Fabozzi Essay

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Chapter 1 – Introduction - Answers 5. Suppose that coupon reset formula for a floating-rate bond is: 1-month LIBOR + 220 basis points. (a) What is the reference rate? The reference rate is the 1-month LIBOR. (b) What is the quoted margin? The quoted margin is the 220 basis points (or 2.20%). (c) Suppose that on a coupon reset date that 1-month LIBOR is 2.8%. What will the coupon rate be for the period? The coupon reset formula is: 1-month LIBOR + 220 basis points. Therefore, if 1-month LIBOR on the coupon reset date is 2.8%, the coupon rate is reset for that period at 2.80% + 2.20% = 5.00%. 8. Answer the below questions. (a) What is meant by an amortizing security? The repayment of principal for a bond issue is either the total principal repaid at maturity or the principal repaid over the life of the bond. In the latter case, an amortization schedule describes the times when principal is repaid. Automobile loans and home mortgage loans and other consumer loans are usually amortizing loans. Securities created from these loans often have scheduled principal repayments and are called amortizing securities. (b) Why is the maturity of an amortizing security not a useful measure? For amortizing securities, investors do not talk in terms of a bond’s maturity. This is because the stated maturity of such bonds or securities only identifies when the final principal payment will be made. For an amortized security, the repayment of the principal is made through multiple payments over its maturity and not just at the end of its term to maturity. Thus, the maturity is not a useful measure in terms of identifying when the principal is repaid. 10. What does a call provision for a bond entitle the issuer to do? A call provision grants the issuer the right to retire (or buy back or repay) the debt, fully or partially, before the

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