A) The company's bonds are downgraded.
B) Market interest rates rise sharply.
C) Market interest rates decline sharply.
D) The company's financial situation deteriorates significantly.
E) Inflation increases significantly.
G) A) and C)
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A) You hold two bonds, a 10-year, zero coupon, issue and a 10-year bond that pays a 6% annual coupon. The same market rate, 6%, applies to both bonds. If the market rate rises from its current level, the zero coupon bond will experience the larger percentage decline.
B) The time to maturity does not affect the change in the value of a bond in response to a given change in interest rates.
C) You hold two bonds. One is a 10-year, zero coupon, bond and the other is a 10-year bond that pays a 6% annual coupon. The same market rate, 6%, applies to both bonds. If the market rate rises from the current level, the zero coupon bond will experience the smaller percentage decline.
D) The shorter the time to maturity, the greater the change in the value of a bond in response to a given change in interest rates, other things held constant.
E) The longer the time to maturity, the smaller the change in the value of a bond in response to a given change in interest rates.
G) A) and B)
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A) 10-year, zero coupon bond.
B) 20-year, 10% coupon bond.
C) 20-year, 5% coupon bond.
D) 1-year, 10% coupon bond.
E) 20-year, zero coupon bond.
G) A) and B)
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A) The higher the percentage of debt represented by mortgage bonds, the riskier both types of bonds will be and, consequently, the higher the firm's total dollar interest charges will be.
B) If the debt were raised by issuing $50 million of debentures and $50 million of first mortgage bonds, we could be certain that the firm's total interest expense would be lower than if the debt were raised by issuing $100 million of debentures.
C) In this situation, we cannot tell for sure how, or even whether, the firm's total interest expense on the $100 million of debt would be affected by the mix of debentures versus first mortgage bonds. The interest rate on each type of bond would increase as the percentage of mortgage bonds used was increased, but the average cost might well be such that the firm's total interest charges would not be affected materially by the mix between the two.
D) The higher the percentage of debentures, the greater the risk borne by each debenture, and thus the higher the required rate of return on the debentures.
E) If the debt were raised by issuing $50 million of debentures and $50 million of first mortgage bonds, we could be certain that the firm's total interest expense would be lower than if the debt were raised by issuing $100 million of first mortgage bonds.
G) A) and D)
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B) False
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B) False
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A) $17,436,237
B) $17,883,320
C) $18,330,403
D) $ 7,706,000
E) $ 7,898,650
G) B) and D)
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A) If the Federal Reserve unexpectedly announces that it expects inflation to increase, then we would probably observe an immediate increase in bond prices.
B) The total yield on a bond is derived from dividends plus changes in the price of the bond.
C) Bonds are generally regarded as being riskier than common stocks, and therefore bonds have higher required returns.
D) Bonds issued by larger companies always have lower yields to maturity (due to less risk) than bonds issued by smaller companies.
E) The market price of a bond will always approach its par value as its maturity date approaches, provided the bond's required return remains constant.
G) B) and D)
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B) False
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A) If a coupon bond is selling at par, its current yield equals its yield to maturity.
B) If a coupon bond is selling at a discount, its price will continue to decline until it reaches its par value at maturity.
C) If interest rates increase, the price of a 10-year coupon bond will decline by a greater percentage than the price of a 10-year zero coupon bond.
D) If a bond's yield to maturity exceeds its annual coupon, then the bond will trade at a premium.
E) If a coupon bond is selling at a premium, its current yield equals its yield to maturity.
G) C) and D)
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A) If the bonds' market interest rate remains at 10%, Bond Z's price will be lower one year from now than it is today.
B) Bond X has the greatest reinvestment risk.
C) If market interest rates decline, the prices of all three bonds will increase, but Z's price will have the largest percentage increase.
D) If market interest rates remain at 10%, Bond Z's price will be 10% higher one year from today.
E) If market interest rates increase, Bond X's price will increase, Bond Z's price will decline, and Bond Y's price will remain the same.
G) None of the above
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A) One disadvantage of zero coupon bonds is that the issuing firm cannot realize any tax savings from the use of debt until the bonds mature.
B) Other things held constant, a callable bond should have a lower yield to maturity than a noncallable bond.
C) Once a firm declares bankruptcy, it must be liquidated by the trustee, who uses the proceeds to pay bondholders, unpaid wages, taxes, and legal fees.
D) Income bonds must pay interest only if the company earns the interest. Thus, these securities cannot bankrupt a company prior to their maturity, and this makes them safer to the issuing corporation than "regular" bonds.
E) A firm with a sinking fund that gives it the choice of calling the required bonds at par or buying the bonds in the open market would generally choose the open market purchase if the coupon rate exceeded the going interest rate.
G) All of the above
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A) The bond's expected capital gains yield is zero.
B) The bond's yield to maturity is above 9%.
C) The bond's current yield is above 9%.
D) If the bond's yield to maturity declines, the bond will sell at a discount.
E) The bond's current yield is less than its expected capital gains yield.
G) B) and E)
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A) If the maturity risk premium were zero and interest rates were expected to decrease in the future, then the yield curve for U.S. Treasury securities would, other things held constant, have an upward slope.
B) Liquidity premiums are generally higher on Treasury than corporate bonds.
C) The maturity premiums embedded in the interest rates on U.S. Treasury securities are due primarily to the fact that the probability of default is higher on long-term bonds than on short-term bonds.
D) Default risk premiums are generally lower on corporate than on Treasury bonds.
E) Reinvestment risk is lower, other things held constant, on long-term than on short-term bonds.
G) A) and D)
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A) The price of Bond B will decrease over time, but the price of Bond A will increase over time.
B) The prices of both bonds will remain unchanged.
C) The price of Bond A will decrease over time, but the price of Bond B will increase over time.
D) The prices of both bonds will increase by 7% per year.
E) The prices of both bonds will increase over time, but the price of Bond A will increase at a faster rate.
G) A) and B)
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A) If a bond is selling at a discount, the yield to call is a better measure of return than is the yield to maturity.
B) On an expected yield basis, the expected capital gains yield will always be positive because an investor would not purchase a bond with an expected capital loss.
C) On an expected yield basis, the expected current yield will always be positive because an investor would not purchase a bond that is not expected to pay any cash coupon interest.
D) If a coupon bond is selling at par, its current yield equals its yield to maturity, and its expected capital gains yield is zero.
E) The current yield on Bond A exceeds the current yield on Bond B; therefore, Bond A must have a higher yield to maturity than Bond B.
G) A) and E)
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A) The yield to maturity for a coupon bond that sells at a premium consists entirely of a positive capital gains yield; it has a zero current interest yield.
B) The market value of a bond will always approach its par value as its maturity date approaches. This holds true even if the firm has filed for bankruptcy.
C) Rising inflation makes the actual yield to maturity on a bond greater than a quoted yield to maturity that is based on market prices.
D) The yield to maturity on a coupon bond that sells at its par value consists entirely of a current interest yield; it has a zero expected capital gains yield.
E) The expected capital gains yield on a bond will always be zero or positive because no investor would purchase a bond with an expected capital loss.
G) A) and E)
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B) False
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A) $1,105.69
B) $1,133.34
C) $1,161.67
D) $1,190.71
E) $1,220.48
G) A) and C)
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B) False
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