a. The yield on a 3-year Treasury bond cannot exceed the yield on a 2-year Treasury bond.
b. The yield on a 2-year corporate bond should always exceed the yield on a 2-year Treasury bond.
c. The yield on a 3-year corporate bond should always exceed the yield on a 2-year corporate bond.
d. The yield on a 10-year AAA-rated corporate bond should always exceed the yield on a 5-year AAA-rated corporate bond.
e. The following represents a “possibly reasonable” formula for the maturity risk premium on bonds: MRP = -0.1%(t), where t is the years to maturity.
Answer Options:
Answer: b. The yield on a 2-year corporate bond should always exceed the yield on a 2-year Treasury bond.
Question: Berenek Corp has $720,000 of assets (which equal total invested capital), and it uses no debt—it is financed only with common equity. The new CFO wants to employ enough debt to raise the total debt to total capital ratio to 40%, using the proceeds from borrowing to buy back common stock at its book value. How much must the firm borrow to achieve the target debt ratio?
Answer Options:
a. $273,600
b. $288,000
c. $302,400
d. $317,520
e. $333,396
Answer: e. $333,396
Question: Which of the following statements is CORRECT?
Answer Options:
a. A time line is not meaningful unless all cash flows occur annually.
b. Time lines are not useful for visualizing complex problems prior to doing actual calculations.
c. Time lines cannot be constructed to deal with situations where some of the cash flows occur annually but others occur quarterly.
d. Time lines can only be constructed for annuities where the payments occur at the end of the periods, i.e., for ordinary annuities.
e. Time lines can be constructed where some of the payments constitute an annuity but others are unequal and thus are not part of the annuity.
Answer: e. Time lines can be constructed where some of the payments constitute an annuity but others are unequal and thus are not part of the annuity.
Question: Which of the following statements regarding a 15-year (180-month) $125,000, fixed-rate mortgage is CORRECT? (Ignore taxes and transaction costs.)
Answer Options:
a. The remaining balance after three years will be $125,000 less one third of the interest paid during the first three years.
b. Because it is a fixed-rate mortgage, the monthly loan payments (which include both interest and principal payments) are constant.
c. Interest payments on the mortgage will increase steadily over time, but the total amount of each payment will remain constant.
d. The proportion of the monthly payment that goes towards repayment of principal will be lower 10 years from now than it will be the first year.
e. The outstanding balance declines at a slower rate in the later years of the loan’s life.
Answer: b. Because it is a fixed-rate mortgage, the monthly loan payments (which include both interest and principal payments) are constant.
Question: Managers should under no conditions take actions that increase their firm’s risk relative to the market, regardless of how much those actions would increase the firm’s expected rate of return.
Answer Options:
a. True
b. False
Answer: b. False
Question: Which of the following statements is CORRECT?
a. The yield to maturity for a coupon bond that sells at a premium consists entirely of a positive capital gains yield; it has a zero current interest yield.
b. The market value of a bond will always approach its par value as its maturity date approaches. This holds true even if the firm has filed for bankruptcy.
c. Rising inflation makes the actual yield to maturity on a bond greater than a quoted yield to maturity that is based on market prices.
d. The yield to maturity on a coupon bond that sells at its par value consists entirely of a current interest yield; it has a zero expected capital gains yield.
e. The expected capital gains yield on a bond will always be zero or positive because no investor would purchase a bond with an expected capital loss.
Answer Options:
a. False
b. False
c. False
d. True
e. False
Answer: d. True
Question: If its yield to maturity declined by 1%, which of the following bonds would have the largest percentage increase in value?
a. A 1-year zero coupon bond.
b. A 1-year bond with an 8% coupon.
c. A 10-year bond with an 8% coupon.
d. A 10-year bond with a 12% coupon.
e. A 10-year zero coupon bond.
Answer Options:
a. False
b. False
c. False
d. False
e. True
Answer: e. True
Question: If investors expect the rate of inflation to increase sharply in the future, then we should not be surprised to see an upward-sloping yield curve.
Answer Options:
a. True
b. False
Answer: a. True
Question: Portfolio A has but one stock, while Portfolio B consists of all stocks that trade in the market, each held in proportion to its market value. Because of its diversification, Portfolio B will by definition be riskless.
Answer Options:
a. True
b. False
Answer: b. False
Question: Which of the following statements is CORRECT?
a. Two bonds have the same maturity and the same coupon rate. However, one is callable and the other is not. The difference in prices between the bonds will be greater if the current market interest rate is below the coupon rate than if it is above the coupon rate.
b. A callable 10-year, 10% bond should sell at a higher price than an otherwise similar noncallable bond.
c. Corporate treasurers dislike issuing callable bonds because these bonds may require the company to raise additional funds earlier than would be true if noncallable bonds with the same maturity were used.
d. Two bonds have the same maturity and the same coupon rate. However, one is callable and the other is not. The difference in prices between the bonds will be greater if the current market interest rate is above the coupon rate than if it is below the coupon rate.
e. The actual life of a callable bond will always be equal to or less than the actual life of a noncallable bond with the same maturity. Therefore, if the yield curve is upward sloping, the required rate of return will be lower on the callable bond.
Answer Options:
a. True
b. False
c. True
d. False
e. False
Answer: a. True