FI 455 Lecture Notes - Lecture 39: Premium Bond, Zero-Coupon Bond

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1 Jul 2019

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Bonds issued by state and local governments - subject to default risk (1 major advantage: interest earned is exempt from federal and state taxes if the bondholder is a resident of the issuing state) Bonds issued by a foreign government or a foreign corporation. All foreign corporate bonds are exposed to default risk. Some foreign government bonds are exposed to default risk. For bonds - the fv and interest payment (pmt) will be one sign and _____ will be the opposite sign. What would happen to the value of three bonds (coupon rates 13%, 10%, and. 7%) if the required rate of return remained at 10% for 10 years: 13% coupon rate; i = remained 10% -> the p(bond) would increase above par value (,000) at maturity and sell at a premium. 10% coupon rate; i = remained 10% -> the p(bond) would be/sell at par (,000) at maturity.

Related Questions

Fill in the blank using a number of terms listed below (@1 point per question).

Beta coefficient, Bonds, CAPM, Cash flows, Change, CV, Convertible bonds, Correlation, Correlation coefficient, Debenture, Discount, Diversifiable risk, Expected return, Interest rate risk, Inverted, Junk Bonds, Market risk, More, Normal, Opposite, Probability distribution, Ratings, Reinvestment rate risk, Risk, Risk averse investor, Risk premium, Standard deviation

When interest rates move up or down, bond prices move in the _________________ direction.

_____________ are referred to as non-amortized debt, which means interest is paid regularly during the term, usually semiannually, whereas repayment of principal does not occur until the maturity date.

The longer a bond has to maturity, _______________ sensitive the bondâs price is to changes in market interest rates. This is called ________________________.

Bonds with short maturities expose investors to high ____________________, which is the risk that income from a bond portfolio will decline because cash flows received from bonds will be rolled over at lower interest rates.

A bond with an annual coupon payment of $100 originally sold at par for $1,000. Market interest rates are currently 12%. This bond would be selling at a _____________ in order to compensate the purchaser for the below market coupon rate.

Once a bond has been issued, if the holder of the bond retains it until maturity the market value of the bond may ________________, but the ________________ will not.

An unsecured bond is referred to as a(n) __________________.

____________________ can generally be issued at somewhat lower interest rates than regular bonds.

Double-B and lower bonds are speculative, to be called _______________.

Bonds are assigned _____________ that reflect the probability of their going into default. The higher it is, the lower its risk and therefore its interest rate.

When the yield curve slopes upward, it is said to be _______________, because it is like this most of the time. Conversely, a downward-slopping yield curve is termed ______________.

QUESTION 1 The largest investors in corporate bonds are life insurance companies and pension funds. True False 5 points QUESTION 2 Most secondary market transactions for corporate bonds take place through dealers in the over-the-counter (OTC) market. True False 5 points QUESTION 3 The value (or price) of a bond is the present value of its expected future cash flows. True False 5 points QUESTION 4 Bond prices decline when the interest rate decreases. True False 5 points QUESTION 5 The face or par value for bonds is the amount paid to bondholders at maturity and is usually equal to $1,000. True False 5 points QUESTION 6 The yield to maturity of a bond is the discount rate that makes the present value of the coupon and principal payments equal to the price of the bond. True False 5 points QUESTION 7 Zero coupon bonds have no coupon payments so they sell for more than their par value. True False 5 points QUESTION 8 Interest rate risk is the risk that bond prices will fluctuate when the interest rate changes. True False 5 points QUESTION 9 US Treasury securities are considered risky investments because the coupon payments are unpredictable. True False 5 points QUESTION 10 Bonds are very difficult to value because their future cash flows are very difficult to predict. True False 5 points QUESTION 11 If the bond's coupon rate is equal to the market rate then the bond will sell at a price equal to its face value greater than its face value less than its face value equal to its foreign currency value, e.g., its price in British pounds 5 points QUESTION 12 When calculating the price of a bond that pays a semiannual coupon one needs to use double the number of years until maturity for the number of payments use half the annual coupon payment use half the annual rate of return as the discount rate all of the above 5 points QUESTION 13 The yield to maturity of a bond is the discount rate that makes the present value of the coupon and principal payments more than the price of the bond equal to zero equal to the price of the bond less than the price of the bond 5 points QUESTION 14 Which one of the following statements is true? All else equal long-term bonds have lower price volatility than short-term bonds. There is an inverse relation between bond prices and market interest rates. All else equal short-term bonds are more risky than long-term bonds. All else equal US government bonds are more risky than corporate bonds. 5 points QUESTION 15 An investor owns a 10-year US government bond with a 9 percent coupon rate. If the yield-to-maturity on the bond is 8 percent then this bond is selling for its par value. a discount. a premium. its face value. 5 points QUESTION 16 BA Corp is issuing a 10-year bond with a coupon rate of 8 percent and a par value of $1,000. The market interest rate on similar bonds is currently 6 percent. If the coupon payments are made annually, what is the value of this bond? 5 points QUESTION 17 Knight, Inc. has issued a 3-year bond with a $1,000 par value and an annual coupon rate of 6 percent. The current market rate of interest is 5 percent. What is the value of this bond if the coupon payments are made semiannually? 5 points QUESTION 18 Diane Carter is interested in buying a 5-year zero coupon bond with a face value of $5,000. If the market interest rate on these types of bonds is currently 9 percent, what is the current price of this bond? 5 points QUESTION 19 Rudy Sandberg wants to invest in 4-year bonds that are currently priced at $933.76. The bonds have a coupon rate of 6 percent and annual coupon payments. If the par value of the bonds is $1,000, what is the bond's yield-to-maturity? 5 points QUESTION 20 You own a 5-year bond with a face value of $1,000 and a coupon rate of 5 percent with annual payments. The bond is currently worth $810.46. If market interest rates remain unchanged, what will be the value of the bond next year when there are 4 years left until maturity?

2. For this and the next question. The City of Knights issued $10,000,000 of 9% coupon, 20-year, semiannual payment, tax-exempt municipal bonds. The bonds were issued 5 years ago. The bonds can be called now if the city chooses to do so. The call premium is 4% of the face value. New 15-year, 5%, semiannual payment bonds can be sold at par, but flotation costs on this issue would be 2% of the amount of bonds sold. Note that the combined costs associated with calling the existing bonds and paying for the flotation cost of the new issue represent the total initial outlay for the refinancing. The initial cost is $600,000. CALCULATE THE TOTAL SEMI-ANNUAL SAVINGS ASSOCIATED WITH REFINANCING

120,000

30,000

none of the above

3. What is the net present value of the refunding? Note that cities pay no income taxes. Hence, taxes are not relevant in this analysis.

$453,443

$499,921

$240,000

$551,163

none of the above

4. For this and the next 2 question. New York Waste (NYW) is considering refunding a $50,000,000, annual payment, 14.5% coupon, 30-year bond issue that was issued 5 years ago. It has been amortizing $3 million of flotation costs on these bonds over their 30-year life. The company could sell a new issue of 25-year bonds at an annual interest rate of 11.67% in today's market. A call premium of 14% would be required to retire the old bonds, and flotation costs on the new issue would be $3 million. The company's marginal tax rate is 40%. The new bonds would be issued when the old bonds are called. The initial cost of the refunding is $6,200,000?

Calculate the after-tax annual INTEREST SAVINGS if the refunding takes place.

$664,050

$768,000

$849,000

$930,369

none of the above

5. What is the NPV if the bods are refunded today?

$1,746,987

$1,838,933

$1,935,719

$3,785,322

6. A callable bond with an original maturity of 20 years now has 15 years to mature. The bond was originally issued at par with a coupon rate of 12% and semiannual interest payments. The bond can be called 7 years from now at a 20 percent call premium. Calculate this bondâs yield-to-call and yield-to-maturity if the current price is $860.

YTC = 14.29%; YTM = 17,09%

YTC = 17.09%; YTM = 14.29%

None of the above

7. Which of the following statements is most correct?

Junk bonds typically carry a lower yield to maturity than investment grade bonds

A debenture is a secured bond which is backed by some or all of the firmâs fixed assets

All else equal, subordinated bonds typically carry lower yields than mortgage bonds

None of the above statements is correct

8. Assume you wish to purchase a bond with a 30-year maturity, a coupon rate of 10 percent, a face value of $1,000, and semiannual interest payments. If you require 9% yield to maturity, what is the present value of the bond?

$905.35

$1,102.74

$1,103.19

$1,149.63

9. A bond has a coupon rate of 8%, a maturity of 10 years, a face value of $1,000, and makes semiannual payments. If the price is $9.34.96, what is the annual nominal yield to maturity on the bond?

8.39%

9.64%

4.41%

none of the above

FI 455 Lecture Notes - Lecture 39: Premium Bond, Zero-Coupon Bond

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