Lesson 5: Fixed-Income Securities Flashcards
What is a bond issued and supported only by the general credit standing of the issuing corporation called?
A) Debenture
B) Indebenture
C) Term bond
D) Serial bond
The correct answer is (A).
A debenture is insured at the general credit of the issuer.
Beth, who lives in New York City, is in the 25 percent federal tax bracket and 6 percent state income tax bracket. Which of the following bonds that she is considering purchasing has the highest after-tax yield?
I. A Treasury bond paying 5.4 percent
II. A corporate bond paying 5.5 percent
III. A Florida municipal bond paying 4.2 percent
A) I only
B) II only
C) III only
D) I and II, which are the same and the highest
The correct answer is (A).
Corporate bonds are subject to federal and state income tax. Treasury bonds are subject to federal income tax only. Municipal bonds are not subject to federal income tax but are subject to state income tax if they are not issued by the taxpayer’s state of residence.
Treasury = 4.050%
Corporate = 3.795%
Florida Bond = 3.948%
Treasury bills are discount securities most likely because they
A) are generally considered to be default risk–free.
B) make no explicit interest payments.
C) have yields lower than their coupon rates.
D) have short maturities.
The correct answer is (B).
Treasury bills promise to pay the face value of the bill at maturity, which is typically less than one year. Since no coupon payments are made, the price of the bill almost certainly will sell for less than its face value.
Which of the following is correct regarding the reasons why an investor might consider investing in corporate bonds?
A) They have lower default risk than Treasuries.
B) They generally pay lower interest than Treasuries.
C) They generally offer some inflation protection via the semiannual payment of coupons.
D) They offer higher security of principal than equities.
The correct answer is (D).
Corporate bonds have higher default risk and higher interest rates than Treasuries. Semiannual coupon payments offer no inflation protection.
Jayla is considering purchasing a collateralized mortgage obligation (CMO). All of the following are correct EXCEPT:
A) CMOs are divided into tranches, which will permit Jayla to better match the timing of the cash flows to her needs.
B) CMOs are subject to interest-rate risk, reinvestment-rate risk, and prepayment risk.
C) CMOs are not subject to default risk.
D) CMOs can help Jayla gain exposure to the real estate market if she is not a homeowner.
The correct answer is (C).
Options (A), (B), and (D) are correct. Option (C) is not correct because CMOs are subject to default risk of the underlying mortgages.
All of the following statements regarding mortgage-backed securities (MBSes) and fixed-rate bonds are correct EXCEPT:
A) MBSes pay coupons monthly, while fixed-rate bonds pay coupons semiannually.
B) MBSes pay principal monthly, while fixed-rate bonds pay principal at maturity.
C) MBSes are subject to interest-rate risk, while fixed-rate bonds are not.
D) MBSes are subject to prepayment risk, while fixed-rate bonds are not.
The correct answer is (C).
Both fixed-rate bonds and MBSes are subject to interest-rate risk.
Which of the following statements about Treasury bills is correct?
A) T-bills are issued maturities of 4 weeks, 13 weeks, and 26 weeks only.
B) T-bills that extend beyond a calendar year are subject to taxation on the income earned both in the year of issuance and in the year of maturity.
C) T-bills are sold on a pure discount basis only.
D) The stop-yield is the lowest yield determined during a T-bill auction.
The correct answer is (C).
T-bills are typically auctioned with maturities of 4, 13, 26, or 52 weeks. T-bills are not subject to original issue discount (OID) rules since their maturities are no greater than one year. Option (C) is correct. The stop-yield is the highest yield, not the lowest yield.
Which of the following is included in the ultimate price an investor pays for a coupon bond?
I. The bond’s underlying or ‘flat’ price.
II. Any accrued interest.
A) I only
B) II only
C) Both I and II
D) Neither I nor II
The correct answer is (C).
A bond’s price includes its flat price as well as any accrued interest.
A city funds the construction of a new toll bridge by issuing bonds. Because the bridge is expected to be profitable, the city most likely funded the bridge with which type of bond?
A) A general obligation municipal bond.
B) A revenue municipal bond.
C) A private activity municipal bond.
D) A corporate bond.
The correct answer is (B).
When a city needs to fund a project that is expected to generate a profit, is it likely to issue revenue municipal bonds that pay based on the revenue generated by the project.
How do most investors gain exposure to money market securities?
A) By purchasing individual securities on the primary market.
B) By purchasing individual securities on the secondary market.
C) By depositing cash into money market deposit accounts or buying purchasing money market mutual funds.
D) None of the above.
The correct is answer is (C).
Money market deposit accounts and money market mutual funds allow investors to indirectly own many money market securities that would otherwise be difficult to invest in individually.
