value of $1,000. Which of the following bond's price is most sensitive to market rate changes?

A) Bond A: 4 year, 7 percent coupon rate, yield 4.2 percent
B) Bond B: 5 year, 6.5 percent coupon rate, yield 4.3 percent
C) Bond C: 8 year, 6.5 percent coupon rate, yield 4.2 percent
D) Bond D: 15 year, 5 percent coupon rate, yield 4.2 percent

Question 23

The value of a 12-year zero-coupon bond with a face value of $1,000 and a market yield of 4.5 percent is closest to:

A) $225.00
B) $450.00
C) $586.25
D) $589.66
E) $1,000.00

Question 24

The value of a 20-year zero coupon bond with a face value of $1,000 and a market yield of 6 percent is closest to:

A) $300.00
B) $306.56
C) $311.80
D) $600.00
E) $1,000.00

Question 25

Which factors lead to higher interest rate risk?

A) Shorter term bonds with lower coupon rates and lower market yields
B) Longer term bonds with higher coupon rates and lower market yields
C) Longer term bonds with lower coupon rates and lower market yields
D) Longer term bonds with lower coupon rates and higher market yields

Question 26

The Issuer Corporation issued a 20-year bond with a 6 percent coupon. The bond had a yield to maturity of 8 percent one year after issuance. the value of Issuer's bond one year after issuance, in bond quote terms, is closest to:

A) 76.34
B) 80.21
C) 80.63
D) 100.00

Question 27

Which of the following choices would not be the actual price paid for a debt obligation that considers the amount of accrued interest on the security?

A) Cash price
B) Dirty price
C) Clean price

Question 28

Which of the following is incorrect?

A) Yield to call is always greater than yield to maturity.
B) Yield to maturity assumes the bond is held to maturity.
C) The discount rate used to evaluate bonds is yield to maturity.
D) Yield to maturity assumes that all interest payments can be reinvested in similar yielding investments.

Question 29

Annual coupon interest divided by current market price is the formula for:

A) yield to call.
B) current yield.
C) yield to maturity.
D) internal rate of return.

Question 30

The yield to maturity on a 30-year, 6 percent bond that pays semi-annual coupons and is selling for $1,025 is closest to:

A) 2.91%
B) 3.00%
C) 5.82%
D) 6.00%

Question 31

The yield to maturity on a 20-year, 3 percent bond that pays semi-annual coupons and is selling for $990 is closest to:

A) 1.50%
B) 1.53%
C) 3.00%
D) 3.07%

Question 32

The yield to maturity on a 30-year zero-coupon bond that is presently quoted at 42 is closest to:

A) 0.00%
B) 2.91%
C) 3.00%
D) 5.87%

Question 33

The yield to maturity on a 10-year zero-coupon bond that is presently quoted at 96 is closest to:

A) 0.41%
B) 3.00%
C) 4.00%
D) 4.10%

Question 34

Given the following bond quote information, which of the following statements is incorrect?

A) If you own $50,000 face value of these bonds, the value of your bonds is $65,565.
B) The bond is rated Ba and BB by two agencies, which means this is an investment grade bond.
C) The bond is callable, which means that if certain conditions are met, XYZ can buy the bond from the investor.
D) The bond has a coupon of 8% but because the market yield of 5.781% is less than the coupon rate, the bond trades at a premium from its face value.

Question 35

XYZ bond is trading for 103. The bond's call price is 105. Trades of XYZ bond will most likely be based on which of the following:

A) XYZ bond's yield to call
B) XYZ bond's coupon rate
C) XYZ bond's current yield
D) XYZ bond's yield to maturity

Question 36

If ABC bond has a coupon rate of 5% and a yield to maturity of 4.5%, which of the following would be true?

A) ABC will trade at par value
B) ABC will trade at a discount
C) ABC will trade at a premium

Question 37

XYZ bond is trading for 105. The bond's call price is 102. Trades of XYZ bond will most likely be based on which of the following?

A) XYZ bond's yield to call
B) XYZ bond's coupon rate
C) XYZ bond's current yield
D) XYZ bond's yield to maturity

Question 38

Which of the following statements is incorrect?

A) Generally, we evaluate yield to call based on the bond's first available call.
B) Generally, a callable bond trades at a value that reflects the higher of yield to call and yield to maturity.
C) If the call price of a bond is above its current market price, it is unlikely that the bond would be called back, so the bond will sell based on its yield to maturity rather than its yield to call.
D) If the call price of a bond is below its current market price, it is likely that the bond would be called back, so the bond will sell based on its yield to call rather than its yield to maturity.

Question 39

Which of the following would not be an example of a Treasury security?

A) TIPS
B) T-bill
C) Treasury note
D) EE/E Savings bond
E) State of New York municipal bond

Question 40

Which of the following protects investors against the effects of inflation?

A) TIPS
B) T-bill
C) Treasury note
D) EE/E Savings bond
E) State of New York municipal bond

Question 41

Which of the following is not true regarding a T-bill?

A) It carries a maturity of one year or less
B) It is an obligation of the U.S. federal government
C) It has compounded interest, which is paid monthly
D) The discount rate on the T-bill is determined in the U.S. Treasury's auction

Question 42

To annualize the yield on a T-bill one would use the:

A) Current yield
B) Yield to call
C) Yield to maturity
D) Bond equivalent yield

Question 43

The value of a 90-day T-bill with a face value of $100,000 that has a quoted yield of 3.75 percent is closest to:

A) $99,083.81
B) $100,000.00
C) $100,924.66
D) $103,750.00

Question 44

The value of a 95-day T-bill with a face value of $100,000 that has a quoted yield of 4.00 percent is closest to:

A) $98,969.63
B) $100,000.00
C) $101,041.10
D) $104,000.00

Question 45

Which of the following is a security of the U.S. government?

A) Municipal bond
B) Corporate bond
C) Commercial paper
D) Cash management bills

Question 46

Which of the following would not protect investors from inflation?

A) TIPS
B) I Savings bond
C) EE/E Savings bond

Question 47

The rate charged for lending today's dollars in return for getting dollars back in the future, without taking into account the purchasing power of those future dollars is best described as a:

A) basis point.
B) risk-free rate.
C) default free rate.
D) nominal interest rate.

Question 48

Approximate the risk-free rate of interest on a bond with a real rate of 1.5% and expected inflation of 1.0%.

A) 0.50%
B) 1.00%
C) 1.50%
D) 2.50%

Question 49

The approximate nominal risk-free rate of interest on a bond with a real rate of 0.75% and expected inflation of 0.50% is closest to:

A) 0.50%
B) 0.75%
C) 1.25%
D) 1.50%

Question 50

The nominal risk-free rate of interest on a bond with a real rate of 1.25% and expected inflation of 1.5%, using the approximation and the precise formulas, respectively, are closest to:

$\begin{array}{llcc}& \text{ Approximation} & \text{ Precise} \\\end{array}$

A) $\begin{array}{llcc} &1.269 \%&&&& 1.269 \% \\\end{array}$
B) $\begin{array}{llcc} & 1.269 \%&&& & 2.750 \% \\\end{array}$
C) $\begin{array}{llcc} & 2.750 \% &&&&2.750 \% \\\end{array}$
D) $\begin{array}{llcc} & 2.750 \% &&&& 2.769 \% \end{array}$

Question 51

Equity is a promise by the borrower to repay the amount borrowed, plus interest.

Question 52

The borrower in a bond transaction is referred to as the bondholder.

Question 53

The interest payment on a note or bond is called its coupon.

Question 54

A zero coupon bond is a debt obligation that commits the issuer to pay a fixed amount of interest periodically and then repay the principal amount at maturity.

Question 55

If the yield to maturity is equal to a bond's coupon, the bond will trade at par.

Question 56

Bonds can be valued by breaking them into two separate components: an annuity consisting of the identical and regular interest payments, plus a lump-sum principal payment at maturity.

Question 57

Your broker quotes 98.250 for a $1,000 par value bond. This would mean the bond is currently selling for $1,000.

Question 58

A type of debt instrument secured by equipment is a collateral trust bond.

Question 59

If the indenture agreement restricts Company A from paying executive salary increases above cost of living adjustments, this would be an example of a positive covenant.

Question 60

A borrower agreeing to not pay dividends if the interest coverage ratio is below 2.0 is an example of a positive covenant.

Question 61

A borrower agreeing to have an annual audit of its financial statements is an example of a positive covenant.

Question 62

When market interest rates are above the coupon rate on a bond, the bond would trade at a premium.

Question 63

When market interest rates are below the coupon rate on a bond, the bond would trade at a premium.

Question 64

If interest rates increase, the market prices of bonds increase. If interest rates decrease, the market prices of bonds decrease.

Question 65

The greater the sensitivity of a bond to interest rate changes, the greater the duration.

Question 66

Market prices of zero coupon bonds are less sensitive to interest rate changes than coupon bonds because they make no coupon payments at all.

Question 67

Yield to maturity is an internal rate of return.

Question 68

Current yield is the return on a callable bond assuming that the bond is called away before maturity.

Question 69

A bond with a coupon rate of 6% and a yield to maturity of 4.5% will trade at a premium.

Question 70

A bond with a coupon rate of 3.5% and a yield to maturity of 5% will trade at a premium.

Question 71

Bonds issued by the State of Texas are an example of sovereign debt.

Question 72

Absolute auction is the process the U.S. Treasury uses to determine the discount rate when new Treasury bills are issued.

Question 73

In the U.S., yields on T-bills are usually quoted based on the bank discount yield.

Question 74

The only distinction between U.S. Treasury notes and U.S. Treasury bonds is the maturity.

Question 75

Describe the difference between a zero coupon bond and a straight coupon bond.

Question 76

What is the difference between a bond and a mortgage?

Question 77

Estimate the yield to call on a 15-year 6 percent semi-annual pay bond that is callable in 5 years at a call price of $1,050, if the bond pays semi-annual coupons and is selling for $1,030.

Question 78

Estimate the yield to call on a 15-year 6 percent semi-annual pay bond that is callable in 5 years at a call price of $1,025, if the bond pays semi-annual coupons and is selling for $1,020.

Question 79

Estimate the bond equivalent yield

Question 80

Estimate the bond discount yield