Fixed Income Securities Test Flashcards

Which bond immunization strategy matches the duration of assets to the duration of liabilities?

Answer: Duration matching (classical immunization)

Classical immunization matches the duration of bond assets to the investment horizon or liability duration, protecting the portfolio against parallel shifts in the yield curve.

What is the 'dirty price' of a bond?

Answer: The full price including accrued interest since the last coupon payment

The dirty price (or full price) is the total price paid for a bond, including the accrued interest that has built up since the last coupon payment date.

What is a 'convertible bond' and what is its primary advantage to investors?

Answer: A bond that can be exchanged for the issuer's common stock; advantage is equity upside potential

A convertible bond gives holders the option to convert the bond into a specified number of the issuer's common shares, allowing investors to benefit from equity upside while having bond downside protection.

Which federal agency guarantees principal and interest payments on Ginnie Mae (GNMA) mortgage-backed securities?

Answer: US Treasury (full faith and credit)

Ginnie Mae securities are backed by the full faith and credit of the US government, making them the only agency MBS with an explicit government guarantee.

What is 'prepayment risk' in mortgage-backed securities?

Answer: The risk that borrowers pay off mortgages early, forcing reinvestment at lower rates

Prepayment risk arises when homeowners refinance or sell their homes, repaying mortgages early and returning principal to MBS investors who must then reinvest at potentially lower yields.

What is a 'CDO' (Collateralized Debt Obligation)?

Answer: A structured security backed by a pool of debt instruments, divided into tranches with different risk levels

A CDO is a structured finance product that pools various debt instruments (bonds, loans, MBS) and divides the cash flows into tranches with different risk-return profiles for investors.