Debt Securities

Question 1

What are examples of “debt securities”?

Answer 1

A debt security is a loan that can be traded in the secondary market. Examples include promissory notes, bill of exchange, bonds, and debentures.

Question 2

Mention and describe the two major groups of debt.

Answer 2

Short-term debt securities:

• Term is less than 1 year
• Only one future cash flow
• Quoted and traded using simple interest

Long-term debt securities

• Term is more than 1 year
• More than one future cash flow
• Quoted and traded using compound interest

Question 3

Mention the types of short-term debt.

Answer 3

• Treasury notes (government debt)
• Bills of exchange (private debt; usually guaranteed by a bank)
• Promissory notes (private debt; not guaranteed by a bank)

Question 4

Mention the difference in promissory notes and bills of exchange.

Answer 4

Promissory notes are traded and priced in the same way as treasury notes, but by private entities. In practice, this is only used by big company as the risk of default is lower and hence more attractive.

Bills of exchange are traded and priced in the same principle but are issued with a bank guarantee that they will repay in the case the issuer doesn’t pay.

Question 5

Mention the type of long-term debt securities.

Answer 5

• Commonwealth government securities (“bonds”)
• State and semi-government bonds
• Debentures (private sector): secured against borrower’s assets
• Corporate bonds (private sector): not secured

Question 6

Most bonds and debentures pay a _____________, called the “coupon rate”.

Answer 6

fixed interest rate

Question 7

A higher bond yield to maturity will __________ bond price.

Answer 7

Lower

Question 8

__________ bond prices are more sensitive to yield changes.

Answer 8

Long-term; Low-coupon