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Finances > Chapter 6 - Bonds > Flashcards

Chapter 6 - Bonds Flashcards

1
Q

Which term would be used to refer to a bond with a AA rating?

A

Investment grade

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2
Q

What do bond ratings measure?

A

Credit risk

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3
Q

Suppose a bond gets upgraded to a higher rating. What can we expect?

A

The yield to maturity to fall

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4
Q

Bond prices vary how with interest rates changes?

A

They are inversely correlated

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5
Q

What does a bond selling at a discount have?

A

a current yield less than the yield to maturity

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6
Q

A bond selling at a premium has a

A

current yield that is less than the coupon rate but greater than the yield to maturity.

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7
Q

When the yield to maturity increases,

A

the current yield increases.

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8
Q

What is the coupon?

A

The interest payment paid to the bondholders

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9
Q

What is the face value or par value?

A

The payment at the maturity of the bond

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10
Q

What is the maturity date?

A

The date on which the loan will be paid off

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11
Q

What is the coupon rate equation?

A

Face Value

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12
Q

What is the interest rate?

A

The rate at which cash flows from the bond are discounted, to find its present value

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13
Q

What is the bond price?

A

The present value of all its
future cash flows

PV of face value + PV of coupon payments

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14
Q

If the coupon is greater than the interest rate (required), you are willing to buy the bond for more or less than face value?

A

More (the bond sells at a premium)

(e.g., pay +1000 for a $1000 bond)

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15
Q

What happens if the coupon is the same as the interest rate?

A

You’re willing to buy the bond for the same price as its face value

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16
Q

If the coupon rate is lower than the interest rate, what happens to the price of the bond?

A

It is less than the face value (at a discount)

17
Q

What must you change if the coupon payments are semi-annual

A

Change the timeline to 6 month periods

(unless stated otherwise, the coupon rate will still be expressed as an annual rate)

18
Q

What is the current yield equation?

A

Annual coupon payment / Bond price

19
Q

What is the yield to maturity?

A

Interest rate (r) for which

bond’s payments’ PV = bond’s price

20
Q

If a bond’s face value is $1,000 and it sells for $1,136, what will be the yield to maturity compared to the 10% coupon rate?

A

It will be lower

(higher coupon rate = higher bond price)

21
Q

What is the rate of return (ROR) (definition)

A

Total income per period, per dollar invested

22
Q

What is the rate of return (ROR) equation

A

ROR =
(Coupon Income + Price Change) / Investment

23
Q

What is the interest rate risk?

A

The risk in bond prices due to fluctuations in interest rates

24
Q

The bond is more sensitive to interest rate movements if the maturity is _______?

A

longer

25
Q

The bond is more sensitive to interest rate movements if the coupon rate is _________?

A

lower

26
Q

What is the difference between a Corporation issuing bonds and the Government of Canada

A

Corporation can default if they run out of cash

The Gov of Canada can’t, they’ll just print more money

27
Q

What is the default risk?

A

The risk that a bond issuer may default on its bonds

28
Q

What is another term for default risk?

A

Credit risk

29
Q

What are called bonds rated BBB and above?

A

Investment grade bonds

30
Q

What are called bonds rated BB and below? (3 names)

A

Speculative grade
High yield
Junk Bonds

31
Q

What is an other name for the “Default Premium”

A

Credit Spread

32
Q

What is the Default Premium (or credit spread)

A

The difference between the promised yield on a corporate bond and the yield on a Canada bond with the same coupon and maturity

33
Q

What does the yield to maturity measures?

A

The average return to an
investor who purchases the bond and holds it until
maturity

34
Q

What is the relationship between bond prices and yield to maturity?

A

They vary inversely

35
Q

Why do bond prices fluctuate?

A

Because of changes in interest rates

36
Q

Why do investors use bond ratings?

A

To determine the risk of default on a bond

37
Q

What is called the additional return that investors demand for bearing credit risk?

A

Default premium

38
Q

What is the accrued interest formula?

A

days from last coupon to purchase date /

Coupon payment multiplied with

number of days in coupon period

39
Q

What is the dirty bond price formula?

A

Clean bond price + Accrued interest

Finances (5 decks)

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