Chapter 10: Bonds and Yields Flashcards
What is a bond?
A security that obligates the issuer to make specified payments to the holder over a period of time.
What is par value/face value?
The payment to the bond-holder at the maturity of the bond.
What is the coupon rate?
A bond’s annual interest payment per dollar of par value.
What is a zero-coupon bond?
A bond paying no coupons that sells at a discount and provides only a payment of par value at maturity.
What is the formula for accrued interest?
Accrued interest =
(annual coupon payment/2) x
(days since last coupon payment/days separating coupon payment)
What is a callable bond?
Bonds that may be repurchased by the issuer at a specified call price during the call period?
What is a convertible bond?
A bond with an option allowing the bondholder to exchange the bond for a specified number of shares of common stock in the firm.
What is a put bond?
A bond that the holder may choose either to exchange for par value at some date of to extend for a given number of years.
What is a floating-rate bond?
Bonds with coupon rates periodically reset according to a specified market rate.
What is preferred stock?
Dividends owed simply cumulate, and effectively become a perpetuity.
What are examples of innovative bonds?
- Inverse Floaters
- Asset-backed Bonds
- Pay-In Kind Bonds
- Catastrophe Bonds
- Indexed Bonds
How is a security valued?
Bond value = PV of coupons + PV of par value
Price = coupon (1/r)[1-(1/(1+r)ᵗ] + Par value x (1/(1+r)ᵗ)
What is yield to maturity?
The discount rate that makes the PV of a bond’s payments that are equal to its price.
What is realised compound return?
Compound rate of return on a bond with all coupons reinvested until maturity.
How is the compound rate of return calculated?
V₀(1+r)²=V₂
What is horizon analysis?
Analysis of bond returns over a multiyear horizon, based on forecasts of the bond’s yield to maturity and the reinvestment rates of coupons.
What is the yield curve?
A graph of yield to maturity as a function of term to maturity.
What is the term structure of interest rates?
The relationship between yields to maturity and terms to maturity across bonds.
What is expectations hypothesis?
The theory that yields to maturity are determined solely by expectations of future short-term interest rates.
What is the forward rate?
The interred short-term rate of interest for a future period that makes the expected total return of a long-term bond equal to that of rolling over short-term bonds.
What is liquidity preference theory?
The theory that investors demand a risk premium on long-term bonds.
What is a liquidity premium?
The yield spread demanded by investors as compensation for the greater risk of longer-term bonds.
