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f726_mid1_f03_ans - Finance 726 Midterm 1 Professor Helwege...

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Finance 726 Professor Helwege Midterm 1 Instructor Damsel Fall, 2003 You have the entire class period to finish this exam. You may use a calculator, scrap paper, and a writing tool to complete this exam. You may hand in the scrap paper (with your name on it) if you think it will help you receive partial credit for incorrect answers. Total points=100. Part I. Answer all questions in this section to receive full credit. (80 points) (5 pts.) 1. Which statements about the Federal Reserve are true? (circle ALL that apply) a. Bondholders prefer a Fed Chairman like Arthur Burns. b. The Fed tends to change rates by 1% each time it acts. c. The Fed Chairman position rotates, with a new chairman taking office every 2 years. d. The Fed typically targets the money supply and lets interest rates move wherever they may e. The Fed has not raised rates in the last year. (5 pts.) 2. In 2001 the default rate on junk bonds was exceptionally high. Circle all statements below that could reasonably explain this: (circle ALL that apply) a. Fallen angels were the majority of the junk market. b. The economy was in a recession. c. The telecom bubble burst. d. Many of the issuers in 1997 and 1998 failed to produce profitable businesses. e. The number of bond issuers in the market was exceptionally high. (5 pts.) 3. You are the CEO of a firm that owes $600 m. and you realize the total value of the firm is only $400 m. Which of the following actions might you reasonably take? (Circle ALL that apply.) a. Buy more stock in the firm while it is cheap. b. Contact the vulture investors in your firm to discuss a plan of reorganization. c. Threaten your labor unions with bankruptcy in order to renegotiate a lower pay package. d. Close down the office and liquidate. e. Make an exchange offer to your bondholders asking for a 33% haircut. (5 pts.) 4. You have invented a machine that allows you to travel into the future. Once there you go to the library and retrieve a book (say the Statistical Abstract of the U.S.) that lists ten year bond rates. From now and for the next 20 years, these bond yields rise steadily each year. What actions would be most profitable upon returning to the current time period? (circle ALL that apply): a. Sell put options on Treasury bonds. b. Sell a forward contract. c. Buy 10 Treasury bonds. d. Sell call options on Treasury bonds. e. Invest in a community bank’s stock.
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(6 pts.) 5. Rank the following debt obligations in terms of how much value they would lose if interest rates rose: (Rank 1 is for the bond that loses the most value, 6 is for the bond that loses the least value) a. A 10 year Treasury bond with a semi-annual coupon of 7% trading at 102 __2___ b. A 10 year Treasury bond with no coupons __1___ c. A 10 year home equity line of credit (fully amortizing) __4___ d. A 10 year Treasury bond with a semi-annual coupon of 9% trading at par __3___ e. A 1 month Treasury bill __6___ f. A 1 year CD (certificate of deposit) __5___ (4 pts.) 6. Rank the following debt renegotiations in terms of how long they take:
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f726_mid1_f03_ans - Finance 726 Midterm 1 Professor Helwege...

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