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Bond fundamentals

Bond Fundamentals
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Question 1:
Explain the difference between calling a bond and bond refunding.
Question 2:
Identify the three most important determinants of the price of a bond. Describe the effect of each.
Question 3:
Given a change in the level of interest rates, discuss how two major factors will influence the relative change in price for individual bonds.
Question 4:
Briefly describe two indenture provisions that can affect the maturity of a bond.
Question 5:
Explain the differences in taxation of income from municipal bonds, from U.S. Treasury bonds, and from corporate bonds.
Question 6:
For several institutional participants in the bond market, explain what type of bond each is likely to purchase and why.
Question 7:
Why should investors be aware of the trading volume for bonds in their portfolio?
Question 8:
What is the purpose of bond ratings?
Question 9:
Based on the data in Exhibit 17.2 discuss the makeup of the Japanese bond market and how and why it differs from the U.S. market.
Exhibit 17.2:
2010 ( e )
Total Value Percent of Total
A. U.S. Dollars
Sovereign 5,309,688 34.5
Quasi & Foreign Govt. 1,939,190 12.6
Securitized/Collateralized 4,247,750 27.6
Corporate 2,801,053 18.2
High-Yield/Emerging Mkt. 1,108,109 7.1
Total 15,405,790 100.0

B. Euros
Sovereign 6,914,941 64.1
Quasi & Foreign Govt. 852,231 7.9
Securitized/Collateralized 1,326,892 12.3
Corporate 1,564,222 14.5
High-Yield/Emerging Mkt. 140,241 1.3
Total 10,798,527 100.0

C. Japanese Yen
Sovereign 4,659,743 81.4
Quasi & Foreign Govt. 429,337 7.5
Securitized/Collateralized 5,724 0.1
Corporate 635,420 11.1
High-Yield/Emerging Mkt. - 0.0
Total 5,730,224 100.0

D. Pound Sterling
Sovereign 792,517 50.2
Quasi & Foreign Govt. 202,076 12.8
Securitized/Collateralized 94,723 6.0
Corporate 472,037 29.9
High-Yield/Emerging Mkt. 17,366 1.1
Total 1,578,719 100.0

Question 10:
Discuss the positives and negatives of investing in a government agency issue rather than a straight Treasury bond.

Solution Preview

Question 1:
Explain the difference between calling a bond and bond refunding.
Call option of bond is linked with long-term corporate bonds which gives the issuing company the right to redeem or buy the bond before maturity. By doing this the company redeems the bond. This option is used to refund the bond which has higher coupon rate and issue new bonds at lower rate. Thus, calling a bond is redemption of bond before maturity whereas bond refund is issuing new bonds with lower interest rate and takes place when interest rates decline.

Question 2:
Identify the three most important determinants of the price of a bond. Describe the effect of each.
Interest rate: When interest rate increases, bond prices decrease and vice versa
Inflation: When inflation rises, bond prices tend to fall. This is so because when inflation is high proceeds at bond maturity may be worth less in current dollar terms.
Credit rating: Higher the credit rating of the issuing company, more secure the bond would be and hence price of the bond would be more.

Question 3:
Given a change in the level of interest rates, discuss how two major factors will influence the relative change in price for individual bonds.
When there is a change in level of interest rates the price of individual bonds will change in a direction opposite to the change. When interest rate changes, it affects the price of financial assets such as bonds and also impacts exchange rate. When interest rate reduces, people tend to save less and spend whatever extra money they have. It encourages higher spending in the economy as a result of which bond ...

Solution Summary

The document contains responses to standard bond related questions

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