finance data bank

[i]. Which of the following statements is most correct?

a. All else equal, a bond that has a coupon rate of 10 percent will sell at a discount if the required return for a bond of similar risk is 8 percent.

b. Debentures generally have a higher yield to maturity relative to mortgage bonds.

c. If there are two bonds with equal maturity and credit risk, the bond which is callable will have a higher yield to maturity than the bond which is noncallable.

d. Answers a and c are correct.

e. Answers b and c are correct.

[ii]. A 10-year bond has a 10 percent annual coupon and a yield to maturity of 12 percent. The bond can be called in 5 years at a call price of $1,050 and the bond’s face value is $1,000. Which of the following statements is most correct?

a. The bond’s current yield is greater than 10 percent.

b. The bond’s yield to call is less than 12 percent.

c. The bond is selling at a price below par.

d. Both answers a and c are correct.

e. None of the above answers is correct.

[iii]. Which of the following statements is most correct?

a. Distant cash flows are generally riskier than near-term cash flows. Further, a 20-year bond that is callable after 5 years will have an expected life that is probably shorter, and certainly no longer, than an otherwise similar noncallable 20-year bond. Therefore, investors should require a lower rate of return on the callable bond than on the noncallable bond, assuming other characteristics are similar.

b. A noncallable 20-year bond will generally have an expected life that is equal to or greater than that of an otherwise identical callable 20-year bond. Moreover, the interest rate risk faced by investors is greater the longer the maturity of a bond. Therefore, callable bonds expose investors to less interest rate risk than noncallable bonds, other things held constant.

c. Statements a and b are correct.

d. Statements a and b are false.

[iv]. Which of the following statements is most correct?

a. A callable 10-year, 10 percent bond should sell at a higher price than an otherwise similar noncallable bond.

b. Two bonds have the same maturity and the same coupon rate. However, one is callable and the other is not. The difference in prices between the bonds will be greater if the current market interest rate is below the coupon rate than if it is above the coupon rate.

c. Two bonds have the same maturity and the same coupon rate. However, one is callable and the other is not. The difference in prices between the bonds will be greater if the current market interest rate is above the coupon rate than if it is below the coupon rate.

d. The actual life of a callable bond will be equal to or less than the actual life of a noncallable bond with the same maturity date. Therefore, if the yield curve is upward sloping, the required rate of return will be lower on the callable bond.

e. Corporate treasurers dislike issuing callable bonds because these bonds may require the company to raise additional funds earlier than would be true if noncallable bonds with the same maturity were used.

[v]. A company is planning to raise $1,000,000 to finance a new plant. Which of the following statements is most correct?

a. If debt is used to raise the million dollars, the cost of the debt would be lower if the debt is in the form of a fixed rate bond rather than a floating rate bond.

b. If debt is used to raise the million dollars, the cost of the debt would be lower if the debt is in the form of a bond rather than a term loan.

c. If debt is used to raise the million dollars, but $500,000 is raised as a first mortgage bond on the new plant and $500,000 as debentures, the interest rate on the first mortgage bond would be lower than it would be if the entire $1 million were raised by selling first mortgage bonds.

d. The company would be especially anxious to have a call provision included in the indenture if its management thinks that interest rates are almost certain to rise in the foreseeable future.

e. All of the statements above are false.

[vi]. Which of the following statements is most correct?

a. A firm with a sinking fund payment coming due would generally choose to buy back bonds in the open market, if the price of the bond exceeds the sinking fund call price.

b. Income bonds pay interest only when the amount of the interest is actually earned by the company. Thus, these securities cannot bankrupt a company and this makes them safer to investors than regular bonds.

c. One disadvantage of zero coupon bonds is that issuing firms cannot realize the tax savings from issuing debt until the bonds mature.

d. Other things held constant, callable bonds should have a lower yield to maturity than noncallable bonds.

e. All of the above statements are false.

[vii]. Which of the following statements is most correct?

a. A 10-year 10 percent coupon bond has less reinvestment rate risk than a 10-year 5 percent coupon bond (assuming all else equal).

b. The total return on a bond for a given year arises from both the coupon interest payments received for the year and the change in the value of the bond from the beginning to the end of the year.

c. The price of a 20-year 10 percent bond is less sensitive to changes in interest rates (i.e., has lower interest rate price risk) than the price of a 5-year 10 percent bond.

d. A $1,000 bond with $100 annual interest payments with five years to maturity (not expected to default) would sell for a discount if interest rates were below 9 percent and would sell for a premium if interest rates were greater than 11 percent.

e. Answers a, b, and c are correct statements.

[viii]. Which of the following statements is most correct?

a. All else equal, a 1-year bond will have a higher (i.e., better) bond rating than a 20-year bond.

b. A 20-year bond with semiannual interest payments has higher price risk (i.e., interest rate risk) than a 5-year bond with semiannual interest payments.

c. 10-year zero coupon bonds have higher reinvestment rate risk than 10-year, 10 percent coupon bonds.

d. If a callable bond is trading at a premium, then you would expect to earn the yield-to-maturity.

e. Statements a and b are correct.

[ix]. Which of the following Treasury bonds will have the largest amount of interest rate risk (price risk)?

a. A 7 percent coupon bond which matures in 12 years.

b. A 9 percent coupon bond which matures in 10 years.

c. A 12 percent coupon bond which matures in 7 years.

d. A 7 percent coupon bond which matures in 9 years.

e. A 10 percent coupon bond which matures in 10 years.

[x]. All treasury securities have a yield to maturity of 7 percent--so the yield curve is flat. If the yield to maturity on all Treasuries were to decline to 6 percent, which of the following bonds would have the largest percentage increase in price?

a. 15-year zero coupon Treasury bond.

b. 12-year Treasury bond with a 10 percent annual coupon.

c. 15-year Treasury bond with a 12 percent annual coupon.

d. 2-year zero coupon Treasury bond.

e. 2-year Treasury bond with a 15 percent annual coupon.

[xi]. Which of the following statements is most correct?

a. If a bond sells for less than par, then its yield to maturity is less than its coupon rate.

b. If a bond sells at par, then its current yield will be less than its yield to maturity.

c. Assuming that both bonds are held to maturity and are of equal risk, a bond selling for more than par with ten years to maturity will have a lower current yield and higher capital gain relative to a bond that sells at par.

d. Answers a and c are correct.

e. None of the answers above is correct.

[xii]. You just purchased a 10-year corporate bond that has an annual coupon of 10 percent. The bond sells at a premium above par. Which of the following statements is most correct?

a. The bond’s yield to maturity is less than 10 percent.

b. The bond’s current yield is greater than 10 percent.

c. If the bond’s yield to maturity stays constant, the bond’s price will be the same one year from now.

d. Statements a and c are correct.

e. None of the answers above is correct.

[xiii]. Which of the following statements is most correct?

a. The expected return on corporate bonds will generally exceed the yield to maturity.

b. If a company increases its debt ratio, this is likely to reduce the default premium on its existing bonds.

c. All else equal, senior debt will generally have a lower yield to maturity than subordinated debt.

d. Answers a and c are correct.

e. None of the answers above is correct.

[xiv]. Which of the following statements is most correct?

a. If a company increases its debt ratio, this is likely to reduce the default premium on its existing bonds.

b. All else equal, senior debt has less default risk than subordinated debt.

c. An indenture is a bond that is less risky than a subordinated debenture.

d. Statements a and c are correct.

e. All of the answers above are correct.

[xv]. Which of the following statements is most correct?

a. The expected return on a corporate bond is always less than its promised return when the probability of default is greater than zero.

b. All else equal, secured debt is considered to be less risky than unsecured debt.

c. An indenture is a bond that is less risky than a subordinated debenture.

d. Both a and b are correct.

e. All of the answers above are correct.

[xvi]. Which of the following statements is correct?

a. If a company is retiring bonds for sinking fund purposes it will buy back bonds on the open market when the coupon rate is less than the market interest rate.

b. A bond sinking fund would be good for investors if interest rates have declined after issuance and the investor’s bonds get called.

c. Mortgage bonds have less default risk than debentures.

d. Both a and c are correct.

e. All of the statements above are correct.

Tough:

[xvii]. Which of the following statements is most correct?

a. If a bond's yield to maturity exceeds its coupon rate, the bond's current yield must also exceed its coupon rate.

b. If a bond's yield to maturity exceeds its coupon rate, the bond's price must be less than its maturity value.

c. If two bonds have the same maturity, the same yield to maturity, and the same level of risk, the bonds should sell for the same price regardless of the bond's coupon rate.

d. Answers b and c are correct.

e. None of the answers above is correct.

[xviii]. Which of the following is not true about bonds? In all of the statements, assume other things are held constant.

a. Price sensitivity, that is, the change in price due to a given change in the required rate of return, increases as a bond's maturity increases.

b. For a given bond of any maturity, a given percentage point increase in the interest rate (r_d) causes a larger dollar capital loss than the capital gain stemming from an identical decrease in the interest rate.

c. For any given maturity, a given percentage point increase in the interest rate causes a smaller dollar capital loss than the capital gain stemming from an identical decrease in the interest rate.

d. From a borrower's point of view, interest paid on bonds is tax-deductible.

e. A 20-year zero coupon bond has less reinvestment rate risk than a 20-year coupon bond.

a. All else equal, an increase in interest rates will have a greater effect on the prices of long-term bonds than it will on the prices of short-term bonds.

b. All else equal, an increase in interest rates will have a greater effect on higher-coupon bonds than it will have on lower-coupon bonds.

c. An increase in interest rates will have a greater effect on a zero coupon bond with 10 years maturity than it will have on a 9-year bond with a 10 percent annual coupon.

d. All of the statements above are correct.

e. Answers a and c are correct.

[xix]. Which of the following statements is most correct?

a. A 10-year bond would have more interest rate risk than a 5-year bond, but all 10-year bonds have the same interest rate risk.

b. A 10-year bond would have more reinvestment rate risk than a 5-year bond, but all 10-year bonds have the same reinvestment rate risk.

c. If their maturities were the same, a 5 percent coupon bond would have more interest rate risk than a 10 percent coupon bond.

d. If their maturities were the same, a 5 percent coupon bond would have less interest rate risk than a 10 percent coupon bond.

e. Zero coupon bonds have more interest rate risk than any other type bond, even perpetuities.

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