CSC Fixed-Income Securities Analysis 4 — Questions and Answers
Question 1: Accrued interest on a bond transaction represents which of the following?
- Interest owed by the issuer since the bond was first issued
- Interest earned by the seller since the last coupon payment date (Correct answer)
- A penalty fee charged when bonds are sold before maturity
- The premium paid above par for a high-quality bond
Correct answer: Interest earned by the seller since the last coupon payment date
Accrued interest is the portion of the next coupon payment earned by the seller for the days they held the bond since the last coupon date; the buyer compensates the seller for this amount.
Question 2: Which term describes the yield spread between a corporate bond and a government bond of similar maturity?
- Duration spread
- Basis spread
- Credit spread (Correct answer)
- Liquidity spread
Correct answer: Credit spread
The credit spread (also called yield spread) reflects the extra yield demanded by investors as compensation for the additional credit risk of a corporate bond relative to a risk-free government bond.
Question 3: A convertible bond gives the bondholder the right to do which of the following?
- Exchange the bond for a different bond with a higher coupon
- Convert the bond into a specified number of the issuer's common shares (Correct answer)
- Sell the bond back to the issuer at par before maturity
- Adjust the coupon rate based on prevailing interest rates
Correct answer: Convert the bond into a specified number of the issuer's common shares
A convertible bond includes an option allowing the holder to convert the bond into a predetermined number of the issuer's common shares, offering equity upside.
Question 4: If a corporate bond is secured by specific assets of the issuer, it is referred to as a:
- Debenture
- Subordinated debenture
- Mortgage bond (Correct answer)
- Commercial paper
Correct answer: Mortgage bond
A mortgage bond is secured by a specific pledge of real property or equipment, giving bondholders a senior claim on those assets in the event of default.
Question 5: What does the term 'par value' (face value) of a bond represent?
- The market price at which the bond currently trades
- The present value of all future coupon payments
- The principal amount to be repaid at maturity (Correct answer)
- The bond's price immediately after issuance
Correct answer: The principal amount to be repaid at maturity
Par value, or face value, is the principal amount the issuer promises to repay to bondholders at the bond's maturity date.
Question 6: Which of the following best explains why longer-maturity bonds are more price-sensitive to interest rate changes than shorter-maturity bonds?
- Longer bonds have lower coupon rates
- Longer bonds have more cash flows exposed to discounting over time (Correct answer)
- Longer bonds are issued by riskier corporations
- Longer bonds pay coupons more frequently
Correct answer: Longer bonds have more cash flows exposed to discounting over time
Longer maturities mean cash flows are discounted over a greater time horizon, making the present value more sensitive to changes in the discount (interest) rate.
Question 7: An inverted yield curve, where short-term rates exceed long-term rates, is most commonly interpreted as a signal of:
- Strong future economic growth
- An upcoming recession (Correct answer)
- Rising inflation expectations
- Increased government bond issuance
Correct answer: An upcoming recession
An inverted yield curve has historically been one of the most reliable predictors of an economic recession in the near future.
CSC Fixed-Income Securities Analysis 4
Accrued interest on a bond transaction represents which of the following?