Verified Test Bank – 6e – Ch.6 – Bonds, Bond Prices, And The

Student name:__________

1) You win your state lottery. The lottery officials offer you the option of taking your winnings in one lump-sum payment, or fixed annual payments for the next 20 years. The sum of the 20 annual payments is larger than the lump-sum payment. Before deciding, what are the key factors you will want to consider that could influence your decision?

2) Consider the factors that affect bond demand and bond supply. Describe how the following are likely to change during a period of robust economic growth: wealth, default risk, and general business conditions. For each, state how the factor is likely to change, and discuss the implications for bond demand/supply, bond price, and yield. Bond prices tend to decrease during periods of high economic growth. What does this reveal about which of these factors is important?

3) Many people are worried that, with the growing number of people that are retiring in the United States, the federal government will need to borrow large amounts of money to finance the Social Security System. If we assume that Social Security taxes and the current eligibility age remain constant, explain the likely impact this will have on bond markets.

4) A zero-coupon bond refers to a bond that

A) does not pay any coupon payments because the issuer is in default.
B) promises a single future payment.
C) pays coupons only once a year.
D) pays coupons only if the bond price is above face value.

5) At the most basic level, a bond is

A) a loan that involves that a contract.
B) the transfer of funds from a lender to a borrower.
C) a financial arrangement that involves the transfer of funds to a government or business entity.
D) a financial arrangement that involves the current transfer of resources from a lender to a borrower, with a transfer back at some time in the future.

6) A consol is

A) another name for a zero-coupon bond.
B) a bond with a maturity date exceeding 10 years.
C) a bond that makes periodic interest payments forever.
D) a form of a bond that is issued quite often by the U.S. Treasury.

7) A pure discount bond is also known as a

A) consol.
B) fixed payment loan.
C) coupon bond.
D) zero-coupon bond.

8) The most common form of zero-coupon bonds found in the United States is

A) AAA rated corporate bonds.
B) U.S. Treasury bills.
C) 30-year U.S. Treasury bonds.
D) municipal bonds.

9) Most corporate bonds are

A) consols.
B) coupon bonds.
C) municipal bonds.
D) fixed-payment loans.

10) Which one of the following best expresses the formula for determining the price of a U.S. Treasury bill that matures n periods from now per $100 of face value when the interest rate isi?

A) $100/(1 + i) n
B) $100(1 + i)
C) $100/(1 + i)
D) 1 + $100/(1 + i) n

11) Once you buy a coupon bond, which one of the following can change?

A) coupon rate
B) coupon payment
C) face value
D) yield to maturity

12) Which one of the following makes fixed payments indefinitely?

A) amortized loan
B) consol
C) coupon bond
D) zero-coupon bond

13) A 10-year Treasury note as a face value of $1,000, a price of $1,200, and a 7.5% coupon rate. Based on this information, we know the

A) present value is greater than its price.
B) current yield is equal to 8.33%.
C) coupon payment on this bond is equal to $75.
D) coupon payment on this bond is equal to $90.

14) If the annual interest rate is 5% (.05), the price of a one-year Treasury bill per $100 of face value would be

A) $95.00.
B) $97.50.
C) $95.24.
D) $96.10.

15) If the annual interest rate is 5% (.05), the price of a six-month Treasury bill would be

A) $97.50.
B) $97.59.
C) $95.25.
D) $95.00.

16) If the annual interest rate is 5% (.05), the price of a three-month Treasury bill would be

A) $98.79.
B) $95.00.
C) $98.75.
D) $97.59.

17) Why is the price of a one-year Treasury bill per $100 of face value different from the price of a three-month Treasury bill per $100 of face value if the annual interest rate is the same for both?

A) One is zero-coupon bond and the other is a traditional coupon bond.
B) For bond price calculations,n andi must be expressed in the same units of time.
C) There is no difference since the annual interest rate is the same for both Treasury bills.
D) Bond prices and interest rates move in opposite directions for bonds that are shorter than one year in duration.

18) The relationship between the price and the interest rate for a zero-coupon bond is best described as

A) volatile.
B) fluctuating.
C) inverse.
D) non-existent.

19) When a loan is amortized, it means the

A) borrower is in default.
B) principal and interest are paid off by the borrower over the life of the loan.
C) interest is due entirely at the maturity date.
D) principal in never repaid, only interest.

20) Most home mortgages are good examples of

A) consols.
B) zero-coupon bonds.
C) coupon bonds.
D) fixed-payment loans.

21) The price of a coupon bond can best be described as the

A) present value of the face value.
B) future value of the coupon payments.
C) future value of the coupon payments and the face value.
D) present value of the face value plus the present value of the coupon payments.

22) The difference in the prices of a zero-coupon bond and a coupon bond with the same face value and maturity date is simply

A) zero, since they are the same.
B) the present value of the final payment.
C) the present value of the coupon payments.
D) the future value of the coupon payments.

23) The price ( P) of a consol offering an annual coupon payment ( C) is best expressed by

A) F/ C.
B) C (1 + i).
C) C/(1+ i).
D) C/ i.

24) If a consol is offering an annual coupon of $50 and the annual interest rate is 6%, the price of the consol is

A) $47.17.
B) $813.00.
C) $833.33.
D) $8333.33.

25) Historically, governments might want to reduce interest rates on consols and would then convert them into new consols with the lower interest rate. If the original consol had a coupon of $25 with an interest rate of 4%, and it was converted into a new consol with the same coupon of $25 and an interest rate of 3.5%, how would the price of the consol change?

A) It would rise to $625.00.
B) It would rise to $714.29.
C) It would fall to $625.00.
D) It would fall to $714.29.

26) Yield to maturity

A) is equal to the coupon rate if the bond is held to maturity.
B) is the same as the coupon rate.
C) will exceed the coupon rate if the bond is purchased for face value.
D) is the same as the coupon rate if the bond is purchased for face value and held to maturity.

27) When the price of a bond is above face value, the yield to maturity will

A) be below the coupon rate.
B) be above the coupon rate.
C) equal the current yield.
D) equal the coupon rate.

28) Which one of the following correctly summarizes the relationship among a bond’s price and its coupon rate, current yield, and yield to maturity?

A) If Bond price > Face Value then Coupon rate < Current yield < Yield to maturity.
B) If Bond price = Face Value then Coupon rate < Current yield < Yield to maturity.
C) If Bond price < Face Value then Coupon rate > Current yield > Yield to maturity.
D) If Bond price < Face Value then Coupon rate < Current yield < Yield to maturity.

29) A 15-year bond is currently priced at $900 and pays a semi-annual coupon payment of 8%. The par value is $1,000. What is the yield to maturity?

A) 4.62%
B) 8.00%
C) 9.24%
D) 10.00%

30) When the price of a bond is below the face value, the yield to maturity will

A) be below the coupon rate.
B) be above the coupon rate.
C) equal the current yield.
D) equal the coupon rate.

31) When the price of a bond equals the face value the

A) yield to maturity will be above the coupon rate.
B) yield to maturity will be below the coupon rate.
C) current yield is equal to the coupon rate.
D) yield to maturity is greater than the current yield.

32) If the purchase price of a bond exceeds the face value, the yield to maturity

A) is greater than the coupon rate because the capital gain is positive.
B) will equal the current yield.
C) will be less than the coupon rate because the capital gain will be negative.
D) will be greater than the current yield.

33) The current yield of a bond

A) is another term for the coupon rate.
B) is another term for the yield to maturity.
C) equals zero for a zero-coupon bond since these bonds have no coupon payments.
D) is the difference between its future value and its present value.

34) A $1,000 face value bond purchased for $965.00, with an annual coupon of $60, and 20 years to maturity has a

A) a current yield equal to 6.22%.
B) a current yield equal to 6.00%.
C) a coupon rate equal to 6.22%.
D) a yield to maturity and current yield equal to 6.00%.

35) A $1,000 face value bond purchased for $965.00, with an annual coupon of $60, and 20 years to maturity has a

A) current yield and coupon rate equal to 6.22% and a coupon rate above this.
B) current yield equal to 6.22% and a coupon rate below this.
C) coupon rate equal to 6.00% and a current yield below this.
D) yield to maturity and current yield equal to 6.00%.

36) In calculating the current yield for a bond, the

A) coupon payment is ignored.
B) present value of the capital gain/loss is ignored.
C) present value of the final payment is the only important consideration.
D) present value of the coupon payments is the only important consideration.

37) In calculating the current yield for a bond, the

A) coupon payment and purchase price is all that is needed.
B) present value of the capital gain/loss is ignored.
C) present value of the final payment is the only important consideration.
D) present value of the coupon payments is the only important consideration.

38) When the current yield and the coupon rate are equal, the bond is

A) purchased at a discount.
B) purchased at a price that equals the face value.
C) a zero-coupon bond.
D) purchased at a price that exceeds its face value.

39) If a bond's purchase price equals the face value, the

A) coupon rate equals the current yield, which is less than the yield to maturity.
B) current yield equals the yield to maturity, which exceeds the coupon rate.
C) coupon rate equals the yield to maturity, which equals the current yield.
D) coupon rate does not equal the current yield, which does not equal the yield to maturity.

40) Which one of the following isnot a reason why the yield to maturity can differ from the current yield?

A) because the yield to maturity considers the capital gain/loss
B) because the current yield focuses only on the coupon payment and the purchase price
C) because most bonds are not purchased for face value
D) because the current yield moves in the opposite direction from price

41) A $1,000 face value bond with one year to maturity that sells for $950 and has a $40 annual coupon has a

A) current yield and yield to maturity of 4.00%.
B) yield to maturity that equals the current yield.
C) coupon rate of 4.00% and a current yield that is below this.
D) current yield of 4.21%.

42) A $1,000 face value bond, with an annual coupon of $40, one year to maturity, and a purchase price of $980 has a

A) current yield that equals 4.00%.
B) coupon rate that equals 4.08%.
C) current yield that equals 4.08% and a yield to maturity that equals 6.12%.
D) A current yield that equals 4.08% and a yield to maturity that equals 4.0%.

43) A 30-year Treasury bond as a face value of $1,000 and a price of $1,200 with a $50 coupon payment. Assume the price of this bond decreases to $1,100 over the next year. The one-year holding period return is equal to

A) −9.17%.
B) −8.33%.
C) −4.17%.
D) −3.79%.

44) Yields on government bonds from different countries

A) differ substantially across countries.
B) are essentially the same within a narrow range.
C) differ but the spreads stay relatively similar.
D) are essentially the same as the coupon rates for the bonds.

45) In reading bond quotes, the

A) bid price is usually above the ask price.
B) ask price is fixed over the life of the bond.
C) ask price is usually above the bid price.
D) bid and ask prices must be equal as set forth by SEC regulations.

46) A bond dealer's spread is

A) the asking price less the bid price.
B) the difference between the current yield and the yield to maturity.
C) the bid price less the asking price.
D) usually negative because the dealer makes a profit holding the bonds.

47) The size of the bond dealer's spread is mainly a function of the

A) purchase price of the bond.
B) current yield.
C) liquidity of the bond market.
D) face value of the bond.

48) The larger the bond dealer's spread the

A) less liquid is the market for that bond.
B) greater is the coupon rate for that bond.
C) more liquid is the market for that bond.
D) less risk there is for the dealer to hold that bond.

49) The holding period return on a bond

A) can never be more than the yield to maturity.
B) will equal the yield to maturity if the bond is purchased for face value and sold at a lower price.
C) will be less than the yield to maturity if the bond is sold for more than face value.
D) will be less than the yield to maturity if the bond is sold for less than face value.

50) One characteristic that distinguishes holding period return from the coupon rate, the current yield, and the yield to maturity is

A) all of the other returns except the holding period return can be calculated at the time the bond is purchased.
B) holding period return will always be the highest return.
C) holding period return will usually be less than the other returns.
D) only the holding period return includes the capital gain/loss.

51) Holding period returns occur when the price of a bond

A) is greater than capital gains which exceed the coupon payment.
B) is greater than the coupon payment which exceeds capital gains.
C) changes between the time of the purchase and the time of the sale.
D) does not change between the time of the purchase and the time of the sale.

52) Which one of the following best expresses the equation for holding period return?

A) current yield + coupon rate
B) yield to maturity − current yield
C) current yield + capital gain
D) coupon rate + capital gain

53) In considering the holding period return, the longer the term of the bond the

A) less important is the capital gain and the more important in the current yield.
B) less important is the coupon rate and the more important is the current yield.
C) less important is the capital gain.
D) more important is the capital gain.

54) The holding period return has relevance because

A) most bonds are held by the original purchaser until maturity.
B) most bonds are held by the original purchaser until they mature.
C) bonds are frequently traded.
D) current yields are not that important to bondholders.

55) Suppose there is a decrease in the price at which a bondholder sells her bond. In this case, the holding period return will

A) increase, since yields and prices are inversely related.
B) decrease, since this lowers the capital gain.
C) be negative.
D) equal the coupon rate.

56) If a one-year zero-coupon bond has a face value of $100, is purchased for $94, and is held to maturity the

A) holding period return will exceed the yield to maturity.
B) yield to maturity will exceed the holding period return.
C) yield to maturity will be 6.38%.
D) holding period return is 6.0%.

57) Bond prices and yields

A) move together in the same direction.
B) do not change if the coupon is fixed.
C) move together but are inversely related.
D) are independent of each other.

58) As bond prices increase

A) the quantity of bonds supplied increases.
B) the quantity of bonds supplied decreases.
C) the quantity of bonds demanded increases.
D) yields increase.

59) The bond supply curve slopes upward because

A) as bond prices rise, people holding bonds are more tempted to hold them.
B) as bond prices rise, yields increase.
C) for companies seeking financing, the higher the price of bonds, the more attractive it is to sell bonds.
D) as bond prices rise, yields decrease.

60) The bond demand curve slopes downward because

A) at lower prices the reward for holding the bond increases.
B) as bond prices fall so do yields.
C) as bond prices fall, bonds are less attractive.
D) as bond prices rise, yields increase.

61) If the quantity of bonds supplied exceeds the quantity of bonds demanded, bond prices would

A) rise and yields would fall.
B) fall and yields would rise.
C) rise but yields will remain constant.
D) fall and yields would fall.

62) The following equations express Demand and Supply in the bond market where Q_d is quantity demanded, Q_s is quantity supplied, and P is price per bond. What is the equilibrium price in this market?

Demand: Q_d = 1,000 – 6P/5Supply: Q_s = P – 100

A) $833.33
B) $500.00
C) $400.00
D) $100.00

63) The following equations express Demand and Supply in the bond market where Q_d is quantity demanded, Q_s is quantity supplied, and P is price per bond. At a price of $400 in this market,

Demand: Q_d = 1,000 – 6P/5
Supply: Q_s = P – 100

A) the market clears.
B) there is an excess supply of bonds.
C) there is an excess demand for bonds.
D) the bond market is in equilibrium.

64) If the quantity of bonds demanded exceeds the quantity of bonds supplied, bond prices

A) would rise and yields would fall.
B) would fall and yields would increase.
C) will rise and yields will remain constant.
D) will rise and yields would increase.

65) If the U.S. government's borrowing needs increase, all other factors constant, the

A) demand for bonds will decrease.
B) price of bonds will increase.
C) supply of bonds will increase.
D) yields on bonds will decrease.

66) If the U.S. government's borrowing needs decrease, all other factors constant, the

A) supply of bonds will increase.
B) demand for bonds will decrease.
C) price of bonds will decrease.
D) price of bonds will increase.

67) If the U.S. government's borrowing needs increase, all other factors constant, the

A) price of bonds will increase.
B) supply of bonds will increase.
C) demand for bonds will decrease.
D) supply of bonds and the demand for bonds will both increase.

68) If the U.S. government's borrowing needs increase, in the bond market this would be seen as the

A) bond demand curve shifting right.
B) bond supply curve shifting right.
C) bond demand curve shifting left.
D) bond supply curve shifting left.

69) If the U.S. government's borrowing needs increase, in the bond market this would be seen as

A) the bond demand curve shifting right.
B) a movement up the bond supply curve.
C) the bond demand curve shifting left.
D) the bond supply curve shifting right.

70) As general business conditions improve, ceteris paribus, in the bond market

A) the bond demand curve would shift left.
B) the bond supply curve would shift left.
C) bond prices would decrease.
D) bond prices would increase.

71) As general business conditions deteriorate, all other factors constant,

A) the demand for bonds will decrease.
B) the supply of bonds will increase.
C) bond prices will decrease.
D) bond yields will increase.

72) As general business conditions improve, all other factors constant, the

A) price of bonds will increase.
B) yield on bonds will increase.
C) bond demand curve shifts right.
D) bond supply curve shifts left.

73) As general business conditions deteriorate, all other factors constant,

A) the bond supply curve will shift left.
B) there will be a movement down the existing bond supply curve.
C) the bond demand curve shifts left.
D) the price of bonds will decrease.

74) When expected inflation increases, for any given nominal interest rate the

A) cost of borrowing increases and the desire to borrow decreases.
B) real interest rate increases.
C) bond supply curve shifts to the left.
D) cost of borrowing decreases and the desire to borrow increases.

75) When expected inflation decreases for any given nominal interest rate, all of the following occur except the

A) real interest rate decreases.
B) bond supply curve shifts to the left.
C) cost of borrowing increases and the desire to borrow decreases.
D) price of bonds increases.

76) When expected inflation increases, for any given nominal interest rate the

A) bond demand curve shifts right.
B) bond supply curve shifts right.
C) price of bonds increases.
D) yield on bonds will increase.

77) When expected inflation increases, for any given nominal interest rate the

A) real cost of repayment for bond issuers increases.
B) real return for bondholders increases.
C) real cost of repayment for bond issuers decreases.
D) bond demand curve shifts right.

78) If the federal government were to offer larger tax breaks on the purchase of new equipment for businesses, all other factors constant, we would expect to see the

A) bond demand curve shift right.
B) bond supply curve shift left.
C) bond supply curve shift right.
D) bond demand curve shift left.

79) Which one of the following would lead to an increase in bond supply?

A) a decrease in government spending relative to revenue
B) an increase in corporate taxes
C) a decrease in expected inflation
D) an improvement in general business conditions

80) Ceteris paribus, which one of the following would lead to a decrease in bond demand?

A) an increase in expected inflation
B) an increase in wealth
C) a decrease in risk
D) a decrease in liquidity

81) An increase in the nation's wealth, all other factors constant, would cause the

A) bond supply curve to shift left.
B) bond demand curve to shift left.
C) bond supply curve to shift right.
D) bond demand curve to shift right.

82) An increase in the nation's wealth, all other factors constant, would cause

A) bond prices to fall and yields to increase.
B) bond prices and yields to increase.
C) bond prices to rise and yields to decrease.
D) the bond supply curve to shift right.

83) A decrease in the nation's wealth, all other factors constant, would cause

A) the bond demand curve to shift left.
B) bond prices to rise.
C) interest rates to decrease.
D) the bond supply curve to shift left.

84) An increase in expected inflation for any given nominal interest rate will cause the

A) bond supply curve to shift to the left.
B) bond demand curve to shift to the right.
C) price of bonds to decrease.
D) price of bonds to increase.

85) A decrease in expected inflation for any given nominal interest rate will cause

A) bond prices to increase and interest rates to decrease.
B) bond prices to decrease and interest rates to increase.
C) the bond demand curve to shift to the left.
D) the bond supply curve to shift to the left.

86) An increase in expected inflation for any given nominal interest rate will cause

A) the real return to bondholders to decrease.
B) a movement down the bond demand curve, but no change in the bond demand curve.
C) the bond demand curve to shift right.
D) the price of bonds to increase.

87) Suppose that the expected return on bonds falls relative to other assets. In the bond market this will result in

A) the bond supply curve shifting left.
B) a movement down the bond demand curve.
C) a shift to the left of the bond demand curve.
D) an increase in the price of bonds.

88) Suppose that the return on assets other than bonds falls. In the bond market this will result in a(n)

A) movement down the bond demand curve.
B) shift to the left of the bond demand curve.
C) increase in the price of bonds.
D) shift to the left of the bond supply curve.

89) The return on bonds rises relative to other assets; in the bond market this will result in

A) the price of bonds falling and the yields increasing.
B) a rightward shift in the bond supply curve.
C) a shift to the left of the bond demand curve.
D) an increase in bond prices.

90) If interest rates are expected to rise, the bond prices will

A) not change until interest rates actually change.
B) fall, due to the demand for bonds decreasing.
C) rise, as people seek capital gains.
D) move in the same direction as the expected change in interest rates.

91) If interest rates are expected to fall, bond prices will

A) fall as the demand for bonds decreases.
B) remain constant until interest rates actually change.
C) fall as people fear capital losses in the future.
D) increase due to the demand for bonds increasing.

92) Suppose that general business conditions improve, and at the same time, wealth increases. Based on this information, we know that

A) bond prices increase.
B) yield to maturity decreases.
C) the real interest rate increases.
D) the quantity of bonds increases.

93) If the risk on foreign government bonds increases relative to U.S. government bonds, the price of U.S. government bonds should

A) not change since U.S. government bonds are free of default risk.
B) decrease since people will bail out of all government bonds.
C) increase as the demand for these bonds increases.
D) not be affected because the two types of bonds are traded in different markets.

94) The demand for U.S. government bonds has been high relative to other bond issues because

A) the liquidity of other bond issues is high relative to U.S. government bonds.
B) the U.S. bond market has low transaction spreads due to high illiquidity.
C) the market for U.S. government bonds has been more liquid than most if not all other bond markets.
D) U.S. government bonds have higher default.

95) Ceteris paribus, a decrease in expected inflation in the bond market will have a relatively large effect on the prices of bonds prices because the bond demand curve

A) will shift right as will the bond supply curve.
B) will shift right but the bond supply curve shifts left.
C) and supply curves will shift left.
D) will shift left as the bond supply curve shifts right.

96) Which one of the following statements about the result of a deterioration in business conditions that also causes a decrease in a nation's wealth isfalse?

A) The impact on bond prices will be ambiguous since both the bond demand and supply curves shift left.
B) The price of bonds will increase if bond supply decreases more than bond demand.
C) Interest rates will increase if bond demand decreases more than bond supply.
D) Neither bond demand nor bond supply will shift.

97) The market for bonds is initially described by the supply of bonds, S₀, and the demand for bonds, D₀, with the equilibrium price and quantity being P₀ and Q₀. An increase in the nation’s wealth, all else constant, would cause the

A) bond supply curve to shift to S₁.
B) bond demand curve to shift to D₁.
C) bond supply curve to shift to S₂.
D) bond demand curve to shift to D₂.

98) The market for bonds is initially described by the supply of bonds, S₀, and the demand for bonds, D₀, with the equilibrium price and quantity being P₀ and Q₀. Suppose that the expected return on bonds falls relative to other assets. In the bond market this will result in the

A) bond supply curve shifting to S₁.
B) bond demand curve shifting to D₁.
C) bond supply curve shifting to S₂.
D) bond demand curve shifting to D₂.

99) The market for bonds is initially described by the supply of bonds, S₀, and the demand for bonds, D₀, with the equilibrium price and quantity being P₀ and Q₀. If the federal government were to offer larger tax breaks on the purchase of new equipment for businesses, all other factors constant, we would expect to see the

A) bond supply curve to shift to S₁.
B) bond demand curve to shift to D₁.
C) bond supply curve to shift to S₂.
D) bond demand curve to shift to D₂.

100) The market for bonds is initially described by the supply of bonds, S₀, and the demand for bonds, D₀,with the equilibrium price and quantity being P₀ and Q₀. If the U.S. government's borrowing needs decrease, all other factors constant,

A) bond supply curve will shift to S₁.
B) bond demand curve will shift to D₁.
C) bond supply curve will shift to S₂.
D) bond demand curve will shift to D₂.

101) Fly-By-Night Inc. issues $100 face value, zero-coupon, one-year bonds. The current return on one-year, zero-coupon U.S. government bonds is 3.5%. If the Fly-By-Night bonds are selling for $92.00, what is the risk premium for these bonds?

A) 8.7%
B) 1.5%
C) 5.2%
D) 8.0%

102) Default risk is the risk associated with

A) the bond issuer not being able to make the promised payments.
B) the illiquidity associated with small issues.
C) the effect on bond prices caused by changes in market rates of interest.
D) changes in the expected inflation rate.

103) Consider the following bonds. Which is subject to the greatest interest-rate risk?

A) a 30-year fixed-rate mortgage (fixed payment loan)
B) a consol
C) a Treasury bill
D) a 20-year corporate bond

104) Consider a zero-coupon bond with a $1,100 payment in one year. Suppose the interest rate decreases from 10% to 8%. The price of this bond

A) increases from $1,000 to $1,018.
B) increases from $1,000 to $1,375.
C) decreases from $110 to $88.
D) decreases from $1,210 to $1,188.

105) Consider a one-year corporate bond that has a 20% probability of default. The payoff on the bond is $2,000 if the corporation does not default. The interest rate is 10%. If buyers of this bond are risk-neutral, this bond will sell for

A) $400.
B) $909.09.
C) $1,454.54.
D) $1,600.

106) A student receives a five-year loan to pay for a $2,000 used car. The lender and the student agree to an 8% interest rate on a fixed-rate loan. Expected inflation was estimated to equal 2.5%, but it unexpectedly decreases to 2%. Which one of the following is true?

A) The real interest rate decreased.
B) The student is made worse off because her real cost of borrowing is higher.
C) The lender is made worst off because his real return on the car loan is lower.
D) Both the student and the lender benefit.

107) Which of the following istrue of interest-rate risk?

A) It is the risk that the coupon rate for a bond will change, affecting current bondholders' coupon payments.
B) It refers to the probability that a borrower will default on debt obligations.
C) It is the risk that the face value of a bond will change before maturity.
D) Individuals owning long-term bonds are exposed to greater interest-rate risk.

108) U.S. government bonds that provide for bondholders to receive a fixed rate of interest plus the change in the consumer price index were designed to remove

A) default risk.
B) liquidity risk.
C) inflation risk.
D) interest-rate risk.

109) The U.S. Treasury issues bonds where the return is indexed to the consumer price index. We should expect that these bonds, relative to other U.S. Treasury bonds, will have

A) lower price and lower return due to the decreased risk.
B) lower price and a lower fixed return since the demand for them should be higher.
C) higher price and higher fixed return since we always seem to have some inflation.
D) higher price and lower return due to the decreased risk from inflation in holding these bonds.

110) Inflation risk results from

A) risk that the bond’s return differs from the risk-free rate.
B) a mismatch between an individual's investment horizon and a bond's maturity.
C) the difficulty an investor may face in selling a bond before it matures.
D) an investor’s uncertainty about the real value of the payments that occur over time.

111) Interest-rate risk results from

A) bond prices being fixed over the life of the bond.
B) a mismatch between an individual's investment horizon and a bond's maturity.
C) the fact that most people hold bonds until they mature.
D) inflation being uncertain.

112) Interest-rate risk wouldnot matter to a holder of a

A) U.S. government bond.
B) U.S. government bond indexed for inflation.
C) U.S. government bond who plans on selling it in one year.
D) U.S. government bond that plans on holding it until it matures.

113) Suppose a family member approaches you to borrow $2,000 for the down payment on an automobile. You have the cash available in a savings account that currently earns 5% annual interest. You and the family member consider the following repayment options.

(i) borrower repays $259 each year over the next ten years

(ii) borrower repays $300 each year over the next five years, plus a lump-sum payment of $895 in the fifth year.

(iii) borrower repays you $2,100 at the end of one year.

For each of the options above, show that the present values of each option are approximately equal. Then, relate each of the options above to the four types of bonds, indicating which option is equivalent to which type of bond. Explain why.

114) Consider a $1,000.00 face value bond with a $55 annual coupon and 10 years until maturity. Calculate the current yield; the coupon rate and the yield to maturity under each of the following:

(a) the bond is purchased for $940.00

(b) the bond is purchased for $1,130.00

(c) the bond is purchased for $1,000.00

115) Calculate the holding period return for a $1,000 face value bond with a $60 annual coupon purchased for $970.00 and sold three years later for $1,060.00.

116) Could the holding period return ever be less than the yield to maturity? Explain.

117) Use the example of a consol to show how bond prices and yields are inversely related.

118) Notice the following model of a bond market. In each situation given, explain what happens to the bond price and yield and why.


(a) expected inflation increases

(b) the return on bonds rises relative to other assets

(c) the federal government deficit increases

119) In 2017, the World Bank launched specialized “pandemic bonds” intended to provide financial support to developing countries facing the risk of a pandemic. The bonds offered investors high interest payments in return for taking on the risk of losing a certain amount or all of their money if pandemics occur. In March 2020, the price of these bonds plunged. Use Supply and Demand in the market for these bonds to illustrate why the price dropped at that time.

120) Calculate the price of a zero-coupon bond that has an interest rate of 6.65% (.0665), a face value of $100.00 and six months to maturity.

121) Calculate the monthly payment for a 30-year mortgage, where the amount borrowed is $100,000 and the annual interest rate is 6.0%.

122) Calculate the price of a $1,000 face value bond that offers a $45 annual coupon, and has six years to maturity, when the interest rate is 6.0% (0.060).

123) Which bond will have a higher yield to maturity, a $1,000 face value bond with a 5.0% coupon rate that sells for $900; or a $1,000 face value bond with a $50 annual coupon that sells for $1,050? Explain your choice.

124) Compute the change in the price of a five-year (until maturity) $1,000 face value zero-coupon bond that currently yields 7% when expected inflation increases from 3% to 4%.

125) Suppose that the interest rate on a conventional 30-year mortgage is currently 8%. You receive a call from a mortgage broker who offers you a 30-year adjustable rate mortgage at 2% that is adjusted once each year. Evaluate each mortgage in terms of the following: risk that the monthly payment will change over the next 30 years and interest-rate risk.

126) Explain the relationship between coupon rate (or coupon yield) and current yield.

127) Explain why the bid-ask spread (which is the difference in price a dealer is willing to buy the bond for and the price at which the dealer sells the bond) on most municipal bonds would be greater than the spread on U.S. Treasury bonds.

128) The U.S. Treasury offers several ways to purchase U.S. government bonds. There are the traditional coupon bonds and Treasury Inflation-Indexed Securities. How do these bonds differ from their traditional counterparts?

129) In the late 1990s, the U.S. government ran a surplus for the first time in decades. It instituted a buyback program, whereby the Treasury bought outstanding government bonds. How would this program affect the bond market price, yield, and quantity of bonds? How might it affect the liquidity of government bonds?

130) Explain why the holding period return, as an economic measure, does not have the same significance as current yield or yield to maturity.

131) Suppose that a bond is purchased at a discount (meaning that it is sold for less than face value). Could the yield to maturity ever be less than the coupon rate? Could the holding period return be less than the coupon rate? Explain.

132) In mid-2004 there was speculation that the Federal Reserve would be raising interest rates before the end of the year. How would this news affect the bond market and why?

133) Use our model of the bond market (supply and demand) to explain what happens if an economy continued to grow at robust rates for a long period of time.

134) How can a bond mutual fund report a return of over 13% when the coupon rate of the bonds they are holding are just 7% and interest rates are falling?

135) At the time the government of Bulgrovia issued new bonds, they issued them at a price that reflected the risk-free rate because investors had no concerns regarding default risk, so did not require a risk premium. That risk-free rate was 4%. These bonds currently have one year to maturity and you notice the yield is 20%. Can you calculate the probability that the Bulgrovian government will default?

136) Consider two investors: one is risk-neutral and the other is risk-averse. How do they each assess a risk premium?

137) Explain why two countries with the same average rate of inflation may not present the same inflation risk for holders of those countries' bonds?

138) The text identified the various sources of risk for bonds. Are U.S. Treasury TIPS bonds free from risk? Explain.

139) If you were going to issue bonds, would you prefer to be in a country where the average inflation rate is 3% inflation but fluctuates wildly, or in a country with a higher, 4% expected inflation rate that is stable (meaning it's always 4%). Explain.