Deck 3: Valuing Bonds

Question 1

A bond has a face value of $1,000, an annual coupon rate of 7 percent, yield to maturity of 10 percent, and 20 years to maturity.The bond's duration is

A)10.0 years.
B)7.4 years.
C)20.0 years.
D)12.6 years.

Answer 1

10.0 years.

Question 2

A government bond issued in Germany has a coupon rate of 5 percent, a face value of 100 euros, and matures in five years.The bond pays annual interest payments.Calculate the yield to maturity of the bond (in euros) if the price of the bond is 106 euros.

A)5.00 percent
B)3.80 percent
C)3.66 percent
D)6.00 percent

Answer 2

3.66 percent

Question 3

A five-year treasury bond with a coupon rate of 8 percent has a face value of $1,000.What is the semiannual interest payment?

A)$80
B)$40
C)$100
D)$50

Answer 3

$40

Question 4

A three-year bond with 10 percent coupon rate and $1,000 face value yields 8 percent.Assuming annual coupon payments, calculate the price of the bond.

A)$857.96
B)$951.96
C)$1,000.00
D)$1,051.54

Question 5

If a bond's volatility is 10.00 percent and the interest rate goes down by 0.75 percent (points), then the price of the bond

A)decreases by 10.00 percent.
B)decreases by 7.50 percent.
C)increases by 7.50 percent.
D)increases by 0.75 percent.

Question 6

Which of the following statements about the relationship between interest rates and bond prices is true?

A)There is an inverse relationship between bond prices and interest rates, and the price of long-term bonds fluctuates more than the price of short-term bonds for a given change in interest rates (assuming that the coupon rate is the same for both).
B)There is an inverse relationship between bond prices and interest rates, and the price of short-term bonds fluctuates more than the price of long-term bonds for a given change in interest rates (assuming that the coupon rate is the same for both).
C)There is a direct relationship between bond prices and interest rates, and the price of short-term bonds fluctuates more than the price of long-term bonds for a given change in interest rates (assuming that the coupon rate is the same for both).
D)There is a direct relationship between bond prices and interest rates, and the price of long-term bonds fluctuates more than the price of short-term bonds for a given change in interest rates (assuming that the coupon rate is the same for both).

Question 7

The type of bonds where the identities of bond owners are recorded and the coupon interest payments are sent automatically are called

A)bearer bonds.
B)government bonds.
C)registered bonds.
D)recorded bonds.

Question 8

A three-year bond has an 8 percent coupon rate and a $1,000 face value.If the yield to maturity on the bond is 10 percent, calculate the price of the bond assuming that the bond makes semiannual coupon payments.

A)$857.96
B)$949.24
C)$1,057.54
D)$1,000.00

Question 9

A bond with duration of 5.7 years has a yield to maturity of 9 percent.The bond's volatility (modified duration) is

A)1.9 percent.
B)5.2 percent.
C)5.7 percent.
D)9.0 percent.

Question 10

If a bond pays interest semiannually, then it pays interest

A)once per year.
B)every six months.
C)every three months.
D)every two years.

Question 11

If a bond's volatility is 5.0 percent and its yield to maturity changes by 0.5 percent (points), then the price of the bond

A)changes by 5.0 percent.
B)changes by 2.5 percent.
C)changes by 7.5 percent.
D)will not change.

Question 12

Generally, a bond can be valued as a package of

A)annuity and perpetuity only.
B)perpetuity and single payment only.
C)annuity and single payment only.
D)annuity, perpetuity, and single payment.

Question 13

The following entities issue bonds to engage in long-term borrowing except

A)the federal government.
B)state and local governments.
C)corporations.
D)individuals.

Question 14

A bond with duration of 10 years has a yield to maturity of 10 percent.This bond's volatility (modified duration) is

A)9.09 percent.
B)6.8 percent.
C)14.6 percent.
D)10.0 percent.

Question 15

Consider a bond with a face value of $1,000, an annual coupon rate of 6 percent, a yield to maturity of 8 percent, and 10 years to maturity.This bond's duration is

A)8.7 years.
B)7.6 years.
C)10.0 years.
D)6.5 years.

Question 16

A government bond issued in Germany has a coupon rate of 5 percent, a face value of 100 euros, and matures in five years.The bond pays annual interest payments.Calculate the price of the bond (in euros) if the yield to maturity is 3.5 percent.

A)100.00
B)106.77
C)106.33
D)105.00

Question 17

A five-year bond with a 10 percent coupon rate and $1,000 face value is selling for $1,123.Calculate the yield to maturity on the bond assuming annual interest payments.

A)10.0 percent
B)8.9 percent
C)7.0 percent
D)5.0 percent

Question 18

A bond has a face value of $1,000, a coupon rate of 0 percent, yield to maturity of 9 percent, and 10 years to maturity.This bond's duration is

A)6.7 years.
B)7.5 years.
C)9.6 years.
D)10.0 years.

Question 19

A four-year bond has an 8 percent coupon rate and a face value of $1,000.If the current price of the bond is $878.31, calculate the yield to maturity of the bond (assuming annual interest payments).

A)8 percent
B)10 percent
C)12 percent
D)6 percent

Question 20

You buy a 12-year 10 percent annual coupon bond at par value, $1,000.You sell the bond three years later for $1,100.What is your rate of return over this three-year period?

A)40 percent
B)10 percent
C)20 percent
D)30 percent

Question 21

U.S.Treasury bonds have almost zero default risk but are subject to inflation risk.

Question 22

The expectations theory implies that the only reason for a declining term structure is that investors expect spot interest rates to fall.

Question 23

The volatility of a bond is given by

A)duration/(1 + yield) only.
B)slope of the curve relating the bond price to the interest rate only.
C)yield to maturity only.
D)duration/(1 + yield) and slope of the curve relating the bond price to the interest rate only.

Question 24

If the nominal interest rate per year is 10 percent and the inflation rate is 4 percent, what is the real rate of interest?

A)10.0 percent
B)4.1 percent
C)5.8 percent
D)14.0 percent

Question 25

The interest rate represented by "r₂" is the

A)spot rate on a one-year investment.
B)spot rate on a two-year investment.
C)expected spot rate two years from today.
D)expected spot rate one year from today.

Question 26

One can best describe the term structure of interest rates as the relationship between

A)spot interest rates and bond prices.
B)spot interest rates and stock prices.
C)spot interest rates and time.
D)yields of coupon bonds and their maturity.

Question 27

The yield to maturity on a bond is really its internal rate of return.

Question 28

Mr.X invests $1,000 at a 10 percent nominal rate for one year.If the inflation rate is 4 percent, what is the real value of the investment at the end of one year?

A)$1,100
B)$1,000
C)$1,058
D)$1,040

Question 29

Which of the following bonds has the longest duration?

A)5-year coupon bond
B)5-year, zero-coupon bond
C)10-year coupon bond
D)10-year, zero-coupon bond

Question 30

As CFO of your corporation, you would prefer (all else equal) to see the price of your corporation's bonds

A)increase, indicating that bond investors view your firm as less risky.
B)decrease, indicating that bond investors view your firm as less risky.
C)increase, indicating that bond investors view your firm as more willing to take risks.
D)decrease, indicating that bond investors view your firm as more willing to take risks.

Question 31

If the term structure of interest rates is flat, then the 9-year spot interest rate equals the 10-year spot interest rate.

Question 32

The duration of a zero-coupon bond is the same as its maturity.

Question 33

Short-term and long-term interest rates always move in parallel.

Question 34

Which bond is more sensitive to an interest rate change of 0.75 percent? Bond A: YTM = 4.00%, maturity = 8 years, coupon = 6% or $60, par value = $1,000.Bond B: YTM = 3.50%, maturity = 5 years, coupon = 7% or $70, par value = $1,000.

A)Bond A
B)Bond B
C)Both are equally sensitive.
D)Cannot be determined

Question 35

Which of the following bonds has the greatest volatility?

A)5-year coupon bond
B)5-year, zero-coupon bond
C)10-year coupon bond
D)10-year, zero-coupon bond

Question 36

The term structure of interest rates determines the relationship between yield to maturity and maturity.

Question 37

(1 + r_nominal) = (1 + r_real)(1 + inflation rate).

Question 38

The duration of any bond is the same as its maturity.

Question 39

The longer a bond's duration, the greater its volatility.

Question 40

In the United States, most bonds make coupon payments annually.

Question 41

Discuss the concept of duration.

Question 42

Inflation-indexed bonds were almost unknown in the United States before 1997.

Question 43

Define the term
The real interest rate is the nominal interest rate adjusted for inflation.We do not observe it directly (except for the case of U.S.Treasury TIPS).The relationship between the two is given by
1 + r_nominal = (1 + r_{real rate})(1 + inflation rate).(An approximate formula that works for small
values is: r_nominal = r_{real rate} + inflation rate.)

Question 44

The law of one price states that the same commodity must sell at the same price in a well-functioning market.

Question 45

Briefly explain the expectations theory.

Question 46

A U.S.Treasury "strip" is a zero-coupon bond.

Question 47

Briefly discuss the concept of volatility.

Question 48

The U.S.Treasury issues inflation-indexed bonds known as TIPs.

Question 49

Long-term spot rates are usually higher than short-term spot rates.

Question 50

Consider the impact of inflation risk on the term structure of interest rates.If investors become more wary of inflation, one would expect to observe a steeper, more upwards sloping, term structure of interest rates.

Question 51

For many years, real rates of interest tended to fluctuate more wildly than nominal rates of interest.

Question 52

Corporate bond yields are generally higher than government bond yields for bonds having the same coupon rate and maturity.

Question 53

From the investor's perspective, briefly describe the cash flows associated with a bond.

Question 54

What is the relationship between real and nominal rates of interest?

Question 55

What is the relationship between interest rates and bond prices?

Question 56

Briefly explain what is meant by the term structure of interest rates.

Question 57

The spread of junk bond yields, over that of U.S.Treasuries, is generally lower than the spread of investment-grade bonds.

Question 58

Briefly explain the term
The yield to maturity is the single discount rate that implies the present value of the cash flows received from buying a bond is equal to its current price.It can be used for calculating the bond's price.Conceptually, it is the same as the internal rate of return (IRR).

Question 59

Two bonds have the same maturity, risk rating, and face value, but have different coupon rates.The bond with a lower coupon rate will have a longer duration.

Question 60

Once a bond defaults, bondholders can no longer receive any residual payment from the bond.

Question 61

Discuss why a dollar tomorrow cannot be worth less than a dollar the day after tomorrow.
If a dollar tomorrow were worth less than a dollar a day after tomorrow, it would be possible to earn a very large amount of money through a "money-machine" effect.This is only possible if someone else is losing a very large amount of money.These conditions can only exist for a short period and cannot exist in equilibrium as the source of money is quickly exhausted.Thus, a dollar tomorrow cannot be worth less than a dollar the day after tomorrow.

Question 62

What are TIPs? Briefly explain.