CFA Practice Question

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CFA Practice Question

For the bond issuer, the annual interest expense associated with a bond issue will decline each year except for bond indentures with a(n) ______.

A. bullet maturity
B. amortizing provision
C. sinking fund provision
Correct Answer: A

A bullet contract calls for the return of principal on the maturity date.

User Contributed Comments 15

User Comment
morpheus918 I don't get it. How does the interest expense decrease for the sinking fund? The bonds are not paid off early are they?
tony1973 What's a sinking fund provisions? they are set forth in a bond's indenture to retire a specified portion of the bond each year to reduce credit risk. as the principals are reduced each year, the interest expense also decreases!
haarlemmer My way as B & C are right, A has to be the answer. However, as I googled the definition of bullet marturity: no repayment of the principal until the maturity.
BADGUY you are correct haarlemmer with the definition of bullet maturity-that's why A is the answer.
mtcfa Interest expense will remain constant with a bullet bond; therefore A is the answer.
flemato347 If the bullet bond were sold at a premium, wouldn't the answer be D?
akanimo flemato347 the sale price of the bullet bond has NO IMPACT on ANNUAL INTEREST EXPENSE ... so (A) remains correct
MattNYC Akanimo...that isn't true. If the bond was sold at a premium or a discount the interest expense is affected. Only at par does the interest expese = coupon payment. Recall, that with a premium bond int. expense falls over time as the premium is reduced and vice versa for a discount bond.
Donnaiola MattNYC, that is wrong.

The interest expense for the company doesnt change if the bond sells at premium/discount in the second hand market. The YIELD for the investor changes, but the interest expense for the company stays the same.

Akanimo is right !
slipleft No No No.

We seem to be confusing 2 concepts. The actual interest paid is the coupon payment; bullit bond will remain the same.

However, MattNYC is correct for accounting purposes. The issuers balance sheet will carry the original issue price as a liability that will be increased (decreased) if the bond is sold at discount (premium). The recorded interest expense, on the books, will adjust the liability account to par as maturity nears; this annual adjustment will become smaller as the maturity nears.
michlam14 question asks about declining interest expense. i just thought for A, through out it's lifetime there is no interest payment and in the very last year upon maturity, interest expense increasest to the full amount of difference between discounted price and principle. so A would be the answer?
johntan1979 Thanks for the entertaining arguments, guys, but for me, I will instinctly pick A, because there isn't much to differentiate B and C in terms of their outcomes, but A is completely different.
rabihCH somebody from AnalystNotes should moderate these answers and flag the wrong ones! Discussions are helpful, but wrong reasoning should be flagged.
Inaganti6 @rabihCH there are way too many keyboard loose canons . Mods would need more than 24 hours in a day for that.
philerup @johntan1979 with another asshole comment.
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