1. What is a bond?
A security that obligates the issuer to make specified payments to the holder over a period of time. 2. What is a coupon rate?
A bond's annual interest payment per dollar of par value.
The annual payment equals the coupon rate times the bond's par value. The coupon rate, maturity date, and par value of the bond are part of the bond indenture, which is the contract between the issuer and the bondholder. 3. What is a maturity value (a/k/a par and maturity)
The payment to the bondholder at the maturity of the bond.
4. Can you compute the accrued interest one abond?
For example, if 30 days have passed since the last coupon payment, and there are 182 days in the semiannual coupon period, the seller is entitled to a payment of accrued interest of of the semiannual coupon. The sale, or invoice price of the bond, which is the amount the buyer actually pays, would equal the stated price plus the accrued interest. (assuming paid semi-annually)
4. What is a catastrophe bond?
The Swiss firm Winterthur once issued a bond whose payments will be cut if a severe hailstorm in Switzerland results in extensive payouts on Winterthur policies. These bonds are a way to transfer “catastrophe risk” from insurance companies to the capital markets. Investors in these bonds receive compensation in the form of higher coupon rates for taking on the risk. But in the event of a catastrophe, the bondholders will lose all or part of their investments. 5. What is the difference between a treasury note and a treasury bond? Treasury notes are issued with original maturities between 1 and 10 years, while Treasury bonds are issued with maturities ranging from 10 to 30 years. Both bonds and notes may be purchased directly from the Treasury in denominations of only $100, but denominations of $1,000 are far more common. Both make semiannual coupon payments. 6. What is the qualitative difference between a Tbill and a tnote? Treasury notes are issued in terms of 2, 3, 5, and 10 years. Treasury bonds are issued in terms of 30 years, and were reintroduced in February 2006. 7. What is a call provision in a bond?
allowing the issuer to repurchase the bond at a specified call price before the maturity date. For example, if a company issues a bond with a high coupon rate when market interest rates are high, and interest rates later fall, the firm might like to retire the high-coupon debt and issue new bonds at a lower coupon rate to reduce interest payments. Callable bonds typically come with a period of call protection, an initial time during which the bonds are not callable. Such bonds are referred to as deferred callable bonds. To compensate investors for this risk, callable bonds are issued with higher coupons and promised yields to maturity than noncallable bonds. 8. What is a put bond?
While the callable bond gives the issuer the option to extend or retire the bond at the call date, the extendable or put bond gives this option to the bondholder. If the bond's coupon rate exceeds current market yields, for instance, the bondholder will choose to extend the bond's life. If the bond's coupon rate is too low, it will be optimal not to extend; the bondholder instead reclaims principal, which can be invested at current yields. 9. Can you describe a convertible bond?
A bond with an option allowing the bondholder to exchange the bond for a specified number of shares of common stock in the firm. 10. Can you compute the value of an annual coupon bond? Semi annual coupon bond?
As a general rule, keeping all other factors the same, the longer the maturity of the bond, the greater the sensitivity of its price to fluctuations in the interest rate. 11. What is the flat price of a bond? What is the full invoice proice? As we pointed out earlier, bond prices are typically quoted net of accrued interest. These prices, which appear in the financial press, are called flat prices. The actual invoice price that a buyer pays for the...
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