Saturday, May 9, 2009

Practice Question, Bonds

Which of the following corporate debt instruments issued by the same corporation would tend to offer the highest yield?
A. 10-year convertible bond
B. 10-year non-convertible bond
C. 15-year subordinated debenture
D. 15-year collateral trust certificate

EXPLANATION: bonds with longer terms pay higher interest rates to investors, just as you would expect to pay a higher rate on a 30-year vs. a 15-year mortgage. So, you can eliminate choice A and B. Now that you're left with two 15-year bonds, ask yourself which one is more secure? Choice D has collateral behind it (a portfolio of securities). So, eliminate D, and you're left with C. Subordinated debenture holders are the lowest creditors in the pecking order.

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