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understanding management
Bond Evaluation Selection And Management 2nd Edition R. Stafford Johnson - Solutions
Taxable municipals are attractive investments for tax-exempt investors. Identify some of these issues by going to www.finra.org/index.htm, “Sitemap,” “Market Data,” and “Bonds” and then click the “Municipal” tab and “Advanced Bond Search.” At the search site, select
Many municipals have different features (floating rates, strips, convertible, etc.).Identify some of these issues by going to www.finra.org/index.htm, “Sitemap,”“Market Data,” and “Bonds” and then click the “Municipal” tab and “Advanced Bond Search.”
Use the “Advance Search” at http://bonds.yahoo.com to identify several municipal bonds that have certain features you select.
Official statements are important sources of information on a municipal issue.Review the official statement on one of the bonds you found in Question 2.To access the statement, go to http://emma.msrb.org/ and enter the municipal’s CUSIP in the Muni Search Box.
Find municipals for a particular state by going to www.investing inbonds.com and clicking “Municipal Market At-A-Glance.”
Find the current yields on municipal bonds given different quality ratings by going to http://bonds.yahoo.com and clicking on “Composite Bond Rates.” What is the spread between the AAA 10-year municipal and 10-year T-bond? Comment on why the spread is small or even negative.
What is the Municipal Securities Rule Board?
Describe the secondary market for municipals.
How are many large municipal bond issues sold in the primary market?
Describe the solicitation method used by fiscal agents, brokers, and dealers to sell federal agency securities in the primary market.e. Refunded bondf. Moral obligation bonds
Explain the purposes of the following:a. Fannie Mae, Ginnie Mae, and Freddie Macb. Federal Agriculture Mortgage Corporationc. Federal Farm Credit Banks Systemd. Federal Home Loan Bank Systeme. Student Loan Marketing Association, Sallie Mae
Briefly explain the history of the secondary mortgage market.
Explain the role of federal agencies in the capital formation process.
What was the 1985 repo scandal? What factors contributed to the scandal?What were some of the reforms that resulted from the scandal?
Explain the default risk associated with a repurchase agreement and how the risk can be reduced.
Explain how the following institutions use repurchase agreements:a. Commercial banksb. Security dealersc. Federal Reserve
A security dealer plans to purchase $100 million of T-notes at the next auction.She anticipates holding the securities one day and plans to finance the purchase with an overnight repurchase agreement. Currently overnight repo rates are at 3%.a. Explain how the repurchase agreement would work in
Explain how a repurchase agreement and reverse repurchase agreement are created.
What is the interdealer market?
What are on-the-run and off-the-run issues?
What are the sources of income for security dealers?
What is the difference between the English auction used by the Treasury and a Dutch auction?
Given the following information on a Treasury auction for a 91-day T-bill issue: Volume of T-bills requested by Treasury = $15B Total volume of T-bills bids submitted = $16.5B Volume of noncompetitive T-bill bids submitted = $2B Volume of competitive T-bills bids submitted = $14B, broken down as
Outline how the Treasury auction process works.
Determine the market prices of Treasury strips with maturities from .5 years to 3 years created from the three-year T-note with semiannual coupons of 3.75. Determine the values of the strips in terms of semiannual YTM equal to (Annualized YTM)/2.c. Explain the arbitrage that exists from buying the
Given the following Treasury securities and their current prices:a. Using the bootstrapping approach discussed in Chapters 2 and 4, generate a theoretical spot rate curve for maturities from .5 years to 3 years.b. Suppose the yields on the actual spot yield curve were equal to the YTMs on the
Discuss the history of the stripped security market.
Determine the annual cash flows from an investment in a four-year, 3% TIP bond with an original principal of $1,000, given a 2% inflation rate each year for the next four years.
Define and list the features of the following:a. T-billsb. T-bonds and T-notesc. Nonmarket seriesd. Treasury strip billse. TIPSf. Treasury STRIPs
What is the main feature contributing to the growth of the MTN market?
Explain the typical process a corporation would go though in selling mediumterm notes.
List some of important features of commercial paper.
List some of the features that characterize the secondary market for corporate bonds.
Define SEC Rule 144A. What is the significance of the rule?
What is a privately placed bond issue and how does it differ from an open market issue?
What is the significance of the rule?
Define SEC Rule
What is underwriting risk? Provide an example.
List the steps involved in an open market sale of a new bond issue.
Explain the steps in a bankruptcy process that are taken to determine reorganization.
Explain the distinction betweena. Insolvency and defaultb. Insolvency and illiquidity
Define event risk and the protective covenants that can be used to protect bondholders against such risk.
Discuss the types of protective covenants that can be found in a bond contract.
Discuss the nature of protective covenants.
Define each of the following bonds and their features:a. Income bondb. Participating bondc. Deferred coupon bondd. Payment-in-kind bonde. Tax-exempt bondf. Bonds with warrants g. Convertible bond h. Voting bonds i. Assumed bond j. Bonds with put options k. Credit-sensitive notes l. Extendable notes
G&P is planning to construct a $250 million manufacturing and processing plant for the national production of its patented calorie-free chips. G&P’s Marketing Research Division has estimates that G&P will gain a significant market share of the U.S. snack-food market and should maintain that share
Why are guaranteed bonds not considered risk free?
What are some of the provisions in a debenture that enhance its creditworthiness?
Define the following:a. Priority of claimb. Closed-end bondc. Open-end bondd. After-acquired property clausee. Subordinate debenturef. Guaranteed bond g. Credit enhancement
What are some of the provisions that are included in a collateral trust bond?
Explain how an equipment trust bond is created as part of a lease-and-buy-back arrangement.
What is a release and substitution provision?
Define the major types of secured bonds.
ABC is issuing a bond with a maturity of 25 years and 10% coupon. The bond is callable with the first-year call price equal to the offering price plus the coupon;thereafter the call price decreases by equal amounts to equal par at year 20;thereafter the call price is equal to par. If the bond were
What is the difference between call protection and refunding protection?
In the early 1980s, Beatrice Foods issued a 10-year, $250 million zero-coupon issue priced at $255 per $1,000 face value. What was the bond’s initial YTM?
What feature of a zero-coupon or deep discount bond does an institutional investor such as a pension fund find attractive?
What is the average life of a debt issue with a $100 million par value and 10-year maturity that has a sinking fund that makes equal payments in years 7 through 10?
Comment on the following statement: “By reducing the investor’s principal risk, a sinking fund provision benefits the investor.”
Explain some of the common features included in a sinking fund requirement.
Define and briefly explain the following terms:a. Amortizationb. Deep discount bondc. Floaterd. Protective covenantse. Serial bondf. Option redemption provision g. Deferred call feature h. Nonrefundable clause i. Debenture j. Sinking fund requirement k. Average life l. Registered bond m. Bearer bond
What are the major benefits and costs to a corporation of financing its operations with debt instead of equity?
When would the total return be invariant to interest rate change?
When would there be an inverse relation between the total return and interest rate changes?
When would there be a direct relation between the total return and interest rate changes?
How does price compression apply to callable bonds?
Define a rating transitions matrix.
Explain the difference between the default rate, recovery rate, and default loss rate.
Define liquidity risk.
Define default risk.
Define call risk.
Define market risk.
Given your duration and convexity calculations in Question 14, answer the following:a. Which bond has the greatest price sensitivity to interest rate changes?b. For an annualized 1% decrease in rates, what would be the approximate percentage change in the prices of Bond d and Bond e?c. Which bond
Calculate Macaulay’s duration, the modified duration, and the convexity of the following bonds (annualize the parameters). Assume all of the bonds pay principal at their maturity.a. Four-year, 9% coupon bond with a principal of $1,000 and annual coupon payments trading at par.b. Four-year
Assume the following yield curve for zero-coupon bonds:a. What is the Macaulay duration of each of the bonds?b. Assume your HD is three years and you want to buy bonds with one-year and four-year maturities. What percentage investment should be made in each to assure a fully immunized portfolio?
Given your answers in Question 11, comment on duration, horizon date, and bond immunization.
Calculate both Macaulay and modified durations of the eight-year, 8.5% coupon bond given a flat yield curve at 10% in Question
Suppose you have a horizon at the end of six years and buy an eight-year, 8.5%coupon bond with face value of $1,000 and annual coupon payments when the applicable yield curve is flat at 10%. What would your total return be given the following cases:a. Immediately after you buy the bond the yield
The yield curve for AA-rated bonds is presently flat at a promised YTM of 9%. You buy a 10-year, 8% coupon bond with face value of $1,000 and annual coupon payments. Suppose your horizon is at the end of four years. What would your total return be given the following cases:a. Immediately after you
Suppose you have a horizon of 10 years and bought a 10-year, 8% coupon bond at par (F = $1,000) that pays coupons semiannually and is callable at a call price of $1,100. Assume the yield curve is flat at an 8.16% effective yield(or 4% semiannual yield) and remains constant for three years. At the
However, at the start of year 5 (or end of year 4), suppose the yield curve dropped to 8% and AIF called the bond. Assume you reinvest your investment funds in a new six-year bond at par and the yield curve remains flat at 8%. What is your total return for the call period? What is your total return
The AIF Company issued a 10-year bond at par (F = $1,000) that pays a coupon of 11% on an annual basis and is callable at $1,100. Suppose you bought the bond when it was issued, and at the time of your purchase suppose the yield curve was flat and continued to remain at that level during years 1
Explain how interest rate changes affect a bond’s return.
Explain the relationship between call risk premiums and the level of interest rates in the economy.
What impact does the exercising of a call option by an issuer generally have on the investor’s rate of return earned for the period from the purchase of the bond to its call and the rate for the investor’s horizon period?
The table below shows the historical cumulative probabilities for corporate bonds with quality ratings of AA and B:a. Determine the unconditional and conditional default probabilities from the cumulative probabilities shown in the table.b. What is the relation between conditional probabilities and
Explain the McEnally-Boardman study. What were the findings of the study?How do you explain their findings?
Explain why the yield curve for lower quality bonds could be negatively sloped when the yield curves for other bonds are not.
Explain why default risk premiums widen during recessionary periods and narrow during growth periods.
Short-Answer Questions:1.If the yield curve includes investor expectations, then a positively sloped yield curve would reflect what type of expectations about future interest rates?2.If the yield curve includes investor expectations, then a negatively sloped yield curve would reflect what type of
Explain the liquidity premium theory. How could the yield curves in Questions 6 and 7 be adjusted to reflect a liquidity premium?
Using the theories of term structure of interest rates, identify several scenarios that would tend to cause the yield curve to become negatively sloped.
Given the following spot yield curve:Maturity Spot Rate 1 Year 6.0%2 Years 6.5%3 Years 7.0%4 Years 7.5%a. What is the equilibrium price of a four-year, 7% coupon bond making annual coupon payments and paying a principal of $100 at maturity?b. Using implied forward rates, estimate the yield curve
Assume the following yield curve for zero-coupon bonds with a face value of$100 and annualized compounding:a. Using implied forward rates, estimate the yield curve one year from the present (rates on one-year, two-year, three-year, and four-year bonds).b. Using implied forward rates, estimate the
Outline the impacts the following market expectations have on the yield curve:a. A flat yield curve at 8% with a market expectation of a flat yield curve at 12% one year laterb. A flat yield curve at 10% with a market expectation of a flat yield curve at 8% one year laterc. A yield curve with
Do the impacts of their actions on the yield curve complement the actions of investors?
Explain how borrowers/issuers with one-year and two-year assets to finance would respond to the market expectations case in Question
Explain pure expectations theory intuitively and with an example. In your example assume a flat yield curve with one- and two-year bonds at 6% and an expectation of next year’s yield curve being flat with one- and two-year bonds at 8%. Explain the theory only in terms of the response to the
Explain the equilibrium adjustments that would occur in the short-term and long-term bond markets for the following cases:a. Investors in corporate securities, on average, prefer short-term to long-term instruments, whereas corporations have greater financial requirements to finance long-term
Using the market segmentation theory, explain the impacts on the term structure of interest rates in the following cases:a. Economic recessionb. Economic expansionc. Expansionary open market operation in which the central bank buys S-T Treasuriesd. Treasury sale of long-term Treasury bondse.
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