LOMA 357

Chapter 8
Reference: c. 8, p. 4
Last year, both the Longwood Insurance Company and the Charisma Telephone
Company issued corporate bonds. From the answer choices below, select the
response that correctly identifies the typical classification of corporate bonds
issued by Longwood and by Charisma.

Longwood Charisma

A. utility bonds finance bonds

B. finance bonds utility bonds
C. industrial bonds utility bonds
D. finance bonds industrial bonds
Reference: c. 8, pp. 4-5
One type of U.S. Treasury security has a maturity date of between 1 year and 10
years. From the answer choices below, select the response that correctly
indicates this type of U.S. Treasury security and whether it provides inflation
protection.

Type of U.S. Treasury security? Provides inflation protection?

A. Treasury note no
B. Treasury note yes
C. Treasury bond no
D. Treasury bond yes
Reference: c. 8, pp. 4-5
U.S. Treasury securities include Treasury bills, Treasury bonds, Treasury notes
and Treasury-Inflation Protected Securities (TIPS). The following statements are
about these securities. Select the answer choice containing the correct statement.

A. Treasury bills have a maturity date of two years or more.

B. Treasury notes offer protection from inflation.
C. Treasury bonds typically have maturities shorter than 10 years.
D. Coupon payments for TIPS are paid semiannually.
Reference: c. 8, p. 5
The government of State A in the United States issued bonds to help fund the
construction of a toll road. The bonds will be serviced by the income produced
from the toll road. This information indicates that State A issued a type of

A. municipal bond known as a revenue bond

B. municipal bond known as a general obligation bond
C. sovereign debt security known as a revenue bond
D. sovereign debt security known as a general obligation bond
Reference: c. 8, pp. 5-6
The Everglade Corporation, a United States company, purchased a bond that was
issued by a state government and that is serviced by the income generated from
an interstate toll road. This bond is required to pay principal and interest only if a
sufficient level of income is generated by the toll road. This information indicates
that Everglade purchased a type of bond known as a

A. revenue bond
B. general obligation bond
C. utility bond
D. debenture
Reference: c. 8, pp. 8
The Sunflower Insurance Company purchased from the Gardenia Corporation a
$100,000 bond with a maturity date of 20 years. Gardenia is permitted to retire this
bond at a specified price prior to its maturity. The Gardenia bond also requires
Gardenia to follow a particular arrangement for accumulating the amount of the
bond’s principal over time that involves setting aside funds periodically for the
repayment of the debt. This information indicates that the Gardenia bond

A. contains a sinking fund provision

B. is a serial bond
C. is a non-callable bond
D. contains a financial covenant
Reference: c. 8, pp. 7, 8
The following statements are about variations on the terms of a bond. Select the
answer choice containing the correct statement.

A. Restrictive covenants require a bond issuer to take certain actions, such as

meeting stated contractual and legal obligations and maintaining a specified
minimum credit rating.
B. Zero-coupon bonds, which are sold at a premium to their face value, pay interest
during the bond's term.
C. A callable bond allows a bond issuer to retire the bond prior to the maturity date at
a specified price.
D. A sinking fund provision in a bond stipulates that the issuer will prepay the entire
principal amount of a bond issue before the stated maturity date.
Reference: c. 8, p. 9
The Selli Company's bond issue has a single maturity date of 20 years. Because
of Selli's exceptionally good credit, Selli is able to pay relatively low interest rates
without pledging specific assets as collateral for the bond issue. In this situation,
Selli issued a type of corporate bond known as a

A. mortgage bond
B. serial bond
C. secured bond
D. debenture
Reference: c. 8, pp. 10, 12
After a bond issuer's successful reorganization proceeding, (bondholders /
stockholders) typically recover some of their investment in the form of restructured
debt or ownership interest in the reorganized company. Whenever a bond issuer's
credit rating is upgraded, coupon rates on the bond issuer's new bonds generally
(increase / decrease).

A. bondholders / increase
B. bondholders / decrease
C. stockholders / increase
D. stockholders / decrease
Reference: c. 8, pp. 12-13
To help with the sale of the Seitz Corporation's new bond issue to the public, Seitz
hired the Meece Group, a financial intermediary. Meece purchased the bond issue
from Seitz at a specified price and then sold the bonds to the public at a
somewhat higher price. This information indicates that the initial sale of the Seitz
bond issue occurred in the (primary / secondary) market and that Meece's role in
this sale was as an (investment bank / administrator).

A. primary / investment bank

B. primary / administrator
C. secondary / investment bank
D. secondary / administrator
Reference: c. 8, pp. 13, 14
The following statements are about the characteristics of private placement bonds.
Three of the statements are true, and one of the statements is false. Select the
answer choice containing the FALSE statement.

A. The terms of a private placement bond can be negotiated between the bond
issuer and the purchaser.
B. A private placement bond covenant could restrict the bond issuer from issuing
other debt that might put the investment at risk.
C. Private placement bonds have higher transaction costs than do publicly-
issued bonds.
D. Private placements offer higher returns than for comparable public bonds.
Reference: c. 8, pp. 13-14
Private placement securities make up a significant percentage of the assets in the portfolios
of insurance companies and other institutional investors. The following statements are about
private placements. Select the answer choice containing the correct statement.

A. The terms of private placement bonds are frequently renegotiated.

B. The issuer of a private placement bond incurs lower transaction costs as compared to
publicly issued bonds.
C. When private placement bonds include negotiated covenants, these covenants tend to
place fewer restrictions on issuers than do covenants of publicly offered bonds.
D. Institutional investors generally receive lower returns on private placement bonds than
they do on comparable public bonds.
Reference: c. 8, p. 16
The following statements describe companies that are issuing and selling bonds in
various locations. Select the example in which the bond is correctly described as a
eurobond.

A. A Spanish company issued a bond in Canada that was denominated in Canadian

dollars.
B. A British company issued a bond in Britain that was denominated in British
pounds and will trade in Britain.
C. A United States company issues a bond in Germany that is denominated in U.S.
dollars.
D. A Japanese corporation issues a bond in the United States that is denominated in
U.S. dollars and will trade in the United States.
Reference: c. 8, pp. 17-18
Sadie Mantel, a bond trader, obtained a bond yield quote for a Cilantro
Corporation bond as follows:

T + 150

Ms. Mantel knows that Treasury securities comparable in duration to this bond are
yielding 3.5%. Therefore, the yield on the Cilantro Corporation bond is equal to

A. 2.00%
B. 3.65%
C. 5.00%
D. 5.25%
Reference: c. 8, pp. 17-19
Use the following information to answer questions 10 and 11.

Dani Shoy, a bond trader, obtained a bond yield quote of T + 150 for a Yune Corporation 10-year bond. U.S. Treasury
securities that are comparable in duration to the Yune corporate bond are yielding 3.5%. Ms. Shoy obtained the following
yield quotes for two comparable corporate bonds:

10-Year Corporate Bonds Issuer Quoted Yields

Vibrant T + 120
Willby T + 180

This information indicates that the Yune Corporation bond is offered at a yield equal to

A. 1.5%
B. 2.0%
C. 3.5%
D. 5.0%
Reference: c. 8, pp. 17-19
Use the following information to answer questions 10 and 11.

Dani Shoy, a bond trader, obtained a bond yield quote of T + 150 for a Yune Corporation 10-year bond. U.S. Treasury securities that are comparable
in duration to the Yune corporate bond are yielding 3.5%. Ms. Shoy obtained the following yield quotes for two comparable corporate bonds:

10-Year Corporate Bonds Issuer Quoted Yields

Vibrant T + 120
Willby T + 180

From the answer choices below, select the response that correctly indicates the yield spread, in basis points (bps), between the Vibrant bond and the
Willby bond, and identify which of the two bonds is riskier, based on the quoted yields.

Yield spread Riskier?

A. 30 bps Vibrant
B. 30 bps Willby
C. 60 bps Vibrant
D. 60 bps Willby
Reference: c. 8, p. 19
The following statement(s) can correctly be made about the institutional bond purchase
process:

A. The operations department reconciles statements from banks and other external service
providers with operations department records.

B. The institutional investor purchase process for a private placement bond is the same from
one transaction to another.

I. Both A and B
II. A only
III. B only
IV. Neither A nor B
Reference: c. 8, pp. 19-20
Market prices for bonds are notably responsive to movements in market interest
rates as well as changes in the bond issuer's credit ratings. If market interest rates
increase, the prices of existing bonds generally (increase / decrease). If the bond
issuer's credit rating is upgraded, the prices of the issuer's existing bonds
generally (increase / decrease).

A. increase / increase
B. increase / decrease
C. decrease / increase
D. decrease / decrease
Reference: c. 8, pp. 19-20
Market prices for bonds are notably responsive to movements in market interest
rates as well as changes in the issuers’ credit ratings. Whenever market interest
rates decrease, the prices of existing bonds generally (decrease / increase).
Whenever a corporate bond issuer’s credit rating is downgraded, the market
prices of the corporation’s outstanding bonds generally (decrease / increase).

A. decrease / decrease
B. decrease / increase
C. increase / decrease
D. increase / increase
Reference: c. 8, pp. 19, 21
Institutional bondholders employ a variety of useful bond investment strategies. Consider the following situations:

● The Morse Financial Group purchased approximately equal amounts of bonds of 1-, 2-, 3-, 4-, 5-, and 10-
year maturities. When each of these issues matures, Morse will reinvest the principal in 10-year bonds.
● The Nassirou Insurance Company purchased and holds short-term bonds of 1-, 2-, and 3-year maturities
and long-term bonds of 20- and 30-year maturities. Nassirou did not purchase any intermediate-term bonds
for its bond portfolio.

Based on the information, it most likely is correct to say that a laddered strategy was used by

A. both Morse and Nassirou

B. Morse only
C. Nassirou only
D. neither Morse nor Nassirou
Reference: c. 8, p. 23
As part of the credit enhancement process for creating a structured security, a
special purpose entity (SPE) divided the securitized debt into several tranches.
The Tilden Company invested in the equity tranche of this structured security.
With regard to the order of payment to investors, the equity tranche pays Tilden
and other equity tranche investors

A. first
B. second
C. third
D. last
Reference: c. 8, p. 23
As part of the credit enhancement process for creating structured securities, a special purpose entity
(SPE) typically divides the securities into several ownership classes, or tranches. Most securitized debt
has the following four tranches:

● The equity tranche

● The A debt tranche
● The AA debt tranche
● The AAA debt tranche

One true statement about these four tranches is that the

A. equity tranche has first priority for payment relative to the other tranches
B. A debt tranche is also known as the subordinated debt tranche
C. AA debt tranches are typically sold as private placements
D. interest rates on the AAA debt tranche tend to be higher than those on the other tranches
Reference: c. 8, pp. 24, 25
Types of structured securities include collateralized loan obligations (CLOs) and
asset-backed securities (ABSs). (A CLO / An ABS) represents an interest in a pool
of corporate debt such as commercial loans. Some of the loans that back
structured securities are known as (amortizing / non-amortized) loans, which
means that each loan repayment reflects both principal and interest.

A. a CLO / amortizing
B. a CLO / non-amortized
C. an ABS / amortizing
D. an ABS / non-amortized
Reference: c. 8, p. 25
Consider the payment structures of the following asset-backed securities (ABSs):

● The Pepple Life Insurance Company invested in an ABS that makes payments to investors in two phases: (1) an
initial period that consists of interest payments only and (2) a final period that consists of payments of both principal
and interest.
● The Warco Insurance Group invested in an ABS in which the holders of the most senior tranche receive all principal
payments until that tranche is retired; then, holders of the second tranche receive all principal payments, and so on,
until holders of the last tranche are paid.
● From the answer choices below, select the response that correctly identifies the arrangement for payment of interest
and principal payment for Pepple's ABS and Warco's ABS.

Pepple Warco

A. fully amortized structure sequential payment structure

B. fully amortized structure bullet payment structure
C. controlled amortization structure sequential payment structure
D. controlled amortization structure bullet payment structure
Reference: c. 8, pp. 25
By definition, if an asset-backed security (ABS) is structured so that it pays
principal and interest through a controlled amortization schedule, then the security

A. returns principal over the life of the security

B. makes payments to investors in two phases, an initial period in which
payments comprise only interest, and a final period in which payments
comprise both interest and principal
C. is designed to return principal to investors in a single payment
D. makes payments to investors according to their membership in a particular
ownership class, with members of the senior tranche being paid first,
members of the second tranche being paid next, and so on