Chapter 12 Flashcards
(26 cards)
Bond
Security issued by a borrower that obligates the issuer to make specified payments to the holder over a specified period. A coupon bond obligates the issuer to make interest payments called coupon payments over the life of the bond, then to repay the principal at maturity.
Par value
The face value of the bond.
Coupon rate
A bond’s interest payments per dollar of par value.
Bond indenture
The document defining the contract between the bond issuer and the bondholder.
Zero coupon bonds (zeroes)
A bond paying no coupons that sells at a discount and provides payment of the principal only at maturity.
Convertible bonds
Bonds with an option allowing the bondholder to exchange the bond for a number of shares. The market conversion price is the current value of the shares for which the bond may be exchanged. The conversion premium is the excess of the bond’s value over the conversion price.
Retractable bond
A bond that gives the right to the holder to redeem early at par value, instead of holding it till maturity date.
Extendible bond
A bond giving the holder the option to redeem the bond later than the stated maturity date. See also retractable bond.
Floating rate bonds
Bonds whose interest rate is reset periodically according to a specified market rate.
Fixed income security
A security such as a bond that pays a specified cash flow over a specific period.
Yield to maturity (YTM)
The interest rate that discounts the cash flows of a security to equal the price of the security.
Premium bonds
Bonds selling above par value.
Discount bonds
Bonds selling below par value.
Realized compound return
Yield assuming that coupon payments are invested at the going market interest rate at the time of their receipt and rolled over until the bond matures.
Horizon analysis
The forecasting of the realized compound yield over various holding periods or investment horizons.
Investment rate risk
A source of offsetting risk that may be operative when interest rates change on a bond. When prices fall it reduces the value of the bond portfolio; however, reinvested coupon income may compound more rapidly at those higher rates.
Investment grade bond
Bond rated BBB and above or BAA and above. Lower rated bonds are classified as speculative grade or junk bonds.
Speculative grade bonds
Bonds rated BA or lower by Moody’s or BB or lower by Standard and Poor’s or an unrated bond.
Indenture
The document defining the contract between the bond issuer and the bondholder.
Sinking fund
A procedure that allows for the repayment of principal at maturity by calling for the bond issuer to repurchase some proportion of the outstanding bonds either in the open market or at a special call price associated with the sinking fund provisions.
Subordination clauses
Provisions in a bond indenture that restrict the issuer’s future borrowing by subordinating the new leaders’ claims on the firm to those of the existing bondholders. Claims of subordinated or junior debtholders are not paid until the prior debt is paid.
Collateral
A specific asset pledged against possible default on a bond. Mortgage bonds are backed by claims on property. Collateral trust bonds are backed by claims on other securities. Equipment obligation bonds are backed by claims on equipment.
Debenture
A bond not backed by specific collateral. Also known as unsecured bond.
Default premium
A differential in promised yield that compensates the investor for the risk inherent in purchasing a corporate bond that entails some risk of default.
