Compare Debt Securities - Securities Industry Essentials SIE

Which option best defines "high-yield" (junk) bonds in credit-rating terms?

Rated below $BBB/Baa$ . High-yield bonds offer higher interest to compensate for greater default risk associated with lower credit ratings.
What is the standard tax status of interest on corporate bonds?

Fully taxable at federal, state, and local levels. Corporate bond interest is treated as ordinary income, subject to all levels of taxation without exemptions like those for government securities.
Which option best describes a Treasury Inflation-Protected Security (TIPS)?

Principal adjusts with inflation; interest paid on adjusted principal. TIPS protect against inflation by adjusting the principal value based on CPI changes, with interest calculated on the inflated amount.
What is the key feature of a zero-coupon bond regarding interest payments?

No periodic interest; issued at a discount, pays par at maturity. Zero-coupon bonds accrue interest implicitly through the discount, providing tax-deferred growth until maturity when the full face value is paid.
Which type of corporate bond has the highest claim on assets in bankruptcy: secured or unsecured?

Secured bond. Secured bonds are backed by specific collateral, giving holders priority over unsecured creditors in asset distribution during bankruptcy.
Which type of issuer creates municipal bonds?

A state, city, county, or other municipal authority. Municipal bonds fund local government projects and are issued by entities with taxing authority at the state or local level.
Which option best describes a "double-tax-exempt" municipal bond for an investor?

Exempt from federal and investor's state income tax. Double-tax-exempt status applies when the bond is issued in the investor's state of residence, avoiding both federal and state income taxes.
Which type of issuer creates corporate bonds?

A private or public corporation. Corporations issue bonds to raise capital for business operations, distinguishing them from government or municipal debt.
Which municipal bond feature increases credit risk because it depends on a specific revenue source?

Revenue bond backing (project revenue dependence). Dependence on project-specific revenues makes repayment vulnerable to usage fluctuations or operational failures, elevating default risk.
What is the term for an unsecured corporate bond backed only by the issuer's promise to pay?

Debenture. Debentures rely solely on the issuer's general creditworthiness without collateral, making them riskier than secured bonds.
What is the key tax feature of most municipal bond interest for federal income taxes?

Interest is generally exempt from federal income tax. This tax exemption makes municipal bonds attractive to investors in high tax brackets, increasing their after-tax yield compared to taxable bonds.
What is the standard federal tax status of interest on U.S. Treasury securities?

Subject to federal tax; exempt from state and local tax. Treasury interest is taxable federally but exempt from state and local taxes to avoid double taxation on federal securities.
Which debt security typically has the lowest credit (default) risk: Treasuries, corporates, or municipals?

U.S. Treasury securities. Treasuries have virtually no default risk because they are backed by the U.S. government, unlike corporates or municipals which depend on issuer creditworthiness.
What is the main purpose of a bond's credit rating (for corporates or municipals)?

To indicate the issuer's relative default risk. Credit ratings assess the issuer's financial stability and ability to meet obligations, helping investors gauge potential default probability.
Which option best defines "investment grade" bonds in credit-rating terms?

Rated $BBB/Baa$ or higher. Investment grade ratings from agencies like S&P or Moody's indicate lower default risk, making these bonds suitable for conservative investors.
Which bond type generally has the highest liquidity: Treasuries, corporates, or municipals?

U.S. Treasury securities. Treasuries trade in a large, active market with high demand, facilitating easy buying and selling compared to less standardized corporates or municipals.
What is the primary credit backing for U.S. Treasury securities?

Full faith and credit of the U.S. government. Treasury securities are considered risk-free due to the U.S. government's ability to tax and print money, ensuring repayment.
Which risk is most directly associated with rising market interest rates for all fixed-income bonds?

Interest rate (market) risk. Rising interest rates decrease the market value of existing fixed-rate bonds as new bonds offer higher yields.
Which choice is the best comparison of default risk: Treasuries vs corporates vs municipals (typical case)?

Treasuries lowest; corporates and municipals higher (vary by issuer). Treasuries are safest due to government backing, while corporates and municipals carry issuer-specific risks that can lead to higher yields.
Which municipal bond type is backed by the issuer's taxing power rather than project revenues?

General obligation (GO) bond. GO bonds rely on the issuer's general revenue and taxing authority, providing broader backing than revenue-specific sources.
Which option best describes municipal bond interest when the bond is a private activity bond (PAB)?

May be subject to AMT for certain investors. Private activity bonds finance private projects with public benefit, potentially triggering AMT to limit tax advantages for high-income investors.
Which municipal bond type is primarily supported by revenues from a specific project or facility?

Revenue bond. Revenue bonds are repaid from income generated by the financed project, such as tolls or fees, rather than general taxes.
What is the key trade-off that often explains why municipal yields are lower than corporate yields?

Tax-exempt municipal interest often results in lower nominal yields. The tax exemption increases after-tax returns, allowing municipals to offer lower yields while remaining competitive with taxable bonds.
Which option best describes a put bond from the investor's perspective?

Investor can sell the bond back to the issuer at a set price. Put bonds give investors the option to require early repayment, providing protection against interest rate increases or credit deterioration.
Identify the bond type most associated with call risk due to early redemption by the issuer.

Callable bond. Callable bonds allow issuers to redeem early if interest rates fall, exposing investors to reinvestment risk at lower rates.

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