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Series 7 > Chapter 3 - Municipal Bonds > Flashcards

Chapter 3 - Municipal Bonds Flashcards

1
Q

What are Muni bonds? What are they used for? How safe are they?

A

Securities issued by local or state governments. Used to fund public works or construction projects. 2nd in safety to US government and agency securities.

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2
Q

Who can issue Muni’s? What are their maturities?

A

US territories, state governments, taxing authorities/local governments.
Maturities are from 1-30 yrs, and have term, serial and balloon maturities.

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3
Q

What are the two types of Muni’s? Describe them.

A

GO’s and Revenue bonds. General Obligations are backed by the full faith and credit of the taxing power of the municipality, and are issued mainly for capital improvements. Revenue’s are backed the revenues of a facility. The revenues are generated from the debt which it was issued from.

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4
Q

For GO’s what are their sources of funding and are there debt limits?

A

For states, income taxes, fees and sales tax. For towns, property taxes, license fees and fines. Also, school and park districts may issue. There are debt limits on GO’s and to go above the limit needs voter approval, there are tax limits expressed in mills ($.001), and overlapping debts.

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5
Q

A house is worth $400,000 but is assessed at 50% for taxes. if the tax rate is 7 mills what is the property tax?

A

$400k * 50% = $200k

$200k * .007 = $1400 in property taxes

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6
Q

Why would there be protective covenants on revenue bonds?

A

There are trust indentures in place for revenue bond issues to protect the investor. The trust indenture acts on behalf of the bondholders. Will have in place covenants such as rate covenants, insurance, maintenance of facility, bond test (open or closed end) sinking fund, flow of funds etc.

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7
Q

What are some revenue bonds?

A

Industrial development bonds (purchase equip and lease), lease rental (office construction), special tax (backed by 1 or more taxes, not prop), special assessment (public improvements), NHA/PHA (section 8 bonds, back by US gov.), moral obligation

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8
Q

Why would a municipality issue notes?

A

To receive short term financing from 3mo.-3yrs and is paid when municipality receives the anticipated funds.

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9
Q

What are TAN’s and RAN’s

A

Tax anticipation notes, used to finance operations for future tax receipts. Revenue anticipation notes used to finance operations for future revenues.

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10
Q

What are some of the other Municipal notes?

A 
BAN's (bond notes, converted to long term with bond issue) 
CLN's (construction financing and housing)
GAN's (grants)
Reset Bonds (like ARM for bonds and rate is reset 6mo.)
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11
Q

What are SLGS?

A

Deals with prerefunding muni’s, the proceeds are placed in escrow and they get invested in State and Local Government Securities, which are issued directly by the treasury to muni’s and used for prerefunding only.

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12
Q

What is a bond contract and bond resolution?

A

The contract spells out everything of an issue and issuer. The resolution has protective covenants and is a contract between the issuer and trustee and has a flow of funds statement.

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13
Q

What is the OS?

A

Official Statement, which is signed by the officer and issuer and is a disclosure document for the issue. Identifies the issue purpose, credit worthiness, offering terms, summary, authorization, tax status…

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14
Q

What is the difference between the preliminary OS and the OS?

A

The preliminary is the exact same except it does not state interest rate and offering prices.

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15
Q

What happens after an issue gets a legal opinion?

A

It is offered and put up for negotiation (usually revenue bonds) or competitive bidding (Usually GO’s)

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16
Q

Banker’s will usually use which document to find out about a municipal issue?

A

Notice of sale which has all the info on the issue. Banker’s prepare the bids based on the information.

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17
Q

What are some sources that an investor could find information about municipal issues?

A

Bondbuyer - published every day and has info on primary municipal offerings and supply volumes. Large volume is higher rates and lower is lower.
Munifacts - Subscription wire service of the Bondbuyer, new issues.

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18
Q

Why would a bank or someone form a syndicate?

A

Syndicate is formed for underwriting an issue. This helps to spread the risk of underwriting to more than one firm.

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19
Q

What are the two types of syndicate accounts? Explain each.

A

Western - divided account and each member is responsible for their portion of sales.
Eastern - undivided account, after sales have occurred any remaining are given out proportionately to members to be sold.

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20
Q

When determining a bid, what is the syndicate most concerned about?

A

What is the lowest interest rate that we may provide which will still provide a competitive investment to the public and provide a profit.

21
Q

What is the scale, and how is it established?

A

The price for each maturity in the issue. Syndicate will write the scale for all maturities and establish a price with them. The scale is a list of bonds with different maturities where coupons and yields are determined right before a final bid is set.

22
Q

How does an issuer determine a winner in the bidding process?

A

The issuer gathers with its attorney’s and accountants to find out which bid has the lowest net interest cost/true interest cost. Once a winner is determined, the good faith deposit for the other bidders is returned.

23
Q

For the syndicate account who is responsible for keeping the books, recording sales proceeds, and expenses paid from the account?

A

The manager of the syndicate.

24
Q

What is the reoffering price/yield?

A

Bonds that are sold the public with a small premium to account for compensation to what the syndicate pays and what they sell for.

25
Q

What is total takedown? Give an example.

A

Portion of the spread after management fees have been assessed. Or also can be considered it is the concession plus the additional takedown. Syndicate has a 1 point spread and management fees are 1/8. Total takedown then is 7/8.

26
Q

If the syndicate uses a selling group what is their compensation called and what is the rest of the compensation to the syndicate called? Give an example.

A

Compensation to the selling group which helps the syndicate sell the issue is called the concession. The compensation to the syndicate after management fees and compensation to the selling group is additional takedown. 1 point spread, 1/8 pt of management fees, 1/2 point to the selling group (concession), and 3/8 point to the syndicate (additional takedown)

27
Q

What is the allocation priority for a municipal issue?

A

Presale orders (cust. places bid w/syndicate before their final bid), Group net (placed after bid is awarded), Designated order (usually from institutions), Member order (member firm order for own inventory).

28
Q

Which document will disclose debt already present along with the new issue debt?

A

The official statement

29
Q

What are some income sources for the municipality?

A

Property taxes, income and sales tax, fines, fees, assessments

30
Q

How do you get net total debt?

A

Total Debt - Self supporting debt (revenue debt) - sinking fund accumulations = Net direct debt
Net direct debt + overlapping debt = Net total debt

31
Q

What is a Net Revenue Pledge? Gross revenue pledge?

A

A facility that has to pay interest due to the bonds that it issued pays maintenance and expenses first, then it pays the required amount for the bonds. Gross revenue pledge is paying the bonds first then maintenance and expenses of the facility.

32
Q

List some ratios for GO’s and Revenue bonds.

A

GO’s - Debt per capita, net debt to assessed valuation (5% reasonable), net debt to estimated value, debt trend, taxes per person
Revenues - Coverage ratio (2:1 average, 5:4 for utilities)

33
Q

What is the range for ratings of short term muni notes?

A 
Moody's = MIG1 (best) -> MIG4 (acceptable)
S&P = SP-1
Fitch = F-1
34
Q

What is a basis quote?

A

Municipal securities that are priced and offered on YTM basis

35
Q

What are dollar bonds?

A

Muni’s that quoted on a dollar basis rather than YTM. Bond quoted 104 is a dollar bond. Dollar bonds are associated with term maturities while basis/YTM quotes are serial.

36
Q

A 6% bond trading at a 6.5 basis is trading at what?

A

Discount. Coupon rate is 6% and the YTM is 6.5%.

37
Q

What is a bona fide quote?

A

Dealer is willing and prepared to trade the security at a specified price and with any limitations of the quote. Firm quote.

38
Q

What are some other quotes a dealer can give? Briefly describe them.

A

Workable indication (gives bid but can amend per market conditions)
Nominal/Subject (estimation of market value, info purpose only)
Holding (time limitation)

39
Q

If a dealer has a control relationship what must they do with the investor?

A

They must tell the customer about the relationship verbally and in writing before the transaction takes place.

40
Q

When would a dealer be an agent and when would they be a principal?

A

The dealer acts as agent when they arrange trades for customers and charge commissions. They act as principal when they buy/sell securities from their own inventory and charges markups for selling and markdowns for buying.

41
Q

When a dealer acts as principal and buys a security with a markup/down where is it executed?

A

At the net price which includes the markup/down

42
Q

Which bonds won’t have a yield disclosure?

A

Variable rate bonds, bonds in default, and bonds sold at par

43
Q

Will zero’s have a yield disclosure?

A

Yes, and it must show 0%

44
Q

Is there a conflict of interest when a B/D acts as financial adviser?

A

Possibly, if the dealer is receiving compensation for advice then it must be documented before hand. Also if a firm is a financial adviser to an issuer and is the underwriter, the dealer may buy all or part of the issue based upon competitive bidding.

45
Q

What is the calculation for the tax equivalent yield? tax free equivalent yield?

A 
TEY = tax free yield/(100% - tax rate)
TFEY = corporate yield * (100% - tax rate)
46
Q

If a bank buys $1mill worth of muni’s with deposits paying 3%, what is their tax break?

A

$1mill * 3% * 80% = $24,000

Banks can use up to 80% of interest carrying cost.

47
Q

An investor in the 30% tax bracket wants to buy a municipal bond yielding 7%. To offer an equivalent yield what must a corporate bond yield be?

A

7%/(100% - 30%) = 10%

48
Q

An investor in the 30% tax bracket is looking to buy a corporate bond yielding 11%. What would be the equivalent municipal yield?

A

11% * (100% - 30%) = 7.7%

Series 7 (16 decks)

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