Debt Securities

Question 1

Term Maturity

Answer 1

All principal matures at a single date in the future

Question 2

Trust Indenture Act of 1939

Answer 2

Requires corporate bond issues of $5 million or more sold interstate to be issued under a trust indenture, a legal contract between the bond issuer and a trustee representing bondholders

Question 3

Balloon Maturity

Answer 3

A repayment schedule for an issue of bonds wherein a large number of the bonds come due at a prescribed time (normally at the final maturity date)

Question 4

Yield to Call (YTC)

Answer 4

The rate of return on a bond that accounts for the difference between the bond’s acquisition cost and its proceeds, including interest income, calculated to the earliest date that the bond may be called by the issuing corporation

Question 5

Zero-coupon Bonds (zeroes)

Answer 5

An issuers debt obligation that do not make regular interest payments.

Instead, zeros are issued, or sold, at a deep discount to their face value and mature at par.

Discounted purchase price - Full face at Maturity = Return or accreted interest the investor receives.

Question 6

Funded Debt

Answer 6

Corporate bonds with maturities of five years or more

Question 7

Conversion Price

Answer 7

Stock price at which a convertible bond can be exchanged for shares of common stock.

Question 8

Ranking of Yields from Highest to Lowest

Answer 8

Discounts:
Yield to Call (YTC)
Yield to Maturity (YTM)
Current Yield (CY)
Nominal

Premiums:
Nominal
Current Yield (CY)
Yield to Maturity (YTM)
Yield to Call (YTC)

Question 10

Call Provison

Syn. Call Feature

Answer 10

The written agreement between an issuing corporation and its bondholders or preferred stockholders giving the corporation the option to redeem his senior securities at a specified price before maturity and under certain conditions.

Question 11

Income Bonds/Adjustment Bonds

Answer 11

Used when a company is reorganizing and coming out of bankruptcy.

Income bonds pay interest only if the corporation has enough income to meet the interest payment if the board of directors declares a payment.

Question 11

Convertible Bonds

Answer 11

Corporate bonds that may be exchanged for a fixed number of shares of the issuing company’s common stock.

*Convertible bonds have fixed interest payments and maturity dates

Question 12

Guaranteed Bonds

Answer 12

Backed by a company other than the issuer, such as parent company.

This backing effectively increases the issue’s safety.

Question 14

Three basic types of maturity structures

Answer 14

Term Maturity

Serial Maturity

Ballon Maturity

Question 15

Bondholders

Answer 15

Have neither ownership interest in the issuing corporation nor voice in management

Question 15

Current Yield (CY)

Answer 15

Measures a bond’s coupon payment relative to its market price.

Coupon payment / Market price = current yield

Question 15

Parity

Answer 15

Two securities are of equal dollar value

Question 16

Municipal Securities

Answer 16

Debt obligations of State and local governments and their agencies

Question 16

Serial Bond

Answer 16

A debt security issued with a maturity scheduled in which parts of the outstanding issue mature at intervals until the entire balance has been repaid.

*Most municipal bonds are serial bonds

Question 17

Conversion Ratio|Conversion Rate

Answer 17

Expresses the number of shares of stock a bond may be converted into.

Par value / Conversion price = conversion ratio

Question 18

Liquidation hierarchy of claims on company’s assets when company goes bankrupt

Answer 18

1. Unpaid wages
2. IRA (taxes)
3. Secured debt (bonds and mortgages)
4. Unsecured liabilities (debentures) and general creditors
5. Subordinate debt
6. Preferred stockholders
7. Common stockholders

Question 20

Pre-Refunded Bonds: 5 key facts

Answer 20

1. AAA rated (cannot get any safer)
2. Considered defeased
3. Funds are escrowed in government securities
4. Marketability of the pre-refunded bond increases
5. Once pre-refunded, the issue is no longer considered part of the outstanding debt of the issuer

Question 21

Refunding

Answer 21

Retiring an outstanding bond issue at maturity using money from the sale of a new offering

Question 23

Yield to Maturity (YTM)

Answer 23

Reflects the annualized return of the bond if held to maturity

Formula:

Annual interest - (premium/years to maturity)
—————————————————————
Average price of the bond

Question 24

Government National Mortgage Association (GNMA) key features

Answer 24

1. $1,000 minimums
2. Monthly interest and principal payments
3. Taxes at all levels
4. Pass-through certificates
5. Significant reinvestment risk

Question 25

Government National Mortgage Associations (GNMA) (Ginnie Mae)

Answer 25

Government owned corporation that supports the Department of Housing and Urban Development.

*Ginnie Maes are the only agency securities backed by the full faith and credit of the government.

Question 26

Collateralized Mortgage Obligations (CMOs) - Summary

Answer 26

• CMOs are not backed by the US government; they are corporate instruments
• Interest paid is taxable at all levels
• Backed by mortgage pools
• Yield more than US Treasury securities
• Considered relatively safe but are subject to interest rate risk
• Issued in $1,000 denominations and trade OTC
• PACs have a reduced prepayment and extension risk
• TACs are protected against prepayment risk but not extension risk
• PACs have lower yields than comparable TACs