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Questions and Answers
What is the original amount of the bond issue being planned by Vancouver Development Company (VDC)?
What is the original amount of the bond issue being planned by Vancouver Development Company (VDC)?
- $10 million
- $150 million
- $50 million
- $100 million (correct)
What is the annual interest rate on the bonds being issued by VDC?
What is the annual interest rate on the bonds being issued by VDC?
- 10%
- 6%
- 18%
- 12% (correct)
How often are the interest payments made on the bonds issued by VDC?
How often are the interest payments made on the bonds issued by VDC?
- Monthly
- Semiannually (correct)
- Annually
- Quarterly
What percentage of the original bond issue is retired each year by the sinking fund?
What percentage of the original bond issue is retired each year by the sinking fund?
If VDC chooses to call bonds at par, what is the maximum percentage of the original issue that can be called each year?
If VDC chooses to call bonds at par, what is the maximum percentage of the original issue that can be called each year?
What is the expected annual interest rate on the government bonds that VDC plans to buy with the sinking fund proceeds?
What is the expected annual interest rate on the government bonds that VDC plans to buy with the sinking fund proceeds?
If VDC sets up its sinking fund so that equal annual amounts are paid into a sinking fund trust, what will be the total amount accumulated in the trust at the end of 10 years?
If VDC sets up its sinking fund so that equal annual amounts are paid into a sinking fund trust, what will be the total amount accumulated in the trust at the end of 10 years?
What factors might cause the annual sinking fund payments to be higher or lower than the initially calculated amount?
What factors might cause the annual sinking fund payments to be higher or lower than the initially calculated amount?
What is the primary purpose of a sinking fund provision?
What is the primary purpose of a sinking fund provision?
Which type of bond has the lowest priority in the event of a company's liquidation?
Which type of bond has the lowest priority in the event of a company's liquidation?
What does the yield to maturity (YTM) indicate?
What does the yield to maturity (YTM) indicate?
What characterizes a zero-coupon bond?
What characterizes a zero-coupon bond?
When bond prices rise, what happens to yield?
When bond prices rise, what happens to yield?
Which aspect is considered as price risk?
Which aspect is considered as price risk?
What is an investment-grade bond typically characterized by?
What is an investment-grade bond typically characterized by?
A callable bond provides the issuer with what advantage?
A callable bond provides the issuer with what advantage?
What was the original yield to maturity (YTM) for Pennington's bonds, given that they were sold at par?
What was the original yield to maturity (YTM) for Pennington's bonds, given that they were sold at par?
What is the annual coupon payment for Pennington's bonds if the coupon rate is 12% on a $1,000 face value?
What is the annual coupon payment for Pennington's bonds if the coupon rate is 12% on a $1,000 face value?
What is the current yield when the bond price is $1,182.56 and the annual coupon payment is $120?
What is the current yield when the bond price is $1,182.56 and the annual coupon payment is $120?
How is capital gains yield calculated in relation to total yield and current yield?
How is capital gains yield calculated in relation to total yield and current yield?
If Pennington's bond has a YTM of 14% and a current yield of 13.09%, what is the capital gains yield?
If Pennington's bond has a YTM of 14% and a current yield of 13.09%, what is the capital gains yield?
What is the bond price on July 1, 2011, if the inputs for the financial calculator are N=13, I/YR=7.75%, PMT=60, FV=1000?
What is the bond price on July 1, 2011, if the inputs for the financial calculator are N=13, I/YR=7.75%, PMT=60, FV=1000?
What total value do you obtain when you add the coupon payment to the bond price on the next interest payment date?
What total value do you obtain when you add the coupon payment to the bond price on the next interest payment date?
What is the formula used to find the current yield?
What is the formula used to find the current yield?
What is the present value (PV) of the investment if the future value (FV) is $919.76 with an interest rate of 7.75%?
What is the present value (PV) of the investment if the future value (FV) is $919.76 with an interest rate of 7.75%?
How much of the total amount of $875.11 represents accrued interest?
How much of the total amount of $875.11 represents accrued interest?
If VDC purchases bonds on the open market, what will be the sinking fund payment if the bonds are selling less than par?
If VDC purchases bonds on the open market, what will be the sinking fund payment if the bonds are selling less than par?
What results in the decline of debt service requirements?
What results in the decline of debt service requirements?
What will be the total cash bond service requirement for the first year?
What will be the total cash bond service requirement for the first year?
How is interest calculated for the bonds if the interest rate is 12%?
How is interest calculated for the bonds if the interest rate is 12%?
What would be the interest payment in period 2 for $95 of outstanding bonds at 12% interest?
What would be the interest payment in period 2 for $95 of outstanding bonds at 12% interest?
What is the breakdown of the total payment of $875.11 in relation to bond's value?
What is the breakdown of the total payment of $875.11 in relation to bond's value?
Flashcards
Sinking Fund
Sinking Fund
A fund established to set aside money over time for a specific purpose, such as repaying a bond.
Callable Bonds
Callable Bonds
Bonds that can be redeemed (called) by the issuer before their maturity date at a specified price.
Debt Service Requirements
Debt Service Requirements
The cash needed for periodic interest and principal payments on debt.
Annual Sinking Fund Payment
Annual Sinking Fund Payment
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Proceeds from Investments
Proceeds from Investments
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Interest Rate Impact
Interest Rate Impact
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Government Bonds
Government Bonds
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Open Market Operations
Open Market Operations
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Bond
Bond
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Coupon Payment
Coupon Payment
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Yield to Maturity (YTM)
Yield to Maturity (YTM)
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Current Yield
Current Yield
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Discount Bond
Discount Bond
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Fixed-rate Bond
Fixed-rate Bond
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Call Provision
Call Provision
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Capital Gains Yield
Capital Gains Yield
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Present Value (PV)
Present Value (PV)
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Accrued Interest
Accrued Interest
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Basic Value of Bond
Basic Value of Bond
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Sinking Fund Payment
Sinking Fund Payment
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Semiannual Payment
Semiannual Payment
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Total Bond Service
Total Bond Service
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Bond Valuation Function
Bond Valuation Function
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YTM
YTM
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Total Return
Total Return
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Bond Price Calculation
Bond Price Calculation
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Periods to Maturity
Periods to Maturity
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Interest Payment Date
Interest Payment Date
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Study Notes
Key Terms
- Bond: A debt security representing a loan made by an investor to a borrower (company or government).
- Treasury bond: A bond issued by a national government.
- Corporate bond: A bond issued by a corporation.
- Municipal bond: A bond issued by a state, local government, or municipality.
- Foreign bond: A bond issued by a foreign government or corporation.
- Par value: The face value of a bond, which is the amount the issuer repays at maturity.
- Maturity date: The date on which the principal amount of a bond is repaid.
- Original maturity: The original term of a bond.
- Coupon payment: Periodic interest payments made to bondholders.
- Coupon interest rate: The annual interest rate paid on a bond.
- Fixed-rate bond: A bond with a fixed interest rate throughout its life.
- Floating-rate bond: A bond with an interest rate that adjusts periodically based on a benchmark rate.
- Zero coupon bond: A bond that does not pay periodic interest but trades at a discount to its face value.
- Original issue discount (OID) bond: A bond that trades at a discount to its face value due to its zero or low coupon interest rate.
- Call provision: Gives the issuer the option to repay the bond before its maturity date.
- Sinking fund provision: A requirement for the issuer to periodically retire a portion of the bond issue.
- Convertible bond: Bonds that can be converted into equity (stock) of the issuing company..
- Warrant: A certificate granting the holder the right to purchase shares of a company's stock at a predetermined price.
- Puttable bond: A bond that the holder can sell back to the issuer at a certain price before maturity.
- Income bond: A bond whose interest payments are contingent on the issuer's income.
- Indexed, or purchasing power, bond: A bond whose interest payments or principal are tied to an index like inflation.
- Discount bond: A bond that trades below its face value.
- Premium bond: A bond that trades above its face value.
- Yield to maturity (YTM): The total return anticipated on a bond if held until it matures.
- Yield to call (YTC): The total return anticipated on a bond if it is called before maturity.
- Current yield: The annual interest income divided by the current market price of the bond.
- Capital gains yield: The change in the bond's price over a period, expressed as a percentage.
- Total return: Total return of the bond including the current yield and capital gains yield.
- Price risk: The risk that a bond's price will decline due to changes in interest rates.
- Reinvestment risk: The risk that interest payments received on a bond cannot be reinvested at the same rate.
- Investment horizon: The period of time an investor plans to hold a bond.
- Default risk: The risk that the issuer of a bond will be unable to make interest payments or repay the principal.
- Duration: A measure of a bond's sensitivity to changes in interest rates.
- Mortgage bond: A bond secured by a mortgage on real estate.
- Indenture: A legal document outlining the terms of a bond issue.
- Debenture: A bond that is not secured by specific assets.
- Subordinated debenture: A bond that is subordinate in claim to other debt in the case of default.
- Investment-grade bond: A bond rated as having a low risk of default.
- Junk bond: A bond rated as having a high risk of default.
Bond Valuation
- Pennington Corporation: Issued bonds on January 1, 1988, with a 12% coupon, maturing in 30 years.
- Par Value: $1,000
- Coupon Payments: Semiannual (June 30 and December 31).
- Original YTM: 12% (since bonds were sold at par).
- YTM in 1993: 10% (if interest rates had fallen)
- Bond Price in 1993: $1,182.56 (calculated using a financial calculator)
Sinking Fund (Additional information)
- Vancouver Development Company (VDC) plans a $100 million, 10-year, 12% bond issue with sinking fund provisions.
- Sinking fund payments: 10% of the initial amount made at the end of each year, to retire bonds, these can be bought on the open market or with a call provision.
- Alternative Plan: Payment of equal amounts into a sinking fund trust to buy government bonds paying 7% annual interest, and will total $100 million.
- Cash requirements: Calculating annual sinking fund payments (might or may not stay constant)
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