Financial Management
You have been promoted to vice president and director of your mid-size firm's pension fund management team located in Cincinnati, OH. Before you have even had the opportunity to settle into your new office, your senior vice president tapped you to take her place and present an investment seminar to "a group of investment decision-makers" comprised of government analysts from all over the tri-state area but that is the extent of the information you've been provided. After doing some quick research, you've identified that the specific target audience for this presentation is composed primarily of individuals with little or no professional investment experience who are attending this seminar to build their skills.
In order to address the range of information these individuals need to know and the likely range of questions that may crop up, you'll need to be able to:
1. Describe the essential characteristics of a bond and how these characteristics interact to determine bond value, inclusive of how both the interest rate and coupon rate influence bond value and pricing.
2. Summarize call provisions and sinking fund provisions. Explain how these types of provisions individually make bonds more or less risky for a) an investor, and b) the issuer.
3. The value of an asset whose value is based on expected future cash flows is determined by the present value of all future cash flows the assets will generate. Given the case scenario and target audience provided, select and discuss a simple asset situation that could apply to exemplify this concept.
4. Define what it means when a bond is callable. Provide two measures you can review to understand what type of returns to expect if the bond is called or if it is not called.
5. Describe the type of returns one could one expect with a callable bond trading at a premium price and provide your rationale. Explain the significance of the designation "premium price." Discuss why or why not a callable bond trading at a premium price would be an appropriate investment for the target audience's organizations.
6. Select an example scenario appropriate to the seminar's target audience Write a general expression for the yield on a probable debt security (rd) and define these terms in regards to that hypothetical security: real risk-free rate of interest (r*), inflation premium (IP), default risk premium (DRP), liquidity premium (LP), and maturity risk premium (MRP).
7. Define the nominal risk-free rate (rRF) and provide an example relevant to your target audience of a specific security that can be used as an estimate of rRF.
8. Describe interest rate risk and reinvestment rate risk and how these relate to the maturity risk premium. Based on reinvestment rate risk, provide an example on how a 1-year bond or a 10-year bond would be a better investment for a typical community as represented by those attending your seminar.
9. Select an example appropriate to your seminar target audience to explain the concepts of a) term structure and interest rates and b) yield curve.
10. Review corporate bankruptcy law. If a firm were to default on its bonds, describe how the company assets could be/would be liquidated. What is a likely outcome for bondholders? Select and describe an example scenario that applies to your seminar attendees' organizations.