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173 Cards in this Set

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Sole Proprietorship

List 6 advantages of Sole Propietorship
1. Easily and simply organized by any legally capable person.
2. Proprietor- complete control.
3. Management is flexible
4. Can act with same freedom as an indvidual (w/ rights granted by US Constitution.
5. Minimum gov. control if business is legal and solvent.
6. Profits (if any) taxed only to the owner.
Sole Proprietorship

List 4 disadvantages
1. Propietor has full liability.
2. Difficult to raise capital.
3. Very unstable since may be ended by owners death, legal incapacity, bankruptsy, insanity or imprisonment.
4. Expansion limited by lack of capital and owners unlimited liability.
General Partnership

List 5 advantages
1. Easily organized by 2 or more persons.
2. May raise money by admitting more partners.
3. Can expand easily; freedom to move about; to take on more partners. Management is flexible since duties can be divided among peers.
4. Minimum government control if operates legally. No special taxes.
5. Profits, if any, taxed only to the partners (owners)
General Partnership

List 3 disadvantages
1. Partners are jointly and severally liable. Private property may be seized, individually or collectively to satisfy debts of firm.
2. Large amounts of capital difficult to obtain. Credit is limited because of lack of stability.
3. Very unstable, being ended by: termination of contract, legal incapacity or withdrawal of partner, death of partner, bankruptsy of business or partner, court order.

List 5 advantages
1. Stockholders (owners) liable only for amount invested.
2. Best suited for raising large amounts of capital through sale of stock or borrowing. Ownership divided into shares is easily transferable.
3. Cmplete control vested in board of directors elected by stockholders. Profit distributed to owners by decision of directors in form of dividend.
4. Has continuous & usually perpetual life.
5. Great possibilities for expansion.

List 4 disadvantages
1. Formation often complicated and expensive.
2. Differences in state statutes may cause difficulty when doing business in other states.
3. Subject to strict gov. control. Various reports required.
4. Profits, af any, are taxed to corporation and, if distributed as a dividend, again to stockholders.
What is the Corporate Charter?
The Corporate Charter is like a "birth certificate". It is granted by the state and usually has continuous life. To obtain a corporate charter, incoporators must file a certificate of incorporation with the proper state officers.
What are the two broad classes of equity securites that a corporation may issue?
Common Stock & Preferred Stock

All corporations issue Common Stock; some issue Preferred Stock.
What are the legal rights of Common Stockholders?
-The right to receive a stock certificate for fully paid stock as evidence of ownership.
-A voice in management (vote their stock)
-Right to transfer stock at will; to sell in open market.
-Right to information; receive corporate financial statements and reports, inspect corp. books.
-Pre-emptive right to subscribe to new stock, if issued,in proportion to amount of stock held.
-Right to share in corp. profits; to receive dividends when declared.
-Limited liability.
By regular or "statutory" voting procedures, a stockholder with 100 shares would be able to vote for six directors in which of the following ways?
a. 600 votes for any one director, no votes for the others.
b. 300 votes for any two, none for the other four.
c. 150 votes for any 4 candidates.
d. 100 votes for any 6 candidates.

d. With regular voting the investor has one vote per share per contest. In this case, 100 shares for six contests (directors). No "lumping" together votes is allowed.
A corporation features cumulative voting and a stockholder holds 200 shares of common stock. An election for 3 directors is being held. Which of the following combinations of votes could the stockholder cast?
a.200 votes for each director.
b.300 votes for each director.
c.600 votes for each director.
d.any of the above.
Answer: d. any of the above.

With cumulative voting, the investor has one vote per share per contest, but the votes can be combined. So, with 200 shares and three directors to be elected, we have 600 votes which can be combined any way the investor wants.
Another name for an absentee ballot is:

An absentee ballot, known as a proxy, is made available for those shareholders who vote by mail.
What is a "Pre-emptive Right?
Common stockholders usually have the pre-emptive right to maintain their proportionate share of ownership in the corporation. The word pre-empt means to put oneself in front of another.
RAL Corp. has one million shares of common stock and you own 10,000 shares. If RAL Corp. issues 100,000 new shares of common stock, how many shares of common stock does RAL have to offer you before offering to the public so that you maintain your proportionate share of ownership?
10,000/1,000,000 = .01 (1%)

1% of 100,000 = 1,000 shares
(However, if you refuse to buy the new shares, your proportionate share of ownership in RAL will be reduced.)
Distinguish between:
1.Authorized Shares
2.Issued Shares
3.Unissued Shares
-The number of shares that orgional charter authorizes is known as "Authorized Shares".
-The actual shares sold to investors is known as "Issued Shares".
-"Unissued Shares" are the portion of authorized stock that has not yet been issued.
(when you add together the issued and unissued it always equals the number of shares authorized.)

When and if declared by corporation, dividends are paid first to _______ stock and than to _______ stock.
Dividend order, if declared, is always paid first to preferred stock and than common stock.
When a corporation has re-acquired some of its own common stock either through an open market purchase or some other method, that stock is known as ______________.
Answer: Treasury Stock

Since no longer in hands of investors, not considered outstanding stock. Considered in the "hands" of corporation itself.
* Treasury stock does not vote
* Does not receive dividends
* Not used in computation of earnings per share.
* Not considered outstanding stock.
What is Par Value?
Par Value is an arbitrary value placed on commmon stock at time the stock is authorized. Only important for bookkeeping purposes.Has nothing to do w/ market price of stock. When dealing with customers, par value and stated value on common stock will be of no significance.
What does ADR stand for?
American Depository Receipt: easiest method by which investor purchases stock of foreign corporations. Actual stock certificates are deposited in a bank overseas which isssues an ADR here.Receipt has same dividend rights as actual security, but since owned by the bank, receives dividend in foreign currency and account is paid equivalent in US dollars. Also known as (ADS)American Depository Shares.
An investor with 100 shares will receive how many rights?
Answer: 100

A stockholder always receives one right for each share owned.
Which of these two will always be the lower price:

Current Market Price or
Answer: Subscription Price

Current Market Price: price offered for sale to general market; Subscription Price: price offered to stockholder.
If a stock is trading with rights, it is called: _________.

If a stock is trading without rights, it is called: _________.
With rights: called cum-rights
(trading before cum-righs: means ex-rights)
trading without rights: called ex-rights
(trading after ex-rights: means without rights)
What is the formulas for:

Cum-Rights M – S/N + 1

M represents the market
S represents Subscription Rate
N represents # of Righs necessary to subscribe to 1 share.
What is the formula for:


M - S/ N
XYZ Corp, whose common stock is currently selling for $40 per share, is having a rights offering. The terms of the offering require 10 rights plus $35 to subscribe to a share of stock. Compute value of a right before the ex-rights date.
Answer: M - S/ N + 1

40 - 35 = 5/ 10 + 1 = 11

5 divided by 11 = $.45
What is a warrant?
A warrant is a security issued by some corporations giving the holder of warrant the right to purchase new shares at a stipulated price, usually above the market price when the warrants were issued.
(unlike "rights", warrants are usually long term investment.
Warrants have nothing to do with proportionate ownership)
Characteristics of a warrant:
1. long term investment
2. nothing to do with proportionate ownership
3. If existing stockholder won't excercised, corp. will turn to general public.
4. May be purchased in open market.
5. often used as bond sweetener
What is a "Reverse-Split?
The opposite of a Stock Split is a Reverse-Split. The company hopes to make the stock look less risky, therefore more attractive. (Trick to rember: if you had a $10 bill and exchanged it for two fives, you have performed a 2:1 split. Whoever you did the exchange with had a reverse split)
What is the most common frequency for payment of corporate dividends?
Answer: Quarterly
Name 5 features that may be found in Preferred Stock?
The following features may or may not be found a specific preferred stock:
1.Cumulative: Guarantees preferred dividends in arrears.
2.Convertable: can be exchanged for fixed number of common stock shares.
3.Callable: permits corp. to redeem (buy back) preferred stock at fixed price.
4.Participating: in addition to stated fixed dividend, also eligible to participate in common stock's dividend.
5.Prior Preferred:Has the first claim,(or prior preferred,or senior preferred)
A certificate representing the corporation's indebtedness is called a: ___________
Answer: Bond

These certificates state the corporation's obligation to pay back a specific amount of money on a specific date.
Debt capital is "long term debt" financing. Long term debt, frequently called funded debt, is money borrowed for a minimum of how many years?
Answer: 5 years

(more frequently the length of time is 20 to 30 years)
Name the three major issuers of debt securities:
2.US Government (largest issuer)
3.State Government(municipal bonds)
The _________, also known as the "deed of trust", is teh legal agreement between the corporation and the investor.
Answer: indenture
(printed on the bond certificate; also contains the duties and obligations of the trustee -usually a bank or trust company- and how and when the pricipal is to be repaid, rate of interest, description of any property to be pledged as callateral.
Bearer Bonds, sometimes referred to as: ________ ________, have interest coupons attached t oeach coupon.
Answer: coupon bonds
(since owners name is not on the coupon, they are frequently called bearer bonds. Advantage is they are handled like cash)
An issuer issues 10% bonds due in 30 years. Assume that the face on the bond is $1,000. What is the interest paid for the year and how it is paid?
Answer: $100/yr. payable at $50 semi-annually. 60 coupons to be presented (semi-annually) for 30 years.
What ended the purchase of bearer bonds?
Answer: The Tax Act of 1982
(because there was so much suspected illegal money laundered through bearer bonds)
Many bonds sold today are delivered in fully registered form. When you buy these bonds they are registered in your name, and every ____ months the issuer, or its trustee, sends the interest check to you, the registered owner.
Answer: 6 months
When the issuer of a bond has a record of the owner of the bond but there are interest coupons attached, the bond becomes a hybrid (cross between a coupon and a fully registered bond) sometimes called: __________ __________.
Answer: partially registered
When government bonds (and a number of other bonds) doesn't issue the onwers of the security any physical certificate, it is known as ________ ________.
Answer: Book Entry
(The Federal Reserve Board computer keeps track of who owns what and when the interest should be paid."WITH BOOK ENTRY BONDS THERE ARE NO DIFINITIVE SECURITIES, NO COUPONS.")
What are the three terms for different physical representation of ownership of bonds:
1. Bearer
2. Registered
3. Book Entry
Loans in the form of bonds are always made in $1,000 units (face amount of par value) unless otherwise specified. What is the usual denomination of a municipal bond?
Answer: $5,000
Who has priority of claim in the event of default?
(Open-Ended or Closed Ended Mortgage Bonds)
Answer: Closed-End mortgage bond is more secure than an Open-End one.
(Mortgage Bonds are either close -end or open-end. If open end, owners of subsequent mortgage bonds will have equal claim on the assets.
Corporations, particulary railroads and other transportation companies finance the acquisition of their rolling stock and locomotives by issuing an:
__________ ________ _________.
Answer:Equipment Trust Certificate
Sometimes a corporation wants to borrow money and has neither real estate (for a mortgage) nor equipment (for an equipment trust) to use as callateral. Instead they deposit securities they own in to a trust and issue a:
___________ _________ ________
Answer: Collateral Trust Certificate (Bond)
(the better the quality of the securities deposited as collateral, the better the quality and rating of the bond.)
___________ are written promises of the corporation to pay the principal at its due date and interest on a regular basis. _________ are not secured by any pledge of property.
Answer: Debentures
(the exam will try to convince you that just because a debt security is a debenture (unsecured), it is weaker than a mortgage or equipment trust certificate---NOT SO. Few corporate debt securities are safer than AT&T, IBM and GM debentures.
Income bonds (also known as adjustment bonds)are typically used in what situation?
Answer: Income Bonds are typically issued by a bankrupt company that is being reorganized. While payment of the interest is contingent upon earnings, the principal of loan must be repaid at maturity. INCOME BONDS ARE NOT CONSIDERED TO BE APPROPRIATE INVESTMENTS FOR YOUR CLIENTS SEEKING REGULAR INCOME.
The word senior is used to describe the relative priority of claim of a security. The term senior securities means bonds and preferred stock. Rank senority of the following securities: common stock, preferred stock, secured bonds, unsecured bonds
1. Secured Bonds
2. Unsecured Bonds
3. Preferred Stock
4. Common Stock
The term subordinated means "comes behind". It is usually found as an adjective describing a debenture. A subordinated debenture has a claim that is behind (junior to) that of any creditor. Which is senior, a subordinated debenture or a preferred stockholder?
Answer: No matter how subordinated the debenture, it is still senior to any stockholder.
What are GOs?
Answer: General obligation bonds
(backed by a issuer's full faith and credit for prompt payment of principal and interest. Most city, county, and school distric bonds have the further distinction of being secured by a pledge of unlimited ad valorem (property) taxes to be levied against all taxable property. Generally a low-risk investment.
Which are more secure, GOs or Limited and Special Tax Bonds?
Answer: General Obligation Bonds are secured by a pledge of a unlimited ability to tax. Limited tax bonds are not quite as secure. The municipality is "limited" as to its sources of funds to pay their obligation. They are still, however, quite safe.
Bonds which are payable form the earnings of producing enterpises such as water, sewer, electric or gas system, a toll bridge, airport,college dorm, etc., are knowns as:
____________ __________
Answer: Revenue Bonds
(payable from the earnings of revenue-producing enterprises.
They are usually anaylzed in terms of their earnings compared with bond requirements. Yield is generally higher than a GO) (Taxes are more secure than Revenues).
Bonds that finance the contstruction of a manufactuing or commercial facility for the benefit of a private user are known as: _______ _______ _____.
Answer:Industrial Revenue Bond (IRB);sometimes called: Industrial Development Bonds
The safety depends soley on the credit standing of the corporation for whom the facility was constructed. Frequently, the lessee has a credit rating superior to that of the issuing municipality.
Bonds issued to secure mortgages on single-family homes or mult-unit rental buildings are known as: __________ ________.
Answer: Housing Bonds
Backed by the full faith and credit of the United States Government (optimum safety)
Bonds, issued by the state, with specific purpose (e.g., to develop housing) whereby it is implied that, in the event of a shortfall, the state would make up the difference are known as:
_____ ___________ ____.
Answer: Moral Obligation Bonds
Tax-exempt bonds that are backed by a pledge of two or more sources of payment are known as:
_______-_______ _______.
Answer: Double-Barreled Bonds
These are technically GOs that are additionally backed by a source of revenue. That would tend to increase their safety.
Municipal Notes are issued for periods of ____ days to about ___ year(s) and are usually available in $________ denominations with interest payable at maturity.
Typically issued for a period of 60 days to about 1 year. Usually available in $25,000 denominations.
A type of Note typically issued by cities in anticipation of tax collections which depends upon the amount of the taxes collected to be equal to the notes is known as:
___ _____________ ______.
Answer: Tax Anticipation Notes (TAN)
TANs are frequently used when a municipality needs money now but doesn't expect property tax revenue for several months. They are the most common of the "Notes."
These are issued in anticipation of the floatation of bonds. An issuer may delay long-term financing to avoid poor market conditions of if the municipal issuer wishes to combine several projects into a larger bond issue in the future.
Answer: Bond Antcipation Notes (BANs)
These are in anticipation of revenues, typically from the federal government and state governments ot the local municipality.
Answer: Revenue Anticipation Notes (RANs)
These were issued by local authorities under an agreement with the Department of Housing and Urban Development (HUD) to finance federal programs for urban renewal and low cost housing. What type of notes are they?
Answer: Project Notes (PNs)
(none have been issued since 1984. They are included for historical purposes only.)
What are the safest bonds of all? What the two primary types of backing?
Answer: The safest bonds of all are Government bonds
The two primary types of backing are direct government backing (or guarantee) as is the case of treasury issues, and the Moral Guarantee, as is the case of federal agencies.
What is the most widely held security in the world?
Answer: US Government Savings Bond(Series E & EE). Savings bonds are not marketable or negotiable and securities firms don't handle them --so not on the exam. Exam does dwell on marketable issues of the US Government.
The market for short term instruments, is known as the
_______ ______
Answer: Money Market
(mature in a perod of one year or less)
Direct short-term debt obligations of the U.S. Government; issued using a competitive bidding process are known as: __ _________ ______.
Answer: US Treasury Bills
(also known as T-Bills)
maturities of 4 weeks (one month); 13 weeks (three months); and 26 weeks (six months) are issued weekly.
Treasury Bills Pay No Interest! Why would someone buy one then? They are a safe investment
Treasury bills are issued at a discount from the par value. An investor might purchase a $10,000 26 week T-bill at a price of $9,750. During the year, he would receive no interest, but at maturity, the T-bill would send him a check for $10,000. The difference between the $9,750 he paid and the $10,000 he received would be considered to be his interest income.
What are the key points to remember about Treasury Bills (T-bills)?
1.T-bills are only issued at a discount.
2.T-bills are issued without a stated interest rate, unlike bonds and notes.
3.T-bills are offered in book entry form only.
4.T-bills are highly liquid.
A company realizes money from the sale of surplus equipment. They would like to invest this money but will need of it in six to nine months and must take that into consideration. You would recommend:
a. preferred stock
b. Treasury bills.
c. AAA rated bonds w/ long term maturities
d. common stock.
Answer: (b)Treasury Bills
U.S. Treasury Notes are direct debt obligations of the U.S. Treasury. What are the characteristics of U.S. Treasury Notes?
1.they pay semi-annual interest as a percentage of the stated par value.
2.They have intermediate maturities (one to ten years)
3.They mature at par value.
U.S. Treasury Bonds are direct debt obligations of the U.S. Treasury. What are the charachterisics of U.S. Treasury Bonds?
1.They pay semi annual interest as a perecentage of the stated par value.
2.They have long-term maturities, generally 10 to 30 years.
3.30-year bonds are usually callable at par beginning 25 years after issue.
4.They mature at par value.
What does the word STRIPS stand for?
Answer: STRIPS (US Treasury Strips)
Separately Traded Registered Interest and Principal Securities.
What are U.S. Treasury Strips?
Answer: these are Treasury Bonds (or Notes) that are sold as two separate items: One item for sale is the 20 to 30 years of semi-annual interest and the other item is the principal repayment at maturity. The principal portion sells as zero coupon bonds and are extremely volatile.
What are the two principal U.S. Government agencies that issue debt securities?
Federal Farm Credit Banks and
Federal Home Loan Banks (FHLBs)
Federal Land Banks, supervised by the Farm Credit Association, do what?
Answer: make loans secured by mortgages to farmers and ranchers.
What does FICB stand for?
Answer: (FICB) Federal Intermediate Credit Bank
(consists of 12 banks authorized to make loans to farmers for expenses, machinery, and livestock. The loans are intermediate in term, running no longer than 10 years to maturity.
What is the Bank for Cooperatives?
Answer: Bank for Cooperatives
These are operated under the Farm Credit Administration. They make loans to farm cooperatives.
What is the FHLB
Answer: (FHLB)Federal Home Loan Banks
Operates under supervision of the Fed Home Loan Bank Board, the agency that stands behind the nations savings and loans.
They hold over 98% of the total assets of all S&Ls in the country.
What is Fannie Mae?
Answer: Federal National Mortgage Association
(a government owned corporation that was converted into a privately owned corporation in 1968. Fannie Mae purchases and sells real estate mortgages - primarily those insured by FHA or guaranteed by the VA.
Where does Fannie Mae get it's money?
Answer: major source is private investors, but can also borrow from the treasury. Most funds are raised through sale of unsecured bonds and some short-term notes issued at a discount. Fannie Mae securities are considered quite safe. They are issued at par and pay semi-annual interest. Like the other federal issues, they are only available in book entry form.
What are GNMAs?
Answer: Government National Mortgage Association (GNMA)
What is Sallie Mae?
Answer: Student Loan Marketing Association (Sallie Mae)
A government sponsored entity created to privide liquidity for private lenders (banks, savings and loan associations, educational institutions, state agencies and other lenders) participating in the federal Guarantee Student Loan Program and/or the PLUS loan program for parents of undergraduates. Sallie Mae is owned by it's stockholders and is traded on the NYSE(page 51)
Which of the following is an origional issue discount obligation?
a. GNMA certificate
b. T-bills
c. Corporate bonds
Answer:(b)T-bills are auctioned weekly and are issued at a discount from par. At maturity, the holder receives par value with the earned discount treated as interest income.
What are two primary rating organizations for debt securities?
Standard & Poor's and
Standard & Poo'r Bond Ratings:
Draw the ratings chart
Standard & Poor:
AAA Bonds of highest quality
AA High-Quality
A Bonds that have strong...
BBB Adequate capacity
BB Bonds of lower med grade
B Speculative bonds
CCC Poor Standing
C Income bonds/ no interest is being paid
D Bonds are default
Moody's Bond Ratings:
Draw the ratings chart
Aaa Bonds of highest quality
Aa Bonds of high quality
A Adequate
Baa Medium grade
Ba Speculative quality
Caa Poor Standing
Ca Seculative/often default
C lowest rating
Define investment grade bonds?
Bonds rated in the top four categories (BBB or Baa and higher) are referred to by the term investment grade. Generally the only quality eligible for purchase by institutions (banks, insurance companies, etc.) and by fiduciaries.
What are the two main reasons that bonds are not rated?
1. The issuer doesn't want to pay the cost of receiving the rating.
2. The issuer does not have sufficient credit history to enable the rater to make a fair judgment. Don't let the exam trick you in thinking that an unrated bond is an unsafe bond, it's not necessarily true.
Define High Yield Bonds?
Bonds that carry a rating of BB (S&P) or Ba (Moody's) are known as high yield or "junk" bonds. Greater return/ Greater risk. Only suitable for those with a high risk tolerance.
(Municipal Bond Insurance)
What are the three insurance policies guaranteeing the prompt and unconditional payment of both principal and interest on certain municipal bonds?
AMBAC, FGIC, MBIA (you don't need to know what initital stand for); The premium is paid by the issuer and insured bonds immediately qualify for AAA ratings (S&P) and Aaa ratings (Moody's)
What are the four considerations of a money lender?
1.How much am I lending?
2.How safe is my loan?
3.How much "rent" interest will I be paid for use of my money?
4.How and when will I get my money back?
At any given point in time, the cost of money is determined by supply and demand. The most popular measurement of this supply and demand is the:
_______ _______.
Answer: Prime Rate
(this is the rate chared by major banks to their most credit worthy customers and is a leading indicator of money rates.
Municipal bonds have one important charachteristic that sets them apart from all other securities. What is that?
Answer: The IRS considers interest received by owners of munis to be tax free.
(while you do have to report interest received on municipal bonds on your Federal Income Tax return, that interest is not included in your taxable income.
Which of these two investments would put more dollars in your pocket (assume you are in a 28% tax bracket)?
10% bonds ($1,000 par value) or
7.5% muni-bond
Answer: 7.5% muni-bond
(10% bond would put $72.00/yr. in your pocket after tax of 28% on $100,00 return; 7.5% would result in $75.00/yr. real return .
What is the formula to compute which bonds, tax free or taxable, is a better deal for any given tax bracket?

Taxable Equivalent Yild (TEY)=

Muni Yield/ 100% - Tax Bracket %
The interest stated on the face of the bond is called the:
_____________ ___________
Answer: Nominal Yield
(sometimes referred to as the coupon rate)
To compute the annual interest payment in dollars, merely multiply this nominal yield times the face amount of the bond ($1,000 unless otherwise stated).
Calculate the Nominal Yield on each of the following:
1. A bond with a 5% coupon
2.A bond with 8% nominal yield
3.A coupon with of 13.5%
1. $50.00
2. $80.00
3. $135.00
(since, on any particular bond, this interest payment is the same every year, it is referred to as "a fixed charge."
An investor will always want to know the return on his investment. What is the most straightforward way to illustrate this?

What is the formula for calculating Current Yield?
Answer: Current Yield

If referring to a stock,
The annual interest in dollars divided by the current market price (the amount of investment to own the security).
The annual return in dollars provided by the security divided by the current market price.

DBL 10s of '09

DBL is the name of the issuer
10s means nominal yield is 10%
'09 means bond matures in 2009
s stands for semi-annual pay
These bonds pay $100/yr. ($50 semi-annually) for each $1,000 of face value.
When a bond is selling at a price above par (or face), we say it is selling at a _______.
Answer: premium
When selling below par or face it is selling at a discount.

Two Important Statements to Remember are:
-If you pay more, you get less. -If you pay less, you get more. (means that if you buy a bond at a premium, you will always receive a rate of return less than the coupon or nominal yield stated on the face of the bond (8.33% is less than 10%).
The interest stated on the face of the bond is called the:
___________ _________
Answer: Nominal Yield
(sometimes referred to as the coupon rate)
Calculation for determining the annual interest payments in dollars is as follows:
Multiply the Nominal Yield times the face amount of the bond ($1,000 unless state otherwise)

Example: bond w/ 5% coupon rate pays $50 per year. One with an 8% pays $80/yr. and one with a coupon of 13.5% pays $135/yr. Since, on any particular bond, this interest payment is the same every year, it is referred to as a "fixed charge".
What is the simple formula to answer the question "what is my return on investment?"
Answer: Return/Investment
The measurement that takes into consideration the gain or loss the investor will have when the bonds are redeemed at maturity is called:
_________ ___ ___________.
Answer: Yield to Maturity
Bond Drill #1 (page 103):
For each of the following bonds, given are the coupon rate or nominal yield and the yield to maturity or "basis."
Rate Yield Below/At Par/Above
8% 8%
6% 8%
10% 8%
8% 10%
8% 6%
9&1/2% 9.7%
8&1/4% 8.25%
7.7% 7.25%
Rate Yld Below/ At Par/ Above
8% 8% Par
6% 8% below
10% 8% above
8% 10% below
8% 6% above
9&1/2% 9.7% below
8&1/4% 8.25% Par
7.7% 7.25% above
Lawfully issued stock that has been reaquired by the issuing corporation and remains uncancelled.
Treasury Stock
A bond on which the payment of interest is contingent on earnings.
Adjustment Bond
(sometimes called an income bond)
The total of the debt and equity securities issued by a corporation.
(capital is raised by debt and equity)
Obligations of a corporation secured only by the general credit of the issuer.
Bonds secured by a lien on the rolling stock of a railroad.
Equipment Trust Certificate
The deed of trust containing the rights of the bondholders and the duties and rights of the trustees.
Backed by both taxing power and a source of revenue.
Double-Barreled Bond
Insures payment of principal and interest on certain municipal bonds.
MBIA (AMBAC and FGIC are other insurance companies)
Real property pledeged as security for a debt issue.
Mortgage Bond
The dollar amount assigned to a common stock by the company's charter.
Par Value
New bonds are sold by an isuer and the money is used to buy back existing debt securities.
Issued and not outstanding, and it is always non-voing.
Treasury Stock
In the name of the owner.
Registered Bond
The result of the issuer of a debt security failing to pay timely interest.
From the investors viewpoint, the longer the better.
Call protection
(Warrants would also be a good answer)
Tax-free interest with a U.S. Government backing.
(have the backing of HUD)
Semi-annual interest payments with an opportunity for the investor to benefit if the common stock rises in value.
Convertable Bond
(stock goes up---convert)
An investor in debt securities receives that at maturity.
Par Value
Ordinarily a non-voting equity security, missing a few dividends could give owners the right to vote.
Cumulative Preferred Stock
Principal amount coming due in installments rather than at one time.
Serial Bonds
Senior claim to common stock for dividends and assets upon liguidation.
Convertable Bond
Cumulative Preferred Stock
Equipment Trust Certificate
Mortgage Bond
Preferred Stock
Serial Bonds
Registered Bond
any debt security or preferrd stock has priority over common.
A certificate granting the right to purchase common stock at a specified price, sometimes perpetually, used as a sweetener.
Not bearer, not registered, just recorded on a computer.
Book Entry
What are the three yields you might be asked to complete on the Series 7 exam?
Current Yield
Yield to Maturity
Yield to Call
What is the formula for calculating Current Yield?

Coupon rate is 10% and the current market value is 90. (sometimes this is called the "return on investment")
Answer: Divide coupon rate by the current market value.

10/90 = 0.11111

(good way to rember is to divide the little number by the big number)
Calculate Yield to Maturity (basis)

Coupon rate is 10% and the current market value is 90. It's maturity date is 10 years from now. (use the rule of thumb method to calculate)
Yield to maturity takes on one additional factor...maturity date. Why? at maturity date, the investor receives back his principal, always $1,000 per bond unless otherwise stated.

Answer: (1) take the annual coupon yield in dollars ($100). then, (2) add to that the annual profit per year, calcuated by dividing the difference between par and the market by number of years to maturity. In this case, the diff. is $100, the number of years is 10, giving us $10 per year, then (3) divide the above number by a denominator which is always the average of par and the current market. In this case, $900+$1,000 divided by 2 = $950.
$100 in interest+$10 per year from Step 2 gives us numerator of $110. The number on bottom is $950. YTM = 11.6%
Calculate YTM:
Bond had a coupon of 8%
a current market price of $800
and 16 years to maturity. What is the YTM?
(see page 62/ example 2)
Current Yield is: 10%
Yield to Maturity is: $10.28%
Calculate Yield to Call
calculation is the same as it is for YTM except that we use the number of years to the call date instead of the maturity date and we use the call price instead of the par value.
What is the biggest distinction between Term Bonds and Serial Bonds?
Issues with only one maturity date are referred to as term bonds; those with multiple maturity dates are serial bonds.
(baloon Maturity has both serial and term maturities)
What is the best call protection a bond may have?
The answer is that if a bond in non-callable, the issuer cannot call it early. This would be the best protection against a call.
What are the three different types of calls:
Optional Call
Mandatory Call
Extraordinary Call
Which of the following are never sold with a call provision:
A. Equipment Trust Certificate
B. Federal National Mortgage Association (FNMAs)
C. Federal Home Loan Bank (FHLBs)
D. B & C only
E. All of the above
Answer: All of the above.
None of these are sold with a call provision.
Draw the Conversion Table
(top of page 74)
Conversion Price Conversion
rate (ratio)
$100 = 10 shares
$50 = 20 shares
$25 = 40 shares
$10 = 100 shares
An investor owns a convertable bond with a conversion price of $50. If the common stock of the company should pay a 20% stock dividend, which o the following is true?
a. the investor will receive $10.
b. the investor will receive four shares.
c. the conversion price will now be $41.67 per share.
d. the conversion price will be $60 per share.
(d)Since the 20% stock dividend would allow the investor 20% more shares, instead of converting into 20 shares (1,000 divided by $50) we divided the par of $1,000 by 24 shares and get $41.67 as the new conversion price. (note the conversion price went down as the number of shares went up.)
The simultaneous buying and selling of the same or similar securities in order to take advantage of a price disparity is known as ____________.
Answer: Arbitrage
This is an unusual circumstance whereby a stock is selling above parity.
(Bonds Drill #4/ page 107)
For each of the following convertable bonds, indicate the parity price:

SHARES BondPrice ParityPrice
20 $1200 ( )
30 $1200 ( )
25 $750 ( )
40 $1,400 ( )
SHARES BondPrice ParityPrice
20 $1200 ($60)
30 $1200 ($40)
25 $750 ($30)
40 $1,400 ($35)
What is a "repo"?
Answer: a repo is an agreement between the buyer (the dealer) and the seller (the issuer) to reverse a trade at a specified time at a specified yield.
What is meant by "Eurodollar"?
Answer: the term given to represent U.S. dollar accounts in foreign banks, whether they be in Europe, the Far East, or even the Cayman Islands.
During periods of tight money, the prime rate charged by banks increases and corporations frequently look for alternative sources of short term money. The most common of those sources is a money market instrument known as: __________ __________
Answer: Commercial Paper
(Out of all of the money market instruments, the least active secondary trading market is in commercial paper.)
Which of the following would openly trade in the money market?
1. negotiable CDS
2. Treasury Bills
3. Commerical Paper
4. ADRs
a. 1 and 2 only; b. 1,2&3 only; c.2,3 and 4 only; d.2&3
Answer: c (1,2,3)
(American Depository Receipts (ADRs) are not part of the money market.)
Characteristics of:
Mortgage-Backed Securities
Answer: one of the most popular mortgage-backed security is Ginnie Mae. Investor has a undevided interest in the pool. That cash flow is passed through to the holder in form of multi-payments of interest, principal, and frequently payments of mortgages.
What are CMOs?
Answer: Collateralized Mortgage Obligations. CMOs are bonds that are collateralized by mortgages or by mortgage-backed securities. A key difference between traditional pass-throughs and CMOs is the mechanics of the principal payment process. Greater certainty regarding the term of their investment is (strong bond ratings) is trade off for offering a lower yield.
What are "tranches"?
Answer: Associated with CMOs. CMOs have The different maturities are called tranches. (short terms, intermediate, and some long term) These different maturities are called tranches (the French word for slice)
What are PACs?
Answer: Planned Amortization Class (PACs). This a class of tranche offered in some CMOs that differs from the "plain vanilla" model in that there is a sinking fund schedule that is observed as long as the prepayments on the underlying mortgages stay within a relatively broad schedule.
What are TACs?
Answer: A class of tranche offered in some CMOs that is similar to PAC in that there is a sinking fund schedule. However, unlike the PAC, the TAC schedule is based on prepayments following a specific rate. Therefore, the the cash flow stability is greater than a plain vanilla CMO (but not as stable as a PAC).
If your fixed income client were most cocerned about stability of cash flow, which of the following CMOs would be most suitable?
a. Plain vanilla
b. PAC
c. TAC
d. Z-tranche
Answer: b. PAC
PAC has the greatest cash flow certainly of any of the CMOs. The sequence here would be: PAC, TAC, Plain, Z.
What is "PSA"?
Answer: Prepayment Speed Assumption (PSA) is a formula that assumes that new mortgage loans are less likely to be prepaid than older ones. Projected and historical prepayment rates are most commonly expressed as a percentage of PSA. TACs are affected more by inaccurate projections than are PACs.
What is a REMIC? (page 91)
Answer: Real Estate Mortgage Investment Conduits. A REMIC is an entity that holds a fixed pool of mortgages and issues multiple classes of interests in itself to investors.
An elderly client of yours looking to increase her income has called you expressing an interest in mortgage-backed securities. An investment in which of the following would generally pose the most risk to this client?
a. CMO
b. Ginnie Mae
c. Freddie Mac
Answer: (d) REMICs typically finance lower quality mortgages.
Ginnie Maes are backed by the full faith and credit of the US Govt.; Freddie Mac participation certificates (PCs) are backed by the FHA and VA mortgages. While not backed by the full faith and credit ...., they do considered a moral obligation of the government. CMOs are usually financed with top quality mortgages and obtain AAA ratings.
A CMO is generally most suitable for an investor with which of the following objectives?
a. Current income.
b. appreciation of capital
c. protection against purchasing power risk
d. return of pricipal at maturity date.
Answer: (a) The primary purpose for purchasing a CMO is current income. (read detailed answer on page 93)
How are bonds quoted?
Answer: bonds are usually quoted as a perecentage of PAR
(corporates in eighths, governments in thirty-seconds, and munis in hundredths of a point. A key fact to always remember is that as interest rates move, bond prices move in the opposite direction. Some bonds provide for re-payment of the entire principal at one time (term bonds), whild other's pay a portion of the debt each year (serial)
What is "call protection"?
Answer: Call protection is the number of years until the issuer can exercise the call.
What is the maximum maturity on Commercial Paper?
Answer: 270 Days
The namegiven to those who specialize in helping other business firms (generally corporations) obtain the money they need on the most advantageous terms possible:
Investment Banker
(also known as an underwriter)
Compare Negotiated Underwriting and Competitive Underwriting
Negotiated Underwriting: usually an established relationship with the issuer. (most common)

Competitive Underwriter: Less commonly used. Found primarily with public utilities issues.
Compare a "Primary Offering" and a "Secondary Offering".
Answer: Primary Offering always consists of new shares, a Scondary Offering consists of a sale of shares that have beeen previously outstanding. A Primary always raises new capital for the issuer, a secondary doesn't.
How many Primary distributions may a corporations have in it's lifetime?
Answer: A corp can have a primary distribution each time they find a need for additional capital. (the only thing an issuer can have one of is an IPO)
What is the primary requirement of the Securities Act of 1933?
Answer: the primary requirement of the Securities Act of 1933 is that the corporation must file a registration statement (full disclosure) with the SEC.
What are some of the things that would be included in the registration statement?
(1)Any registration statement inlcudes a description of the general character of the business entity raising the money; (2)Biographical data re: officers and directors; (3)listing of share holdings of officers,directors and holders of more than 10%, (4)Complete financial statements, (5)What issuer proposes to do with proceeds, (6)Any legal proceedings involving an issuer.
The SEC takes a period of time, known as the _______ __ _______.
This period is ____days, but frequently takes longer and allows the SEC to review the registration and determine that there is fair & full disclosure.
Answer: Cooling off Period; 20 days. If registration fails a deficiency letter is mailed out. An effective registration does not mean that the SEC has approved the issue.
While waiting for the SEC to rule review a registration, the investment banker can try to create interest in the marketplace by distributing a preliminary prospectus, more commonly known as a ___ _____.
Red Herring
Two important items missing from a red herring are the_____ _____ ____ and the _______ _____.
(1) Public Offering Price
(2) Effective Date
(The public offering price is generally determined on the date the securities become effective for sale ---the effective date.
A preliminary prospectus would be used during what period of time?
a.the period of time proceeding the filing of the registration.
b.once the registration statement is filed and before it becomes effective.
c.once the registration statement has become effective.
d.any of the above.
b. No communications are possible during the pre-filing period and once the registration is effective, the final prospectus is used.
SEC requires that all members of the underwriting group make available a prospectus on an IPO for a period of _____ days after the effective date. Further, on all issues other IPOs, any member of the underwriting group make available a prospectus for a period of ____ days after the effective date.
IPO --- 90 day Rule;
Non-IPOs --- 40 day Rule
If an investment banker misgauged and an issue moves slowly, it is possible that information in the prospectus would be deemed obsolete by the SEC. What is the SEC requirement?
SEC requires that any prospectus in use more than nine months after the effective date may not have any financial information more than 16 months old.
There are three principal underwriting contracts involved in the usual public offering. What is the "Aggreement Among Underwriters" (AAU)?
(AAU) designated the syndicate manager. Each underwriter agrees to purchase a portion of the underwritten securities which is known as each underwriter's allotment. The AAU is never included as part of the prospectus; it is of no practical concern to the investor.
What is the "Underwriting Agreement"?
Answer: the contract that establishes the basic relationship between the issuer and the underwriters. Normally signed serverally but not jointly, meaning each underwriter is obligated to sell his allocation, but bears no financial obligation for any unsold allotment of another underwriter. (referred to as a divided account or a western account). An Eastern account would be undivided.
An underwriter in an Eastern account has a 15% participation. The underwriting is for $20 million and he has sold $3 million. If $1 million remains unsold, what is his liability?
b. In an Eastern account, the underwriters are jointly responsible. Therefore, evne though the underwriter sold his allottment, he is still responsible for his share of the unsold portion. Had it been a Western account, the answer would have been (a).