Ch 10: Bonds #2

Question 1

straight bond

Answer 1

“IOU,” obligates issuer to pay holder

Question 2

What are the two optional features of a straight bond?

Answer 2

Callable: called before maturity
Convertible: converted to stocks

Question 3

If you buy a bond before the next coupon date, what return do you receive?

Answer 3

You will receive the next coupon payment, and you must compensate and accrued interest to the seller

Question 4

What is the price quote called when accrued interest is ignored?

Answer 4

The clean price or flat price

Question 5

What is the actual price paid?

Answer 5

The dirty price which is equal to the clean price plus accrued interest

Question 6

Premium Bond

Answer 6

Price > Par Value

Coupon Rate > YTM

Question 7

Discount Bond

Answer 7

Price < Par Value

Coupon Rate < YTM

Question 8

Par Bond

Answer 8

Price = Par Value

Coupon Rate = YTM

Question 9

Coupon Rate

Answer 9

The actual amount of interest income earned on bonds each year based on face value

Question 10

Year to Maturity (YTM)

Answer 10

Estimated rate of return based on assumption it is held until maturity date and not called (includes coupon rate in calculation)

Question 11

What is interest rate risk?

Answer 11

The possibility of changes in interest rates result in losses in the bond’s value. An increase in interest rate decreases bond value (inverse relationship)

Question 12

What are the components of interest rate risk?

Answer 12

1. Price risk: bond is sold before maturity and the price differs from future value
2. Reinvestment risk: coupons recieved over time at rate different fro YTM

Question 13

What is Malkiel’s Theorem? (Four components)

Answer 13

1. Bond prices and bond yields have an inverse