Investment Jobs Fixed Income Securities Test 1 — Questions and Answers
Question 1: What is the relationship between bond prices and interest rates?
- They move in the same direction
- They move in opposite directions (Correct answer)
- They are unrelated
- They only correlate during recessions
Correct answer: They move in opposite directions
Bond prices and interest rates have an inverse relationship: when interest rates rise, existing bond prices fall, and when rates fall, bond prices rise.
Question 2: What does the 'yield to maturity' (YTM) of a bond represent?
- The annual coupon payment divided by par value
- The total annualized return if the bond is held to maturity and all payments are reinvested (Correct answer)
- The current market price of the bond
- The spread over Treasury yields
Correct answer: The total annualized return if the bond is held to maturity and all payments are reinvested
YTM is the total return anticipated on a bond if held until it matures, assuming all coupon and principal payments are received and coupons are reinvested at the same rate.
Question 3: Which US government agency issues Treasury Inflation-Protected Securities (TIPS)?
- Federal Reserve
- Federal Deposit Insurance Corporation
- US Department of the Treasury (Correct answer)
- Office of the Comptroller of the Currency
Correct answer: US Department of the Treasury
TIPS are issued by the US Department of the Treasury; their principal value adjusts with the Consumer Price Index (CPI) to protect investors from inflation.
Question 4: What is 'duration' as used in bond analysis?
- The number of years until a bond matures
- A measure of a bond's price sensitivity to changes in interest rates (Correct answer)
- The time between coupon payments
- The credit rating tenure of the issuer
Correct answer: A measure of a bond's price sensitivity to changes in interest rates
Duration measures how much a bond's price will change in response to a 1% change in interest rates, with higher duration indicating greater interest rate sensitivity.
Question 5: A bond with a coupon rate below its current yield is trading at:
- Par
- A premium
- A discount (Correct answer)
- Its intrinsic value
Correct answer: A discount
When a bond's coupon rate is lower than the prevailing market yield, the bond must trade at a discount (below par) to compensate investors for the below-market coupon.
Question 6: What is a 'callable bond' and what risk does it present to investors?
- A bond that can be sold on secondary markets; presents liquidity risk
- A bond the issuer can redeem before maturity; presents reinvestment risk (Correct answer)
- A bond that adjusts its coupon rate; presents inflation risk
- A bond convertible to stock; presents dilution risk
Correct answer: A bond the issuer can redeem before maturity; presents reinvestment risk
A callable bond gives the issuer the right to redeem it before maturity, typically when interest rates fall, exposing investors to reinvestment risk at lower rates.
Investment Jobs Fixed Income Securities Test 1
What is the relationship between bond prices and interest rates?