Question

1. If your bank quoted a 6% interest rate on your account, which is compounded monthly, which of the following implications is correct?

a. The semi-annual interest on your account is 3%

b. The monthly interest on your account is 0.5%

c. Your effective annual interest rate on this account is 6%

d. Your effective annual interest rate on this account is below 6%

2. The interest amount of an interest-only loan is ______.

a. repaid in full at the end of the loan period

b. repaid in increasing amounts periodically

c. repaid in declining amounts periodically

d. repaid in equal amounts periodically

e. never repaid

3. Shidao Enterprises has bonds on the market making annual payments, with 12 years to maturity, and selling for $920. At this price, the bonds yield 11.0 percent. What must the coupon rate be on the bonds?

a. 9.77%

b. 9.97%

c. 10.62%

d. 19.54%

e. 11.00%

3. Treasury bonds are a long-time favorite of US investors. What is the most important quality that draws domestic investors?

a.Low default rate

b. High coupon rates

c. Considerably high yield relative to other bonds

d. Potential for enormous price gain

Answer 1

1. a. is wrong. When interest rate is x% monthly compounded, then monthly interest rate is (x/12)%. Here, monthly interest rate will be 6/12 = 0.50 %.Semi annual rate would be (1.005^6 - 1) = 3.04%

b. is correct. monthly rate is 6/12=0.50%

c. is wrong. Effective annual rate would be more than 6%. It an be calculated as (1.005^12 - 1) = 6.17%

d. is wrong. Effective annual rate would be more than 6%. It an be calculated as (1.005^12 - 1) = 6.17%

2. a. is correct. The interest amount of an interest-only loan is repaid in full at the end of the loan period. Every period only interest payments are made. The full principal is paid at end to end the loan.

b. is wrong. In interest only loan, every month same instalment of interest is paid.

c. is wrong. In interest only loan, every month same instalment of interest is paid.

d. In interest only loan, every month same instalment of interest is paid. The principal is paid at the end.

e. is wrong. Loan is repaid at the end.

3. We can use =pmt function of excel to solve this. We will write negative in pv as it is cash outflow and others are inflow. Thus, signs are opposite.

=pmt(rate,period,pv,fv) = pmt(.11,12,-920,1000)= 97.68

Therefore, we get 97.68 amount every year on 1000 par. So, coupon rate is 97.68/1000 = 9.77%

Thus, 9.77% is the coupon rate.

Option a is the correct option.

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4.a is correct. Treasury bonds have low default rate. For this low risk, they offer low coupon and yield rates. There is no potential for enormous price gains. These are considered as safe investments.

b. is wrong. Treasury bonds have low default rate. For this low risk, they offer low coupon and yield rates. There is no potential for enormous price gains. These are considered as safe investments.

c. is wrong. Treasury bonds have low default rate. For this low risk, they offer low coupon and yield rates. There is no potential for enormous price gains. These are considered as safe investments.

d. is wrong. Treasury bonds have low default rate. For this low risk, they offer low coupon and yield rates. There is no potential for enormous price gains. These are considered as safe investments.