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Finance > Chapter 7 SmartBook > Flashcards

Chapter 7 SmartBook Flashcards

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1
Q

When a corporation or government wishes to borrow money from the public on a long-term basis, it usually does so by issuing or selling debt securities that are generically called _______.

A

Bonds

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2
Q

What is the coupon rate on a bond that has a par value of $1,000, a market value of $1,100, and a coupon interest payment of $100 per year?

A

10%
Coupon rate = $100/$1,000 = .10 or 10%

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3
Q

A bond’s value is not affected by changes in the market rate of interest. T/F

A

F

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4
Q

The relationship between bond prices and the market rate of interest is ____.

A

inverse; if the market rate of interest rises, bond prices will fall

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5
Q

Which of the following variables are required to calculate the value of a bond?

A. Issue price of the bond

B. Market yield

C. The remaining life of the bond

D. Coupon rate

A

B, C and D

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6
Q

The federal government can raise money from financial markets to finance its deficits by ___.

A

issuing bonds

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7
Q

A corporate bond’s yield to maturity ____.

A. changes over time

B. remains fixed over the life of the bond

C. is always equal to the bond’s coupon rate

D. can be greater than, equal to, or less than the bond’s coupon rate

A

A and D

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8
Q

In general, a corporate bond’s coupon rate ____,

A

is fixed until the bond matures

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9
Q

If a $1,000 par value bond is trading at a discount, it means that the market value of the bond is ______ $1,000.

A

Less than

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10
Q

Why does a bond’s value fluctuate over time?

A

The coupon rate and par value are fixed, while market interest rates change

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11
Q

If a $1,000 par value bond is trading at a premium, the bond is _____.

A

trading for more than $1,000 in the market

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12
Q

When interest rates in the market rise, we can expect the price of bonds to ____.

A

decrease

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13
Q

As an investor in the bond market, why should you be concerned about changes in interest rates?

A

Changes in interest rates cause changes in bond prices.

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14
Q

Which of these are required to calculate the current value of a bond?

A. Price at the time of bond issue

B. Par value

C. Time remaining to maturity

D. Applicable market rate

E. Coupon rate

A

B, C, D and E

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15
Q

What is a corporate bond’s yield to maturity (YTM)?

A. YTM is the prevailing market interest rate for bonds with similar features.

B. YTM is the yield that will be earned if the bond is sold immediately in the market.

C. YTM is another term for the bond’s coupon rate.

D. YTM is the expected return for an investor who buys the bond today and holds it to maturity.

A

A and D

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16
Q

What is a discount bond?

A

Discount bonds are bonds that sell for less than the face value.

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17
Q

The degree of interest rate risk depends on ____.

A

the sensitivity of the bond’s price to interest rate changes

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18
Q

What is a premium bond?

A

A bond that sells for more than face value

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19
Q

Longer-term bonds have _____
(smaller/greater) interest rate sensitivity because a ______
(smaller/larger) portion of a bond’s value comes from the face amount.

A

Larger, larger

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20
Q

Which one of the following is the most important source of risk from owning bonds?

A

Market interest rate fluctuations

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21
Q

What is a bond’s current yield?

A

Current yield = Annual coupon payment/Current price

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22
Q

Which of the following is true about interest rate risk?

A. All else equal, the lower the coupon rate, the greater the interest rate risk.

B. All else equal, the lower the coupon rate, the lower the interest rate risk.

C. All else equal, the longer the time to maturity, the greater the interest rate risk.

D. All else equal, the longer the time to maturity, the lower the interest rate risk.

A

A and C

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23
Q

Which of the following is not a difference between debt and equity?

A

Equity is publicly traded while debt is not

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24
Q

The reason that interest rate risk is greater for Blank______ term bonds than for Blank______ term bonds is that the change in rates has a greater effect on the present value of the Blank______ than on the present value of the Blank______.

A

long; short; face value; coupon payments

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25
Q

As a general rule, which of the following are true of debt and equity?

A. Equity represents an ownership interest

B. The maximum reward for owning debt is fixed

C. Creditors generally have voting power

D. Debt and equity represent the same financial claims

A

A and B

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26
Q

The _____ yield is the bond’s annual coupon divided by its price.

A

Current

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27
Q

The two major forms of long-term debt are ______
issue and privately placed.

A

public

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28
Q

The written agreement between the corporation and the lender detailing the terms of the debt issue is the ______.

A

indenture

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29
Q

Equity represents an ownership interest. T/F

A

T

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30
Q

Which of these risks is addressed by bond ratings?

A

Default Risk

31
Q

When the U.S. government wants to borrow money for the long-term (more than one year) it issues:

A. Treasury bonds

B. Treasury stocks

C. Treasury notes

D. Treasury bills

A

A and C

32
Q

The main reason it is important to distinguish between debt and equity is that the benefits and risks _____.

A

are different

33
Q

Which of these correctly identify differences between U.S. Treasury bonds and corporate bonds?

A. Treasury bonds are considered free of default risk while corporate bonds are exposed to default risk.

B. Treasury bonds offer certain tax benefits to investors that corporate bonds cannot offer.

C. Treasury bonds are issued by the US government while corporate bonds are issued by corporations.

D. Treasury bonds do not offer any tax benefits to investors but corporate bonds do.

A

A, B and C

34
Q

What are the two major forms of long-term debt?

A

Public issue and privately placed

35
Q

What are the cash flows involved in the purchase of a 5-year zero coupon bond that has a par value of $1,000 if the current price is $800? Assume the market rate of interest is 5 percent.

A

Pay $800 today and receive $1,000 at the end of 5 years

36
Q

Which of the following are usually included in a bond’s indenture?

A. The names of the bondholders

B. The bond’s rating

C. The total amount of bonds issued

D. The repayment arrangements

A

C and D

37
Q

Most of the time, a floating-rate bond’s coupon adjusts ____.

A

with a lag to some base rate

38
Q

A firm’s bond rating sheds light on its _________ risk.

A

Default

39
Q

Matching Question:

A

CAT bond = Protects insurance companies from natural disasters

Convertible bond= can be exchanged for shares of stock

Put bond= owner can force issuer to repay prior to maturity at a stated price

Structured note=based on financial securities, commodities, or currencies

40
Q

In terms of time to maturity, U.S. Treasury notes and bonds have initial maturities ranging from ___ years.

A

2 to 30

41
Q

How is investing in U.S. Treasury bonds different from investing in corporate bonds?

A. Treasury issues have no default risk.

B. Interest from U.S. Treasuries is exempt from all taxation while corporate bond interest is taxable at all levels.

C. Interest from U.S. Treasuries is exempt from taxes at the state level but corporate interest is not.

D. U.S. Treasury bonds have longer maturities than corporate bonds.

A

a and c

42
Q

The major difference between Western financial practices and Islamic law is that Islamic law does not permit charging or paying interest.

True
False

A

T

43
Q

A zero coupon bond is a bond that ____.

A

makes no interest payments

44
Q

Which is the largest security market in the world in terms of trading volume?

A

The U.S. Treasuries market

45
Q

With _____ -rate bonds, the coupon payments are adjustable.

A

Floating

46
Q

A bond with exotic features is often called a _____ bond.

A

cat

47
Q

What are some reasons why the bond market is so big?

A. Many corporations have multiple bond issues outstanding.

B. Federal government borrowing activity in the bond market is enormous.

C. Corporations are required to raise more money from bonds than from stocks.

D. Various state and local governments also participate in the bond market.

A

A, B and D

48
Q

The U.S. government borrows money by issuing:

A. Treasury notes

B. Treasury bills

C. Treasury pass-through certificates

D. Treasury bonds

A

A, B and D

49
Q

In financial markets the difference between the ____
price and the ask price is known as the spread.

A

bid

50
Q

Secondary markets in sukuk are extremely illiquid because most sukuk are:

A

bought and held to maturity

51
Q

What does the clean price for a bond represent?

A

The quoted price, which excludes interest accrued since the last coupon date.

52
Q

The U.S. Treasuries market is the _____ in the world in terms of trading volume.

A

Largest

53
Q

What is a real rate of return?

A

It is a rate of return that has been adjusted for inflation.

54
Q

Most of the time, a floating-rate bond’s coupon adjusts ____.

A

with a lag to some base rate

55
Q

The Fisher effect decomposes the nominal rate into:

A

the inflation rate and the real rate

56
Q

If a given set of cash flows is expressed in _________
terms and discounted at the
________ rate, the resulting present value will be the same as if the cash flows were expressed in real terms and discounted at the real rate.

A

Nominal, nominal

57
Q

Within the context of financial markets, complete the following equation: Bid − Ask = Bid-Ask _______

A

Spread

58
Q

What does historical data suggest about the nature of short-term and long-term interest rates?

A

Sometimes short-term rates are higher and sometimes long-term rates are higher.

59
Q

The price you actually pay to purchase a bond will generally exceed the clean price. T/F

A

T

60
Q

Which shape does the term structure of interest rates usually have?

A

Upward sloping

61
Q

The real rate of return will generally be higher than the nominal rate of return. T/F

A

F

62
Q

The inflation premium will be higher if the rate of inflation is low. T/F

A

F

63
Q

Which one of these correctly specifies the relationship between the nominal rate and the real rate?

A

(1 + R) = (1 + r) × (1 + h)

64
Q

What are three important features of Treasury notes and bonds?

A. Tax-free

B. Default-free

C. Taxable

D. Highly liquid

A

B, C and D

65
Q

If a given set of cash flows is expressed in nominal terms and discounted at the nominal rate, the resulting present value will be the same as if the cash flows were expressed in real terms and discounted at the ____ rate.

A

Real

66
Q

What will happen to the default risk premium during periods of economic uncertainty?

A

It will increase.

67
Q

The term structure of interest rates examines the ____.

A

relationship between short-term and long-term interest rates

68
Q

Which three of the following are common shapes for the term structure of interest rates?

A. Downward sloping

B. Upward sloping

C. V-shaped

D. Humped

A

A, B and D

69
Q

Which of the following is not one of the six factors used to determine the yield on a bond?

A

Voting rights

70
Q

The ______ premium is the portion of a nominal interest rate that represents compensation for expected future ______.

A

Inflation, inflation

71
Q

Interest earned on Treasury notes and bonds is taxable. T/F

A

T

72
Q

The default risk premium refers to the extra compensation demanded by investors for the possibility that the issuer might ____.

A

not make all the promised payments

73
Q

Which six factors determine the yield on a bond?

A. Liquidity

B.Taxability

C. Expected future inflation

D. Interest rate risk

E. Voting rights

F. Default risk

G. Real rate of return

A

A, B, C, D, F and G

74
Q
A

Finance (7 decks)

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