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CFA Level 1 - Fixed Income Test Questions and Answers Fully Solved
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CFA Level 1 - Fixed Income TestLoans - answer private, non-tradable agreements between a borrower and lender
Bonds - answer standardized, tradable securities representing a debt investment
Fixed income securities - answer standardized, tradable securities representing a debt
investment, another word for bonds
Principal - answer capital lent to the bond issuer, also known as par or face value
Par - answer capital lent to the bond issuer, also known as principal or face value
Face value - answer capital lent to the bond issuer, also known as principal or par
Coupon - answer interest paid on a bond, usually stated as a annual percentage of par
Issuers - answer Sovereign national governments, local governments, corporations,
supranational entities, quasi government entities, and special purpose entities are
examples of these.
Supranational entities - answer Organizations that operate globally such as the World
Bank, the European Investment Bank, and the International Monetary Fund (IMF).
Quasi-government entities - answer Not a direct obligation of a country's government or
central bank but sponsored by them. An example is the Federal National Mortgage
Association (Fannie Mae) or the railroads
Special-purpose entities - answer Corporations set up to purchase financial assets and
issue asset-backed securities
Asset-backed securities - answer Bonds backed by the cash flows of certain assets,
usually issued through special purpose entities
Maturity - answer The date on which the final cash flow of a bond is paid. Usually this is
when par value is repaid, but some instruments require par be paid back over the life of
the bond, like with a mortgage loan
Tenor - answer The time remaining until maturity
Money market securities - answer Bonds with original maturities of less than one year
,Capital market securities - answerBonds with original maturities of more than one year
Perpetual bonds - answerBonds with no stated maturity date.
FRNS - answerBonds that pay coupons based on a variable market rate of interest.
Zero coupon bond/pure discount bond - answerA bond that makes no coupon payments
before maturity and is therefore sold at a deep discount to par. Protect against
reinvestment risk
Pure discount bond - answerAnother name for a zero coupon bond
Contingency provisions - answerAn action that may be taken if a particular event
occurs. Referred to as an embedded option in a bond indenture
Yield - answerthe annual rate of return on a bond if the bond were held to maturity. Has
an inverse relationship to price
Yield curve - answergraphical representation of yield vs maturity.
Normal yield curve - answerUpward sloping yield curve
Inverted yield curve - answerIndicates that short-term interest rates are generally higher
than long-term interest rates.
Bond indenture - answerlegal contract between the issuer and the bondholders
Secured bond - answerA bond repaid from the operating cash flow of a company with
an added legal claim on specific assets in the event of default
Lien/pledge - answera legal claim usually involved in collateralization
Collateral - answerassets pledged as security for a loan
Unsecured bond - answerA bond repaid by the operating cash flow of the issuing
company
ABS (asset backed security) - answerA debt instrument repaid by the cash flows of a
particular asset that is held by a special purpose entity
Covenants - answerLegal rules written into the bond indenture, can be affirmative or
negative
Affirmative covenants - answerCovenants that require a borrower to perform certain
actions
, Negative covenants - answerCovenants that place restrictions on the issuer
Negative pledge clause - answerA negative covenant that restricts the issuance of debt
more senior than the existing debt
Cross-default - answerAn affirmative covenant that states that if the issuer defaults on
any other debt obligation, they are also considered to have defaulted on this bond
Pari-passu - answerAn affirmative covenant that states that the bond has the same
priority of claims as the other debt the company issues
Incurrence test - answerA test of financial ratios to determine if a company can issue
dividends, repurchases or additional borrowings
Bullet structure - answerThe structure of a typical bond where principal is paid back in a
single payment at maturity and coupons are purely interest payments
Amortizing loan - answerA loan structure where periodic payments include both interest
and some repayment of the principal value
Fully Amortizing loan - answerA bond in which the principal is fully paid off when the last
periodic payment is made (aka principal payoff has been fully included in periodic
payments)
Balloon payment - answerIn a partially amortizing loan the repayment of remaining
principal
sinking fund provisions - answerWhen bonds require that certain portions of principal
are repaid throughout the bond's life, which decreases credit risk but increases
reinvestment risk
waterfall structures - answerA bond structure in which debt is split into tranches of
seniority
Reinvestment risk - answerThe possibility of receiving cash flows early and only being
able to reinvest them at lower yields
credit spread - answerThe fixed margin paid on top of the MRR
step-up coupon bonds - answerBonds structured so that the coupon rate increases over
time according to a predetermined schedule providing protection against interest rate
risk.
leveraged loans - answerLoans to borrowers of lower credit quality; often have a
coupon that increases if issuer credit quality decreases.
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