Text Problem Sets - Week Two
Question # 4
Define the following terms: bond indenture, par value, principal, maturity, call provision, and sinking fund. Bond indenture. Bond indenture is a legal contract for a publicly traded bond. The structure of this contract outline incentives explicitly by detailing responsibilities, constraints, penalties, and oversight required. For example, contracts may specify interest and principal payment timing and amounts. Par value. Par value denotes face value or designated value of a bond or stock. Par value of a bond is typically $1,000 and the sum investors pay upon issue. It is also the sum received when they redeem the bond matures. Conversely, stock par value is frequently set at $1. In this case, par value is an accounting tool that shows no connection to the stocks’ market value. Principal. The term “principal” refers to a sum of money one borrows or invests. The face amount of a bond - the value printed on a stock or bond, or a debt balance. Principal does not encompass finance charges. Principal also describes an investor represented by a broker who executes trades on that investor’s behalf or an investor who trades for his or her own benefit. Principal also refers to a party affected by an agent’s decisions in a principal-agent relationship. Maturity. Maturity is the end of a bond’s life. In finance, maturity (or maturity date) designates the date of final payment on a financial instrument. Maturity value is the amount of money the bond issuer must repay at the end of a bond’s life. At that juncture, the principal and remaining interest payment are due. Face value and par value are terms that describe maturity value. Call provision. Call provision is an option giving bond issuers or businesses the right to repay bonds before their maturity date. It is an indenture provision designating a bond as “callable.” That provision authorizes the issuing entity to cash in the bond prior...