FI 6 - Debt Securities: Bonds Flashcards

Vocabulary flashcards covering key bond concepts, formulas, terminology, pricing dynamics, call options, and credit risk tools from Chapter 5.

Bond

A financial security that obligates the issuer to make specified payments to the bondholder, including periodic interest income (an annuity series) and the return of principal at maturity (a future lump sum).

Indenture Agreement

The formal legal contract between the issuer and bondholders specifying key terms such as par value, coupon rate, payment schedule, maturity date, and yield to maturity.

Par Value

The principal payment made to the bondholder at the maturity date, typically equal to $\$1,000$.

Coupon Rate

The annual rate of interest paid by the bond issuer, expressed as a percentage of the bond's par value.

Coupon

The regular periodic interest payment received by the bondholder, functioning as an annuity stream.

Maturity Date

The specified future date on which the bond expires and the issuer pays back the par value to the bondholder.

Yield to Maturity

The discount rate for which the present value of a bond's payments equals its market price, representing the expected rate of return if held until maturity.

Bond Pricing Formula

The present value equation that values a bond by summing the discounted present value of its periodic coupon payments (annuity) and discounted face value (lump sum): $PV = C \times \frac{1 - (1 + r)^{-T}}{r} + \frac{FV}{(1 + r)^T}$.

Zero-Coupon Bond

A bond that pays no periodic coupon payments and is sold at a deep discount, delivering return via face value repayment at maturity.

Interest Rate Risk

The risk that market interest rate fluctuations will alter a bond's price, impacting long-term bonds more severely than short-term bonds.

Premium Bond

A bond whose coupon rate exceeds its yield to maturity, causing its price to be greater than its par value.

Par Value Bond

A bond whose coupon rate equals its yield to maturity, causing its price to equal its par value.

Discount Bond

A bond whose coupon rate is less than its yield to maturity, causing its price to be less than its par value.

Bond Price Relationships

Summary classification comparing a bond's coupon rate to yield to maturity and its resulting market price relative to par value.

Bond Price Convergence Over Time

The phenomenon where a bond's price converges to its face value as maturity approaches due to fewer remaining coupon payments.

Callable Bond

A bond that the issuer retains the right to redeem or pay back prior to its official maturity date at a specified call price.

Call Premium

An additional amount (often equal to one or more coupon payments) paid by an issuer to bondholders when exercising a call option early.

Call Window

A designated period during which a callable bond cannot be called, providing initial call protection to bondholders.

Default Risk

The risk that a bond issuer fails to fulfill contractual obligations, such as making timely coupon payments or returning the face value.

Default Premium

The additional yield required by investors on corporate bonds relative to risk-free federal bonds to compensate for credit risk.

Bond Ratings Scale

Standardized evaluations provided by agencies like Moody's and Standard & Poor's ranging from Investment Grade (Aaa/AAA to Baa/BBB) to Junk Bonds (Ba/BB down to C).

Seniority

The structural ranking of debt priority in which senior claims must be fully serviced prior to subordinate or junior claims.

Secured Debt

Debt securities backed by specific corporate assets pledged as collateral to protect bondholders in event of default.

Protective Covenants

Contractual restrictions imposed by bondholders on an issuer to constrain the use of borrowed funds and preserve financial health.