Unit 13: Fixed Income

Question 1

Long-term debt duration

Answer 1

minimum of 5 years, but usually 20-30 years

Question 2

Who are the 3 major issuers of fixed income?

Answer 2

1. U.S. government
2. Corporations
3. State governments/municipalities

Question 3

Par/face value is always

Answer 3

$1,000

Question 4

Bond pricing for corporations and municipalites

Answer 4

quoted as a % of par

1/8 = $1.25
1/4 = $2.50

Question 5

Bond pricing for government

Answer 5

• quoted in points
  90. 8 = $902.50

.8 means 8/32

Each .1 represents 1/32 of $10 = ($0.3125)

Question 6

Treasury Inflation Protection Securities (TIPS)

Answer 6

• Helps protect investors against purchasing power risk
• Issues with a fixed interest rate, but the principal amount is adjusted semiannually
• Interest payments and increases in principal are subject to federal tax only
• Real rate of return will always be the coupon

Question 7

S&P’s investment grade ratings:

Answer 7

AAA, AA, A, BBB

Question 8

Moody’s investment grade ratings:

Answer 8

Aaa, Aa, A, Baa

Question 9

Key points about convertible securities:

Answer 9

• They give the owner the opportunity to participate in the company’s growth through the ability to acquire common stock
• The coupon rate will be lower than non-convertibles of the same quality. (If a question asks about choosing an investment for income, you don’t select the convertible security.)
• They offer the potential stability of a debt security with the upside potential of an equity security
• Convertible securities generally sell at a price somewhat above the parity price

Question 10

Nominal Yield

Answer 10

coupon rate, a 5% coupon rate pays $50 per year (2 payments of $25)

Question 11

Current yield

Answer 11

annual interest in dollars / current market price

Question 12

Yield to Maturity/Basis

Answer 12

annual interest - (premium/years to maturity)
/
average price of the bond

Question 13

YTM is also called:

Answer 13

the market-driven yield because it reflects the internal rate of return from the bond investment.

Question 14

The longer the duration,

Answer 14

the greater the market price movement.

Question 15

The duration of a zero-coupon bond will always:

Answer 15

equal its length to maturity.

Question 16

The longer a bond’s maturity,

Answer 16

the longer the bond’s duration.

Question 17

For coupon bonds, duration is always

Answer 17

less than the bond’s maturity.

Question 18

The longer a bond’s duration,

Answer 18

the more its value will change for a 1% change in interest rates.

Question 19

Convexity

Answer 19

the measurement of the curve that results when plotting a bond’s price movements in response to changes in interest rates

convexity follows a curve

Question 20

Comparing two bonds, the one with the higher convexity will show:

Answer 20

a greater price increase when yields fall.

Question 21

If we find two bonds with the same duration, the one with the higher convexity offers

Answer 21

greater interest rate risk protection.

Question 22

Which of the following is the most useful in determining the price volatility of a bond to a significant change in interest rates?

Answer 22

Convexity

Question 23

Discount Cash Flow

Answer 23

Estimate the value of a fixed-income security by looking at the future expected cash flow and discounting it to arrive at a present value.

Question 24

The higher the discounted cash flow,

Answer 24

the more value the investment.

Question 25

An analyst would use the discounted cash flow method in an attempt to find:

Answer 25

the fair value of a security

Question 26

When doing cash flow analysis on a mortgage-backed pass-through security,

Answer 26

you would want to know the average maturities.