Chapter 7- Fixed Income & Hybrids

Question 1

Many ___ funds and investment firms must meet certain asset allocation requirements.
Allocating a portion of a portfolio to bonds is designed to ___ or __ the risk of loss for other investments.
Bonds are also used to pledge as ___ for financing.
So these funds must own bonds, sometimes even when the financial return is ___.
A foreign investor may buy negative yield bonds if they expect that bond country’s exchange rate to __. So that when the foreign investor converts their investment back to local currency, they’ve actually seen a __ in the value of their investment despite the bond paying a nominative ___ yield.

Answer 1

Hedge
Reduce; hedge
Collateral
Negative
Rise
Increase; negative

Question 2

Yield to maturity is the total rate of return for a bond that makes all payments and repays principal. It assumes …

Answer 2

All interest payments are immediately reinvested at the initial coupon rate at the time of purchasing the bond.

Question 3

The average maturity of a short term bond fund is …

Answer 3

3-5 years

Question 4

The original issue maturity of a municipal note is …

Answer 4

2 years or less

Question 5

Some bond fund managers ____ or ___ their fund’s current yield.
Regulators require funds to disclose the ___ so investor’s know the fund’s true yield.

Answer 5

Juice; lie about
SEC 30-day yield

Question 6

Asset allocation fund drawbacks are …

Answer 6

1) they’re easy for a fund manager to screw up
2) The high fund turnover to keep allocation balanced can lead to high fees & taxes (also problem for balanced funds)
3) fund managers may be overly cautious-investing too heavily in T-bills and precious metals
4) client or advisor are better off picking best stock funds for 60% of portfolio & best bond funds for 40% of portfolio and only changing if circumstances change dramatically

Question 7

Balanced funds are for ___, ___ investors who want only __ fund.
Balanced funds strive for __, ___ appreciation, & capital ____.

Answer 7

Newer, fairly conservative; 1
Income, moderate capital, preservation

Question 8

A convertible security ___ or ___ are exchangeable for a set number of a company’s ___ shares at the investor’s option.
Convertible securities usually have ratings that are ____.

Answer 8

Bond or preferred stock; common
Barely investment grade or below

Question 9

The SEC 30-day yield is a ___ measure for bonds selling at ___ prices.
The computation assumes all bonds in the portfolio are held ___ and it considers ____ of both premiums and discounts.

Answer 9

Superior; premium
To maturity or the date which they will be called if redemption is likely; amortization or erosion

Question 10

Clients concerned with inflation &/or rising interest rates should buy___, ___, or ___ funds

Clients concerned with interest-rate volatility should buy ____ or ____ funds

Clients concerned with default should buy___ or __ funds

Clients concerned with current income should buy ___or___ funds

Clients concerned with falling US dollar should buy ___,___, or ____ funds

Clients concerned with no specific worry should buy___ or ____ funds

Answer 10

Inflation-indexed; adjustable-rate; short-term

Bank-loan; high-yield

Government; high-quality municipal

Mortgage-backed; bank-loan

Foreign; global; emerging markets

Intermediate-term; short-term

Question 11

Professional bond fund managers can do these things that most individuals cannot:
1) ____ because it takes experience and clout to get ___ and place trades at the tightest spreads
2) ____ because experts can spot issuers trending toward trouble Before a bond’s rating is ___ & visa versa.
3) know when to adjust ___
4) ___ because a manager is trained to spot and replace ___ issues.
5)____ because certain bond groups are difficult and technical for a novice to study.
6) A good fund manager can find ___ among riskier bonds and ____ issues
7) a good fund manager knows how to employ a broad range of ____ such as the credit-quality barbell.

Answer 11

1) shop for the best deals; the best prices
2) monitor credit risks; downgraded
3) maturities
4) reduce call risk; vulnerable
5) research specialized issues
6) mis-pricings; small nonrated
7) ingenious strategies

Question 12

A world/global bond fund has ___ weighting in US bonds.
World bonds have an average maturity of ___ years and a ___ duration.

Answer 12

50-75%
7 years; 5-year

Question 13

Post recession high-yield corporate bonds consistently outperform ___.

Answer 13

Emerging market bonds

Question 14

High-yield bonds can fall into two categories: ___ and ___.
___ include former investment grade bonds that have been downgraded while ____ were always lower grade category.

Answer 14

Fallen angels; original issue junk

Question 15

Even though zero-coupon bonds pay no interest, the IRS still requires investors to pay taxes on ____.
Imputed interest rate is difference between ___

Answer 15

Imputed interest each year.
The market interest rate and the actual
Interest rate.

Question 16

___ funds make sense for conservative ___ investors who expect they’ll need money for a specific purpose at a certain time (ie child’s college).

Answer 16

Target maturity; long-term

Question 17

___ bonds generate relatively high cash flow since principal is paid back gradually each month along with interest rather than at maturity or ___.

Answer 17

Mortgage-backed; semiannually

Question 18

Bond funds are different from buying individual bonds in that …
1) a typical bond fund has no ___
2) the ___ is more difficult to ___ than an individual bond held to maturity.
3) a fund’s ___ are not fixed like the ___ on an individual bond.
4) an individual bond’s ___ and ___ decrease annually.

Answer 18

1) Maturity
2) rate of return; predict
3) dividends; interest
4) duration & interest rate risk

Question 19

A lot of fiduciaries of ___, ___, & ___ aren’t allowed to own bonds rated less than ___.
Because of this, there is usually a meaningful ___ between bonds barely rated ___ and those just below ____.
A favored segment to own are bond funds & ETFs whose credit quality is ___-____.
___ bonds have less interest rate risk than their ___ brethren because ___ bonds pay more in current interest.

Answer 19

Pension plans, trusts, corporations; investment grade
Yield gap; investment grade (2x)
Barely junk-BBB OR BB
High-yield; investment grade; high-yield

Question 20

___ bonds usually carry a rating below ___.
Anyone who buys a single bond should be concerned about ___.
By diversifying into ___ issues, a fund manager can greatly reduce overall ___.

Answer 20

Convertible; investment grade
Credit risk
50-100; default danger

Question 21

___ is the best indicator of interest rate risk.
___ is a sophisticated measure of a bond’s ___ life, its time to ___, stream of ___ payments, and current ___. ___ provides a weighted average of the time to ____.
___ for a coupon-bearing security is ___ it’s time to maturity.
An 8% bond maturing in 30 years and selling at par would have ___ of just over ___ years.
On the other hand, ___ for a 30-year zero-coupon bond is ___.

Answer 21

Duration
Duration; average; maturity; interest; price.
Duration; payment recovery
Duration; less than
Duration; 12
Duration; 30 years

Question 22

Bond ___ shows what happens to its value if interest rates go up or down ___.
If a bond has ___ of 6.5 years, it’s value should go up ___ if rates go down 1% and drop ___ if interest rates go up 1%.
The longer ___, the more ___ the bond is to interest rate changes and vice versa.

Answer 22

Duration; 1%
Duration; 6.5%; 6.5%
Duration; sensitive

Question 23

An example of ___ risk is when interest rates fall, so do the rates that bond interest payments can be ___. This reduces bond holders’___, since they will be earning less interest on their interest.

Answer 23

Reinvestment; reinvested
Actual yields

Question 24

Bonds are priced in ___ increments using decimals. Each ___ represent ___ of $10. The last number Before the decimal is dropped.
Every ___ is referred to as a point.
For example, 100.16 is worth ___

Answer 24

1/32 (3x)
$10
$1005

Question 25

Bonds in world bond funds are often ___ with typical maturities of ___ to ___. World bond funds usually have ___ of their assets in US bonds.

Answer 25

Investment grade; intermediate to long term
55%

Question 26

Interest rate risk is the risk that increases in interest rates will cause your bonds to ___ especially if you sell ___.

Answer 26

Lose value; before maturity

Question 27

Federal government agency issues are technically not as ___ as treasury bonds because they aren’t backed by ___.
However agency issues are so secure that they aren’t even ___ because their rating would be higher than ___.

Answer 27

Secure; the full faith and credit do the US gov
Rated; AAA

Question 28

Municipal ___ have original maturities of 2 years or ___.
The interest rate risk of high-quality municipal bonds is ___ less than US government bonds of similar maturity.
Municipal bond interest is exempt from ___ and from ___ if the owner has bonds from their state of residence.

Answer 28

Notes; less
33%-50%
federal income taxes; state income taxes

Question 29

The average maturity of US & foreign bond funds ranges from ultra short ___, short-term___, intermediate-term___, or long-term___.

Answer 29

1 year or less; 3-5 years; 5-10 years; 10+ years

Question 30

Bond FUNDS normally distribute income ___.

Answer 30

monthly

Question 31

Fixed income is classified according to ___.

Answer 31

their issuer, quality & maturity.