FIA Fixed Income & Bond Markets 4 — Questions and Answers
Question 1: What is the 'G-spread' of a corporate bond?
- The bond's yield minus the risk-free overnight rate
- The bond's yield minus the interpolated Treasury yield of the same maturity (Correct answer)
- The OAS adjusted for government bond convexity
- The difference between bid and ask yields
Correct answer: The bond's yield minus the interpolated Treasury yield of the same maturity
The G-spread (government spread) is the yield difference between a corporate bond and an interpolated benchmark government bond of equivalent maturity.
Question 2: Which type of bond allows the issuer to redeem the bond before its stated maturity date at a predetermined price?
- Puttable bond
- Callable bond (Correct answer)
- Convertible bond
- Bullet bond
Correct answer: Callable bond
Callable bonds grant the issuer the right to repurchase (call) the bonds before maturity, typically exercised when interest rates fall.
Question 3: Treasury Inflation-Protected Securities (TIPS) protect investors from inflation by adjusting the bond's:
- Coupon rate upward semi-annually
- Principal value based on CPI changes (Correct answer)
- Maturity date when inflation exceeds 3%
- Yield spread over nominal Treasuries
Correct answer: Principal value based on CPI changes
TIPS adjust their principal value with changes in the Consumer Price Index (CPI); coupon payments (fixed rate × adjusted principal) also rise with inflation.
Question 4: In the bond market, what does 'duration' primarily measure?
- The number of years until the bond matures
- The bond's weighted average time to receive cash flows, used as an interest rate sensitivity measure (Correct answer)
- The bond's credit rating over time
- The number of coupon payments remaining
Correct answer: The bond's weighted average time to receive cash flows, used as an interest rate sensitivity measure
Duration measures both the weighted average time to receive cash flows and approximates the bond's price sensitivity to interest rate changes.
Question 5: A 'bullet' bond structure means the bond:
- Has an accelerating coupon schedule
- Repays principal in equal installments over its life
- Repays all principal in a single lump sum at maturity (Correct answer)
- Can be converted to equity at maturity
Correct answer: Repays all principal in a single lump sum at maturity
Bullet bonds pay periodic coupons and return the entire principal in one payment at maturity—the most common corporate bond structure.
Question 6: What is the primary purpose of a bond indenture?
- To set the bond's initial yield at issuance
- To legally document the terms, covenants, and obligations between issuer and bondholders (Correct answer)
- To determine the bond's credit rating
- To specify the bond's listing exchange
Correct answer: To legally document the terms, covenants, and obligations between issuer and bondholders
The indenture is the formal legal contract outlining all terms of the bond, including covenants, payment schedules, and default provisions.
Question 7: Negative covenant in a bond indenture is best described as a provision that:
- Requires the issuer to maintain minimum financial ratios
- Prohibits the issuer from taking certain actions, such as incurring additional debt (Correct answer)
- Gives bondholders the right to put bonds back to the issuer
- Requires semi-annual financial reporting to bondholders
Correct answer: Prohibits the issuer from taking certain actions, such as incurring additional debt
Negative (restrictive) covenants prohibit specific actions by the issuer, such as excessive leverage, asset sales, or dividend payments above defined limits.
FIA Fixed Income & Bond Markets 4
What is the 'G-spread' of a corporate bond?