reading 42 defining elements

Question 1

who can issue a bond

Answer 1

corporate
sovereign national govt
nonsovereign govt
quasi govt ( entity of govt )
supernational entity
special purpose entity

Question 2

1.bond maturity ?
2.the bond that does not mature?
3.time remaining until maturity ?
4.bond mature in 1 year or less ?
5.bond mature after one year ?

Answer 2

1.range between 1 day to 30 years
2.is called perpetual bond
3.bond tenure or term to maturity
4.money market bond
5.capital market bond

Question 3

1. what is par value?
2. Suppose a bond has a par value of Rs. 1,000,000.
   If the bond trades for more than Rs. 1,000,000
   If the bond trades for less than Rs. 1,000,000,

Answer 3

1. principal amount that will be paid at maturity It is
   called the face value but is also called the redemption
   value or the maturity value.
2. it is said to be trading at a premium or is a premium
   bond.
   it is said to be trading at a discount or is a discount
   bond.

Question 4

1. what is a coupon?
2. what are zero-coupon bonds?

Answer 4

1. The coupon rate is the annual percentage rate ( interest ) paid to the bondholder on bonds

eg
you own a 7.00% bond of a face value of Rs. 1,000,000, and it pays an annual coupon. You will receive Rs. 70,000 on the interest payment every year and the full principal plus coupon (Rs. 1,070,000) on the maturity date.
Suppose you own a 7.00% bond of a face value of Rs. 1,000,000, and it pays a semi-annual coupon. You will receive Rs. 35,000 on the interest payment date every six months (for a full coupon rate of 7.00% annually) and the full principal plus coupon (Rs. 1,035,000) on the maturity date.

2. zero-coupon bonds (zeros) or pure discount bonds.means that these bonds are sold at a discount to the par value, and the face value is paid completely at maturity
   eg
   a zero-coupon bond with a face value of Rs. 100,000 may trade at a discounted price of Rs. 97,000. If you buy this bond, then you will receive no interest until maturity, at maturity you will get a principal amount at par value ( face value ) which is 100,000

Question 5

1. what is A plain vanilla bond?
2. what are floating-rate notes (FRNs) or floaters?

Answer 5

1. A plain vanilla bond pays a fixed interest rate on a regular basis and a principal amount at maturity
   basically the simplest form of a bond
2. floating-rate notes (FRNs) or floaters are bonds whose coupon payment depends on the market rate of interest ( which is not a fixed rate ) interest rate on such bonds is pegged to a floating rate like the LIBOR or SOFR.
   eg
   the interest rate on a floater may be quoted as “360-day LIBOR + 50 bps” - this means that the bond will pay a coupon that is 0.50% (50 bps) higher than the prevailing 360-day LIBOR. The LIBOR is the market reference rate, and a spread ( difference ) of 50 basis points has been added to the LIBOR.

Question 6

1. what is dollar-denominated bonds
2. what is dual currency bond
3. what is currency option bond

Answer 6

1. The Indian government does not always have to issue bonds that pay Indian rupees. They can issue dollar-denominated bonds. This is done to attract investors as it provides more foreign currency stability.
2. A dual currency bond pays interest in one currency and the principal in another.
3. A currency option bond allows the bondholder to choose which of the two currencies they would like to receive payments.

Question 7

what are Yield Measures?

Answer 7

The current yield or the running yield is simply the bond’s annual coupon payment divided by its current price.
the realized return on a security over a set period of time.

Question 8

1. what is bond indenture or the trust deed
2. what things trust deed of the bond will include:

Answer 8

1. Bond Indenture or the trust deed.
   This is the legal contract between the bond issuer (borrower) and bondholders (lenders). These define the obligations and restrictions of a borrower
   eg
   there will be specified dates on which coupon payments must be made or limits to how much financing a company can raise via bonds. This forms the basis for all future transactions from issuer to bondholder.
2. the trust deed of the bond will include:

> Legal information about the bond issuer.
Any assets pledged as collateral to support the
repayment of the bond.
Credit enhancements: anything that increases the
likelihood of repayment.
Negative and affirmative covenants.

Question 9

what are the sources of repayment in bond

Answer 9

The issuing entity will use the funds that have been raised to finance certain projects. These projects are typically the source of repayment of the interest and principal.
It is important to assess the source of funds so that the bondholder knows where the money will come from to earn interest on the bond. A higher-quality source of funds makes the bond more attractive.

Question 10

what is collateral

Answer 10

collateral on a bond is also specified in the bond indenture. Collateral is any asset that is pledged or put up as security for the repayment of a loan

It is also important to see which assets are posted as collateral. If a bond is unsecured or not backed by any assets, then these bonds represent a claim to the overall assets and cash flow of the issuer.

Bonds that are secured by specific assets represent a claim to only these specific assets.

SENIORITY RANKING OF DEBT SECURITY
1. Secured debt
2. senior unsecured debt
3. senior subordinated debt
4. junior subordinated debt

Question 11

1. Equipment trust certificates
2. Collateral trust bonds
3. what are mortgage-backed securities

Answer 11

1. Equipment trust certificates, for example, are debt securities backed by equipment such as railroad cars and oil drilling rigs.
   2.Collateral trust bonds are also backed by financial assets like stocks or other bonds.
2. (MBS) are the most common type of securitized bonds. Many mortgages are pooled together to make one securitized product. The cash flows from the mortgages are then used to pay the interest and principal payments on the MBS

Question 12

Internal Credit Enhancement

Answer 12

over collateralized
Cash reserve funds
excess spread accounts
i- The issuing entity can over collateralized the loans. The collateral itself has a greater value than the par value of the debt issued

ii- Cash reserve funds can be used for internal credit enhancement. This is simply a reserve of excess cash that is kept aside if there are credit losses in the underlying loans.

iii. The issuing entity can also use excess spread accounts For example, if the weighted average of the mortgages yields a 5.00% annualized rate, then the mortgage-backed security can be promised to yield a 3.00% annualized rate. This will ensure that the issuing entity holds a spread of at least 2.00%. If the mortgages underperform, then there is some cushion, and if the mortgages perform as expected, then the issuing entity can keep the spread and use it to pay off the principal on outstanding debt.

Question 13

taxation on bond income
. Ordinary bonds ?
. Government bonds ?

Answer 13

1. On ordinary bonds income from intrest paid is taxable as any ordinary income
2. For government bonds income from interest ( coupons )paid are exempt from NATIONAL INCOME TAX and often from STATE INCOME TAX

Question 14

Difference between
Capital gain income &
Ordinary income

Answer 14

Capital gain are often taxes at a lower rate then a ordinary income

And if a asset has been sold which is held for a long time can be classified as long term capital gain And it’s taxed at even lower rate

Question 15

pure discount bond / original discount issue (ODI)

Answer 15

bond issue at discount, at maturity we get full par amount and the diffrence from discounted price to par value is the intrest income
* these income is taxable intrest income ( every year )
* no additional capital gain at maturity

Question 16

1. what is Bullet structure ?
2. what is balloon structure ?
3. what is Amortizing ? & Fully Amortized, and Partially Amortized Bonds

Answer 16

1. bullet sturucture is regural **cupon intrest payment and a full payment of the principle amount at maturity ** The payment structure of a plain vanilla bond has been used
2. ballooon structure is when the final payment includes a lum sum amount in addition to final perodic intrest
3. Amortizing is a structure innwhich a perodic payments of both the intrest payment and some principle amount is paid
   * fully amotizing mens the principle is paid off by the payment of last perodic intrest amount
   * partially amotizing includes a ballon structure

Question 17

what is sinking fund provision

Answer 17

** issuer repays a specific portion of the principal amount every year throughout the bond’s life or after a specified period eg :- a 10 year bond and repayment of principe amount starts after 4th year **.

A sinking fund arrangement has a lower credit risk but higher reinvestment risk for investors.

Question 18

floting rate note
& inverse floting rate note

Answer 18

bond pays perodic payment of intrest thst depends on a current market rate of intrest
here the market rate of intrest is called as Market Referance Rate (MRR)

FRN also pays some additonal intrest margins with the reference rate
eg:- 2.3% intrest rate of LIBOR plus margin of 0.75% (that is 75 Basis points )= 3.05%

CAP & FLOOR
cap put a upper limit on how high can cupon rate go benifiting the issure
floor upts the lower limit on the minimim amount of cupon will be paid benifiting the bondholder

INVERSE FLOTING RATE NOTE
an inverse floters has a cupon rate that increases when the reference rate decreses and visa versa

Question 19

what is step up cupon bonds

Answer 19

a step-up coupon bond, which may be fixed or floating, increases by specified margins at specified dates
step up bonds have a call feature that allows the firm to reedeme the bond issue at a predetermine price and date

Question 20

Credit-Linked Coupon Bonds

Answer 20

credit link cupon bond have a provision that the cupon of the bond increases by certain amount if the credit rating of the issure falls and visa versa

Question 21

Payment-in-Kind Coupon Bonds

Answer 21

A payment-in-kind (PIK) coupon bond typically allows the issuer to pay interest in the form of additional amounts of the bond issue rather than as a cash payment. which leads to increae in the principal amount
they pay in more bond because the high debt and insufficient working cash
these bond have higher yeald because of lower credit qualtiy ( rating )

Question 22

Deferred Coupon Bonds

Answer 22

A deferred coupon bond, sometimes called a split coupon bond, pays no coupons for its first few years but then pays a higher coupon than it otherwise normally would for the remainder of its life.

Question 23

Index-Linked Bonds
1. Indexed-annuity bonds
2. Zero-coupon-indexed bonds
3. interest-indexed bonds
4. Capital-indexed bonds

Answer 23

An index-linked bond has its coupon payments and/or principal repayment linked to a specified index. eg commodity index, equity index, some other publisher index
there cupon payment is based on the changes in specific index

1. ndexed-annuity bonds are fully amortized bonds, with a perodic cupon payment
2. Zero-coupon-indexed bonds pay no coupon, so the inflation adjustment is made via the principal repayment only ( similer to zero cupon bonds )
3. Interest-indexed bonds pay a fixed nominal principal amount at maturity but an index-linked coupon during the bond’s life.
4. Capital-indexed bonds pay a fixed coupon rate, but it is applied to a principal amount that increases in line with increases in the index during the bond’s life.

Question 24

what is contingency provision

Answer 24

A contingency refers to some future event or circumstance that is possible but not certain. contengency provision in a bond indenture are reffered as embedded option
embedded means a part of a bond contract and not a seperate security
** bond with no contengency provision are straight or option free bond **

Question 25

what is Callable Bonds

Answer 25

A callable bond gives the issuer the right to redeem all or part of the bond before the specified maturity date
The primary reason why issuers choose to issue callable bonds rather than non-callable bonds is to protect themselves against a decline in interest rates

Question 26

three ways to exercise the callable bond and its function

Answer 26

1. american style - band can be called any time after the first call date
2. European style - bond can only be called on fixed perticular dates ( specified call date )
3. bermuda style- the bond can be called on specified dates after first call date often on cupon payments date ( its a mixture of american and european )

Question 27

what is Putable Bonds

Answer 27

A putable bond gives the bondholder the right to sell the bond back to the issuer at a pre-determined price on a specified date(s).
This embedded option benefits the bondholder as it protects the bondholder when the interest rates rise (i.e. when it does, bond price falls, bondholder can sell the bond back to issuer at a pre-determind price, and reinvest their cash at a higher rate).

Putable bonds offer a lower yield and is worth more than a non-putable bond.

Question 28

what are convertable bonds

Answer 28

Convertible bonds have a maturity of 5-10 years and gives the bondholder the right to exchange the bond for a specified number of common shares in issuing company.
which also gives the option to bondholder to be profited from the increse in value of commen stocks
convertible bonds have lower yields, and if the debt is converted, there is no debt to repay

Question 29

what is conversion price , rato, and value of convertable bond

once the bond are converted to common stocks

Answer 29

1. Conversion price = price per share at which bond can be converted to common stock
2. Conversion ratio = number of common shares each bond can be converted into eg a 1000 $ par alue bond is converted into a share with a price of 40$ then the conversion ratio is 1000/40 = 25 shares per bond
3. Conversion value = current share price x conversion ratio eg the price of a common stock is 50 and the conversion ratio is 25 then the conversion valve will be 25 X 50 doller = 1250 dollers

Question 30

what is warrent

Answer 30

A warrant is an “attached” rather than embedded option entitling the holder to buy the underlying stock of the issuing company at a fixed exercise price until the expiration date

Question 31

what are Contingent convertible bonds

Answer 31

Contingent convertible bonds are bonds that convert from debt to common stock automatically is a specific event occure that is, if the issuer’s share price increases

Question 32

what is underwrittenoffering

Answer 32

entire bond issue is purchase form the issuing company by the investment bank and then tis been sold to a bond dealer and the bond dealer sell it to the investor

while in case of small bond issue it can be sold by a single investment bank
and in case of large issue the lead underwriter head a SYNDICATE of investment banks establish the price of the issue and are responsable it to sell to the dealer .

Question 33

best issue offering

Answer 33

investment bank sell the bond on a commission basis they do not commit to purchase the whole issue

Question 34

shelf registration

Answer 34

a bond issue is registered with security regulator in its aggregate value

Question 35

bond settlement period

Answer 35

government (t+1)
corporate (t+2) (t+3)

Question 36

tender offer

Answer 36

issure repurchase some outstanding bonds at a specific price
eg. if a corporate bond is tippically trading at a 90% par value company will repurchase some part of it at a 93% par value

Question 37

Bank loans:

Answer 37

Bank loans: bilateral (single lender) and syndicated (group of lenders)

Question 38

commercial papers

Answer 38

commercial papers is a short term debt security with intrest cost less then the bank loan

• these fund use as a working capital or short term source of fund
• maturity less then 270 days & in eurocommercial paper is less then 364 days , its maturiy can be as short as one day

Question 39

what is Structured financial instruments

Answer 39

a structure to change the risk profile of the underlying debt security , **offten by the combination of debt security whith a derivative **

Question 40

what is Yield Enhancement Instruments

Answer 40

Yield enhancement refers to increasing risk exposure in the hope of realizing a higher expected return
A credit-linked note (CLN) is an example of a yield enhancement instrument. Specifically, it is a type of bond that pays regular coupons but whose redemption value ( value at maturity ) depends on the occurrence of a credit event, such as a rating downgrade or the default of an underlying asset. if these event does not occure you get par amount and if the event occur you will get cln minus the referance assets
here good things of cln are ther have higher cupon payment and are issued at a discounted price

Question 41

whats a captital protection instrument

Answer 41

capital protection instrument are lets se a investor have a 1000 and he invest and buys a zero cupon bond at 990 and at maturity he’ll get a 1000 back and with remaining 10 he goes and invest in some derivative contract with a call or put option . which gives the invester the upsit of if he is in profit wit the opiton he will exicute the contract and can gain some extra income
investor have a combination of zero cupon bond and a option contract for some extra gain over the gain of 10 from zero cupon bond

Question 42

what are participation instruments

Answer 42

As the name suggests, a participation instrument is one that allows investors to participate in the return of an underlying asset. Floating-rate bonds can be viewed as a type of participation instrument

Question 43

what are leveraged instruments

Answer 43

Leveraged instruments are structured financial instruments created to
have a possibility of high payoffs from small investments.
inverse floater is an example of a leveraged instrument. So, when the reference rate decreases, the coupon payment of an inverse floater increases and if referance increases the cupon decreases
inverse floters can be structured with leverage wher a small change in referance rate will be multiplied and reflected in cupon
eg. 1% change in referance will have a 2 times change in cupon that is 2% change in cupon these are called leveraged inverse floters
and if the multiplier of referance change is less then 1% (.75%) it is called as deleveraged inverse floters

Question 44

repurchase (repo) agrement
1. overnight repo
2. term repo

Answer 44

agreement where one party sell the security to a counterparty with a commetment to buy the security back at a higher price at a later date
here the intrest cost is comparitively lower thrn the bank intrest
1. repurchase agrement for over one day is overnight repo
2. repurchase agrement covering the long pweiod is called the term repo

Question 45

Relation ship betweet
bond yealt and value of the bond

Answer 45

when bond yeald decrese the present value, market value of the bond increase
& when the bond yeald increase the bond present value ,market value decrese

Question 46

what is bonds nominal rate of return

Answer 46

nominal rate is the coupon rate (i.e., the interest rate that the **issuer agrees to pay each year **until the maturity date)

Question 47

bonds / debt where assets serving as collateral are non-performing

Answer 47

A covered bond is a debt obligation backed by a segregated pool of assets called a “cover pool.” When the assets that are included in the cover pool become non-performing (i.e., the assets are not generating the promised cash flows),

Question 48

repaying securitized bonds most likely come from the

• claims-paying ability of the operating entity.
• cash flows of the project the bond is financing.
• cash flows of the underlying financial assets.

Answer 48

• cash flows of the underlying financial assets.
  because
  Securitized bonds typically rely on the cash flows generated by one or more underlying financial assets as the primary source of the contractual payments to bondholders rather than on the claims-paying ability of the operating entity.

Question 49

Corporate bond secondary market trading most often occurs:

1. on a book-entry basis.
2. on organized exchanges.
3. prior to settlement at T + 1

Answer 49

1. on a book-entry basis
   s correct. The vast majority of corporate bonds are traded in over-the-counter (OTC) markets that use electronic trading platforms through which users submit buy and sell orders. Settlement of trades in the OTC markets occurs by means of a simultaneous exchange of bonds for cash on the books of the clearing system “on a paperless, computerized book-entry basis.”

Question 50

An investor considers the purchase of a two-year bond with a 5% coupon rate, with interest paid annually. Assuming the sequence of spot rates shown below, the price of the bond is closest to:
Time-to-Maturity Spot Rates
* 1 year 3%
* 2 years 4%

1. 101.93.
2. 102.85.
3. 105.81.

Answer 50

A is correct. The bond price is closest to 101.93. The price is determined in the following manner:
PV=PMT(1+Z1)^1+PMT+FV(1+Z2)^2,

where
PV=5(1+0.03)^1+5+100(1+0.04^)2.
PV = 4.85 + 97.08 = 101.93.

Question 51

Bond Coupon Rate Time-to-Maturity Time-to-Maturity Spot Rates
X 8% 3 years 1 year 8%
Y 7% 3 years 2 years 9%
Z 6% 3 years 3 years 10%
All three bonds pay interest annually

Question
Based on the given sequence of spot rates, the price of Bond X is closest to:

95.02.
95.28.
97.63.

Answer 51

B is correct. The bond price is closest to 95.28. The formula for calculating this bond price is
PV=PMT / (1+Z1)^1+PMT / (1+Z2)^2+PMT / +FV(1+Z3)^3,

where

PV=8(1+0.08)^1+8(1+0.09)^2+8+100(1+0.10)^3.
PV = 7.41 + 6.73 + 81.14 = 95.28.

Question 52

Bond dealers most often quote the:

• flat price.
• full price.
• full price plus accrued interest.

Answer 52

A is correct.
Bond dealers usually quote the flat price. When a trade takes place, the accrued interest is added to the flat price to obtain the full price paid by the buyer and received by the seller on the settlement date. The reason for using the flat price for quotation is to avoid misleading investors about the market price trend for the bond.