Fixed Income Analysis Flashcards

Which of the following bond structures is most likely to protect an investor against falling interest rates?

Answer: A putable bond

A putable bond allows the investor to sell the bond back to the issuer at par, protecting against falling prices (rising rates), while a callable bond benefits the issuer when rates fall.

Key rate duration (partial duration) is most useful for measuring a bond's sensitivity to:

Answer: Non-parallel (twist) shifts in the yield curve

Key rate duration measures price sensitivity to changes at specific maturities on the yield curve, capturing non-parallel shifts that standard duration misses.

An investor purchases a floating-rate note (FRN) with a spread of 150 bps over SOFR. If SOFR rises from 3% to 4%, the coupon rate will:

Answer: Increase from 4.50% to 5.50%

FRN coupons reset periodically with the reference rate; if SOFR rises by 100 bps, the new coupon becomes SOFR + 150 bps = 5.50%.

In a collateralized debt obligation (CDO), the senior tranche typically offers:

Answer: The lowest yield and first priority on cash flows with last exposure to losses

Senior tranches have the highest credit quality (first priority on cash flows, last to absorb losses), which justifies their lower yield compared to junior tranches.

The credit valuation adjustment (CVA) in bond pricing accounts for:

Answer: The reduction in a bond's value due to the risk of issuer default

CVA is the present value of expected losses due to the possibility of issuer default, subtracted from the risk-free value of a bond to arrive at its risky fair value.

When analyzing emerging market bonds for a US investor, which additional risk factor is most important compared to domestic bond analysis?

Answer: Sovereign and currency risk

Emerging market bonds carry sovereign risk (government default or restructuring) and currency risk (local currency depreciation against USD), which are less significant for domestic bonds.