HOFIS 1

Question 1

Registered bonds vs bearer Bonds

Answer 1

Type of coupons payments.

Registered bonds: payments are sent automatically.

Bearer bonds: Investors must clip coupons and send to obligor for payment.

Question 2

What are Extendible reset bonds? and what do they depend on?

Answer 2

Coupon rates are reset periodically to maintain the price of the bond at a certain level.

Depends on current interest rates and spreads.

Reset rates are based on market yields – unlike floating-rate bonds, whose coupons are based on a fixed spread over a reference rate.

Question 3

Original-issue discount bonds (OIDs)

Answer 3

Initially issued at a price substantially below par value; coupon rate is deliberately set low enough to make market value equal par value.

Question 4

What is Sinking-fund provision? and how can it be done?

Answer 4

• Issuer must retire a portion of the principal prior to maturity.
• This is done by:
  
  1. purchasing bonds in open market
  2. allowing trustee to redeem certain bonds by lottery

Question 5

Advantages of Sinking fund provision

Answer 5

1. orderly retirement of debt
2. enhances liquidity
3. prices more stable (issuer continuously buys security)

Question 6

Disadvantages of Sinking fund provision

Answer 6

1. time and effort invested in analyzing bond is wasted if bond is called vary early
2. bond may be called at par when interest rates are low
3. optional acceleration feature - the issuer can retire more than required by sinking fund (if interest rates are low)

Question 7

what is Convertible or exchangeable debt? and what is a conversion ratio?

Answer 7

• Convertible bonds can be exchanged for a given amount of common stock.
• Conversion ratio specifies the amount of common stock for one bond (might change over life of bond) Convertible bonds are usually callable (issuer can force conversion)
• Exchangeable bonds can be exchanged for common stock of another firm

Question 8

Warrants

Answer 8

Option for the investor to purchase shares of the company at preset exercise price (similar to call option)

Question 9

Difference b/w debt and preferred stocks

Answer 9

• Unlike debt, failure to pay dividends will not cause bankruptcy. (dividends can be cumulative if they must be paid at a later date)
• Unlike bond coupons, dividends payments are not tax deductible