HKSI Licensing Examination Paper 8 (Securities) — All Questions

In an uptrend, an upward-sloping trendline is typically drawn:

• a.through the highs to act as resistance
• b.horizontally at the average price
• c.connecting successive higher lows, so it acts as support✓
• d.at the 200% retracement level

In an uptrend, the trendline is drawn under the price by joining the rising sequence of higher lows; it acts as a dynamic support line. A break below it warns that the uptrend may be weakening.

A bond with a 5% annual coupon (HK$5 per HK$100 of face value) trades at HK$80. Its current yield is:

• a.4.00%
• b.8.00%
• c.5.00%
• d.6.25%✓

Current yield = annual coupon / market price = HK$5 / HK$80 = 6.25%. Because the bond trades below par, its current yield exceeds the 5% coupon rate.

A bond paying an annual coupon of HK$6 per HK$100 of face value trades at HK$120. Its current yield is:

• a.7.2%
• b.5.0%✓
• c.6.0%
• d.20%

Current yield = annual coupon / market price = HK$6 / HK$120 = 5.0%. Because the bond trades above par, the current yield is below the 6% coupon rate.

There is an inverse relationship between a bond's price and its yield, so when market yields rise, bond prices:

• a.stay fixed
• b.equal the coupon
• c.fall✓
• d.rise

Bond prices and yields move in opposite directions: as market yields rise, existing fixed-coupon bonds become less attractive, so their prices fall until their yields match the new market level.

A bond trading above par (at a premium) has a coupon rate that is:

• a.always zero
• b.above its yield to maturity✓
• c.equal to the stamp duty
• d.below its yield to maturity

A premium bond's coupon is higher than its yield to maturity, because the investor will suffer a capital loss as the price falls to par at maturity, dragging the total yield below the coupon rate.

A bond's duration measures:

• a.the bond's credit rating
• b.the stamp duty payable on the bond
• c.the sensitivity of its price to changes in yield (and the weighted-average time to its cash flows)✓
• d.the time until only the next coupon

Duration gauges how much a bond's price will change for a given change in yield and can be seen as the weighted-average time to receive its cash flows. Longer duration means greater interest-rate sensitivity.

All else being equal, a bond with a longer time to maturity will generally have:

• a.a higher duration and greater price sensitivity to yield changes✓
• b.a permanently fixed price
• c.no coupon payments
• d.a lower duration and therefore noticeably less price sensitivity to any change in market yields

Longer-maturity bonds have higher duration, so their prices move more for a given change in yield. This is why long-dated bonds carry greater interest-rate risk than short-dated ones.

All else being equal, a bond with a higher coupon will have:

• a.a shorter duration than a comparable lower-coupon bond✓
• b.no yield
• c.a longer maturity
• d.a higher credit rating

A higher coupon returns more cash sooner, lowering the weighted-average time to receive cash flows, so duration is shorter. Higher-coupon bonds are therefore somewhat less sensitive to yield changes.

A bond has a modified duration of 6. If its yield rises by 1% (100 basis points), its price will fall by approximately:

• a.0.6%
• b.6%✓
• c.1%
• d.60%

The approximate price change equals minus modified duration times the yield change: -6 x 1% = -6%. Modified duration estimates the percentage price move for a 1% change in yield.

The duration of a 10-year zero-coupon bond is approximately:

• a.0 years
• b.10 years✓
• c.5 years
• d.1 year

A zero-coupon bond makes only one payment, at maturity, so its duration equals its time to maturity (about 10 years). This gives zero-coupon bonds the highest duration for a given maturity.

When a bond is bought between coupon dates, the buyer normally pays the seller:

• a.a cash dividend
• b.double the next coupon
• c.accrued interest for the days since the last coupon✓
• d.stamp duty on the coupon

The buyer compensates the seller for the interest earned but not yet paid since the last coupon date by paying accrued interest. The quoted 'clean' price plus accrued interest gives the 'dirty' (settlement) price.

The yield to maturity (YTM) of a bond is:

• a.the coupon divided by par value only
• b.the stamp duty payable on the bond
• c.the single discount rate that makes the present value of its cash flows equal its price, i.e. the return if held to maturity✓
• d.the bond's credit rating expressed as a percentage

The YTM is the internal rate of return that equates the present value of all a bond's future coupons and principal to its current price, assuming it is held to maturity. It is the most complete single measure of a bond's return.

When a bond trades exactly at par, its coupon rate, current yield and yield to maturity are:

• a.all zero
• b.all different from one another
• c.impossible to compare
• d.all equal✓

At par, there is no capital gain or loss to maturity, so the coupon rate, current yield and yield to maturity all coincide. Discounts push the YTM above the coupon, and premiums push it below.

A bond with a higher credit rating, all else being equal, will typically offer:

• a.no coupon at all
• b.a longer maturity by rule
• c.a higher yield to compensate for greater risk
• d.a lower yield, reflecting its lower default risk✓

Higher-rated bonds carry lower default risk, so investors accept a lower yield; lower-rated (riskier) bonds must pay a higher yield to attract buyers. This yield gap is the credit spread.

A bond paying a HK$4 annual coupon per HK$100 of face value trades at HK$50. Its current yield is:

• a.4%
• b.2%
• c.8%✓
• d.5%

Current yield = annual coupon / market price = HK$4 / HK$50 = 8%. The deep discount to par lifts the current yield well above the 4% coupon rate.

Interest-rate risk in a bond portfolio is greatest for:

• a.very short zero-duration instruments
• b.cash on deposit
• c.short-dated Treasury bills
• d.long-duration (long-dated) bonds✓

The longer a bond's duration, the more its price moves for a given change in yield, so long-dated bonds carry the most interest-rate risk. Short-dated and cash-like instruments have minimal price sensitivity.

A share has a P/E ratio of 16. Its earnings yield (the inverse of the P/E) is approximately:

• a.1.6%
• b.16%
• c.6.25%✓
• d.0.16%

Earnings yield = 1 / P/E = 1 / 16 = 6.25%. The earnings yield expresses earnings as a percentage of price and is useful for comparing equities with bond yields.

Using the Capital Asset Pricing Model (CAPM), a share has a beta of 1.5 when the risk-free rate is 3% and the expected market return is 9%. The required rate of return is:

• a.18%
• b.12%✓
• c.13.5%
• d.9%

CAPM: required return = risk-free rate + beta x (market return - risk-free rate) = 3% + 1.5 x (9% - 3%) = 3% + 9% = 12%. Beta scales the market risk premium, so a beta above 1 demands a higher return than the market as a whole.

A company has an enterprise value of HK$1,200 million and EBITDA of HK$150 million. Its EV/EBITDA multiple is:

• a.6 times
• b.0.125 times
• c.12.5 times
• d.8 times✓

EV/EBITDA = enterprise value / EBITDA = 1,200 / 150 = 8 times. It is a capital-structure-neutral valuation multiple, letting firms be compared independently of their differing debt levels and tax positions.

A company retains 60% of its earnings and generates a return on equity (ROE) of 15%. Its sustainable (internal) growth rate is approximately:

• a.25%
• b.9%✓
• c.6%
• d.15%

Sustainable growth rate = retention ratio x ROE = 0.60 x 15% = 9%. It estimates how fast a firm can grow from reinvested earnings alone, without raising new equity or increasing its financial leverage.

Bollinger Bands are plotted a set number of standard deviations above and below a moving average. The bands therefore tend to widen when:

• a.The company pays its dividend
• b.The share is suspended from trading
• c.Price volatility increases✓
• d.Trading volume falls to zero

Bollinger Bands use standard deviation, a measure of dispersion, so the bands widen as price volatility rises and narrow as it falls. Technicians read a narrow 'squeeze' as low volatility that may precede a large directional move.