Chapter7

TheBondMarket
Multiple Choice Questions
1.

Comparedtomoneymarketsecurities,capitalmarketsecuritieshave
(a) moreliquidity.
(b) longermaturities.
(c) loweryields.
(d) lessrisk.
Answer: B

2.

(I)Securitiesthathaveanoriginalmaturitygreaterthanoneyeararetradedincapitalmarkets.
(II)Thebestknowncapitalmarketsecuritiesarestocksandbonds.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

3.

(I)Securitiesthathaveanoriginalmaturitygreaterthanoneyeararetradedinmoneymarkets.
(II)Thebestknownmoneymarketsecuritiesarestocksandbonds.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: D

4.

(I)Firmsandindividualsusethecapitalmarketsforlongterminvestments.(II)Thecapitalmarkets
provideanalternativetoinvestmentinassetssuchasrealestateandgold.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

5.

Theprimaryreasonthatindividualsandfirmschoosetoborrowlongtermistoreducetherisk
thatinterestrateswill_________beforetheypayofftheirdebt.
(a) rise
(b) fall
(c) becomemorevolatile
(d) becomemorestable
Answer: A
6.

Afirmthatchoosestofinanceanewplantbyissuingmoneymarketsecurities
(a) mustincurthecostofissuingnewsecuritiestorolloveritsdebt.
(b) runstheriskofhavingtopayhigherinterestrateswhenitrollsoveritsdebt.
(c) incursboththecostofreissuingsecuritiesandtheriskofhavingtopayhigherinterestrateson
thenewdebt.
(d) ismorelikelytoprofitifinterestratesrisewhiletheplantisbeingconstructed.
Answer: C

7.

Theprimaryreasonthatindividualsandfirmschoosetoborrowlongtermisto
(a) reducetheriskthatinterestrateswillfallbeforetheypayofftheirdebt.

(b) reducetheriskthatinterestrateswillrisebeforetheypayofftheirdebt.
(c) reducemonthlyinterestpayments,asinterestratestendtobehigheronshorttermthan
longtermdebtinstruments.
(d) reducetotalinterestpaymentsoverthelifeofthedebt.
Answer: B
8.

Afirmwillborrowlongterm
(a) iftheextrainterestcostofborrowinglongtermislessthantheexpectedcostofrisinginterest
ratesbeforeitretiresitsdebt.
(b) iftheextrainterestcostofborrowingshorttermduetorisinginterestratesdoesnotexceedthe
expectedpremiumthatispaidforborrowinglongterm.
(c) ifshortterminterestratesareexpectedtodeclineduringthetermofthedebt.
(d) iflongterminterestratesareexpectedtodeclineduringthetermofthedebt.
Answer: A

9.

Theprimaryissuersofcapitalmarketsecuritiesinclude
(a) thefederalandlocalgovernments.
(b) thefederalandlocalgovernments,andcorporations.
(c) thefederalandlocalgovernments,corporations,andfinancialinstitutions.
(d) localgovernmentsandcorporations.
Answer: B

10.

Governmentsneverissuestockbecause
(a) theycannotsellownershipclaims.
(b) theConstitutionexpresslyforbidsit.
(c) both(a)and(b)oftheabove.
(d) neither(a)nor(b)oftheabove.

Answer: A
11.
(I)Theprimaryissuersofcapitalmarketsecuritiesarefederalandlocalgovernments,and
corporations.(II)Governmentsneverissuestockbecausetheycannotsellownershipclaims.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

12. (I)Theprimaryissuersofcapitalmarketsecuritiesarefinancialinstitutions.
(II)Thelargestpurchasersofcapitalmarketsecuritiesarecorporations.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: D
13.

Thedistributionofafirmscapitalbetweendebtandequityisits
(a) leverageratio.
(b) liabilitystructure
(c) acidratio.
(d) capitalstructure.
Answer: D

14.

Thelargestpurchasersofcapitalmarketsecuritiesare
(a)
(b)
(c)
(d)

households.
corporations
governments.
centralbanks.

Answer: A
15.

Individualsandhouseholdsfrequentlypurchasecapitalmarketsecuritiesthroughfinancial
institutionssuchas
(a) mutualfunds.
(b) pensionfunds.
(c) moneymarketmutualfunds.
(d) alloftheabove.
(e) only(a)and(b)oftheabove.
Answer: E

16.

(I)Therearetwotypesofexchangesinthesecondarymarketforcapitalsecurities:organized
exchangesandoverthecounterexchanges.(II)Whenfirmssellsecuritiesfortheveryfirsttime,
theissueisaninitialpublicoffering.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

17.
(I)Capitalmarketsecuritiesfallintotwocategories:bondsandstocks.(II)Longtermbonds
includegovernmentbondsandlongtermnotes,municipalbonds,andcorporatebonds.

(a)
(b)
(c)
(d)

(I)istrue,(II)false.
(I)isfalse,(II)true.
Botharetrue.
Botharefalse.

Answer: B
18.

The_________valueofabondistheamountthattheissuermustpayatmaturity.
(a) market
(b) present
(c) discounted
(d) face
Answer: D

19.

The_________rateistherateofinterestthattheissuermustpay.
(a) market
(b) coupon
(c) discount
(d) funds
Answer: B

20.

(I)Thecouponrateistherateofinterestthattheissuerofthebondmustpay.
(II)Thecouponrateisusuallyfixedforthedurationofthebondanddoesnotfluctuatewithmarket
interestrates.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.

(c) Botharetrue.
(d) Botharefalse.
Answer: C
21.

(I)Thecouponrateistherateofinterestthattheissuerofthebondmustpay.(II)Thecouponrate
onoldbondsfluctuateswithmarketinterestratessotheywillremainattractivetoinvestors.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: A

22.

Treasurybondsaresubjectto_________riskbutarefreeof_________risk.
(a) default;interestrate
(b) default;underwriting
(c) interestrate;default
(d) interestrate;underwriting
Answer: C

23.

ThepricesofTreasurynotes,bonds,andbillsarequoted
(a)
(b)
(c)
(d)

asapercentageofthecouponrate.
asapercentageofthepreviousdaysclosingvalue.
asapercentageof$100facevalue.
asamultipleoftheannualinterestpaid.

Answer: C

24.

ThesecuritywiththelongestmaturityisaTreasury
(a)
(b)
(c)
(d)

note.
bond.
acceptance.
bill.

Answer: B
25.

(I)Tosellanoldbondwheninterestrateshaverisen,theholderwillhavetodiscountthebonduntil
theyieldtothebuyeristhesameasthemarketrate.(II)Theriskthatthevalueofabondwillfall
whenmarketinterestratesriseiscalledinterestraterisk.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

26.

Tosellanoldbondwheninterestrateshave_________,theholderwillhaveto_________the
priceofthebonduntiltheyieldtothebuyeristhesameasthemarketrate.
(a) risen;lower
(b) risen;raise
(c) fallen;lower
(d) risen;inflate
Answer: A

27.

Mostofthetime,theinterestrateonTreasurynotesandbondsis_________thatonmoneymarket
securitiesbecauseof_________risk.
(a) above;interestrate

(b) above;default
(c) below;interestrate
(d) below;default
Answer: A
28.

(I)InmostyearstherateofreturnonshorttermTreasurybillsisbelowthatonthe20year
Treasurybond.(II)InterestratesonTreasurybillsaremorevolatilethanratesonlongterm
Treasurysecurities.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

29.
(I)BecauseinterestratesonTreasurybillsaremorevolatilethanratesonlongtermsecurities,the
returnonshorttermTreasurysecuritiesisusuallyabovethatonlongertermTreasurysecurities.
(II)ATreasurySTRIPseparatestheperiodicinterestpaymentsfromthefinalprincipalrepayment.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: B
30.

WhichofthefollowingstatementsaboutTreasuryinflationindexedbondsisnottrue?
(a) Theprincipalamountusedtocomputetheinterestpaymentvarieswiththeconsumer
priceindex.
(b) Theinterestpaymentriseswheninflationoccurs.
(c) Theinterestrateriseswheninflationoccurs.

(d) Atmaturitythesecuritiespaythegreateroffacevalueorinflationadjustedprincipal.
Answer: C
31.

Theinterestratesongovernmentagencybondsare
(a) almostidenticaltothoseavailableonTreasurysecuritiessinceitisunlikelythatthefederal
governmentwouldpermititsagenciestodefaultontheirobligations.
(b) significantlyhigherthanthoseavailableonTreasurysecuritiesduetotheirlowliquidity.
(c) significantlylowerthanthoseavailableonTreasurysecuritiesbecauseagencyinterest
paymentsaretaxexempt.
(d) significantlylowerthanthoseavailableonTreasurysecuritiesbecausetheinterestrateriskon
agencysecuritiesislowerthanthatonTreasurysecurities.
Answer: B

32.

(I)Municipalbondsthatareissuedtopayforessentialpublicprojectsareexemptfromfederal
taxation.(II)Generalobligationbondsdonothavespecificassetspledgedassecurityoraspecific
sourceofrevenueallocatedfortheirrepayment.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

33.

(I)Mostcorporatebondshaveafacevalueof$1000,payinterestsemiannually,andcanbe
redeemedanytimetheissuerwishes.(II)Registeredbondshavenowbeenlargelyreplacedby
bearerbonds,whichdonothavecoupons.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: A

34.
Thebondcontractthatstatesthelendersrightsandprivilegesandtheborrowersobligationsis
calledthe
(a) bondsyndicate.
(b) restrictivecovenant.
(c) bondcovenant.
(d) bondindenture.
Answer: D
35.

Policiesthatlimitthediscretionofmanagersasawayofprotectingbondholdersinterestsare
called
(a) restrictivecovenants.
(b) debentures.
(c) sinkingfunds.
(d) bondindentures.
Answer: A

36.

Typically,theinterestrateoncorporatebondswillbe_________themorerestrictionsareplaced
onmanagementthroughrestrictivecovenants,because_________.
(a) higher;corporateearningswillbelimitedbytherestrictions
(b) higher;thebondswillbeconsideredsaferbybondholders
(c) lower;thebondswillbeconsideredsaferbybuyers
(d) lower;corporateearningswillbehigherwithmorerestrictionsinplace
Answer: C

37.

Restrictivecovenantscan
(a) limittheamountofdividendsthefirmcanpay.
(b) limittheabilityofthefirmtoissueadditionaldebt.

(c) restricttheabilityofthefirmtoenterintoamergeragreement.
(d) doalloftheabove.
(e) doonly(a)and(b)oftheabove.
Answer: D
38.

(I)Restrictivecovenantsoftenlimittheamountofdividendsthatfirmscanpaythestockholders.
(II)Mostcorporateindenturesincludeacallprovision,whichstatesthattheissuerhastherightto
forcetheholdertosellthebondback.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

39.

Callprovisionswillbeexercisedwheninterestrates_________andbondvalues_________.
(a) rise;rise
(b) fall;rise
(c) rise;fall
(d) fall;fall
Answer: B

40.
Arequirementinthebondindenturethatthefirmpayoffaportionofthebondissueeachyear
iscalled
(a) asinkingfund.
(b) acallprovision.
(c) arestrictivecovenant.

(d) ashelfregistration.
Answer: A
41.

(I)Callablebondsmusthaveahigheryieldthancomparablenoncallablebonds.(II)Convertible
bondsareattractivetobondholdersandsellforahigherpricethancomparablenonconvertible
bonds.
(a) (I)istrue,(II)false.
(b) (I)isfalse,(II)true.
(c) Botharetrue.
(d) Botharefalse.
Answer: C

42.

Longtermunsecuredbondsthatarebackedonlybythegeneralcreditworthinessoftheissuer
arecalled
(a) junkbonds.
(b) callablebonds.
(c) convertiblebonds.
(d) debentures.
Answer: D

43.

Asecuredbondisbackedby
(a)
(b)
(c)
(d)

thegeneralcreditworthinessoftheborrower.
aninsurancecompanysfinancialguarantee.
theexpectedfutureearningsoftheborrower.
specificcollateral.

Answer: D
44.

Financialguarantees

(a)
(b)
(c)
(d)
(e)

areinsurancepoliciestobackbondissues.
arepurchasedbyfinanciallyweakersecurityissuers.
lowertheriskofthebondscoveredbytheguarantee.
doalloftheabove.
doonly(a)and(b)oftheabove.

Answer: D
45.

Corporatebondsarelessriskyiftheyare_________bondsandmunicipalbondsarelessriskyif
theyare_________bonds.
(a) secured;revenue
(b) secured;generalobligation
(c) unsecured;revenue
(d) unsecured;generalobligation
Answer: B

46.

Whichofthefollowingaretrueforthecurrentyield?
(a) Thecurrentyieldisdefinedastheyearlycouponpaymentdividedbythepriceofthesecurity.
(b) Theformulaforthecurrentyieldisidenticaltotheformuladescribingtheyieldtomaturityfor
adiscountbond.
(c) Thecurrentyieldisalwaysapoorapproximationfortheyieldtomaturity.
(d) Alloftheabovearetrue.
(e) Only(a)and(b)oftheabovearetrue.
Answer: A

47.

Thenearerabondspriceistoitsparvalueandthelongerthematurityofthebondthemoreclosely
_________approximates_________

(a)
(b)
(c)
(d)

currentyield;yieldtomaturity.
currentyield;couponrate.
yieldtomaturity;currentyield.
yieldtomaturity;couponrate.

Answer: A
48.

Whichofthefollowingaretrueforthecurrentyield?
(a) Thecurrentyieldisdefinedastheyearlycouponpaymentdividedbythepriceofthesecurity.
(b) Thecurrentyieldandtheyieldtomaturityalwaysmovetogether.
(c) Theformulaforthecurrentyieldisidenticaltotheformuladescribingtheyieldtomaturityfor
adiscountbond.
(d) Alloftheabovearetrue.
(e) Only(a)and(b)oftheabovearetrue.
Answer: E

49.

Thecurrentyieldisalessaccurateapproximationoftheyieldtomaturitythe_________thetime
tomaturityofthebondandthe_________thepriceisfrom/totheparvalue.
(a) shorter;closer
(b) shorter;farther
(c) longer;closer
(d) longer;farther
Answer: B

50.

Thecurrentyieldona$6,000,10percentcouponbondsellingfor$5,000is
(a) 5percent.
(b) 10percent.

(c) 12percent.
(d) 15percent.
Answer: C
51.

Thecurrentyieldona$5,000,8percentcouponbondsellingfor$4,000is
(a) 5percent.
(b) 8percent.
(c) 10percent.
(d) 20percent.
(e) noneoftheabove.
Answer: C

52.

Foraconsol,thecurrentyieldisan_________oftheyieldtomaturity.
(a) underestimate
(b) overestimate
(c) approximatemeasure
(d) exactmeasure
Answer: D

53.

Whichofthefollowingaretrueoftheyieldonadiscountbasisasameasureoftheinterestrate?
(a) Itusesthepercentagegainonthefacevalueofthesecurity,ratherthanthepercentagegainon
thepurchasepriceofthesecurity.
(b) Itputstheyieldontheannualbasisofa360dayyear.
(c) Itignoresthetimetomaturity.

(d) Alloftheabovearetrue.
(e) Only(a)and(b)oftheabovearetrue.
Answer: E
54.

Theformulaforthemeasureoftheinterestratecalledtheyieldonadiscountbasisispeculiar
because
(a) itputstheyieldontheannualbasisofa360dayyear.
(b) itusesthepercentagegainonthepurchasepriceofthebill.
(c) itignoresthetimetomaturity.
(d) both(a)and(b)oftheabove.
(e) both(a)and(c)oftheabove.
Answer: A

55.

Theyieldonadiscountbasisofa180day$1,000Treasurybillsellingfor$950is
(a) 10percent.
(b) 20percent.
(c) 25percent.
(d) 40percent.
Answer: A

56.

Theyieldonadiscountbasisofa90day$1,000Treasurybillsellingfor$950is
(a) 5percent.
(b) 10percent.
(c) 15percent.

(d) 20percent.
(e) noneoftheabove.
Answer: D
57.

Theyieldonadiscountbasisofa90day$1,000Treasurybillsellingfor$900is
(a) 10percent.
(b) 20percent.
(c) 25percent.
(d) 40percent.
Answer: D

58.

Theyieldonadiscountbasisofa180day$1,000Treasurybillsellingfor$900is
(a) 10percent.
(b) 20percent.
(c) 25percent.
(d) 40percent.
Answer: B

59.

Whenanoldbondsmarketvalueisaboveitsparvaluethebondissellingata_________.This
occursbecausetheoldbondscouponrateis_________thecouponratesofnewbondswith
similarrisk.
(a) premium;below
(b) premium;above
(c) discount;below
(d) discount;above
Answer: B

True/False
1.

Theprimaryissuersofcapitalmarketsecuritiesarelocalgovernmentsandcorporations.
Answer: FALSE

2.

Capitalmarketsecurutiesarelessliquidandhavelongermaturitiesthanmoneymarketsecurities.
Answer: TRUE

3.

Governmentsneverissuestockbecausetheycannotsellownershipclaims.
Answer: TRUE

4.

Tosellanoldbondwhenrateshaverisen,theholderwillhavetodiscountthebonduntiltheyield
tothebuyeristhesameasthemarketrate.
Answer: TRUE

5.

Mostofthetime,theinterestrateonTreasurynotesisbelowthatonmoneymarketsecurities
becauseoftheirlowdefaultrisk.
Answer: FALSE

6.

Municipalbondsthatareissuedtopayforessentialpublicprojectsareexemptfromfederal
taxation.
Answer: TRUE

7.

Mostmunicipalbondsarerevenuebondsratherthangeneralobligationbonds.
Answer: FALSE

8.

Mostcorporatebondshaveafacevalueof$1000,aresoldatadiscount,andcanonlyberedeemed
atthematuritydate.
Answer: FALSE

9.

Registeredbondshavenowbeenlargelyreplacedbybearerbonds,whichdonothavecoupons.
Answer: FALSE

10.

Asinkingfundisarequirementinthebondindenturethatthefirmpayoffaportionofthebond
issueeachyear.

Answer: TRUE
11.

Debenturesarelongtermunsecuredbondsthatarebackedonlybythegeneralcreditworthinessof
theissuer.
Answer: TRUE

12.

Inaleveragedbuyout,afirmgreatlyincreasesitsdebtlevelbyissuingjunkbondstofinancethe
purchaseofanotherfirmsstock.
Answer: TRUE

13.

Afinancialguaranteeensuresthatthelender(bondpurchaser)willbepaidbothprincipaland
interestintheeventtheissuerdefaults.
Answer: TRUE

14.

Thecurrentyieldonabondisagoodapproximationofthebondsyieldtomaturitywhenthebond
maturesinfiveyearsorlessanditspricediffersfromitsparvaluebyalargeamount.
Answer: FALSE