Section II.C. Flashcards
What is Sovereign Debt?
*bonds issued by a foreign government in their own currency
*subject to credit, political, and currency risk in addition interest rate risk
What are US Treasury Bonds?
*Bonds and notes may be purchased directly from the Treasury
–Note maturity is 1 - 10 years; Bond maturity is 10 - 30 years
*Denomination can be as small as $100, but
$1,000 is more common
*Bid price of 100:08 means 100 8/32 or
$1002.50
What is Emerging Market Debt?
*debt issued by emerging market governments
*markets with some form of market exchange and liquidity in its financial markets
*these markets are not however as advanced as developed markets
*emerging markets are not considered as efficient as developed markets, nor do they have comparable accounting or legal standards
*examples include China, Brazil, India and Russia
What are Municipal Bonds?
*a debt obligation issued by a state, county or municipality
*muni-bonds are exempt from federal taxation and from most state and local taxes (depending on the type of bond)
*there are different types of muni-bonds including general obligation bonds and revenue bonds
Question: A muni bond offers a 2.4% annual yield. Your client’s federal tax bracket is 35%. What is the pre tax
equivalent yield on this bond all else held equal and not considering state income tax?
Formula not on sheet
What are Mortgage
Backed Securities?
*pooled and packaged asset backed securities where mortgages are the underlying asset
*investors receive the principal and interest payments
*MBSs must be pooled together so that they are given acceptable ratings (i.e., top two ratings by an accredited ratings agency)
*also called “mortgage pass
throughs”
What are Corporate Bonds?
*a debt obligation, which is a legal commitment to repay an amount borrowed and any promised interest over a defined period of time
*Issued by corporate entity
*Classified as AAA or high-yield (junk)
*Backed by the corporation’s ability to make payments
*The corporation’s assets “may” be used to satisfy the claims of bondholders
Types of Corporate Bonds?
*Callable bonds
–Can be repurchased before the maturity date
*Convertible bonds
–Can be exchanged for shares of the firm’s common stock
*Puttable Bonds
–Give the holder an option to retire or extend the bond
*Floating-rate bonds
–Have adjustable coupon rate
What is Preferred Stock?
Shares characteristics of equity & fixed income
–Dividends are paid in perpetuity
–Nonpayment of dividends does not mean bankruptcy
–Preferred dividends are paid before common
–No tax break
What is Commercial Paper?
unsecured short-term debt obligations
issued by corporations with maturities of less than one year
What are the Characteristics of a Bond?
Bond Rating Companies and Categories?
What is Bond Maturity?
most commonly used in finance to describe the length of time remaining (outstanding) before a debt instrument obligation must be paid back in full to the lender
What is Duration?
What is Macaulay Duration?
The Macaulay Duration of a portfolio is the average duration of each of the assets, weighted by its allocation to the portfolio.
What Are Some Important Duration Observations?
What is Modified Duration?
Macaulay Duration (D) vs. Modified Duration (D*)?
Interest Rate Changes and Modified Duration?
Q: A 9% coupon, 16-year bond pays semi annually and has a yield to
maturity of 11%. Its duration is 8.18 years. If the market yield changes
by 32 basis points, how much change will there be in the bond’s price?
What Determines Duration? (Rules)
–Rule 1
*The duration of a zero coupon bond equals its time to maturity
–Rule 2
*Holding maturity constant, a bond’s duration is higher when the coupon rate is lower
–Rule 3
*Holding the coupon rate constant, a bond’s duration generally increases with its time to maturity
– Rule 4
* Holding other factors constant, the duration of a coupon bond is higher when the bond s yield to maturity is lower
– Rules 5
* The duration of a level perpetuity is equal to:
(1 + y ) / y
Interest Rate Sensitivity? (Rule 1 to 3)
Interest Rate Sensitivity? (Rule 4 to 6)
What is Yield to Maturity (YTM)?
