29 Jun [xi]. The motivation for floating rate bonds arose out of the costly experience of the early 1980s when inflation pushed interest rates to very high levels causing
Question
[i]. The market value of any real or financial asset, including stocks, bonds, or art work, may be found by determining future cash flows and then discounting them back to the present.
a. True
b. False
[ii]. If a firm raises capital by selling new bonds, the buyer is called the “issuing firm,” and the coupon rate is generally set equal to the required rate.
a. True
b. False
[iii]. A 20-year original maturity bond with 1 year left to maturity has more interest rate risk than a 10-year original maturity bond with 1 year left to maturity. (Assume that the bonds have equal default risk and equal coupon rates.)
a. True
b. False
[iv]. Because short-term interest rates are much more volatile than long-term rates, you would, in the real world, be subject to much more interest rate risk if you purchased a 30-day bond than if you bought a 30-year bond.
a. True
b. False
[v]. For bonds, price sensitivity to a given change in interest rates generally increases as years remaining to maturity increases.
a. True
b. False
[vi]. Typically, debentures have higher interest rates than mortgage bonds primarily because the mortgage bonds are backed by assets while debentures are unsecured.
a. True
b. False
[vii]. Other things equal, a firm will have to pay a higher coupon rate on a subordinated debenture than on a second mortgage bond.
a. True
b. False
[viii]. A call provision gives bondholders the right to demand, or “call for,” repayment of a bond. Typically, calls are exercised if interest rates rise, because when rates rise the bondholder can get the principal amount back and reinvest it elsewhere at higher rates.
a. True
b. False
[ix]. Many bond indentures allow the company to acquire bonds for a sinking fund either by purchasing bonds in the market or by a lottery administered by the trustee for the purchase of a percentage of the issue through a call at face value.
a. True
b. False
[x]. A zero coupon bond is a bond that pays no interest and is offered (and subsequently sells) at par, therefore providing compensation to investors in the form of capital appreciation.
a. True
b. False
Floating rate debt
[xi]. The motivation for floating rate bonds arose out of the costly experience of the early 1980s when inflation pushed interest rates to very high levels causing sharp declines in the prices of long-term bonds.
a. True
b. False
[xii]. A junk bond is a high risk, high yield debt instrument typically used to finance a leveraged buyout or a merger, or to provide financing to a company of questionable financial strength.
a. True
b. False
[xiii]. There is an inverse relationship between bond ratings and the required return on a bond. The required return is lowest for AAA-rated bonds, and required returns increase as the ratings get lower.
a. True
b. False
Medium:
[xiv]. If the required rate of return on a bond is greater than its coupon interest rate (and rd remains above the coupon rate), the market value of that bond will always be below its par value until the bond matures, at which time its market value will equal its par value. (Accrued interest between interest payment dates should not be considered when answering this question.)
a. True
b. False
[xv]. You have just noticed in the financial pages of the local newspaper that you can buy a $1,000 par value bond for $800. If the coupon rate is 10 percent, with annual interest payments, and there are 10 years to maturity, you should make the purchase if your required return on investments of this type is 12 percent.
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