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bonds Flashcards

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1
Q

how are all US treasury securities taxed?

A

they are nontaxable at the state and local levels

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2
Q

what does it mean if the security is nonmarketable?

A

not easily bought or sold

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3
Q

what are series EE bonds?

A

sold at face value through Treasury Direct

nonmarketable and nontransferable

does not pay interest periodically

redeemable after one year with 3 month interest penalty if redeemed in less than 5 years

not federally taxed for the interest until bond is redeemed (can be taxfree if used for education and is never state or locally taxed)

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4
Q

what are series HH bonds?

A

pay interest semiannually

are different than EE bonds but havent been issued since August 2004

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5
Q

what are series I bonds?

A

inflation index bonds issued by the US government

sold at face value

have no guaranteed rate or return

interest portion consists of two components: fixed rate of return and inflation component that is adjusted every six months

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6
Q

what are the three nonmarketable US treasury issues?

A

series EE bonds
series HH bonds
series I bonds

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7
Q

what are US Treasury Bills?

A

maturities less than a year

sold on a discounted yield basis aka they don’t pay interest, they just mature at par value

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8
Q

what are US Treasury Notes?

A

maturities between 2 and 10 years

interest is paid semi-annually

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9
Q

what are US Treasury Bonds?

A

maturities greater than 10 years

interest is paid semiannually

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10
Q

what is an Original Issue Discount?

A

issued at a discount from par value

ex: zero coupon bond

bond holder must recognize income each year even though no interest is received - it will be “phantom income”

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11
Q

what are Treasury Inflated Protected Securities?

A

TIPS provides inflation and purchasing power protection

the principal/par value adjusts for inflation

coupon rate does not change, but the coupon rate is applied to the new principal amount

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12
Q

what are STRIPS?

A

separate trading of registered interest and principal securities

they create zero coupon bonds

highly liquid, appropriate for investors looking for low risk, liquid and a time horizon

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13
Q

what are agency bonds?

A

moral obligations of the US gov but are not backed by the full faith and credit of the US gov

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14
Q

what the one exception to agency bonds not being backed by the full faith and credit of the US gov?

A

GNMA’s are a direct obligation of the government and ARE backed by the full faith and credit of the US gov

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15
Q

what are the on budget debts?

A

GNMA - Government National Mortgage Association
FHA- Farmers Home Administration

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16
Q

what are off-budget debts?

A

FNMA - federal national mortgage association
FHLMC - federal home loan mortgage corp
SLMA - student loan marketing association
FFCB - federal farm credit banks
FICB - federal intermediate credit banks
FHLB - federal home loan bank

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17
Q

what is the biggest risk with mortgage-backed securities?

A

falling interest rates

repaid early, the bond got retired earlier, which leaves with a reinvestment problem

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18
Q

how do GNMA bonds get taxed?

A

interest component is subject to both state and federal income tax

the principal that is return is not taxable

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19
Q

what are mortgage-backed securities?

A

type of secured bond
backed by a pool of mortgages
payments consist of both interest and principal
biggest risk = prepayment risk

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20
Q

what are collateral trust bonds?

A

type of secured bond
backed by an asset owned by a company issuing the bonds
the asset is held in trust by a third party
if bond defaults, the bond holders are entitled to the asset

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21
Q

what are Collateralized Mortgage Obligations?

A

investors are divided into “tranches” - determines which investors will receive principal repayment

Interest from the pool of mortgages is distributed pro rata and the principal repayments are used to retire tranches sequentially

investors in the short-term tranche receive principal repayment before the intermediate and long term tranch

CMOs are meant to mitigate against prepayment risk associated with mortgage-backed securities

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22
Q

what are debentures?

A

unsecured debt that is not backed by an asset
backed on the belief of the creditworthiness that the issuing company will repay the debt

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23
Q

what are subordinated debentures?

A

have a lower claim on assets than other unsecured debt

is riskier

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24
Q

what are income bonds?

A

stipulate that interest is paid when a specific level of income is attained

25
Q

what are the bond rating agencies?

A

Moody’s
Standard and Poor’s

they rate bonds on the company’s default risk and investment quality

higher the bond rating, the lower the yield

they analyze a firm’s:
- liquidity
- total amount of debt
- earnings and stability of those earnings

26
Q

what are the ratings according to Moody’s?

A

Aaa-Baa are investment quality bonds
Ba and below are junk bonds

27
Q

what are the ratings according to Standard and Poor?

A

AAA-BBB are investment quality bonds
BB and below are junk bonds

28
Q

what are Guaranteed Investment Contracts?

A

issued by insurance companies with a guaranteed rate of return

agrees to repay the principal and guaranteed rate of return for a period of time

yield is higher than treasury securities

29
Q

what are municipal bonds? (taxes and types)

A

nontaxable at the federal, state, and local level if you live in the issuing state

there are three types: General Obligation Bonds, Revenue Bonds and Private Activity Bonds

30
Q

what are General Obligation Bonds?

A

backed by the full faith, credit and taxing authority of the municipality that issued the bond

31
Q

what are Revenue Bonds?

A

backed by the revenue of a specific project

NOT backed by the full faith, credit, and taxing authority of the entity that issued the bond

32
Q

what are Private Activity Bonds?

A

used to finance construction of stadiums

33
Q

what are the insurance companies for municipal bonds and how do they work?

A

American Municipal Bond Assurance Corp (AMBAC)
Municipal Bond Insurance Association Corp (MBIA)

if an insured bond is in default, the insurance company will pay the interest and principal amounts

34
Q

what are the risks of a corporate bond?

A

default risk
reinvestment rate risk
interest rate risk
purchasing power risk

35
Q

what are the risks of a US government bond?

A

reinvestment rate risk
interest rate risk
purchasing power risk

36
Q

what does the Tax Equivalent Yield mean?

A

the yield a taxable corporate bond would need to pay for the yield on a tax-exempt muni to be equivalent to a taxable corporate bond

37
Q

what does the Tax-Exempt Yield mean?

A

the after-tax rate of return a taxable corporate bond pays

38
Q

what is a coupon rate?

A

the periodic interest payment received by a bond holder

39
Q

what is the par value?

A

the principal amount which is $1,000 on bond issues unless stated otherwise

the amount that will be repaid to bond investors at the end of the loan period

40
Q

what is the coupon rate / nominal yield?

A

the annual payment in dollars divided by the par value

41
Q

what is the current yield?

A

the annual payment in dollars divided by the current price of the bond

42
Q

what is the yield to maturity?

A

the compounded rate of return if an investor buys a bond today and holds it until maturity

assumes that an investor is able to reinvest the coupon payments at the yield to maturity rate

43
Q

what is the yield to call?

A

the compounded rate of return if an investor buys a bond today and the bond is called by the issuer

44
Q

what is the order - largest to smallest - of yields for a premium bond?

A

largest = coupon rate
then current yield
then YTM
then YTC = smallest

45
Q

what is the order - largest to smallest - of yields for a discount bond?

A

largest = YTC
then YTM
then current yield
then coupon rate = smallest

CALL MOM’s CELL NOW when there is a discount

46
Q

what is the Liquidity Preference Theory?

A

yield curve results in lower yields for shorter maturities because investors that prefer liquidity are okay with getting less for it

higher yields for longer maturities to compensate investors to the additional risks associated with longer-term maturities

47
Q

what is the Market Segmentation Theory?

A

yield curve depends on supply and demand at a given maturity

when supply is greater than demand at a given maturity, rates are low

when demand is greater than supply at a given maturity, rates are high

48
Q

what is the Expectations theory?

A

yield curve reflects investors’ inflation expectations

when inflation is to be higher in the future, then long term yields will be higher than short term yields

when inflation is expected to be lower in the future, long term rates will be lower than short term rates resulting in an inverted yield curve

49
Q

what is the Unbiased Expectations Theory?

A

related to the term structure of interest rates

today’s longer term interest rates have imbedded in them expectations about future short term interest rates

50
Q

what is bond duration?

A

the weighted average maturity of all cash flows

  • the bigger the duration, the more price sensitive or volatile the bond is to interest rate changes
  • duration= the moment in time the investor is immunized from interest rate risk and reinvestment rate risk
  • Modified Duration is a bond’s price sensitivity to changes in interest rates
  • a bond portfolio should have a duration equal to the investor’s time horizon to be effectively immunized
51
Q

what is the duration for a zero coupon bond?

A

equal to its maturity

52
Q

as the coupon rate increases… the duration…

A

DECREASES

53
Q

what is a tax swap strategy?

A

involves selling a bond that has a gain and a bond that has a loss which offset each other

54
Q

what is a barbell strategy?

A

involves owning both short term and long term bonds

when interest rates move, only one set of positions needs to be sold and restructured

55
Q

what is a laddered bonds strategy?

A

requires purchasing bonds with varying maturities

as bonds mature, new bonds are purchased with longer maturities

helps reduce interest rate risk

56
Q

what is a bullet bond strategy?

A

have very little payments during the interim period and then a lump-sum at some specified date in the future

most of the bonds will mature around the same time

used when the investor has a balloon payment due on a liability at some future date

57
Q

what are preferred stocks and what are some characteristics?

A

has both equity and debt features

debt = stated par value, stated dividend rate as a percentage of par

equity = price of stock may move with the price of common stock

differences: dividend does not fluctuate like a common stock dividend, no maturity date like a bond, price of preferred stock is more closely tied to interest rates than common stock

58
Q

what is the tax advantage for preferred stock?

A

tax benefits for corporations - receive a deduction of dividends

59
Q

what is the benefit to convertible bonds?

A

even if the stock does not perform well, the investor has a floor (par value of the bond) built in

My CFP Flashcards (18 decks)

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