Bonds Flashcards

1
Q

Discount

A

Bond will sell at a discount when Coupon Rate < YTM, Because:
* People can get higher return on investments at current
market rate

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2
Q

Premium

A

Bond will sell at premium when Coupon Rate > YTM,

People cant get a higher return anywhere else

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3
Q

Par value

A

A bond will be selling at par value when CR = YTM

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4
Q

Zero coupon bonds

A

Pay no coupon rate
 Therefore price is always at a discount
* As the only return is capital gains
no face value at maturity

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5
Q

Yield to maturity

A

Investors will only earn this if the asset is held to maturity and all
coupons/cash flows are reinvested at the YTM rate

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6
Q

Yield to call

A

Maturity is first call date
 And face value is the call price

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7
Q

Realised Compound Yield

A

(Ending Wealth/purchase price)1/n – 1

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8
Q

Premiums

A

These will get lower in value as time goes on, This is because there are less cash flows in the future

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9
Q

Discounts

A

These will get higher in value as time goes on
 This is because there is less time to weight before they get the
capital gains

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10
Q

Bond prices move inversely to

A

interest rates

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11
Q
A

A long term bonds price will be affected more than a short term
bonds price
 As this is true: As bond length increases, so does volatility of
price to yield
* However, as the length increase the volatility increases
at a diminishing rate (slope – note a straight line)

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12
Q
A

A bond with a low coupon rate will have a greater change in price
compared to a bond with a higher coupon rate
 However this also increases at a diminishing rate (slope – note
a straight line

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13
Q

the higher the coupon rate (Coupons) the higher the weight on the CF inbetween, and therefore a

A

lower duration (shorter)

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14
Q

Duration for zero coupon bonds =

A

maturity

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15
Q

Coupon bonds duration

A

Duration increases with maturity (at a decreasing rate)
o The higher the coupon rate, the shorter the duration

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16
Q

all bonds: duration

A

The higher the YTM, the shorter the duratio

17
Q
A

YTM = actual bond price

Where as the duration is a straight line at a tangent to the bond price slope

18
Q

Immunization:

A

This is the act of setting the duration of the bond (portfolio) equal to the
investor’s investment horizon

19
Q

When interest rates rise

A

Price you can sell you bonds for falls
 But coupon payments can be reinvested at a higher rate

20
Q

Immunization eliminates interest rate risk by offsetting price risk against

A

reinvestment risk

21
Q

realised annual return will not change as the

A

interest rate does

22
Q

The higher the credit risk/default risk of a stock:

A

The higher the premium required for that bond

23
Q

Spot Rate

A

The current known/quoted yield on a zero coupon bond for n periods

24
Q

Forward Rate:

A

Yield specified now for a purchase of a zero coupon bond at a future date for
n periods from THAT date

25
Q

Expected Rate

A

The yield that is expected to be at time t+ k (k periods from now) on a zero
coupon bond for n periods to maturity

26
Q

term structure

A
  • Shows what is expected of the market derived by the relationship between
    Yields to maturity and term to maturity
27
Q

(Pure) Expectations Theory

A

This is the theory that expected (future) spot rate = Forward Rate
- This is because long rates are determent by expected future short rate

28
Q

Expectations Theory’s Explanation

A

Difference in expected spot rate and forward rate:
 It explains it that the loan rate (spot rate) is wrong, as it is the
loan rate that will reflect future expectation

29
Q

Expectation theory: Upward Sloping: Expected Boom

A

Long term bonds have higher yields as future short
term rates are expected to increase

he illiquidity preference brings it higher

30
Q

Expectation theory: Downward Sloping: Expected Recession

A
  • Future expected rates are lower than the current spot
    rates

offset the illiquidity
premium
 Therefore the difference between expected spot rate and
forward rate is more than premium

31
Q

Expectation theory: Hump:
*

A

Expects it to be higher in the near future, but in the
long run it will go down

multiple expectations

32
Q

Expectation Theory: Flat:

A

The future is expected to be the same as current spot
rates

33
Q

Market Segmentation Theory:

A

The idea that the shape of the yield curve is determined by the supply and
demand of securities within each maturity range

34
Q

Market Segmentation Theory: Excess supply of bonds over demand for long-term maturities
 Firms want to borrow for long term
 Lenders want to lend at short term

A

Upward Sloping

35
Q

Market Segmentation Theory: Excess supply over demand for short-term maturities

A

Downward Sloping:

36
Q

Market Segmentation Theory: Excess supply over demand for intermediate-term maturities

A

Hump shape: