Unit 4 - Debt Securities

Question 1

• this term represents money loaned to an issuer by investors purchasing that issuer’s indebtedness
• there is a contract between the borrower (issuer) and the lender (investor)

Answer 1

Bond

Question 2

• this is the market for buying and selling short-term loan-able funds in the form of securities and loans.
• the buyer of this instrument is the lender of money and the seller is the entity borrowing the money
• these instruments have a maturity date of one year or less and are safe investments

Answer 2

Money Market Instruments

Question 3

• this is the safest money market security
• it is available in maturities of 4, 8, 13, 26, and 52 weeks.

Answer 3

Treasury Bill (T-Bill)

Question 4

• this term is a short-term unsecured paper issued by corporations sold in blocks of $100,000
• primarily used to raise working capital
• issued by companies with excellent credit ratings
• maturities range from 1 to 270 days (typically < 90 days)

Answer 4

Commercial Paper (CP)

Question 5

• this term is also referred to as Jumbo CD’s because the minimum size is $100k. The most common size is $1mm.
• this term is readily transferable and does not assess a prepayment penalty.

Answer 5

Negotiable Certificate of Deposit

Question 6

• this term is the sale of securities with an agreement to repurchase them at a higher price on an agree upon future date
• this term is always purchased at a discount

Answer 6

Repurchase Agreements

Question 7

• this term is any long-term debt instrument issued and sold outside of the country of the currency in which it is denominated.
• interest and principal are paid in Euros

Answer 7

Eurobond

Question 8

• this term is a bond issued by a corporation, sold outside the US and the issuer’s country, but the principal and interest are stated and paid in USD

Answer 8

Eurodollar Bond

Question 9

• this term is the interest rate on the face of a bond
• it is often referred to as the coupon rate

Answer 9

Nominal Yield (NY)

Question 10

• this term determines the return on investment for bond investors.
• this is calculated by dividing the annual interest in dollars by the current market price.
• this term is less for bonds at premium and is more for bonds at discount

Answer 10

Current Yield (CY)

Question 11

• this measurement takes into account the gain or loss the investor will have when the bonds are redeemed at maturity
• this term is calculated for a bond bought at premium by [annual interest - (premium / years to maturity)] divided by the average price of the bond
• if the bond is bought at a discount, then you add to the interest payment instead of subtracting.

Answer 11

Yield to Maturity (YTM)

Question 12

• this term is the rate of return the bond provides from the purchase date to the call date and price
• when the bond is selling at a premium, this calculation generates a lower return than YTM.
• this figure only applies to bonds selling at premium because it wouldn’t make sense for the issuer to purchase the bond at par value

Answer 12

Yield to Call (YTC)

Question 13

• this term is used to measure the sensitivity of a debt security when interest rates change in the marketplace
• it is a measurement of the time it takes for the cash flow (interest payments) to repay the invested principal
• inversely related to coupon rates.

Answer 13

Duration

Question 14

• AAA = bonds of highest quality
• AA = high-quality debt obligations
• A = bonds that have a strong capacity to pay interest and principal but may be susceptible to adverse effects
• BBB = Bonds that have an adequate capacity to pay interest and principal but are more vulnerable to adverse economic conditions or changing circumstances
• BB = Bonds of lower medium grade with few desirable investment characteristics
• B = Primarily speculative bonds with great uncertainties and major risk if exposed to adverse conditions
• CCC = Bonds in poor standing that may be defaulted
• C = Income bonds on which no interest is being paid
• D = bonds in default

Answer 14

Standard & Poor’s Bond Ratings

Question 15

• Aaa = bonds of highest quality
• Aa = bonds of high quality
• A = Bonds whose security of principal and interest is considered adequate but may be impaired in the future
• Baa = Bonds of medium grade that are neither highly protected nor poorly secured
• Ba = Bonds of speculative quality whose future cannot be considered well assured
• B = Bonds that lack characteristics of a desirable investment
• Caa = Bonds in poor standing that may be defaulted
• Ca = speculative bonds that are often in default
• C = bonds with little probability of any investment value (lowest rating)

Answer 15

Moody’s Ratings

Question 16

• this type of bond is generally the only quality eligible for purchase by the institutions and by fiduciaries
• this bond offers higher quality but lower yields

Answer 16

Investment Grade Bond

Question 17

• this term is also referred to as a Junk Bond
• has lower ratings and higher yields. The higher yields come with additional risk of default.

Answer 17

High-Yield Bonds

Question 18

• this term is a debt instrument where the final payment at maturity is based on the return of a single stock, a basket of stocks, or an equity index.

Answer 18

Equity-Linked Notes (ELN’s)