Question 1

The first step in finding the value of a bond is to

Accepted Answer

A) discount back the cash flows using an interest rate that represents the yield available on other bonds of like risk and maturity. 
B) identify the cash flows the holder of the bond will receive. 
C) contact the holder of the bond. 
D) none of the above. 
A) discount back the cash flows using an interest rate that represents the yield available on other bonds of like risk and maturity. 
B) identify the cash flows the holder of the bond will receive. 
C) contact the holder of the bond. 
D) none of the above. B

Question 2

What role do restrictive covenants play in bond markets?

Accepted Answer

Restrictive covenants play a crucial role in bond markets by providing a form of protection to bondholders. These covenants are legally binding clauses that are included in the terms of a bond issuance. They impose certain limitations or requirements on the actions of the bond issuer to reduce the risk of default and protect the interests of the bond investors. Here are some key functions and impacts of restrictive covenants in bond markets:

1. **Protecting Bondholder Interests**: Restrictive covenants are designed to ensure that the bond issuer does not engage in activities that could jeopardize their ability to make interest payments or repay the principal. This protection helps maintain the creditworthiness of the issuer and the value of the bonds.

2. **Maintaining Credit Quality**: By limiting certain risky activities, such as taking on additional debt or selling off key assets, restrictive covenants help maintain the issuer's credit quality. This can prevent the deterioration of the issuer's financial position, which could lead to a downgrade in credit ratings and a subsequent fall in bond prices.

3. **Controlling Corporate Actions**: Covenants can restrict the issuer's ability to engage in mergers and acquisitions, asset sales, or investments that could change the company's risk profile. This ensures that the company does not alter its business model or financial strategy in a way that could harm bondholders.

4. **Ensuring Financial Performance**: Some covenants require the issuer to maintain certain financial ratios, such as a minimum interest coverage ratio or a maximum leverage ratio. These requirements help ensure that the issuer remains financially stable and capable of meeting its debt obligations.

5. **Mitigating Event Risk**: Event risk refers to the risk that a sudden, unexpected event will negatively affect the issuer's ability to meet its obligations. Restrictive covenants can include change-of-control provisions that protect bondholders in the event of a takeover or other significant corporate event.

6. **Influencing Bond Pricing**: The presence and stringency of restrictive covenants can influence the pricing of bonds. Generally, bonds with stronger protective covenants may offer lower yields, as they are considered safer investments. Conversely, bonds with fewer or weaker covenants might offer higher yields to compensate for the increased risk.

7. **Facilitating Debt Management**: For the issuer, restrictive covenants can serve as a tool for debt management, signaling to the market that they are committed to maintaining a certain level of financial discipline. This can help issuers access the bond market on more favorable terms in the future.

8. **Legal Recourse**: In the event of a covenant breach, bondholders typically have legal recourse, which can include accelerating the debt (making it due immediately) or taking other legal actions to enforce the covenants.

In summary, restrictive covenants are an essential feature of bond contracts that help align the interests of bond issuers and bondholders. They mitigate the risk of default by imposing certain constraints on the issuer's behavior, thereby enhancing the overall stability and attractiveness of the bond market for investors.

Question 3

The bond contract that states the lender's rights and privileges and the borrower's obligations is called the

Accepted Answer

A) bond syndicate. 
B) restrictive covenant. 
C) bond covenant. 
D) bond indenture. 
A) bond syndicate. 
B) restrictive covenant. 
C) bond covenant. 
D) bond indenture. D

Question 4

The primary reason that individuals and firms choose to borrow long-term is to reduce the risk that interest rates will ________ before they pay off their debt.

Accepted Answer

A) rise 
B) fall 
C) become more volatile 
D) become more stable 
A) rise 
B) fall 
C) become more volatile 
D) become more stable

Question 5

(I)Because interest rates on Treasury bills are more volatile than rates on long-term securities, the return on short-term Treasury securities is usually above that on longer-term Treasury securities. (II)A Treasury STRIP separates the periodic interest payments from the final principal repayment.

Accepted Answer

A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false. 
A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false.

Question 6

(I)Securities that have an original maturity greater than one year are traded in capital markets. (II)The best known capital market securities are stocks and bonds.

Accepted Answer

A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false. 
A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false.

Question 7

The nearer a bond's price is to its par value and the longer the maturity of the bond, the more closely the ________ approximates the ________.

Accepted Answer

A) current yield; yield to maturity 
B) current yield; coupon rate 
C) yield to maturity; current yield 
D) yield to maturity; coupon rate 
A) current yield; yield to maturity 
B) current yield; coupon rate 
C) yield to maturity; current yield 
D) yield to maturity; coupon rate

Question 8

What are Treasury STRIPS?

Accepted Answer

The answer of What are Treasury STRIPS?...

Question 9

(I)The coupon rate is the rate of interest that the issuer of the bond must pay. (II)The coupon rate is usually fixed for the duration of the bond and does not fluctuate with market interest rates.

Accepted Answer

A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false. 
A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false.

Question 10

(I)Callable bonds usually have a higher yield than comparable noncallable bonds. (II)Convertible bonds are attractive to bondholders and sell for a higher price than comparable nonconvertible bonds.

Accepted Answer

A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false. 
A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false.

Question 11

A sinking fund is a requirement in the bond indenture that the firm pay off a portion of the bond issue each year.

Accepted Answer

A) True 
 B)False

Question 12

The risk on an agency bond is

Accepted Answer

A) high. 
B) zero. 
C) moderate. 
D) low. 
A) high. 
B) zero. 
C) moderate. 
D) low.

Question 13

Bonds

Accepted Answer

A) are securities that represent a debt owed by the issuer to the investor. 
B) obligate the issuer to pay a specified amount at a given date, generally without periodic interest payments. 
C) both A and B of the above. 
D) none of the above. 
A) are securities that represent a debt owed by the issuer to the investor. 
B) obligate the issuer to pay a specified amount at a given date, generally without periodic interest payments. 
C) both A and B of the above. 
D) none of the above.

Question 14

The primary issuers of capital market securities include

Accepted Answer

A) the federal and local governments. 
B) the federal and local governments, and corporations. 
C) the federal and local governments, corporations, and financial institutions. 
D) local governments and corporations. 
A) the federal and local governments. 
B) the federal and local governments, and corporations. 
C) the federal and local governments, corporations, and financial institutions. 
D) local governments and corporations.

Question 15

(I)Capital market securities fall into two categories: bonds and stocks. (II)Long-term bonds include government bonds and long-term notes, municipal bonds, and corporate bonds.

Accepted Answer

A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false. 
A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false.

Question 16

When an old bond's market value is above its par value, the bond is selling at a ________. This occurs because the old bond's coupon rate is ________ the coupon rates of new bonds with similar risk.

Accepted Answer

A) premium; below 
B) premium; above 
C) discount; below 
D) discount; above 
A) premium; below 
B) premium; above 
C) discount; below 
D) discount; above

Question 17

Capital market securities are less liquid and have longer maturities than money market securities.

Accepted Answer

A) True 
 B)False

Question 18

In its simplest form, a credit default swap provides

Accepted Answer

A) insurance against default in the principle and interest payments of a credit instrument. 
B) an alternative method for bond issuers to pay principle and interest payments via a swap. 
C) bond investors with a method to swap interest payments for principle payments during a "credit event." 
D) the government with a guarantee that certain bond issues will not run into credit problems. 
A) insurance against default in the principle and interest payments of a credit instrument. 
B) an alternative method for bond issuers to pay principle and interest payments via a swap. 
C) bond investors with a method to swap interest payments for principle payments during a "credit event." 
D) the government with a guarantee that certain bond issues will not run into credit problems.

Question 19

(I)Municipal bonds that are issued to pay for essential public projects are exempt from federal taxation. (II)General obligation bonds do not have specific assets pledged as security or a specific source of revenue allocated for their repayment.

Accepted Answer

A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false. 
A) (I)is true, (II)false. 
B) (I)is false, (II)true. 
C) Both are true. 
D) Both are false.

Question 20

What is the purpose of the capital market? How do capital market securities differ from money market securities in their general characteristics?

Accepted Answer

The answer of What is the purpose of the capital...

Exam 12: The Bond Market

The first step in finding the value of a bond is to

What role do restrictive covenants play in bond markets?

The bond contract that states the lender's rights and privileges and the borrower's obligations is called the

The primary reason that individuals and firms choose to borrow long-term is to reduce the risk that interest rates will ________ before they pay off their debt.

(I)Because interest rates on Treasury bills are more volatile than rates on long-term securities, the return on short-term Treasury securities is usually above that on longer-term Treasury securities. (II)A Treasury STRIP separates the periodic interest payments from the final principal repayment.

(I)Securities that have an original maturity greater than one year are traded in capital markets. (II)The best known capital market securities are stocks and bonds.

The nearer a bond's price is to its par value and the longer the maturity of the bond, the more closely the ________ approximates the ________.

What are Treasury STRIPS?

(I)The coupon rate is the rate of interest that the issuer of the bond must pay. (II)The coupon rate is usually fixed for the duration of the bond and does not fluctuate with market interest rates.

(I)Callable bonds usually have a higher yield than comparable noncallable bonds. (II)Convertible bonds are attractive to bondholders and sell for a higher price than comparable nonconvertible bonds.

A sinking fund is a requirement in the bond indenture that the firm pay off a portion of the bond issue each year.

The risk on an agency bond is

Bonds

The primary issuers of capital market securities include

(I)Capital market securities fall into two categories: bonds and stocks. (II)Long-term bonds include government bonds and long-term notes, municipal bonds, and corporate bonds.

When an old bond's market value is above its par value, the bond is selling at a ________. This occurs because the old bond's coupon rate is ________ the coupon rates of new bonds with similar risk.

Capital market securities are less liquid and have longer maturities than money market securities.

In its simplest form, a credit default swap provides

(I)Municipal bonds that are issued to pay for essential public projects are exempt from federal taxation. (II)General obligation bonds do not have specific assets pledged as security or a specific source of revenue allocated for their repayment.

What is the purpose of the capital market? How do capital market securities differ from money market securities in their general characteristics?

Why Study Financial Markets and Institutions

Overview of the Financial System

What Do Interest Rates Mean and What Is Their Role in Valuation

Why Do Interest Rates Change

How Do Risk and Term Structure Affect Interest Rates

Are Financial Markets Efficient

Why Do Financial Institutions Exist

Why Do Financial Crises Occur and Why Are They so Damaging to the Economy

Central Banks and the Federal Reserve System

Conduct of Monetary Policy: Tools, Goals, Strategy, and Tactics

The Money Markets

The Stock Market

The Mortgage Markets

The Foreign Exchange Market

The International Financial System

Banking and the Management of Financial Institutions

Financial Regulation

Banking Industry: Structure and Competition

The Mutual Fund Industry

Insurance Companies and Pension Funds

Investment Banks, Security Brokers and Dealers, and Venture Capital Firms

Risk Management in Financial Institutions

Hedging With Financial Derivatives

Savings Associations and Credit Unions

Finance Companies

Filters

The nearer a bond's price is to its par value and the longer the maturity of the bond, the more closely the approximates the .

When an old bond's market value is above its par value, the bond is selling at a . This occurs because the old bond's coupon rate is the coupon rates of new bonds with similar risk.