Fixed Income Securities

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Chapter 1 Questions:
3, 4, 12, 14, 15a, 15b, 16, 17, 21, 23, 24, 25
3. Who are the major types of issuers of bonds in the United States? The major types of issuers of bonds in the United States are the United States Government and its agencies, municipal governments and corporations or Special Purpose Vehicles (SPV). 4. What is the cash flow of a 10-year bond that pays coupon interest semiannually, has a coupon rate of 7%, and has a par value of $ 100,000? The periodic cash flow is $3,500 as well as the principal pay back of $100,000 coinciding with the last payment of $3,500. 12. a. What is meant by an amortizing security?

An amortizing security is created from loans that have an amortization schedule. These securities will then have a schedule of periodic principal repayments. 12. b. Why is the maturity of an amortizing security not a useful measure? The stated maturity of such securities only identifies when the final principal payment will be made. The repayment of the principal is being made over time. 13. What is a bond with an embedded option?

A provision included in the indenture of a bond that gives either the bondholder and/or issuer an option to take some action against the other party. 14. What does the call provision for a bond entitle the issuer to do? A call provision grants the issuer the right to retire the debt, fully or partially, before the scheduled maturity date. 15. a. What is the advantage of a call provision for an issuer? The advantage of a call provision to the issuer is that it allows the issuer to replace an outstanding bond issue with a new bond issue that has a lower coupon rate than the outstanding bond issue because market interest rates have declined. 15. b. What are the disadvantages of a call provision for the bondholder? The cash flow is not known for certainty. The Issuer will call the bond when interests rates lower, exposing the investor to reinvestment risk. The capital appreciation potential is reduced since the price of a callable bond may not increase above the price at which the issuer will call the bond. 16. What does the put provision for a bond entitle the bondholder to do? The put provision gives the bondholder the right to sell the issue back to the issuer at par value on designated dates. 17. What are a convertible bond and an exchangeable bond?

A convertible bond provides the bondholder the right to exchange the bond for shares of common stock. An exchangeable bond allows the bondholder to exchange the issue of a specified number of common stock shares of a corporation different from the issuer of the bond. 21. Explain whether you agree or disagree with the following statement: “Because my bond is guaranteed by an insurance company, I have eliminated credit risk.” I disagree with this this statement since an insurance company is a nongovernment third-party entity that is susceptible to financial risk. A guarantee on a bond is only as good as the entity guaranteeing it. 23. Does an investor who purchases a zero- coupon bond face reinvestment risk? There is no reinvestment risk for a zero-coupon bond since interest is paid at the maturity date. 24. What risks does a U. S. investor who purchases a French corporation’s bond whose cash flows are denominated in Euros face? The risk a U. S. investor who purchases a French corporation’s bond whose cash flows are denominated in Euros faces is that the bond has unknown U.S. dollar cash flows due to its dependency on exchange rates at the time of payments. 25. What is meant by marking a position to market?

Marking a position to market is determining the market value of a portfolio periodically and is the practice of reporting the value of assets on a market rather than the book value basis. Chapter 2 Questions:

3a, 3b, 4, 5a, 5b, 7, 9a, 9b, 9c, 9d, 9e, 11, 12
3. a. The portfolio manager of a tax- exempt fund is considering investing $ 500,000 in a debt instrument that pays an annual interest rate of 5.7%...
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