Question

Explain what a call provision enables bond issuers to do. Why would bond issuers exercise a call provision?

Define a discount bond and a premium bond. Provide examples of each.

Describe the relationship between interest rates and bond prices.

Describe the differences between a coupon bond and a zero coupon bond.

Answer 1

1. A call provision enable issuers to call back the bonds and repay the bonds before the maturity. Issuer would want to use the call option if they want the bonds before the maturity.

2. A discount bond is a bond selling for less than par value.

A premium bond is a bond selling for higher than it's par value.

For example, if the par value of bond is $ 1000, A bond selling for$ 957 would be a discount bond while a bond selling for $ 1006 would be a premium bond.

3.There is an inverse relationship between bond prices and interest rates.

When the interest rates rise, the bond prices fall and when the interest rates fall, the bond prices rises.

4. The difference between zero coupon bonds and coupon bond are as follows-

A. A regular coupon bonds pays Interest to bondholders while zero coupon bond doesn't pay any interest to bondholder.

B. Zero coupon bonds are more volatile than normal coupon bonds.

C.Zero coupon bonds have higher return than normal coupon bonds.