General Securities Sales Supervisor (Series10) Practice Exam

A 5% municipal bond that matures in 30 years has a pre-refunding announced for the year 2022. What is the redemption price the customer buying the bond at a 3.25% yield will receive?

1. 105 and redemption date of 2017

2. 104 and redemption date of 2022

3. 105 and redemption date of 2022

4. 100 and redemption date of 2042

The correct answer is: 104 and redemption date of 2022

To determine the redemption price that a customer will receive when buying a 5% municipal bond at a 3.25% yield, it's important to understand how pre-refunding works. Pre-refunding occurs when an issuer calls a bond before its maturity date and refinances it by issuing new bonds, often at lower interest rates. In this scenario, the bond matures in 30 years and has a pre-refunding announced for the year 2022. This indicates that the issuer plans to exercise the call option on the bond in 2022, allowing it to be redeemed at that time. When bonds are called or redeemed, the redemption price is typically at par value, which is 100, plus any applicable premiums. The correct response reflects the conditions of the bond: it indicates that the redemption price is 104 in the year 2022, accommodating for the fact that it is being called before its original maturity, which might involve a slight premium over par. This premium compensates investors for the premature termination of the bond's cash flow. Thus, the redemption price and the identified year of redemption (2022) align with the mechanics of pre-refunding and how callable bonds are structured. The answer reflects an understanding of bond redemption processes