pier $_ Bond Valuation and Risk 1. The appropriate discount rate for valuing any bond is the a. bond's coupon rate. bb. bond's coupon rate adjusted for the expected! inflation rate over the life of the bond. ¢. Treasury bill rate with an adjustment to include a risk premium if one exists. yield that could be earned on alternative investments with similar risk and maturity. ANS: D Prs: 1 2. The valuation of honds is generally perceived to be ___ the valuation of equity securiti a. more difficult than b. casier than . justas difficult as 4. none of the above ANS: B PIs: 1 3. A bond with a $1,000 par value has an & percent annual coupon rate, It will mature in 4 years, and annual coupon payments are made at the end of each year. Present annual yields on similar bonds are 6 percent. What should be the current price? a. $1,069.31 b. $1,000.00 ©. $9712 d. $927.06 none of the above ANS: A prs: 1 4. A bond with has three years to maturity. The investor value of the bond? fen percent coupon rate bond pays interest semi snually. Par value is $1,000. The bond quired rate of return is 12 percent, What is the present a. $1,021 b. $1,000 ©. $981 d. $951 e. none of the above ANS: D prs: 1 5. A bond witha 12 percent quarterly coupon rate has a yield to maturity of 16 percent. The bond has a par value of $1,000 and matures in 20 years. Based on this information, a fair price of this bond is, s_. a 1,302 b. 763 c. 761 ad 1,299 ANS: C PTs: 1 6. From the perspective of investing institutions, the most attractive foreign bonds offer a __ and are denominated ina currency that __ over the investment horizon, a. high yield; appreciates b. high yield; remains stable ©. low yield; appreciates4d. low yields depreciates, ANS: A prs: 1 ‘The value of ___-risk securities will be relatively a. high: high bb. high: low c. low; low d._ none of the above ANS: B Prs: 1 ‘The larger the investor's __ relative to the ___, the larger the _ of a bond with a particular par value. a. discount rate; required rate of return; discount 'b, required rate of return; discount rate; discount ¢, required rate of return; discount rate; premium, none of the above ANS: B prs: 1 Ifthe coupon rate equals the required rate of return, the price of the bond. a. should be above its par value b, should be below its par value should be equal to its par value. is negligible, ANS: € Prs: 1 When financial institutions expect interest rates to __, they may _. 4. increase; sell bonds and buy short-term securities increase; sell short-term securities and buy bonds c. decrease; sell bonds and buy short-term securities d Band ANS: A prs: 1 For a given par value of a bond, the higher the investor's required rate of retum is above the coupon rate, the a. greater is the premium on the price. 'b, greater is the discount on the price. smaller is the premium on the price. 4. smaller is the discount on the price. ANS: B Prs: 1 ‘Zero coupon bonds with a par value of $1,000,000 have a maturity of 10 years, and a required rate of return of 9 percent. What is the current price? $363,212 $385,500 a b, ©. 4. e17. If the coupon rate __ the required rate of return, the price of a bond ___ par value. a. equals: equals 'b. exceeds: is less than cc. is less than; is greater than d Bande 2. none of the above ANS: A Prs: 1 As interest rates increase, long-term bond prices a. increase by a greater degree than short-term bond price: bb. increase by an equal degree as short-term bond prices c. decrease bya greater degree than short-term bond prices, 4. decrease by an equal degree as short-term bond prices. e. decrease bya smaller degree than short-term bond prices, ANS: PTs: 1 The prices of bonds with ____are most sensitive to interest rate movements. a. high coupon payments 'b. zero coupon payments ¢. small coupon payments 4d. none of the above (The size of the coupon puyment docs not affect sensitivity of bond prices to interest rate movements.) ANS: B PTs: 1 A(n) __ inthe expected level of inflation results in___ pressure on bond prices. a. increase; upward b. increase: downward c. decrease; downward none of the above ANS: B prs: 1 Other things held constant, bond prices should increase when inflationary expectations rise a True b, False ANS: F PTs: 1 An expected ___ in economic growth places __ pressure on bond prices. a. increase; downward b. increase; upward ©. decrease; downward none of the above ANS: A Prs: 1 Ifa financial institution's bond portfolio contains a relatively large portion of __ it will be. a. high coupon bonds; more favorably affected by declining interest rates 'b. zero or low coupon bonds; more favorably affected by declining interest rates zero or low coupon bonds; more favorably affected by rising interest rates high coupon bonds; completely insulated from rising interest rates ANS: B PTs: 123 24, 25 The prices of ___-coupon and ___ maturities are most sensitive to changes in the required rate of return a. low; short b. low; long ©. high; short 4d. high; long ANS: B prs: 1 An insurance company purchases corporate bonds in the secondary market with six years to maturity, ‘Total par value is $55 million. The coupon rate is 11 percent, with annual interest payments. Ifthe expected required rate of return in 4 years is 9 percent, what will the market value of the bonds be then? a $52,115,093 b. $55,341,216 ©. $55,000,000 $50,935,022 ANS: D prs: 1 A $1,000 par bond with five years to maturity is currently priced at $892, Annual interest payments are $90, What is the yield to maturity? a. 13 percent b. 12 percent eI percent 10 percent ANS: B PTs: 1 A bank buys bonds with a par value of $25 million for$24,040,000. The coupon rate is 10 percent, and the bonds pay annual payments. The bonds mature in four years. The bank wants to sell them in two years, and estimates the required rate of return in two years will be 8 percent. What will the market value of the bonds be in two years? a $24,113,418) b. $24,607,230 ©. $25,000,000 d, $25,891,632 ANS: D prs: 1 The price of short-term bonds are commonly ___ those of long-term bonds, a. more volatile than b. equally volatile as ¢, less volatile than dA and occur with about equal frequency ANS: © prs: 1 Assume that the value of liabilities equals that of earning assets. If asset portfolio durations are __ than liability portfolio durations, then the market value of assets are ___ interest-rate sensitive than the market value of liabilities. a. greater; more b. greater: equally ©. greater; less4. less; equally e BandD ANS: A Prs: 1 27. As interest rates consistently rise over a specific period, the market price of a bond you own would likely __ over this period, (Assume no major change in the bond's default ri 4. consistently increase 'b, consistently decrease ©. remain unchanged change ina direction that cannot he determined with the above information ANS: B PTs: 1 28. As interest rates consistently decline over a specific period, the market price of a bond you own would likely __ over this period, (Assume no major change in the bond's default ri a. consistently increase 'b, consistently decrease ©. remain unchanged change ina direction that cannot be determined with the above information ANS: A PTs: 1 29, Ifanalysts expect that the demand for loanable funds will increase, and the supply of loanable funds will decrease, they would most likely expect interest rates to ____and prices of existing bonds to 1b, increase; decrease ©. decrease; decrease d. decrease; increase ANS: B [ss 1 30. Ifanalysts expect that the demand for loanable funds will decrease, and the supply of loanable funds they would most likely expect interest rates to___ and prices of existing bonds to __. inerease; increase 'b, increase; decrease ©. decrease; decrease d. decrease; increase ANS: D PTS: 1 31. Consider a coupon bond that sold at par value two years ago. If interest rates are much lower now than ‘when this bond was issued, the coupon rate of that bond will likely be __ the prevailing interest rates, and the present value of the bonds will be ___ its par value. a. above; above b. above; below ©. below; below d._ below; above ANS: A, [ss 1 32. Consider a coupon bond that sold at par value two years ago. If interest rates are much higher now than when this bond was issued, the coupon rate of that bond will likely be ___ the prevailing interest rates, and the present value of the bonds will he its par value. a. above; above33. 34 35. 36. 37. 38, 1b, above; below c. below; below d. below; above ANS: © PTS: 1 Ifbond portfolio managers expect interest rates to increase in the future, they would likely __ their holdings of bonds now, which could cause the prices of bonds to__as.a result oftheir actions bb, increase; decrease ©. decrease; decrease decrease: inrease ANS: € PTs: 1 Ifbond portfolio managers expect interest rates to decrease in the future, they would likely __ their holdings of bonds now, which could cause the prices of bonds to__as.a result oftheir actions. a. inerease; inerease 'b, increase; decrease c. decrease; decrease d. decrease; increase ANS: A PTs: 1 Which of the following will most likely cause bond prices to increase? (Assume no possibility of higher inflation in the future.) a. reduced Treasury borrowing along with anticipation that money supply growth will decrease b. reduced Treasury borrowing along with anticipation that money supply growth will increase ¢. an anticipated drop in money supply growth along with increasing Treasury borrowing d._ higher levels of Treasury borrowing and corporate borrowing ANS: B Ps: 1 If the United States announces that it will borrow an additional $10 billion, this announcement will normally cause the bond traders to expect a. higher interest rates in the future, and will buy bonds now. b. higher interest rates in the future, and will sell bonds now ¢. stable interest rates in the future, and will buy bonds now. lower interest rates in the future, and will buy bonds now, ce. lower interest rates in the future, and will sell bonds now ANS: B PTS: 1 ‘The market value of long-term bonds is__ sensitive to interest rate movements; as interest rates fall, the market value of long-term bonds a. slightly; rises b. very: rises ©. very; declines slightly; declines ANS: B PTs: 1 ‘The bonds that are most sensitive to interest rate movements have a. no coupon and a short-term maturity.39. 40. 41 43, 'b, high coupons and a short-term maturity ©. high coupons and a long-term maturity. dno coupon and a long-term maturity ANS: D PTs: 1 When two securities have the same expected cash flows, the value of the ___ security will be higher than the value of the ___ security, a. high-risk; low-risk 'b, lowsrisk; high-tisk ©. high-risk; high-risk low-risk; low-risk e, none of the above ANS: B Prs: 1 Morgan would like to purchase a bond that has a par value of $1,000, pays $80 at the end of each year in coupon payments, and has 10 years remaining until maturity. Ifthe prevailing annualized yield on other bonds with similar characteristics is 6 percent, how much will Morgan pay for the bond? a. $1,000.00 b, $1147.20 ©. $856.80 d._ none of the above ANS: B PTs: 1 Sioux Financial Corp. has forecasted its bond portfolio value for one year ahead to be $105 million. In one year, it expects to receive $10,000,000 in coupon payments. The bond portfolio today is worth $101 million. What is the forecasted return of this bond portfolio” a. LOpercent b. 8.82 percent ©. 4.32 percent a. 13.80 percent enone of the above ANS: D PTs: 1 Hurricane Corp. recently purchased corporate bonds in the secondary market with a par value of $11 nillion, a coupon rate of 12 percent (with annual coupon payments), and four years until maturity. If Bullock intends to sell the bonds in two years and expects investors’ required rate of return at that time on similar investments to be 14 percent at that time, what is the expected market value of the bonds in byvo years a. $9.33 million b. $11.00 million ©. $10.64 million $9.82 million e, none of the above ANS: © PTS: 1 Assume a bond with a $1,000 par value and an 11 percent coupon rate, two years remaining to maturity, and 10 percent yield to maturity. The duration of this bond is a. 1.90 years b, 1.50 years, ©. 1.92 years.46, 47. 48, 49, 31 d. none of the above ANS: A PTs: 1 Ifthe level of inflation is expected to__, there will be __ pressure on interest rates and__ pressure on the required rate of return on bonds, a. increase: upward; downward b, decrease; upward; downward decrease; upward; upward increase: downward: upward e. increase; upward: upward ANS: E PIS: 1 Using a(n) __strategy, investors allocate funds evenly to bonds in each of several different maturity classes. a. matching, b. laddered ©. barbell interest rate enone of the above ANS: B Prs: 1 With a(n) ___ strategy, funds are allocated to bonds with a short term to maturity and bonds with @ long term to maturity. Thus, this strategy allocates some funds to achieving a relatively high return and other funds to covering liquidity needs. a. matching, b. laddered| c. barbell interest rate none of the above ANS: © Prs: 1 Which of the following bonds is most susceptible to interest rate risk from an investors perspective? a. short-term, high-coupon bb. short-term, low-coupon ¢. long-term, high-coupon long-term, zero-coupon ANS: D PTs: 1 Which of the following is most likely to cause a decrease in bond prices? a. a decrease in money supply growth and an increase in the demand for loanable funds, b. a forecast of decreasing oil prices ©. a forecast of a stronger dollar dan increase in money supply growth and no change in the demand for loanable funds ANS: A PIs: 1 If the Treasury issues an unusually large amount of bonds in the primary market, it places __on bond prices, and ___ on yields to be earned by investors that purchase bonds and plan to hold them to maturity.52. 33. 54. 35. 56. 37. 58 a. downward pressure; downward pressure ‘b, downward pressure; upward pressure ©. upward pressures upward pressure upward pressure; downward pressure ANS: B PTS: 1 Assume bond portfolio managers actively ma they would shift toward __. a. inerease: long-maturity bonds with zero-coupon rates 'b, decrease; short-maturity bonds with high-coupon rates ¢. increase: high-coupon bonds with long maturities decrease; long-maturity bonds with zero-coupon rates age their portfolios. I'they expect interest rates to __, ANS: D PTS: 1 ‘The market price of a bond is purtly determined by the timing of the payments made to bondholders. a. True b. False ANS: T Prs: 1 ‘The appropriate price of a bond is simply the sum of the cash flows to be received. a. True b. False ANS: F Prs: 1 The valuation of bonds is generally perceived to be more difficult than the valuation of equity ANS: F prs: 1 Bonds that sell below their par value are called premium bonds, a. True b False ANS: F PTs: 1 A zero-coupon bond makes no coupon payments. a. True b. False ANS: T PTs: 1 IF the coupon rate of a bondiis above the investor's required rate of return, the price of the bond should be below its par value a. True b. False ANS: F PTs: 159. 60. 61 63. 64. 65. 6. An increase in either the risk-free rate or the general level of the risk premium on bonds results in a higher required rate of return and therefore causes bond prices to increase. a. True b. False ANS: F PTs: 1 ‘The long-term, risk-free interest rate is driven by inflationary expectations, economic growth, the money supply, and the budget deficit. a. True False ANS: T PIs: 1 If the level of inflation is expected to decrease, there will be upward pre the required rate of return on bonds. a. True b. False ANS: F PIs: 1 Foreign investors anticipating dollar depreciation are less willing to hold U.S. bonds because the coupon payments will convert to less of their home currency. a. True b, False ANS: T PTS: 1 Any announcement that signals stronger than expected economic growth tends to increase bond prices. a. True b, False ANS: F PIs: 1 Bond price elasticity is the percentage change in bond prices divided by the percentage change in the required rate of return, a. True by, False ANS: T PTS: 1 As interest rates increase, prices of short-term bonds will decline by a greater degree than prices on long-term bonds. a. True b False ANS: F PIs: 1 Duration is a measure of bond price sensitivity a. True b, False ANS: T PTS: 167, 68, 69. 70. 1 n A bond portfolio containing a large portion of zero- declining interest rates than a bond portfolio contai a. True b. False upon bonds will be more favorably affected by ng no zero-coupon bonds. ANS: T PIs: 1 International diversification of bonds reduces the sensitivity of a bond portfolio to any single country's interest rate movements. a. True bs. False ANS: Prs: 1 Ina laddered strategy, investors create a bond portfolio that will generate periodic income that can match their expected periodic expenses. a. True bs. False ANS: F PTS: 1 Which of the following formulas best describes the value of a bond? * py oftend= "4S yy S G+A"* (+e) (+) » pyoftend= Per, —E—, ,_C— (+4) (+4) (8) & py ofbend= Sy Sy, Ct Fan (+4) (+k) (1+) 4 pyoftend= fer, _C , ,_ (+k) (+ky Ci+ky e. none of the above ANS: € PTs: 1 Stephanie would like to purchase a bond that has a par value of $1,000, pays $80 at the end of each year in coupon payments, and has ten years remaining until maturity. If the prevailing annualized yield ‘on other bonds with similar characteristics is 6 percent, how much will Stephanie pay for the bond? a. $1,000.00 b. $1,147.20 ©. $856.80 none of the above ANS: B PTs: 1 Julia just purchased a $1,000 par value bond with a 10 percent annual coupon rate and a life of twenty ‘years, The bond has four years remaining until maturity, and the yield to maturity is 12 percent. How much did Julia pay for the bond? a. $1,063.40 b. S100 ©. $939.25 d, none of the above ANS: C PIs: 173. To determine the present value of a bond that pays semiannual interest, which of the following adjustments should not be made to compute the price of the bond? a. The annualized coupon should be split in half, b, The annual discount rate should be divided by 2. ¢. The number of annual periods should be doubled. The par value should be split in bal. ©. All of the above adjustments have to be made ANS: D PTs: 1 74, A $1,000 par value bond, paying $50 semiannually, with an 8 percent yield to maturity and five years, remaining to maturity should sell for a. $1,000.00, b. $1,081.11 ©. $798.70, d. $880.22. enone of the above. ANS: B PTs: 1 75. If the level of inflation is expected to____, there will be ___ pressure on interest rates and pressure on the required rate of return on bonds. increase; upward; downward decrease; upward; downward decrease; upward: upward increase; upward: upward increase; downward; upward ANS: D PTs: 1 76. An economic announcement signaling __ economic growth in the future will probably cause bond prices to strong; increase weak; increase sirong; decrease Answers C and D are correct. eese ANS: E PTs: 1 77. Because of a change in the required rate of return from 11 percent to 13 percent, the bond price of a zero-coupon bond will fall from $1,000 to $860, Thus, the bond price elasticity for this bond is 0.77. =0.77. ~0.90. =1.06, none of the above. peers ANS: B PTs: 1 78. The required rate of return on acertain bond changes from 12 percent to 8 percent, causing the price of the bond to change from $900 to $1,100. The bond price elasticity of this bond is a 036. b. 0.84.c. -0.55, d. ~0.67. e. 0.67. ANS: D PTs: