Deck 4: Bonds

Question 1

bond has a $1,000 par value, makes annual interest payments of $100, has 5 years to maturity, cannot be called, and is not expected to default The bond should sell at a premium if interest rates are below 10% and at a discount if interest rates are greater than 10%.

Answer 1

True

Question 2

Income bonds pay interest only if the issuing company actually earns the indicated interestThus, these securities cannot bankrupt a company, and this makes them safer from an investor's perspective than regular bonds.

Answer 2

False

Question 3

bonds are high risk, high yield debt instruments They are often used to finance leveraged buyouts and mergers, and to provide financing to companies of questionable financial strength.

Answer 3

True

Question 4

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

Question 5

the required rate of return on a bond (rd) is greater than its coupon interest rate and will remain above that rate, then the market value of the 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 6

Floating-rate debt is advantageous to investors because the interest rate moves up if market rates rise Since floating-rate debt shifts interest rate risk to companies, it offers no advantages to issuers.

Question 7

zero coupon bond is a bond that pays no interest and is offered (and subsequently sells initially) at par These bonds provide compensation to investors in the form of capital appreciation.

Question 8

There is an inverse relationship between bonds' quality ratings and their required rates of return Thus, the required return is lowest for AAA-rated bonds, and required returns increase as the ratings get lower.

Question 9

bond that had a 20-year original maturity with 1 year left to maturity has more interest rate price 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, and they cannot be called.)

Question 10

bonds, price sensitivity to a given change in interest rates is generally greater the longer before the bond matures.

Question 11

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 12

market value of any real or financial asset, including stocks, bonds, or art work purchased in hope of selling it at a profit, may be estimated by determining future cash flows and then discounting them back to the present.

Question 13

desire for floating-rate bonds, and consequently their increased usage, arose out of the experience of the early 1980s, when inflation pushed interest rates up to very high levels and thus caused sharp declines in the prices of outstanding bonds.

Question 14

Sinking funds are devices used to force companies to retire bonds on a scheduled basis prior to their maturity Many bond indentures allow the company to acquire bonds for a sinking fund by either purchasing bonds in the market or selecting the bonds to be acquired by a lottery administered by the trustee through a call at face value.

Question 15

have funds that you want to invest in bonds, and you just noticed in the financial pages of the local newspaper that you can buy a $1,000 par value bond for $800 The coupon rate is 10% (with annual payments), and there are 10 years before the bond will mature and pay off its $1,000 par value You should buy the bond if your required return on bonds with this risk is 12%.

Question 16

a general rule, a company's debentures have higher required interest rates than its mortgage bonds because mortgage bonds are backed by specific assets while debentures are unsecured.

Question 17

a firm raises capital by selling new bonds, it is called the "issuing firm," and the coupon rate is generally set equal to the required rate on bonds of equal risk.

Question 18

Other things equal, a firm will have to pay a higher coupon rate on its subordinated debentures than on its second mortgage bonds.

Question 19

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 20

are considering 2 bonds that will be issued tomorrow Both are rated triple B (BBB, the lowest investment-grade rating), both mature in 20 years, both have a 10% coupon, neither can be called except for sinking fund purposes, and both are offered to you at their $1,000 par values However, Bond SF has a sinking fund while Bond NSF does not Under the sinking fund, the company must call and pay off 5% of the bonds at par each year The yield curve at the time is upward sloping The bond's prices, being equal, are probably not in equilibrium, as Bond SF, which has the sinking fund, would generally be expected to have a higher yield than Bond NSF.

Question 21

Assume that a 10-year Treasury bond has a 12% annual coupon, while a 15-year T-bond has an 8% annual coupon Assume also that the yield curve is flat, and all Treasury securities have a 10% yield to maturity Which of the following statements is CORRECT?

A) If interest rates decline, the prices of both bonds will increase, but the 10-year bond would have a larger percentage increase in price.
B) The 10-year bond would sell at a discount, while the 15-year bond would sell at a premium.
C) The 10-year bond would sell at a premium, while the 15-year bond would sell at par.
D) If the yield to maturity on both bonds remains at 10% over the next year, the price of the 10-year bond would increase, but the price of the 15-year bond would fall.
E) If interest rates decline, the prices of both bonds will increase, but the 15-year bond would have a larger percentage increase in price.

Question 22

10-year bond pays an annual coupon, its YTM is 8%, and it currently trades at a premiumWhich of the following statements is CORRECT?

A) If the yield to maturity remains at 8%, then the bond's price will decline over the next year.
B) The bond's coupon rate is less than 8%.
C) If the yield to maturity increases, then the bond's price will increase.
D) If the yield to maturity remains at 8%, then the bond's price will remain constant over the next year.
E) The bond's current yield is less than 8%.

Question 23

Which of the following statements is CORRECT?

A) 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.
B) On an expected yield basis, the expected current yield will always be positive because an investor would not purchase a bond that is not expected to pay any cash coupon interest.
C) If a coupon bond is selling at par, its current yield equals its 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 bond is selling at a discount, the yield to call is a better measure of return than the yield to maturity.

Question 24

Which of the following statements is CORRECT?

A) If a bond's yield to maturity exceeds its coupon rate, the bond will sell at par.
B) All else equal, if a bond's yield to maturity increases, its price will fall.
C) If a bond's yield to maturity exceeds its coupon rate, the bond will sell at a premium over par.
D) All else equal, if a bond's yield to maturity increases, its current yield will fall.
E) A zero coupon bond's current yield is equal to its yield to maturity.

Question 25

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

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

Question 26

A has a 9% annual coupon while Bond B has a 6% annual coupon Both bonds have a 7% yield to maturity, and the YTM is expected to remain constant Which of the following statements is CORRECT?

A) The prices of both bonds will remain unchanged.
B) The price of Bond A will decrease over time, but the price of Bond B will increase over time.
C) The prices of both bonds will increase by 7% per year.
D) The prices of both bonds will increase over time, but the price of Bond A will increase by more.
E) The price of Bond B will decrease over time, but the price of Bond A will increase over time.

Question 27

10-year corporate bond has an annual coupon of 9% The bond is currently selling at par ($1,000) Which of the following statements is NOT CORRECT?

A) The bond's yield to maturity is 9%.
B) The bond's current yield is 9%.
C) If the bond's yield to maturity remains constant, the bond will continue to sell at par.
D) The bond's current yield exceeds its capital gains yield.
E) The bond's expected capital gains yield is positive.

Question 28

15-year bond has an annual coupon rate of 8% The coupon rate will remain fixed until the bond matures The bond has a yield to maturity of 6% Which of the following statements is CORRECT?

A) The bond is currently selling at a price below its par value.
B) If market interest rates remain unchanged, the bond's price one year from now will be lower than it is today.
C) The bond should currently be selling at its par value.
D) If market interest rates remain unchanged, the bond's price one year from now will be higher than it is today.
E) If market interest rates decline, the price of the bond will also decline.

Question 29

Which of the following bonds has the greatest interest rate price risk?
A) A 10-year $100 annuity.

A) A 10-year, $1,000 face value, zero coupon bond.
B) A 10-year, $1,000 face value, 10% coupon bond with annual interest payments.
C) All 10-year bonds have the same price risk since they have the same maturity.
D) A 10-year, $1,000 face value, 10% coupon bond with semiannual interest payments.

Question 30

Ranger Incwould like to issue new 20-year bonds Initially, the plan was to make the bonds non-callable If the bonds were made callable after 5 years at a 5% call premium, how would this affect their required rate of return?

A) There is no reason to expect a change in the required rate of return.
B) The required rate of return would decline because the bond would then be less risky to a bondholder.
C) The required rate of return would increase because the bond would then be more risky to a bondholder.
D) It is impossible to say without more information.
E) Because of the call premium, the required rate of return would decline.

Question 31

Nicholas Industries can issue a 20-year bond with a 6% annual coupon This bond is not convertible, is not callable, and has no sinking fund Alternatively, Nicholas could issue a 20-year bond that is convertible into common equity, may be called, and has a sinking fund Which of the following most accurately describes the coupon rate that Nicholas would have to pay on the convertible, callable bond?

A) It could be less than, equal to, or greater than 6%.
B) Greater than 6%.
C) Exactly equal to 8%.
D) Less than 6%.
E) Exactly equal to 6%.

Question 32

8-year Treasury bond has a 10% coupon, and a 10-year Treasury bond has an 8% couponBoth bonds have the same yield to maturity If the yield to maturity of both bonds increases by the same amount, which of the following statements would be CORRECT?

A) Both bonds would decline in price, but the 10-year bond would have the greater percentage decline in price.
B) The prices of both bonds would increase by the same amount.
C) One bond's price would increase, while the other bond's price would decrease.
D) The prices of the two bonds would remain constant.
E) The prices of both bonds will decrease by the same amount.

Question 33

Stephenson Co.'s 15-year bond with a face value of $1,000 currently sells for $850 Which of the following statements is CORRECT?

A) The bond's current yield exceeds its yield to maturity.
B) The bond's yield to maturity is greater than its coupon rate.
C) The bond's current yield is equal to its coupon rate.
D) If the yield to maturity stays constant until the bond matures, the bond's price will remain at $850.
E) The bond's coupon rate exceeds its current yield.

Question 34

Under normal conditions, which of the following would be most likely to increase the coupon rate required to enable a bond to be issued at par?

A) Adding a call provision.
B) The rating agencies change the bond's rating from Baa to Aaa.
C) Making the bond a first mortgage bond rather than a debenture.
D) Adding a sinking fund.
E) Adding additional restrictive covenants that limit management's actions.

Question 35

YTMs of three $1,000 face value bonds that mature in 10 years and have the same level of risk are equalBond A has an 8% annual coupon, Bond B has a 10% annual coupon, and Bond C has a 12% annual coupon Bond B sells at par Assuming interest rates remain constant for the next 10 years, which of the following statements is CORRECT?

A) Since the bonds have the same YTM, they should all have the same price, and since interest rates are not expected to change, their prices should all remain at their current levels until maturity.
B) Bond C sells at a premium (its price is greater than par), and its price is expected to increase over the next year.
C) Bond A sells at a discount (its price is less than par), and its price is expected to increase over the next year.
D) Over the next year, Bond A's price is expected to decrease, Bond B's price is expected to stay the same, and Bond C's price is expected to increase.
E) Bond A's current yield will increase each year.

Question 36

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

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

Question 37

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

Question 38

Which of the following bonds would have the greatest percentage increase in value if all interest rates fall by 1%?

A) 20-year, 10% coupon bond.
B) 20-year, 5% coupon bond.
C) 1-year, 10% coupon bond.
D) 20-year, zero coupon bond.
E) 10-year, zero coupon bond.

Question 39

Which of the following statements is CORRECT?

A) Most sinking funds require the issuer to provide funds to a trustee, who saves the money so that it will be available to pay off bondholders when the bonds mature.
B) A sinking fund provision makes a bond more risky to investors at the time of issuance.
C) Sinking fund provisions never require companies to retire their debt; they only establish "targets" for the company to reduce its debt over time.
D) If interest rates have increased since a company issued bonds with a sinking fund, the company is less 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.
E) Sinking fund provisions sometimes turn out to adversely affect bondholders, and this is most likely to occur if interest rates decline after the bond has been issued.

Question 40

"Restrictive covenants" are designed primarily to protect bondholders by constraining the actions of managers Such covenants are spelled out in bond indentures.

Question 41

25-year, $1,000 par value bond has an 8.5% annual coupon The bond currently sells for $875 If the yield to maturity remains at its current rate, what will the price be 5 years from now?

A) $839.31
B) $860.83
C) $882.90
D) $904.97
E) $927.60

Question 42

year ago Lerner and Luckmann Coissued 15-year, noncallable, 7.5% annual coupon bonds at their par value of $1,000Today, the market interest rate on these bonds is 5.5% What is the current price of the bonds, given that they now have 14 years to maturity?

A) $1,077.01
B) $1,104.62
C) $1,132.95
D) $1,162.00
E) $1,191.79

Question 43

Sommers Co.'s bonds currently sell for $1,080 and have a par value of $1,000 They pay a $100 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,125 What is their yield to maturity (YTM)?

A) 8.56%
B) 9.01%
C) 9.46%
D) 9.93%
E) 10.43%

Question 44

Rogoff Co.'s 15-year bonds havean annual coupon rate of 9.5% Each bond has face value of $1,000 and makes semiannual interest payments If you require an 11.0% nominal yield to maturity on this investment, what is the maximum price you should be willing to pay for the bond?

A) $891.00
B) $913.27
C) $936.10
D) $959.51
E) $983.49

Question 45

5-year Treasury bonds yield 5.5% The inflation premium (IP) is 1.9%, and the maturity risk premium (MRP) on 5-year bonds is 0.4% What is the real risk-free rate, r*?

A) 2.59%
B) 2.88%
C) 3.20%
D) 3.52%
E) 3.87%

Question 46

Curtis Corporation's noncallable bonds currently sell for $1,165 They have a 15-year maturity, an annual coupon of $95, and a par value of $1,000 What is their yield to maturity?

A) 6.20%
B) 6.53%
C) 6.87%
D) 7.24%
E) 7.62%

Question 47

Gergen Group's 5-year bonds yield 6.85%, and 5-year T-bonds yield 4.75% The real risk-free rate is r* = 2.80%, the default risk premium for Gergen's bonds is DRP = 0.85% versus zero for T-bonds, the liquidity premium on Gergen's bonds is LP = 1.25%, and the maturity risk premium for all bonds is found with the formula MRP = (t - 1)  0.1%, where t = number of years to maturity What is the inflation premium (IP) on 5-year bonds?

A) 1.40%
B) 1.55%
C) 1.71%
D) 1.88%
E) 2.06%

Question 48

10-year T-bonds have a yield of 6.2%, 10-year corporate bonds yield 8.5%, the maturity risk premium on all 10-year bonds is 1.3%, and corporate bonds have a 0.4% liquidity premium versus a zero liquidity premium for T-bonds, what is the default risk premium on the corporate bond?

A) 1.90%
B) 2.09%
C) 2.30%
D) 2.53%
E) 2.78%

Question 49

McCurdy Co.'s Class Q bonds have a 12-year maturity, $1,000 par value, and a 5.75% coupon paid semiannually (2.875% each 6 months), and those bonds sell at their par value McCurdy's Class P bonds have the same risk, maturity, and par value, but the P bonds pay a 5.75% annual coupon Neither bond is callable At what price should the annual payment bond sell?

A) $943.98
B) $968.18
C) $993.01
D) $1,017.83
E) $1,043.28

Question 50

Noncallable bonds that mature in 10 years were recently issued by Sternglass Inc They have a par value of $1,000 and an annual coupon of 5.5% If the current market interest rate is 7.0%, at what price should the bonds sell?

A) $829.21
B) $850.47
C) $872.28
D) $894.65
E) $917.01

Question 51

Gilligan Co.'s bonds currently sell for $1,150 They have a 6.75% annual coupon rate and a 15-year maturity, and are callable in 6 years at $1,067.50 Assume that no costs other than the call premium would be incurred to call and refund the bonds, and also assume that the yield curve is horizontal, with rates expected to remain at current levels on into the futureUnder these conditions, what rate of return should an investor expect to earn if he or she purchases these bonds, the YTC or the YTM?

A) 3.92%
B) 4.12%
C) 4.34%
D) 4.57%
E) 4.81%

Question 52

Meacham Enterprises' bonds currently sell for $1,280 and have a par value of $1,000 They pay a $135 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,050 What is their yield to call (YTC)?

A) 6.39%
B) 6.72%
C) 7.08%
D) 7.45%
E) 7.82%

Question 53

Currently, Bruner Inc.'s bonds sell for $1,250 They pay a $120 annual coupon, have a 15-year maturity, and a $1,000 par value, but they can be called in 5 years at $1,050 Assume that no costs other than the call premium would be incurred to call and refund the bonds, and also assume that the yield curve is horizontal, with rates expected to remain at current levels on into the futureWhat is the difference between this bond's YTM and its YTC? (Subtract the YTC from the YTM.)

A) 2.11%
B) 2.32%
C) 2.55%
D) 2.80%
E) 3.09%

Question 54

Sentry Corpbonds have an annual coupon payment of 7.25% The bonds have a par value of $1,000, a current price of $1,125, and they will mature in 13 years What is the yield to maturity on these bonds?

A) 5.56%
B) 5.85%
C) 6.14%
D) 6.45%
E) 6.77%

Question 55

Jerome Corporation's bonds have 15 years to maturity, an 8.75% coupon paid semiannually, and a $1,000 par value The bond has a 6.50% nominal yield to maturity, but it can be called in 6 years at a price of $1,050 What is the bond's nominal yield to call?

A) 5.01%
B) 5.27%
C) 5.54%
D) 5.81%
E) 6.10%

Question 56

Kessen Inc.'s bonds mature in 7 years, have a par value of $1,000, and make an annual coupon payment of $70 The market interest rate for the bonds is 8.5% What is the bond's price?

A) $923.22
B) $946.30
C) $969.96
D) $994.21
E) $1,019.06

Question 57

Chandler Co.'s 5-year bonds yield 7.00%, and 5-year T-bonds yield 5.15% The real risk-free rate is r* = 3.0%, the inflation premium for 5-year bonds is IP = 1.75%, the liquidity premium for Chandler's bonds is LP = 0.75% versus zero for T-bonds, and the maturity risk premium for all bonds is found with the formula MRP = (t - 1)  0.1%, where t = number of years to maturity What is the default risk premium (DRP) on Chandler's bonds?

A) 0.99%
B) 1.10%
C) 1.21%
D) 1.33%
E) 1.46%

Question 58

Field Industries' outstanding bonds have a 25-year maturity and $1,000 par value Their nominal yield to maturity is 9.25%, they pay interest semiannually, and they sell at a price of $850 What is the bond's nominal (annual) coupon interest rate?

A) 6.27%
B) 6.60%
C) 6.95%
D) 7.32%
E) 7.70%

Question 59

Perry Inc.'s bonds currently sell for $1,150 They have a 6-year maturity, an annual coupon of $85, and a par value of $1,000 What is their current yield?

A) 7.39%
B) 7.76%
C) 8.15%
D) 8.56%
E) 8.98%

Question 60

Reinegar Corporation's is planning two new issues of 25-year bonds Bond Par will be sold at its $1,000 par value, and it will have a 10% semiannual coupon Bond OID will be an Original Issue Discount bond, and it will also have a 25-year maturity and a $1,000 par value, but its semiannual coupon will be only 6.25% If both bonds are to provide investors with the same effective yield, how many of the OID bonds must Reinegar issue to raise $3,000,000? Disregard flotation costs, and round your final answer up to a whole number of bonds.

A) 4,228
B) 4,337
C) 4,448
D) 4,562
E) 4,676