Deck 4: Bond Valuation

Question 1

Many bond indentures allow the company to acquire bonds for a sinking fund either by purchasing bonds in the market or by a lottery administered by the trustee for the purchase of a percentage of the issue through a call at face value.

Answer 1

True

Question 2

Because short-term interest rates are much more volatile than long-term rates, you would, in the real world, be subject to much more interest rate risk if you purchased a 30-day bond than if you bought a 30-year bond.

Answer 2

False

Question 3

Typically, debentures have higher interest rates than mortgage bonds primarily because the mortgage bonds are backed by assets while debentures are unsecured.

Answer 3

True

Question 4

There is an inverse relationship between bond ratings and the required return on a bond. The required return is lowest for AAA-rated bonds, and required returns increase as the ratings get lower.

Question 5

Restrictive covenants are designed so as to protect both the bondholder and the issuer even though they may constrain the actions of the firm's managers. Such covenants are contained in the bond's indenture.

Question 6

A bond that is callable has a chance of being retired earlier than its stated term to maturity. Therefore, if the yield curve is upward sloping, an outstanding callable bond should have a lower yield to maturity than an otherwise identical noncallable bond.

Question 7

The market value of any real or financial asset, including stocks, bonds, or art work, may be found by determining future cash flows and then discounting them back to the present.

Question 8

Other things equal, a firm will have to pay a higher coupon rate on a subordinated debenture than on a second mortgage bond.

Question 9

An indexed bond has its value tied to an inflation index. As inflation increases the value of the bond increases and the issuer is responsible for the accumulated value which may become much greater than the original face value.

Question 10

A call provision gives bondholders the right to demand, or "call for," repayment of a bond. Typically, calls are exercised if interest rates rise, because when rates rise the bondholder can get the principal amount back and reinvest it elsewhere at higher rates.

Question 11

Income bonds pay interest only when the amount of the interest is actually earned by the company. Thus, these securities cannot bankrupt a company and this makes them safer than regular bonds.

Question 12

You are considering two bonds. Both are rated double A (AA), both mature in 20 years, both have a 10 percent coupon, and both are offered to you at their $1,000 par value. However, Bond X has a sinking fund while Bond Y does not. This is probably not an equilibrium situation, as Bond X, which has the sinking fund, would generally be expected to have a higher yield than Bond Y.

Question 13

Floating rate debt is advantageous to investors because the interest rate moves up if market rates rise. Floating rate debt shifts interest rate risk to companies and thus has no advantages for issuers.

Question 14

If a firm raises capital by selling new bonds, the buyer is called the "issuing firm," and the coupon rate is generally set equal to the required rate.

Question 15

The motivation for floating rate bonds arose out of the costly experience of the early 1980s when inflation pushed interest rates to very high levels causing sharp declines in the prices of long-term bonds.

Question 16

A junk bond is a high risk, high yield debt instrument typically used to finance a leveraged buyout or a merger, or to provide financing to a company of questionable financial strength.

Question 17

You have just noticed in the financial pages of the local newspaper that you can buy a $1,000 par value bond for $800. If the coupon rate is 10 percent, with annual interest payments, and there are 10 years to maturity, you should make the purchase if your re¬quired return on investments of this type is 12 percent.

Question 18

A zero coupon bond is a bond that pays no interest and is offered (and subsequently sells) at par, therefore providing compensation to investors in the form of capital appreciation.

Question 19

For bonds, price sensitivity to a given change in interest rates generally increases as years remaining to maturity increases.

Question 20

A 20-year original maturity bond with 1 year left to maturity has more interest rate risk than a 10-year original maturity bond with 1 year left to maturity. (Assume that the bonds have equal default risk and equal coupon rates.)

Question 21

A firm with a low bond rating faces a more severe penalty when the Security Market Line (SML) is relatively steep than when it is not so steep.

Question 22

The prices of high-coupon bonds tend to be less sensitive to a given change in interest rates than low-coupon bonds, other things equal and held constant.

Question 23

A company is planning to raise $1,000,000 to finance a new plant. Which of the following statements is most correct?

A) If debt is used to raise the million dollars, the cost of the debt would be lower if the debt is in the form of a fixed rate bond rather than a floating rate bond.
B) If debt is used to raise the million dollars, the cost of the debt would be lower if the debt is in the form of a bond rather than a term loan.
C) If debt is used to raise the million dollars, but $500,000 is raised as a first mortgage bond on the new plant and $500,000 as debentures, the interest rate on the first mortgage bond would be lower than it would be if the entire $1 million were raised by selling first mortgage bonds.
D) The company would be especially anxious to have a call provision included in the indenture if its management thinks that interest rates are almost certain to rise in the foreseeable future.
E) All of the statements above are false.

Question 24

Which of the following events would make it more likely that a company would choose to call its outstanding callable bonds?

A) A reduction in market interest rates.
B) The company's bonds are downgraded.
C) An increase in the call premium.
D) Answers a and b are correct.
E) Answers a, b, and c are correct.

Question 25

Which of the following statements is most correct?

A) A firm with a sinking fund payment coming due would generally choose to buy back bonds in the open market, if the price of the bond exceeds the sinking fund call price.
B) Income bonds pay interest only when the amount of the interest is actually earned by the company. Thus, these securities cannot bankrupt a company and this makes them safer to investors than regular bonds.
C) One disadvantage of zero coupon bonds is that issuing firms cannot realize the tax savings from issuing debt until the bonds mature.
D) Other things held constant, callable bonds should have a lower yield to maturity than noncallable bonds.
E) All of the above statements are false.

Question 26

Which of the following statements is most correct?

A) A callable 10-year, 10 percent bond should sell at a higher price than an otherwise similar noncallable bond.
B) Two bonds have the same maturity and the same coupon rate. However, one is callable and the other is not. The difference in prices between the bonds will be greater if the current market interest rate is below the coupon rate than if it is above the coupon rate.
C) Two bonds have the same maturity and the same coupon rate. However, one is callable and the other is not. The difference in prices between the bonds will be greater if the current market interest rate is above the coupon rate than if it is below the coupon rate.
D) The actual life of a callable bond will be equal to or less than the actual life of a noncallable bond with the same maturity date. Therefore, if the yield curve is upward sloping, the required rate of return will be lower on the callable bond.
E) Corporate treasurers dislike issuing callable bonds because these bonds may require the company to raise additional funds earlier than would be true if noncallable bonds with the same maturity were used.

Question 27

All of the following may serve to reduce the coupon rate that would otherwise be required on a bond issued at par, except a

A) Sinking fund.
B) Restrictive covenant.
C) Call provision.
D) Change in rating from Aa to Aaa.
E) None of the answers above (all may reduce the required coupon rate).

Question 28

Which of the following statements is most correct?

A) Distant cash flows are generally riskier than near-term cash flows. Further, a 20-year bond that is callable after 5 years will have an expected life that is probably shorter, and certainly no longer, than an otherwise similar noncallable 20-year bond. Therefore, investors should require a lower rate of return on the callable bond than on the noncallable bond, assuming other characteristics are similar.
B) A noncallable 20-year bond will generally have an expected life that is equal to or greater than that of an otherwise identical callable 20-year bond. Moreover, the interest rate risk faced by investors is greater the longer the maturity of a bond. Therefore, callable bonds expose investors to less interest rate risk than noncallable bonds, other things held constant.
C) Statements a and b are correct.
D) Statements a and b are false.

Question 29

A bond with a $100 annual interest payment with five years to maturity (not expected to default) would sell for a premium if interest rates were below 9 percent and would sell for a discount if interest rates were greater than 11 percent.

Question 30

Which of the following statements is most correct?

A) All else equal, long-term bonds have more interest rate risk than short term bonds.
B) All else equal, higher coupon bonds have more reinvestment risk than low coupon bonds.
C) All else equal, short-term bonds have more reinvestment risk than do long-term bonds.
D) Statements a and c are correct.
E) All of the statements above are correct.

Question 31

Which of the following statements is most correct?

A) If a bond's yield to maturity exceeds its annual coupon, then the bond will be trading at a premium.
B) If interest rates increase, the relative price change of a 10-year coupon bond will be greater than the relative price change of a 10-year zero coupon bond.
C) If a coupon bond is selling at par, its current yield equals its yield to maturity.
D) Both a and c are correct.
E) None of the answers above is correct.

Question 32

One of the basic relationships in interest rate theory is that, other things held constant, for a given change in the required rate of return, the the time to maturity, the the change in price.

A) longer; smaller.
B) shorter; larger.
C) longer; greater.
D) shorter; smaller.
E) Answers c and d are correct.

Question 33

Other things held constant, if a bond indenture contains a call provision, the yield to maturity that would exist without such a call provision will generally be _________________ the YTM with it.

A) higher than
B) lower than
C) the same as
D) either higher or lower, depending on the level of call premium, than
E) unrelated to

Question 34

Which of the following statements is most correct?

A) Rising inflation makes the actual yield to maturity on a bond greater than the quoted yield to maturity which is based on market prices.
B) The yield to maturity for a coupon bond that sells at its par value consists entirely of an interest yield; it has a zero expected capital gains yield.
C) On an expected yield basis, the expected capital gains yield will always be positive because an investor would not purchase a bond with an expected capital loss.
D) The market value of a bond will always approach its par value as its maturity date approaches. This holds true even if the firm enters bankruptcy.
E) All of the statements above are false.

Question 35

Which of the following statements is most correct?

A) Junk bonds typically have a lower yield to maturity relative to investment grade bonds.
B) A debenture is a secured bond which is backed by some or all of the firm's fixed assets.
C) Subordinated debt has less default risk than senior debt.
D) All of the statements above are correct.
E) None of the statements above is correct.

Question 36

A 10-year corporate bond has an annual coupon payment of 9 percent. The bond is currently selling at par ($1,000). Which of the following statements is most correct?

A) The bond's yield to maturity is 9 percent.
B) The bond's current yield is 9 percent.
C) If the bond's yield to maturity remains constant, the bond's price will remain at par.
D) Both answers a and c are correct.
E) All of the answers above are correct.

Question 37

If the required rate of return on a bond is greater than its coupon interest rate (and rd remains above the coupon rate), the market value of that bond will always be below its par value until the bond matures, at which time its market value will equal its par value. (Accrued interest between interest payment dates should not be considered when answering this question.)

Question 38

Which of the following statements is most correct?

A) Sinking fund provisions do not require companies to retire their debt; they only establish "targets" for the company to reduce its debt over time.
B) Sinking fund provisions sometimes work to the detriment of bondholders - particularly if interest rates have declined over time.
C) If interest rates have increased since the time a company issues bonds with a sinking fund provision, the company is more likely to retire the bonds by buying them back in the open market, as opposed to calling them in at the sinking fund call price.
D) Statements a and b are correct.
E) Statements b and c are correct.

Question 39

Which of the following statements is most correct?

A) Retiring bonds under a sinking fund provision is similar to calling bonds under a call provision in the sense that bonds are repurchased by the issuer prior to maturity.
B) Under a sinking fund, bonds will be purchased on the open market by the issuer when the bonds are selling at a premium and bonds will be called in for redemption when the bonds are selling at a discount.
C) The sinking fund provision makes a debt issue less risky to the investor.
D) Both statements a and c are correct.
E) All of the statements above are correct.

Question 40

Which of the following statements is most correct?

A) All else equal, if a bond's yield to maturity increases, its price will fall.
B) All else equal, if a bond's yield to maturity increases, its current yield will fall.
C) If a bond's yield to maturity exceeds the coupon rate, the bond will sell at a premium over par.
D) All of the answers above are correct.
E) None of the answers above is correct.

Question 41

Which of the following Treasury bonds will have the largest amount of interest rate risk (price risk)?

A) A 7 percent coupon bond which matures in 12 years.
B) A 9 percent coupon bond which matures in 10 years.
C) A 12 percent coupon bond which matures in 7 years.
D) A 7 percent coupon bond which matures in 9 years.
E) A 10 percent coupon bond which matures in 10 years.

Question 42

Which of the following statements is most correct?

A) If a company increases its debt ratio, this is likely to reduce the default premium on its existing bonds.
B) All else equal, senior debt has less default risk than subordinated debt.
C) An indenture is a bond that is less risky than a subordinated debenture.
D) Statements a and c are correct.
E) All of the answers above are correct.

Question 43

If the yield to maturity decreased 1 percentage point, which of the following bonds would have the largest percentage increase in value?

A) A 1-year bond with an 8 percent coupon.
B) A 1-year zero-coupon bond.
C) A 10-year zero-coupon bond.
D) A 10-year bond with an 8 percent coupon.
E) A 10-year bond with a 12 percent coupon.

Question 44

Which of the following statements is most correct?

A) The expected return on corporate bonds will generally exceed the yield to maturity.
B) If a company increases its debt ratio, this is likely to reduce the default premium on its existing bonds.
C) All else equal, senior debt will generally have a lower yield to maturity than subordinated debt.
D) Answers a and c are correct.
E) None of the answers above is correct.

Question 45

Which of the following has the greatest price risk?

A) A 10-year, $1,000 face value, 10 percent coupon bond with semiannual interest payments.
B) A 10-year, $1,000 face value, 10 percent coupon bond with annual interest payments.
C) A 10-year, $1,000 face value, zero coupon bond.
D) A 10-year $100 annuity.
E) All of the above have the same price risk since they all mature in 10 years.

Question 46

Which of the following statements is most correct?

A) 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.
B) If a bond is selling at a discount, the yield to call is a better measure of return than the yield to maturity.
C) If a coupon bond is selling at par, its current yield equals its yield to maturity.
D) Both a and b are correct.
E) Both b and c are correct.

Question 47

Which of the following statements is correct?

A) If a company is retiring bonds for sinking fund purposes it will buy back bonds on the open market when the coupon rate is less than the market interest rate.
B) A bond sinking fund would be good for investors if interest rates have declined after issuance and the investor's bonds get called.
C) Mortgage bonds have less default risk than debentures.
D) Both a and c are correct.
E) All of the statements above are correct.

Question 48

A 10-year bond has a 10 percent annual coupon and a yield to maturity of 12 percent. The bond can be called in 5 years at a call price of $1,050 and the bond's face value is $1,000. Which of the following statements is most correct?

A) The bond's current yield is greater than 10 percent.
B) The bond's yield to call is less than 12 percent.
C) The bond is selling at a price below par.
D) Both answers a and c are correct.
E) None of the above answers is correct.

Question 49

Which of the following statements is most correct?

A) If a bond is selling for a premium, this implies that the bond's yield to maturity exceeds its coupon rate.
B) If a coupon bond is selling at par, its current yield equals its yield to maturity.
C) If rates fall after its issue, a zero coupon bond could trade for an amount above its par value.
D) Statements b and c are correct.
E) None of the statements above is correct.

Question 50

Which of the following statements is most correct?

A) All else equal, a bond that has a coupon rate of 10 percent will sell at a discount if the required return for a bond of similar risk is 8 percent.
B) Debentures generally have a higher yield to maturity relative to mortgage bonds.
C) If there are two bonds with equal maturity and credit risk, the bond which is callable will have a higher yield to maturity than the bond which is noncallable.
D) Answers a and c are correct.
E) Answers b and c are correct.

Question 51

Which of the following statements is most correct?

A) If a bond sells for less than par, then its yield to maturity is less than its coupon rate.
B) If a bond sells at par, then its current yield will be less than its yield to maturity.
C) Assuming that both bonds are held to maturity and are of equal risk, a bond selling for more than par with ten years to maturity will have a lower current yield and higher capital gain relative to a bond that sells at par.
D) Answers a and c are correct.
E) None of the answers above is correct.

Question 52

Which of the following statements is most correct?

A) The expected return on a corporate bond is always less than its promised return when the probability of default is greater than zero.
B) All else equal, secured debt is considered to be less risky than unsecured debt.
C) An indenture is a bond that is less risky than a subordinated debenture.
D) Both a and b are correct.
E) All of the answers above are correct.

Question 53

You just purchased a 10-year corporate bond that has an annual coupon of 10 percent. The bond sells at a premium above par. Which of the following statements is most correct?

A) The bond's yield to maturity is less than 10 percent.
B) The bond's current yield is greater than 10 percent.
C) If the bond's yield to maturity stays constant, the bond's price will be the same one year from now.
D) Statements a and c are correct.
E) None of the answers above is correct.

Question 54

If interest rates fall from 8 percent to 7 percent, which of the following bonds will have the largest percentage increase in its value?

A) A 10-year zero coupon bond.
B) A 10-year bond with a 10 percent semiannual coupon.
C) A 10-year bond with a 10 percent annual coupon.
D) A 5-year zero coupon bond.
E) A 5-year bond with a 12 percent annual coupon.

Question 55

Which of the following statements is most correct?

A) All else equal, a bond that has a coupon rate of 10 percent will sell at a discount if the required return for a bond of similar risk is 8 percent.
B) The price of a discount bond will increase over time, assuming that the bond's yield to maturity remains constant over time.
C) The total return on a bond for a given year consists only of the coupon interest payments received.
D) Both b and c are correct.
E) All of the statements above are correct.

Question 56

Which of the following statements is most correct?

A) A 10-year 10 percent coupon bond has less reinvestment rate risk than a 10-year 5 percent coupon bond (assuming all else equal).
B) The total return on a bond for a given year arises from both the coupon interest payments received for the year and the change in the value of the bond from the beginning to the end of the year.
C) The price of a 20-year 10 percent bond is less sensitive to changes in interest rates (i.e., has lower interest rate price risk) than the price of a 5-year 10 percent bond.
D) A $1,000 bond with $100 annual interest payments with five years to maturity (not expected to default) would sell for a discount if interest rates were below 9 percent and would sell for a premium if interest rates were greater than 11 percent.
E) Answers a, b, and c are correct statements.

Question 57

Which of the following statements is most correct?

A) All else equal, a 1-year bond will have a higher (i.e., better) bond rating than a 20-year bond.
B) A 20-year bond with semiannual interest payments has higher price risk (i.e., interest rate risk) than a 5-year bond with semiannual interest payments.
C) 10-year zero coupon bonds have higher reinvestment rate risk than 10-year, 10 percent coupon bonds.
D) If a callable bond is trading at a premium, then you would expect to earn the yield-to-maturity.
E) Statements a and b are correct.

Question 58

Assume that all interest rates in the economy decline from 10 percent to 9 percent. Which of the following bonds will have the largest percentage increase in price?

A) A 10-year bond with a 10 percent coupon.
B) An 8-year bond with a 9 percent coupon.
C) A 10-year zero coupon bond.
D) A 1-year bond with a 15 percent coupon.
E) A 3-year bond with a 10 percent coupon.

Question 59

Which of the following statements is most correct?

A) The market value of a bond will always approach its par value as its maturity date approaches, provided the issuer of the bond does not go bankrupt.
B) If the Federal Reserve unexpectedly announces that it expects inflation to increase, then we would probably observe an immediate increase in bond prices.
C) The total yield on a bond is derived from interest payments and changes in the price of the bond.
D) Statements a and c are correct.
E) All of the statements above are correct.

Question 60

Which of the following statements is most correct?

A) Other things held constant, a callable bond would have a lower required rate of return than a noncallable bond.
B) Other things held constant, a corporation would rather issue noncallable bonds than callable bonds.
C) Reinvestment rate risk is worse from a typical investor's standpoint than interest rate risk.
D) If a 10-year, $1,000 par, zero coupon bond were issued at a price which gave investors a 10 percent rate of return, 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 over its $1,000 par value.
E) If a 10-year, $1,000 par, zero coupon bond were issued at a price which gave investors a 10 percent rate of return, and if interest rates then dropped to the point where rd = YTM = 5%, we could be sure that the bond would sell at a discount below its $1,000 par value.

Question 61

Which of the following statements is most correct?

A) If a bond's yield to maturity exceeds its coupon rate, the bond's current yield must also exceed its coupon rate.
B) If a bond's yield to maturity exceeds its coupon rate, the bond's price must be less than its maturity value.
C) 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 the bond's coupon rate.
D) Answers b and c are correct.
E) None of the answers above is correct.

Question 62

Which of the following statements is most correct?

A) A 10-year bond would have more interest rate risk than a 5-year bond, but all 10-year bonds have the same interest rate risk.
B) A 10-year bond would have more reinvestment rate risk than a 5-year bond, but all 10-year bonds have the same reinvestment rate risk.
C) If their maturities were the same, a 5 percent coupon bond would have more interest rate risk than a 10 percent coupon bond.
D) If their maturities were the same, a 5 percent coupon bond would have less interest rate risk than a 10 percent coupon bond.
E) Zero coupon bonds have more interest rate risk than any other type bond, even perpetuities.

Question 63

Listed below are some provisions that are often contained in bond indentures: 1. Fixed assets may be used as security.
2) The bond may be subordinated to other classes of debt.
3) The bond may be made convertible.
4) The bond may have a sinking fund.
5) The bond may have a call provision.
6) The bond may have restrictive covenants in its indenture.
Which of the above provisions, each viewed alone, would tend to reduce the yield to maturity investors would otherwise require on a newly issued bond?

A) 1, 2, 3, 4, 5, 6
B) 1, 2, 3, 4, 6
C) 1, 3, 4, 5, 6
D) 1, 3, 4, 6
E) 1, 4, 6

Question 64

JRJ Corporation recently issued 10-year bonds at a price of $1,000. These bonds pay $60 in interest each six months. Their price has remained stable since they were issued, i.e., they still sell for $1,000. Due to additional financing needs, the firm wishes to issue new bonds that would have a maturity of 10 years, a par value of $1,000, and pay $40 in interest every six months. If both bonds have the same yield, how many new bonds must JRJ issue to raise $2,000,000 cash?

A) 2,400
B) 2,596
C) 3,000
D) 5,000
E) 4,275

Question 65

Assume that you wish to purchase a bond with a 30-year maturity, an annual coupon rate of 10 percent, a face value of $1,000, and semiannual interest payments. If you require a 9 percent nominal yield to maturity on this investment, what is the maximum price you should be willing to pay for the bond?

A) $905.35
B) $1,102.74
C) $1,103.19
D) $1,106.76
E) $1,149.63

Question 66

Marie Snell recently inherited some bonds (face value $100,000) from her father, and soon thereafter she became engaged to Sam Spade, a University of Florida marketing graduate. Sam wants Marie to cash in the bonds so the two of them can use the money to "live like royalty" for two years in Monte Carlo. The 2 percent annual coupon bonds mature in exactly twenty years. Interest on these bonds is paid annually on December 31 of each year, and new annual coupon bonds with similar risk and maturity are currently yielding 12 percent. If Marie sells her bonds now and puts the proceeds into an account which pays 10 percent compounded annually, what would be the largest equal annual amounts she could withdraw for two years, beginning today (i.e., two payments, the first payment today and the second payment one year from today)?

A) $13,255
B) $29,708
C) $12,654
D) $25,305
E) $14,580

Question 67

Which of the following statements is most correct?

A) All else equal, an increase in interest rates will have a greater effect on the prices of long-term bonds than it will on the prices of short-term bonds.
B) 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.
C) An increase in interest rates will have a greater effect on a zero coupon bond with 10 years maturity than it will have on a 9-year bond with a 10 percent annual coupon.
D) All of the statements above are correct.
E) Answers a and c are correct.

Question 68

All treasury securities have a yield to maturity of 7 percent--so the yield curve is flat. If the yield to maturity on all Treasuries were to decline to 6 percent, which of the following bonds would have the largest percentage increase in price?

A) 15-year zero coupon Treasury bond.
B) 12-year Treasury bond with a 10 percent annual coupon.
C) 15-year Treasury bond with a 12 percent annual coupon.
D) 2-year zero coupon Treasury bond.
E) 2-year Treasury bond with a 15 percent annual coupon.

Question 69

A bond has an annual 8 percent coupon rate, a maturity of 10 years, a face value of $1,000, and makes semiannual payments. If the price is $934.96, what is the annual nominal yield to maturity on the bond?

A) 8%
B) 9%
C) 10%
D) 11%
E) 12%

Question 70

Consider a $1,000 par value bond with a 7 percent annual coupon. The bond pays interest annually. There are 9 years remaining until maturity. What is the current yield on the bond assuming that the required return on the bond is 10 percent?

A) 10.00%
B) 8.46%
C) 7.00%
D) 8.52%
E) 8.37%

Question 71

Which of the following is not true about bonds? In all of the statements, assume other things are held constant.

A) Price sensitivity, that is, the change in price due to a given change in the required rate of return, increases as a bond's maturity increases.
B) For a given bond of any maturity, a given percentage point increase in the interest rate (rd) causes a larger dollar capital loss than the capital gain stemming from an identical decrease in the interest rate.
C) For any given maturity, a given percentage point increase in the interest rate causes a smaller dollar capital loss than the capital gain stemming from an identical decrease in the interest rate.
D) From a borrower's point of view, interest paid on bonds is tax-deductible.
E) A 20-year zero coupon bond has less reinvestment rate risk than a 20-year coupon bond.

Question 72

You intend to purchase a 10-year, $1,000 face value bond that pays interest of $60 every 6 months. If your nominal annual required rate of return is 10 percent with semiannual compounding, how much should you be willing to pay for this bond?

A) $ 826.31
B) $1,086.15
C) $ 957.50
D) $1,431.49
E) $1,124.62

Question 73

Rollincoast Incorporated issued BBB bonds two years ago that provided a yield to maturity of 11.5 percent. Long-term risk-free government bonds were yielding 8.7 percent at that time. The current risk premium on BBB bonds versus government bonds is half what it was two years ago. If the risk-free long-term governments are currently yielding 7.8 percent, then at what rate should Rollincoast expect to issue new bonds?

A) 7.8%
B) 8.7%
C) 9.2%
D) 10.2%
E) 12.9%

Question 74

You just purchased a 15-year bond with an 11 percent annual coupon. The bond has a face value of $1,000 and a current yield of 10 percent. Assuming that the yield to maturity of 9.7072 percent remains constant, what will be the price of the bond 1 year from now?

A) $1,000
B) $1,064
C) $1,097
D) $1,100
E) $1,150

Question 75

A $1,000 par value bond pays interest of $35 each quarter and will mature in 10 years. If your nominal annual required rate of return is 12 percent with quarterly compounding, how much should you be willing to pay for this bond?

A) $ 941.36
B) $1,051.25
C) $1,115.57
D) $1,391.00
E) $ 825.49

Question 76

You are the owner of 100 bonds issued by Euler, Ltd. These bonds have 8 years remaining to maturity, an annual coupon payment of $80, and a par value of $1,000. Unfortunately, Euler is on the brink of bankruptcy. The creditors, including yourself, have agreed to a postponement of the next 4 interest payments (otherwise, the next interest payment would have been due in 1 year). The remaining interest payments, for Years 5 through 8, will be made as scheduled. The postponed payments will accrue interest at an annual rate of 6 percent, and they will then be paid as a lump sum at maturity 8 years hence. The required rate of return on these bonds, considering their substantial risk, is now 28 percent. What is the present value of each bond?

A) $538.21
B) $426.73
C) $384.84
D) $266.88
E) $249.98

Question 77

A bond has an annual 11 percent coupon rate, an annual interest payment of $110, a maturity of 20 years, a face value of $1,000, and makes annual payments. It has a yield to maturity of 8.83 percent. If the price is $1,200, what rate of return will an investor expect to receive during the next year?

A) -0.33%
B) 8.83%
C) 9.17%
D) 11.00%
E) None of the above

Question 78

Assume that you wish to purchase a 20-year bond that has a maturity value of $1,000 and makes semiannual interest payments of $40. If you require a 10 percent nominal yield to maturity on this investment, what is the maximum price you should be willing to pay for the bond?

A) $619
B) $674
C) $761
D) $828
E) $902

Question 79

Due to a number of lawsuits related to toxic wastes, a major chemical manufacturer has recently experienced a market reevaluation. The firm has a bond issue outstanding with 15 years to maturity and a coupon rate of 8 percent, with interest paid semiannually. The required nominal rate on this debt has now risen to 16 percent. What is the current value of this bond?

A) $1,273
B) $1,000
C) $7,783
D) $ 550
E) $ 450

Question 80

Suppose a new company decides to raise its initial $200 million of capital as $100 million of common equity and $100 million of long-term debt. By an iron-clad provision in its charter, the company can never borrow any more money. Which of the following statements is most correct?

A) If the debt were raised by issuing $50 million of debentures and $50 million of first mortgage bonds, we could be absolutely certain that the firm's total interest expense would be lower than if the debt were raised by issuing $100 million of debentures.
B) If the debt were raised by issuing $50 million of debentures and $50 million of first mortgage bonds, we could be absolutely certain that the firm's total interest expense would be lower than if the debt were raised by issuing $100 million of first mortgage bonds.
C) The higher the percentage of total debt represented by debentures, the greater the risk of, and hence the interest rate on, the debentures.
D) The higher the percentage of total debt represented by mortgage bonds, the riskier both types of bonds will be, and, consequently, the higher the firm's total dollar interest charges will be.
E) In this situation, we cannot tell for sure how, or whether, the firm's total interest expense on the $100 million of debt would be affected by the mix of debentures versus first mortgage bonds. Interest rates on the two types of bonds would vary as their percentages were changed, but the result might well be such that the firm's total interest charges would not be affected materially by the mix between the two.