Question 1

Which of the following is not true of a revenue muni bond?&#10;A) Backed by the full faith and credit of the issuing government&#10;B) Exempt from federal taxation&#10;C) Backed by the revenue from a specific project&#10;D) Typically rated by credit rating agencies

Accepted Answer

Revenue municipal bonds are not backed by the full faith and credit of the issuing government; instead, they are secured by the revenue generated from the specific project or source they finance.

Question 2

Which of the following acts to lower the yield on a corporate bond?&#10;A) Convertibility&#10;B) Sinking fund&#10;C) Call protection&#10;D) All of the above

Accepted Answer

All of the options listed act to lower the yield on a corporate bond. Convertibility allows the bond to be converted into a predetermined amount of the company's equity, which is an attractive feature for investors, leading to a lower yield. A sinking fund provision requires the issuer to periodically retire a portion of the bond issue before maturity, reducing risk for investors and thus the yield. Call protection, which prevents the issuer from redeeming the bond for a certain period, also makes the bond more attractive by providing more certainty to the investor, leading to a lower yield.

Question 3

To limit the scope for risk taking (moral hazard) by the managers of a corporation (at the expense of bondholders), bond indentures frequently contain which of the following restrictive covenants?&#10;A) Limitations on the payment of dividends&#10;B) Limitations on the firm's leverage&#10;C) Limitations on mergers or acquisitions&#10;D) All of the above

Accepted Answer

Restrictive covenants in bond indentures, such as limitations on the payment of dividends, limitations on the firm's leverage, and limitations on mergers or acquisitions, are designed to protect bondholders by limiting the company's risk-taking activities that could jeopardize its ability to meet its debt obligations. These covenants help ensure that the company maintains a certain level of financial stability and does not engage in overly risky ventures that could compromise its financial health and, consequently, the interests of the bondholders.

Question 4

How many separate zero-coupon securities can be created from a 7-year Treasury note through the STRIPs process?&#10;A) 1&#10;B) 7&#10;C) 15&#10;D) None-the STRIPs process involves something entirely different

Accepted Answer

A 7-year Treasury note can be stripped into 15 separate zero-coupon securities: 14 representing the semi-annual interest payments and 1 representing the principal repayment at maturity.

Question 5

When a reopening of a Treasury security occurs&#10;A) The new security has the same maturity date, but a different coupon than the current one&#10;B) The new security has the same coupon, but a different maturity date than the current one&#10;C) The new security has the same coupon and maturity date than the current one&#10;D) The current on-the-run security goes off the run

Accepted Answer

In a reopening of a Treasury security, the new issue has the same coupon and maturity date as the original issue, effectively increasing the amount of the original issue.

Question 6

Leverage&#10;A) Adds to the risk profile of a corporation&#10;B) Favors shareholders over bondholders&#10;C) Typically is limited by restrictive bond covenants&#10;D) All of the above

Accepted Answer

Leverage increases a corporation's risk profile because it involves using borrowed funds for investment, which can amplify both gains and losses. It generally favors shareholders over bondholders because, in successful ventures, shareholders can see increased returns without the company having to increase the fixed interest payments to bondholders. Additionally, leverage is often limited by bond covenants to protect bondholders by restricting the amount of additional debt a company can take on.

Question 7

Dealers in Treasury securities finance their inventories through&#10;A) Repurchase agreements (RPs)&#10;B) Loans from commercial banks&#10;C) Loans from the Fed&#10;D) Dealers do not hold inventories

Accepted Answer

Dealers in Treasury securities commonly use repurchase agreements (RPs) to finance their inventories, as it allows them to borrow funds by selling securities with an agreement to repurchase them at a later date.

Question 8

A when-issued Treasury security involves&#10;A) An on-the-run security's going off the run&#10;B) A forward contract in which a dealer promises to deliver a new Treasury security once it is issued&#10;C) The Treasury's promising to award a security to a noncompetitive bidder&#10;D) The Treasury's promising to award a security to a competitive bidder

Accepted Answer

A when-issued Treasury security refers to a forward contract where a dealer commits to delivering a newly issued Treasury security at a future date. This allows investors to trade the securities before they are actually issued.

Question 9

Sovereign debt&#10;A) Performs a price-discovery function&#10;B) Is used as a benchmark for pricing credit in an economy&#10;C) Is typically offered and traded in large, transparent markets&#10;D) All of the above

Accepted Answer

Sovereign debt performs a price-discovery function, is used as a benchmark for pricing credit in an economy, and is typically offered and traded in large, transparent markets.

Question 10

Private placements of corporate bonds typically involve&#10;A) Issuers that have difficulty accessing the public market owing to asymmetric information&#10;B) Issuers that prefer to remain private&#10;C) Commercial banks as investors&#10;D) All of the above

Accepted Answer

The answer of Private placements of corporate bonds typically involve&#10;A)...

Question 11

Under the Modigliani-Miller Theorem&#10;A) Corporate managers favor leverage&#10;B) Corporate managers avoid leverage&#10;C) The costs of financing will tend to be the same irrespective of the amount of leverage&#10;D) Corporate managers favor financing in the money market

Accepted Answer

The answer of Under the Modigliani-Miller Theorem&#10;A) Corporate managers favor...

Deck 8: The Bond Market