2.1 Features of Debt Securities Flashcards
Characteristics of an investment-grade general obligation municipal bond?
The taxing authority of the issuing government or municipality backs the issue’s repayment.
General obligation bonds are backed by the full faith and credit of the government issuing the debt and are repaid through taxes collected by the government body.
The main source of investment risk for a municipal security is interest rate risk.
General obligation bonds do not retain a claim on specific property.
The government issuing the bonds uses its taxing authority to pay the interest and repay the principal.
Savings bonds
Interest income from Series EE, Series I, and Series HH bonds is exempt from state income taxes.
Both Series EE and Series I bonds have a maximum purchase of $10,000 in a single calendar year.
Federal taxes can be deferred on Series EE bonds, whereas Series HH bonds are taxed annually.
The effect of rating changes on bond yields can be summarized as
An upward revision will cause the market yield on the bond to decline, reflecting the bond’s improved quality.
A downward revision will cause the market yield on the bond to increase, reflecting the bond’s decline in quality.
Feature of zero-coupon bonds
Zero-coupon bonds are sold at a deep discount from par value and have no coupon payments. They are redeemed for their face value at maturity. These bonds have maximum price volatility and respond sharply to interest rate changes. Zero-coupon bonds have durations equal to their term to maturity
U.S. government bonds are free from default risk
U.S. government bonds are free from default risk
The primary risks associated with bonds include interest rate risk, purchasing power risk, and reinvestment rate risk.
The primary risks associated with bonds include interest rate risk, purchasing power risk, and reinvestment rate risk.
Treasury Inflation-Protected Securities (TIPS)
The principal value is adjusted for inflation every six months based on the Consumer Price Index (CPI), and one-half of the stated coupon rate is paid semiannually on the inflation-adjusted principal value.
Treasury STRIPS (Separate Trading of Registered Interest and Principal of Securities).
Zero-coupon bonds created by separating the semiannual coupon payments and the principal repayment portions of a U.S. Treasury note or bond
Treasury notes or Treasury bonds
Treasury notes are issued at their stated par value.
The actual price of a newly issued Treasury note or Treasury bond is determined at auction.
What is call risk and what is 3 disadvantages of call risk?
Call Risk is the risk that an issuer will exercise a call option on a bond.
1- Full cash flow pattern is unknown
2-Because issuers call bonds when interest rates have fallen sufficiently, the investor is exposed to reinvestment rate risk.
3-The capital gain potential is reduced because the price of the bond may not rise much above the call price if investors anticipate the bond being called.
What is Financial Risk?
Financial risk is the risk associated with the level of debt an issuer has outstanding.
What is default (credit) risk?
Default risk is the risk that an issuer may not be able to make principal and interest payments when due on a bond.
What is Purchasing Power (Inflation) Risk?
Risk associated with the devaluation of cash flows from inflation, as measured in terms of purchasing power.
What is Liquidity Risk?
Liquidity risk depends on the ease with which an issue can be sold at or near its current market value.
What is Event Risk?
Event risk is the possibility that a bond issue will be affected by an unanticipated and damaging event. The event may take the form of a major tax or regulatory change.
