Bonds

Question 1

Discount

Answer 1

Bond will sell at a discount when Coupon Rate < YTM, Because:
* People can get higher return on investments at current
market rate

Question 2

Premium

Answer 2

Bond will sell at premium when Coupon Rate > YTM,

People cant get a higher return anywhere else

Question 3

Par value

Answer 3

A bond will be selling at par value when CR = YTM

Question 4

Zero coupon bonds

Answer 4

Pay no coupon rate
 Therefore price is always at a discount
* As the only return is capital gains
no face value at maturity

Question 5

Yield to maturity

Answer 5

Investors will only earn this if the asset is held to maturity and all
coupons/cash flows are reinvested at the YTM rate

Question 6

Yield to call

Answer 6

Maturity is first call date
 And face value is the call price

Question 7

Realised Compound Yield

Answer 7

(Ending Wealth/purchase price)1/n – 1

Question 8

Premiums

Answer 8

These will get lower in value as time goes on, This is because there are less cash flows in the future

Question 9

Discounts

Answer 9

These will get higher in value as time goes on
 This is because there is less time to weight before they get the
capital gains

Question 10

Bond prices move inversely to

Answer 10

interest rates

Question 11

Answer 11

A long term bonds price will be affected more than a short term
bonds price
 As this is true: As bond length increases, so does volatility of
price to yield
* However, as the length increase the volatility increases
at a diminishing rate (slope – note a straight line)

Question 12

Answer 12

A bond with a low coupon rate will have a greater change in price
compared to a bond with a higher coupon rate
 However this also increases at a diminishing rate (slope – note
a straight line

Question 13

the higher the coupon rate (Coupons) the higher the weight on the CF inbetween, and therefore a

Answer 13

lower duration (shorter)

Question 14

Duration for zero coupon bonds =

Answer 14

maturity

Question 15

Coupon bonds duration

Answer 15

Duration increases with maturity (at a decreasing rate)
o The higher the coupon rate, the shorter the duration

Question 16

all bonds: duration

Answer 16

The higher the YTM, the shorter the duratio

Question 17

Answer 17

YTM = actual bond price

Where as the duration is a straight line at a tangent to the bond price slope

Question 18

Immunization:

Answer 18

This is the act of setting the duration of the bond (portfolio) equal to the
investor’s investment horizon

Question 19

When interest rates rise

Answer 19

Price you can sell you bonds for falls
 But coupon payments can be reinvested at a higher rate

Question 20

Immunization eliminates interest rate risk by offsetting price risk against

Answer 20

reinvestment risk

Question 21

realised annual return will not change as the

Answer 21

interest rate does

Question 22

The higher the credit risk/default risk of a stock:

Answer 22

The higher the premium required for that bond

Question 23

Spot Rate

Answer 23

The current known/quoted yield on a zero coupon bond for n periods

Question 24

Forward Rate:

Answer 24

Yield specified now for a purchase of a zero coupon bond at a future date for
n periods from THAT date

Question 25

Expected Rate

Answer 25

The yield that is expected to be at time t+ k (k periods from now) on a zero coupon bond for n periods to maturity

Question 26

term structure

Answer 26

- Shows what is expected of the market derived by the relationship between Yields to maturity and term to maturity

Question 27

(Pure) Expectations Theory

Answer 27

This is the theory that expected (future) spot rate = Forward Rate - This is because long rates are determent by expected future short rate

Question 28

Expectations Theory’s Explanation

Answer 28

Difference in expected spot rate and forward rate:  It explains it that the loan rate (spot rate) is wrong, as it is the loan rate that will reflect future expectation

Question 29

Expectation theory: Upward Sloping: Expected Boom

Answer 29

Long term bonds have higher yields as future short term rates are expected to increase he illiquidity preference brings it higher

Question 30

Expectation theory: Downward Sloping: Expected Recession

Answer 30

* Future expected rates are lower than the current spot rates offset the illiquidity premium  Therefore the difference between expected spot rate and forward rate is more than premium

Question 31

Expectation theory: Hump: *

Answer 31

Expects it to be higher in the near future, but in the long run it will go down multiple expectations

Question 32

Expectation Theory: Flat:

Answer 32

The future is expected to be the same as current spot rates

Question 33

Market Segmentation Theory:

Answer 33

The idea that the shape of the yield curve is determined by the supply and demand of securities within each maturity range

Question 34

Market Segmentation Theory: Excess supply of bonds over demand for long-term maturities  Firms want to borrow for long term  Lenders want to lend at short term

Answer 34

Upward Sloping

Question 35

Market Segmentation Theory: Excess supply over demand for short-term maturities

Answer 35

Downward Sloping:

Question 36

Market Segmentation Theory: Excess supply over demand for intermediate-term maturities

Answer 36

Hump shape: