Question 1

A 10-year bond with a 9% annual coupon has a yield to maturity of 8%. Which of the following statements is CORRECT?
A) If the yield to maturity remains constant, the bond's price one year from now will be higher than its current price.
B) The bond is selling below its par value.
C) The bond is selling at a discount.
D) If the yield to maturity remains constant, the bond's price one year from now will be lower than its current price.
E) The bond's current yield is greater than 9%.

Accepted Answer

The answer of A 10-year bond with a 9% annual...

Question 2

Which of the following statements is CORRECT?
A) 10-year, zero coupon bonds have more reinvestment risk than 10-year, 10% coupon bonds.
B) A 10-year, 10% coupon bond has less reinvestment risk than a 10-year, 5% coupon bond (assuming all else equal).
C) The total (rate of) return on a bond during a given year is the sum of the coupon interest payments received during the year and the change in the value of the bond from the beginning to the end of the year, divided by the bond's price at the beginning of the year.
D) The price of a 20-year, 10% bond is less sensitive to changes in interest rates than the price of a 5-year, 10% bond.
E) A $1,000 bond with $100 annual interest payments that has 5 years to maturity and is not expected to default would sell at a discount if interest rates were below 9% and at a premium if interest rates were greater than 11%.

Accepted Answer

The total rate of return on a bond during a given year includes the coupon interest payments and also the capital appreciation or depreciation on the bond during the year, divided by the bond's price at the beginning of the year. Choices A, B, D, and E all contain false statements.

Question 3

Which of the following statements is CORRECT?
A) If two bonds have the same maturity, the same yield to maturity, and the same level of risk, the bonds should sell for the same price regardless of their coupon rates.
B) All else equal, an increase in interest rates will have a greater effect on the prices of short-term than long-term bonds.
C) All else equal, an increase in interest rates will have a greater effect on higher-coupon bonds than it will have on lower-coupon bonds.
D) If a bond's yield to maturity exceeds its coupon rate, the bond's price must be less than its maturity value.
E) If a bond's yield to maturity exceeds its coupon rate, the bond's current yield must be less than its coupon rate.

Accepted Answer

The answer of Which of the following statements is CORRECT?
A)...

Question 4

Which of the following statements is CORRECT?
A) If the Federal Reserve unexpectedly announces that it expects inflation to increase, then we would probably observe an immediate increase in bond prices.
B) The total yield on a bond is derived from dividends plus changes in the price of the bond.
C) Bonds are generally regarded as being riskier than common stocks, and therefore bonds have higher required returns.
D) Bonds issued by larger companies always have lower yields to maturity (due to less risk) than bonds issued by smaller companies.
E) The market price of a bond will always approach its par value as its maturity date approaches, provided the bond's required return remains constant.

Accepted Answer

This statement is known as the "pull to par" phenomenon, where as a bond approaches its maturity date, the market price will move closer to its par value (assuming the bond's required return remains constant). This is because the closer a bond is to maturity, the less uncertainty there is about the bond's future cash flows, making it less risky. As a result, demand for the bond increases, driving up its price and approaching its par value.

Question 5

Which of the following bonds has the greatest price risk?
A) A 10-year $100 annuity.
B) A 10-year, $1,000 face value, zero coupon bond.
C) A 10-year, $1,000 face value, 10% coupon bond with annual interest payments.
D) All 10-year bonds have the same price risk since they have the same maturity.
E) A 10-year, $1,000 face value, 10% coupon bond with semiannual interest payments.

Accepted Answer

Zero coupon bonds, like the 10-year, $1,000 face value bond in option B, have the greatest price risk because they do not provide any periodic coupon payments to offset changes in interest rates. As interest rates rise, the present value of the bond's future cash flows decreases more than with a coupon bond, resulting in a larger decline in bond price. An annuity (option A) and a coupon bond with annual interest payments (option C) both provide periodic coupon payments that help to mitigate the impact of changes in interest rates on bond prices. The same reasoning applies to the bond with semiannual interest payments in option E, but to a lesser extent than the annual bond in option C. Option D is incorrect because not all 10-year bonds have the same price risk; it depends on the specific characteristics of the bond.

Question 6

Which of the following statements is CORRECT?
A) All else equal, high-coupon bonds have less reinvestment risk than low-coupon bonds.
B) All else equal, long-term bonds have less price risk than short-term bonds.
C) All else equal, low-coupon bonds have less price risk than high-coupon bonds.
D) All else equal, short-term bonds have less reinvestment risk than long-term bonds.
E) All else equal, long-term bonds have less reinvestment risk than short-term bonds.

Accepted Answer

The answer of Which of the following statements is CORRECT?
A)...

Question 7

Which of the following statements is CORRECT?
A) If a bond is selling at a discount to par, its current yield will be greater than its yield to maturity.
B) All else equal, bonds with longer maturities have less price risk than bonds with shorter maturities.
C) If a bond is selling at its par value, its current yield equals its capital gains yield.
D) If a bond is selling at a premium, its current yield will be less than its capital gains yield.
E) All else equal, bonds with larger coupons have less price risk than bonds with smaller coupons.

Accepted Answer

The answer of Which of the following statements is CORRECT?
A)...

Question 8

Which of the following statements is CORRECT?
A) If a coupon bond is selling at a premium, then the bond's current yield is zero.
B) If a coupon bond is selling at a discount, then the bond's expected capital gains yield is negative.
C) If a bond is selling at a discount, the yield to call is a better measure of the expected return than the yield to maturity.
D) The current yield on Bond A exceeds the current yield on Bond B. Therefore, Bond A must have a higher yield to maturity than Bond B.
E) If a coupon bond is selling at par, its current yield equals its yield to maturity.

Accepted Answer

When a coupon bond is selling at par, its coupon rate equals its yield to maturity. Therefore, its annual coupon payment divided by the price of the bond equals its yield to maturity, which also equals its current yield. Hence, option E is correct. The other options are false statements.

Question 9

Which of the following statements is CORRECT?
A) If a coupon bond is selling at par, its current yield equals its yield to maturity.
B) If rates fall after its issue, a zero coupon bond could trade at a price above its maturity (or par) value.
C) If rates fall rapidly, a zero coupon bond's expected appreciation could become negative.
D) If a firm moves from a position of strength toward financial distress, its bonds' yield to maturity would probably decline.
E) If a bond is selling at a premium, this implies that its yield to maturity exceeds its coupon rate.

Accepted Answer

When a coupon bond is selling at par, its coupon rate and yield to maturity will be the same. The current yield is calculated by dividing the annual coupon payment by the market price of the bond, so if the bond is selling at par, the current yield will also be equal to the yield to maturity.

The other statements are not correct. B is false because zero coupon bonds do not have coupon payments, so they do not have a par value. Their price at maturity will be equal to their face value. C is false because if rates fall, the bond's expected appreciation (or increase in value) would be positive, not negative. D is false because if a firm moves towards financial distress, investors would demand a higher yield to compensate for the increased risk, causing the bond's yield to maturity to increase, not decline. Finally, E is false because if a bond is selling at a premium, its yield to maturity will be less than its coupon rate.

Question 10

If its yield to maturity declined by 1%, which of the following bonds would have the largest percentage increase in value?
A) A 1-year zero coupon bond.
B) A 1-year bond with an 8% coupon.
C) A 10-year bond with an 8% coupon.
D) A 10-year bond with a 12% coupon.
E) A 10-year zero coupon bond.

Accepted Answer

Zero coupon bonds are more sensitive to changes in interest rates than coupon bonds because they do not have any cash flows until maturity. Therefore, the 10-year zero coupon bond will have the largest percentage increase in value if its yield to maturity declined by 1%.

Question 11

An investor is considering buying one of two 10-year, $1,000 face value, noncallable bonds: Bond A has a 7% annual coupon, while Bond B has a 9% annual coupon. Both bonds have a yield to maturity of 8%, and the YTM is expected to remain constant for the next 10 years. Which of the following statements is CORRECT?
A) Bond B has a higher price than Bond A today, but one year from now the bonds will have the same price.
B) One year from now, Bond A's price will be higher than it is today.
C) Bond A's current yield is greater than 8%.
D) Bond A has a higher price than Bond B today, but one year from now the bonds will have the same price.
E) Both bonds have the same price today, and the price of each bond is expected to remain constant until the bonds mature.

Accepted Answer

The answer of An investor is considering buying one of...

Question 12

Which of the following statements is CORRECT?
A) If the maturity risk premium were zero and interest rates were expected to decrease in the future, then the yield curve for U.S. Treasury securities would, other things held constant, have an upward slope.
B) Liquidity premiums are generally higher on Treasury than corporate bonds.
C) The maturity premiums embedded in the interest rates on U.S. Treasury securities are due primarily to the fact that the probability of default is higher on long-term bonds than on short-term bonds.
D) Default risk premiums are generally lower on corporate than on Treasury bonds.
E) Reinvestment risk is lower, other things held constant, on long-term than on short-term bonds.

Accepted Answer

Reinvestment risk refers to the risk that an investor will not be able to reinvest cash flows (such as coupon payments) at the same rate as the original investment. Since long-term bonds have a longer time horizon for cash flows, they have a higher likelihood of encountering fluctuating interest rates and thus higher reinvestment risk than short-term bonds. Therefore, the statement that "reinvestment risk is lower, other things held constant, on long-term than on short-term bonds" is correct. The other statements are incorrect.

Question 13

Bonds A, B, and C all have a maturity of 10 years and a yield to maturity of 7%. Bond A's price exceeds its par value, Bond B's price equals its par value, and Bond C's price is less than its par value. None of the bonds can be called. Which of the following statements is CORRECT?
A) If the yield to maturity on each bond decreases to 6%, Bond A will have the largest percentage increase in its price.
B) Bond A has the most price risk.
C) If the yield to maturity on the three bonds remains constant, the prices of the three bonds will remain the same over the next year.
D) If the yield to maturity on each bond increases to 8%, the prices of all three bonds will decline.
E) Bond C sells at a premium over its par value.

Accepted Answer

The answer of Bonds A, B, and C all have...

Question 14

Which of the following statements is CORRECT?
A) All else equal, senior debt generally has a lower yield to maturity than subordinated debt.
B) An indenture is a bond that is less risky than a mortgage bond.
C) The expected return on a corporate bond will generally exceed the bond's yield to maturity.
D) If a bond's coupon rate exceeds its yield to maturity, then its expected return to investors will also exceed its yield to maturity.
E) Under our bankruptcy laws, any firm that is in financial distress will be forced to declare bankruptcy and then be liquidated.

Accepted Answer

Senior debt is considered less risky than subordinated debt, so it has a lower yield to maturity to compensate investors for the lower risk.

Option B is incorrect as mortgage bonds are generally considered less risky than indenture bonds as they are secured by real estate.

Option C is incorrect as the expected return on a corporate bond is the same as its yield to maturity assuming no default risk.

Option D is incorrect as the expected return of a bond is equal to its yield to maturity, regardless of whether its coupon rate is higher or lower than its yield to maturity.

Option E is incorrect as bankruptcy laws provide various options for firms in financial distress, including reorganization and debt restructuring, rather than just liquidation.

Question 15

Which of the following statements is CORRECT?
A) One advantage of a zero coupon Treasury bond is that no one who owns the bond has to pay any taxes on it until it matures or is sold.
B) Long-term bonds have less price risk but more reinvestment risk than short-term bonds.
C) If interest rates increase, all bond prices will increase, but the increase will be greater for bonds that have less price risk.
D) Relative to a coupon-bearing bond with the same maturity, a zero coupon bond has more price risk but less reinvestment risk.
E) Long-term bonds have less price risk and also less reinvestment risk than short-term bonds.

Accepted Answer

The answer of Which of the following statements is CORRECT?
A)...

Question 16

Which of the following statements is CORRECT?
A) The yield to maturity for a coupon bond that sells at a premium consists entirely of a positive capital gains yield; it has a zero current interest yield.
B) The market value of a bond will always approach its par value as its maturity date approaches. This holds true even if the firm has filed for bankruptcy.
C) Rising inflation makes the actual yield to maturity on a bond greater than a quoted yield to maturity that is based on market prices.
D) The yield to maturity on a coupon bond that sells at its par value consists entirely of a current interest yield; it has a zero expected capital gains yield.
E) The expected capital gains yield on a bond will always be zero or positive because no investor would purchase a bond with an expected capital loss.

Accepted Answer

A bond selling at its par value has a coupon rate that is equal to the prevailing interest rate, so the yield to maturity is equal to the current interest yield. There is no expected capital gains yield since the bond is not selling at a discount or a premium.

Question 17

Which of the following statements is CORRECT?
A) If a coupon bond is selling at par, its current yield equals its yield to maturity.
B) If a coupon bond is selling at a discount, its price will continue to decline until it reaches its par value at maturity.
C) If interest rates increase, the price of a 10-year coupon bond will decline by a greater percentage than the price of a 10-year zero coupon bond.
D) If a bond's yield to maturity exceeds its annual coupon, then the bond will trade at a premium.
E) If a coupon bond is selling at a premium, its current yield equals its yield to maturity.

Accepted Answer

The answer of Which of the following statements is CORRECT?
A)...

Question 18

A Treasury bond has an 8% annual coupon and a 7.5% yield to maturity. Which of the following statements is CORRECT?
A) The bond sells at a price below par.
B) The bond has a current yield greater than 8%.
C) The bond sells at a discount.
D) The bond's required rate of return is less than 7.5%.
E) If the yield to maturity remains constant, the price of the bond will decline over time.

Accepted Answer

The answer of A Treasury bond has an 8% annual...

Question 19

Bond X has an 8% annual coupon, Bond Y has a 10% annual coupon, and Bond Z has a 12% annual coupon. Each of the bonds is noncallable, has a maturity of 10 years, and has a yield to maturity of 10%. Which of the following statements is CORRECT?
A) If the bonds' market interest rate remains at 10%, Bond Z's price will be lower one year from now than it is today.
B) Bond X has the greatest reinvestment risk.
C) If market interest rates decline, the prices of all three bonds will increase, but Z's price will have the largest percentage increase.
D) If market interest rates remain at 10%, Bond Z's price will be 10% higher one year from today.
E) If market interest rates increase, Bond X's price will increase, Bond Z's price will decline, and Bond Y's price will remain the same.

Accepted Answer

Bond prices and market interest rates have an inverse relationship. As market interest rates remain constant, the bond prices will be unaffected. However, the coupon rate of Bond Z is higher than the prevailing market interest rates, and it will become less attractive to investors over time. This will lead to a lower price for Bond Z. Therefore, statement A is correct.

Question 20

Which of the following statements is CORRECT?
A) If a 10-year, $1,000 par, zero coupon bond were issued at a price that gave investors a 10% yield to maturity, and if interest rates then dropped to the point where rd = YTM = 5%, the bond would sell at a premium over its $1,000 par value.
B) If a 10-year, $1,000 par, 10% coupon bond were issued at par, and if interest rates then dropped to the point where rd = YTM = 5%, we could be sure that the bond would sell at a premium above its $1,000 par value.
C) Other things held constant, including the coupon rate, a corporation would rather issue noncallable bonds than callable bonds.
D) Other things held constant, a callable bond would have a lower required rate of return than a noncallable bond because it would have a shorter expected life.
E) Bonds are exposed to both reinvestment risk and price risk. Longer-term low-coupon bonds, relative to shorter-term high-coupon bonds, are generally more exposed to reinvestment risk than price risk.

Accepted Answer

When interest rates drop, the price of existing bonds with higher coupon rates than the new rates will increase, causing them to sell at a premium. A 10% coupon bond will sell at a premium if the market rate drops to 5%.

Quiz 7: Bonds

A 10-year bond with a 9% annual coupon has a yield to maturity of 8%. Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following bonds has the greatest price risk?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

If its yield to maturity declined by 1%, which of the following bonds would have the largest percentage increase in value?

Which of the following statements is CORRECT?

Bonds A, B, and C all have a maturity of 10 years and a yield to maturity of 7%. Bond A's price exceeds its par value, Bond B's price equals its par value, and Bond C's price is less than its par value. None of the bonds can be called. Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

Which of the following statements is CORRECT?

A Treasury bond has an 8% annual coupon and a 7.5% yield to maturity. Which of the following statements is CORRECT?

Bond X has an 8% annual coupon, Bond Y has a 10% annual coupon, and Bond Z has a 12% annual coupon. Each of the bonds is noncallable, has a maturity of 10 years, and has a yield to maturity of 10%. Which of the following statements is CORRECT?

Which of the following statements is CORRECT?