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Assignment 4 6/16/15 Assignment 4 1. When might a company call their callable bonds? a. If they are downgraded in credit rating b. If the general interest rate goes up from when they initially issued the bonds c. If the general interest rate goes down from when they initially issued the bonds d. If inflation jumps to a higher level e. If the firm finances deteriorates 2. Suppose you see the following rates in the marketplace: 10-year T-bond with a 4.56% yield, 10-year corporate bond with S&P rating of AAA with a 6.67% yield, and a 10-year corporate bond with S&P rating of BBB with an 8.32% yield. The rate differences are most likely the result of a. b. c. d. e. 3. Suppose that a firm wants to issue bonds at par. Which of the following would cause the firm to increase the coupon rate? a. b. c. d. e. 4. The difference in the real rate of interest The differences in inflation The differences in the likelihood of default The differences in taxes The differences in compounding periods Adding restrictive covenants on the firm Adding a call provision Adding a sinking fund Making the bond a senior debt After their credit rating is upgraded A 6% coupon bond, an 8% coupon bond, and a 10% coupon bond, all with the same maturity, bond covenants and other provisions, are issued by the same firm under equal market conditions; therefore investors use the same discount rate to determine the bond values. Further suppose interest rates will stay the same until the bonds mature and the 8% coupon is priced at par. Which of the following statement is most likely? a. b. c. d. e. The 8% bond will see its price increase over the coming year The 6% bond will see its price decrease over the coming year The 10% bond will see its price increase over the coming year The 6% bond will see its price increase over the coming year The 8% bond will see its price decrease over the coming year Business Finance Steven Freund 1 Assignment 4 5. The following entities are planning to sell bonds; indicate the one with the least default risk? a. b. c. d. e. 6. $903.04 $925.62 $948.76 $972.48 $996.79 ABC Corporation issued 20-year, 7.5% annual coupon bonds at their par value of $1,000 one year ago. Today, the market interest rate on these bonds is 5.5%. What is the current price of the bonds, given that they now have NINETEEN YEARS TO MATURITY? a. b. c. d. e. 9. bonds priced at a premium. bonds priced at a discount. bonds priced at par. all bonds. it can not be determined from given information. ABC Company's bonds mature in 8 years, have a par value of $1,000, and make an annual coupon interest payment of $65. The market requires an interest rate of 8.2% on these bonds. What is the bond's price? a. b. c. d. e. 8. a private corporation a local city government a state government the US treasury a foreign government The coupon payment is the total compensation for interest for: a. b. c. d. e. 7. 6/16/15 $1,113.48 $1,142.03 $1,171.32 $1,201.35 $1,232.15 What is the price of a zero coupon (1,000 face value) bond with FIVE years to maturity when the required rate of return is 5%? a. b. c. d. e. $677.20 $783.53 $813.35 $923.36 $1120.35 Business Finance Steven Freund 2 Assignment 4 10. What is the price of a zero coupon (1,000 face value) bond with FOUR years to maturity when the required rate of return is 5%? a. b. c. d. e. 11. Both bonds are premium bonds. Both bonds are priced at par. Bond B is a premium bond and bond A is a discount bond. Bond A is a premium bond and bond B is a discount bond. Both bonds are discount bonds. Acme Corporation's bonds have a 15-year maturity, a 7.25% semiannual coupon, and a par value of $1,000. The going interest rate is 6.20%, based on semiannual compounding. What is the bond's price? a. b. c. d. e. 13. $822.70 $836.53 $898.35 $932.55 $1006.12 You are considering two bonds. Bond A has a 8% annual coupon while Bond B has a 6% annual coupon. Both bonds are valued at the prevailing discount rate of 7% which is expected to remain constant for the life of the bond. Which of the following statements is CORRECT? a. b. c. d. e. 12. 6/16/15 $1,047.19 $1,074.05 $1,101.58 $1,129.12 $1,157.35 Generally, new bond issues are issued close to par, therefore the coupon rate is set to be similar to discount rate used by market participants looking at bonds of similar default risk, maturity, and other characteristics listed in the bond indenture. a. True b. False 14. A firm that has callable bonds is more likely to invoke the call provision and redeem the bonds if market interest rates go up. a. True b. False Business Finance Steven Freund 3 Assignment 4 15. 6/16/15 A bond that has a sinking fund has both advantages and disadvantages to the bondholder, but on balance the advantages outweigh the disadvantages, resulting in a higher yield for such bonds. a. True b. False 16. A zero coupon bond offers no coupon payments and therefore can never provide as much return to bondholders as a coupon bond. a. True b. False 17. A mortgage bond is a bond that is secured by specific assets and therefore would provide a return higher than unsecured bonds. a. True b. False 18. Junk bonds are bonds of firms that are in the middle of a financial crisis, therefore they should be avoided by prudent investors. a. True b. False 19. Suppose that a ten-year maturity bond with $1,000 face value and 10% annual coupon is available for $800. You should buy this bond if your required rate for this type of bond is 14%? Hint: Do the math and price the bond! a. True b. False 20. Suppose that a ten-year maturity bond with $1,000 face value and 10% annual coupon is available for $800. You should buy this bond if your required rate for this type of bond is 13%? Hint: Do the math and price the bond! a. True b. False Business Finance Steven Freund 4