FINC409/609 - Fixed Income Seccurities: Lecture 06 Quiz

Question 1 – Interpreting Yield to Maturity

Which of the following best describes the yield to maturity (YTM) on a coupon bond?

A. The weighted average of all coupon payments the bond will make.
B. The coupon rate divided by the bond’s current market price.
C. The single discount rate that makes the present value of the bond’s promised cash flows equal to its market price.
D. The realized return an investor earned over the last year from holding the bond.

Question 2 – Zero-Coupon Bonds and YTM

A 20-year zero-coupon Treasury STRIPS has a par value of $100. If its market price falls today while maturity and par value stay the same, what happens to its yield to maturity (YTM), assuming semi-annual compounding?

A. The YTM must fall.
B. The YTM stays the same.
C. The YTM must rise.
D. The YTM could go up or down; we cannot tell.

Question 3 – Discount Yield vs. Return

Treasury bills are quoted on a discount yield basis. Why is the quoted discount yield on a T-bill not a good measure of the investor’s actual rate of return?

A. Because it uses a 365-day year instead of a 360-day year.
B. Because it assumes compound interest rather than simple interest.
C. Because it divides the discount by the par value (100) instead of by the price paid.
D. Because it ignores the time to maturity.

Question 4 – Bond-Equivalent Yield (BEY)

The main purpose of converting a T-bill’s discount yield into a bond-equivalent yield (BEY) is to:

A. Adjust the T-bill yield for default risk.
B. Put the T-bill yield on the same annualized, price-based basis as the yield to maturity on coupon-paying Treasury notes and bonds.
C. Convert the T-bill yield into a continuously compounded rate.
D. Turn the T-bill into the equivalent of a par bond.

Question 5 – Premium, Par, and Discount

A 5-year Treasury note with a 4% coupon (paid semi-annually) is currently trading at $104 per $100 of par value. What must be true about the bond’s yield to maturity (YTM)?

A. YTM > 4% per year.
B. YTM = 4% per year.
C. YTM < 4% per year.
D. There is no systematic relationship between YTM and coupon when price ≠ 100.

Question 6 – Par Yield

The U.S. Treasury wants to issue a new 2-year note at a price of 100 (at par). Given a set of risk‑free discount factors for future cash flows, the coupon rate they choose must equal:

A. The yield on the 2-year zero-coupon Treasury only.
B. The par yield: the coupon rate that makes the present value of the bond’s cash flows equal to 100 using those discount factors.
C. The average of next year’s expected short rates.
D. Zero; the bond must be issued as a zero-coupon note to trade at par.

Question 7 – Bond Price–Yield Relation

Which statement best describes the price–yield relation for a standard, option‑free fixed‑rate bond?

A. Bond price and yield move in the same direction, and the relation is linear.
B. Bond price and yield move in opposite directions, and the relation is a straight line.
C. Bond price and yield move in opposite directions, and the price–yield curve is downward‑sloping and convex.
D. Bond price is independent of the yield once the coupon rate is fixed.

Question 8 – Law of One Price

According to the law of one price as applied in fixed‑income markets, if two portfolios of risk‑free bonds have the same cash flows in every period and in every state of the world, then:

A. The more diversified portfolio should be priced higher.
B. They must have the same price; if they do not, an arbitrage opportunity exists.
C. The portfolio with shorter maturity must be cheaper.
D. The portfolio containing zero‑coupon bonds must be more expensive.

Question 9 – Arbitrage with Bond C

In the lecture example, Bond C has the same cash flows as a portfolio consisting of Bond A and Bond B together. Suppose Bond A and Bond B together cost $68, but Bond C costs $71. Ignoring transaction costs, which arbitrage trade is consistent with the law of one price?

A. Buy Bond C and short‑sell Bonds A and B.
B. Short‑sell Bond C and buy Bonds A and B.
C. Do nothing; there is no arbitrage.
D. Buy all three bonds.

Question 10 – Pricing by Replication

When you price a coupon bond by expressing its cash flows as a combination of other traded Treasury securities and then summing the market prices of those securities, you are primarily applying:

A. Duration and convexity approximations.
B. Technical analysis of bond price charts.
C. The law of one price and pricing by replication.
D. The expectation hypothesis for the term structure.

FINC409/609 - Fixed Income Securities

Prof. Matt Fleckenstein

Lecture 6 - Quiz