Module 2

Question 1

Bond

Answer 1

A long term debt instrument in which a borrower agrees to make payments of principal and interest, on specific dates, to the holders of the bond.

Question 2

Treasury bonds

Answer 2

bonds issued by the federal government, sometimes referred to as government bonds

Question 3

Corporate bonds

Answer 3

bonds issued by corporations

Question 4

Municipal bonds

Answer 4

bonds issued by state and local government

Question 5

Foreign bonds

Answer 5

bonds issued by foreign government or by foreign
corporations

Question 6

Par value of a bond


Answer 6

face amount of the bond, which is paid at maturity

Question 7

Coupon interest rate

Answer 7

stated interest rate (generally fixed) paid by the issuer. Multiply by par value to get dollar payment of interest

Question 8

Maturity date

Answer 8

years until the bond must be repaid

Question 9

Issue date

Answer 9

when the bond was issued

Question 10

Yield to maturity

Answer 10

rate of return earned on a bond yield held until maturity

(also called the “promised yield”)

Question 11

Call provisions on bonds

Answer 11

• Allows issuer to refund the bond issue if rates decline (helps the issuer, but hurts the investor)
• Bond investors require higher yields on callable bonds.
• In many cases, callable bonds include a deferred call provision.

Question 12

Convertible bond

Answer 12

may be exchanged for common stock of the firm, at the
holder’s option

Question 13

Warrant

Answer 13

long term option to buy a stated number of shares of common
stock at a specified price.

Question 14

Putable bond

Answer 14

allows holder to sell the bond back to the company prior to
maturity.

Question 15

Income bond

Answer 15

pays interest only when interest is earned by the firm.

Question 16

Indexed bond

Answer 16

interest rate paid is based on the rate of inflation.

Question 17

The value of any financial assets a stock, a bond, a lease, or even a physical asset such as an apartment building or a piece of machinery is .

Answer 17

the present value of the cash flows the asset is expected to produce.

Question 18

Answer 18

Question 19

Answer 19

Question 20

bond sells at a premium

Answer 20

the coupon rate > the yield to maturity

Question 21

bond sells at a discount when

Answer 21

the coupon rate < the yield to maturity

Question 22

Bonds with semiannual coupons

Answer 22

Question 23

Bond Yields

Answer 23

Question 24

Yield to Maturity

Answer 24

Question 25

Bond Yields can also be viewed as…

Answer 25

Can also be viewed as the bond’s promised rate of return , which is the return that investors will receive if all of the promised payments are made.

Question 26

YTM equals the expected rate of return only when

Answer 26

(1) the probability of default is zero
(2) the bond cannot be called

Question 27

T or F

If there is some default risk or the bond may be called, there is some
chance that the promised payments to maturity will not be received.

Answer 27

True

Question 28

Yield to call

Answer 28

• If you purchase a bond that is callable and the company calls it, you do not have the option of holding it to maturity.
• Therefore, the yield to maturity would not be earned.
• For example, if a company’s 10% coupon bonds were callable and if interest rates fell from 10% to 5%, the company could call in the 10% bonds, replace them with 5% bonds, and save $100 –$50 = $50 interest per bond per year; beneficial to the company, but not to its bondholders.

Question 29

YTC is the …

Answer 29

Question 30

Changes in Bond Value over Time

What would happen to the value of these three bonds if the required rate of
return remained at 10%

Answer 30

Question 31

Changes in Bond Value over Time

Answer 31

Question 32

The two key factors that impact a bond’s riskiness

Answer 32

• Price risk
• Reinvestment risk

Question 33

Price risk

Answer 33

Question 34

Reinvestment risk

Answer 34

Question 35

Default Risk

Answer 35

Question 36

Assessing a Bond’s Riskiness

Answer 36