59 CFA Level 2 Practice Questions Free with Instant Answers on Fixed Income
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1. Perceived riskiness of the issuer2. Type of issuer3. Term or
maturity of the issue4. Embedded Options5. Taxability of interest
received by investors6. Expected liquidity of the issue
It tells investors about their expectations relative to what the
market consensus expects. This allows them to make decisions based upon
what the market expects.
An analysis of working capital is important in order to determine a
firm's capacity to meet current obligations. In analyzing working
capital, the normal working capital requirements of both a company and
industry should be considered. In addition, the components of working
capital (such as accounts receivable, accounts payable and so forth)
should be assessed. For example, although accounts receivable are
considered to be liquid, an increase in the average days receivables
(which is accounts receivable div
A fixed charge coverage ratio would be materially different from an
interest coverage ratio calculation of simple pretax interest coverage
if there are fixed obligations other than interest that are significant.
If there are other fixed obligations, a more appropriate coverage ratio
would include these other obligations, and should compute a fixed
charge coverage ratio. An example of other significant fixed obligations
is lease payments. An analyst must also be aware of any contingent
liabilities, such as a
1. How absolute priority holds. In liquidation it holds, but reorg it
may not.2. The outcome is different. Liquidation all assets are
distributed while in reorg mix of both cash and assets from new org can
be distributed
Traditional call provision - call price is fixed and is either sold at
a par or premium. Make-whole, payment when the issuer calls a bond is
determined by the present value of the remaining payments discounted at a
small spread over a maturity-matched Treasury yield.
Risk of defaultCorporate downgrade riskCorporate credit spread
riskDefault Loss Rate = Default Rate*[100% - Recovery
Rate]Default:Bankruptcy filing (Ch. 11 or Ch.7)Missing
interest/principal paymentDistressed exchangeSuspension of payments
For TIPS, the inflation-adjusted principal is the principal that the
Treasury Department will base both the dollar amount of the coupon
payment and the maturity value on. It is adjusted semiannually. Part of
the adjustment for inflation comes in the coupon payment since it is
based on the inflation-adjusted principal. However, the U.S. government
has decided to tax the adjustment each year. This feature reduces the
attractiveness of TIPS as investments in accounts of tax-paying
entities.
Financial assets are a package of cash flows with each cash flow discounted by a rate appropriate for the period received
With a make-whole call provision, the payment when the issuer calls a
bond is determined by the present value of the remaining payments
discounted at a small spread over a maturity-matched Treasury yield. The
specified spread which is fixed over the bond's life is called the
make-whole premium. Because the spread is small relative to the market
spread at issuance, the bondholder is highly likely to benefit when the
issuer invokes this option.
The purpose of an interest coverage ratio is to measure the number of times interest charges are covered by earnings.
Senior claims can use it to exercise clout in the reorganization process to insure they get the best possible deal.
Analysts investigate the bank lines of credit because a firm's bank
lines of credit often constitute a significant portion of its total
debt. These lines of credit should be closely analyzed in order to
determine the flexibility afforded to the company. The lines of credit
should be evaluated in terms of undrawn capacity as well as security
interests granted. The analysis also involves a determination as to if
the line contains a "material adverse change" clause under which the
bank may withdraw a line of c
Working capital is considered a primary measure of a company's
financial flexibility. It is defined as current assets less current
liabilities. Working capital measures include the current ratio (current
assets divided by current liabilities) and the acid test (cash,
marketable securities, and receivables divided by current liabilities).
The stronger the company's liquidity measures, the better it can weather
a downturn in business and reduction in cash flow.
Tier 1 - eligible paper rated "1" by at least two rating agencies, may
only hold 5% in an individual issuerTier 2 - eligible paper that is not
Tier 1
The yield curve is the graphical depiction of the relationship between
the yield on bonds of the same credit quality, but different
maturities. The yield curve is usually constructed from observations of
prices and yields in the Treasury Market.
In terms of TIPS it is the coupon rate. Rate which an investor earns above the inflation rate.
An analysis of covenants found in a bond indenture is part of
assessing the credit risk of a bond issuer. The purpose of analyzing the
covenants (or provisions) is to examine the procedures for areas of
corporate management operatives. These covenants are safeguards for the
bondholder. Covenants must also be analyzed for ambiguity. Thus, analyst
must pay careful attention to the definitions in indentures because
they vary from indenture to indenture.
Disagree. Typically in response to changing market conditions or
because the issuer has raised the desired amount of funds at a given
maturity.
Leveraged loan, usually using closed end funds selling at a discount to NAV
