Fixed Income Securities
Instrument landscape
Fixed income covers government bonds, corporate bonds, municipal bonds, agency debt and money-market instruments. Candidates must know the price-yield inverse relationship, the difference between coupon rate and yield to maturity, and clean versus dirty price (accrued interest).
Pricing and yield measures
A bond's price is the present value of future coupons and principal, discounted at the required yield. When yield rises, price falls, and the effect is larger for longer duration and lower coupons. Know yield to maturity (assumes reinvestment at YTM), current yield (annual coupon / price) and yield to call. Understand duration as price sensitivity and modified duration as the percentage price change for a 1% yield move.
Risk types
Interest rate risk, reinvestment risk, credit/default risk, liquidity risk, inflation risk and call risk. Note the trade-off: a short-duration bond has low price risk but high reinvestment risk. Understand credit ratings and the investment-grade/high-yield boundary, and the role of seniority and covenants in recovery.
Traps
Questions often confuse premium with discount: a bond trades at a premium when coupon > yield, at a discount when coupon < yield, and at par when equal. Another trap is treating accrued interest as part of the quoted (clean) price - it is not.
Worked example
A 5-year bond, 6% annual coupon, par 100, yield 8%. Price = 6/1.08 + 6/1.08² + 6/1.08³ + 6/1.08⁴ + 106/1.08⁵ ≈ 5.56 + 5.14 + 4.76 + 4.41 + 72.14 = 92.01. Coupon below yield, so the bond trades at a discount - a quick sanity check on any calculation.
Rule of thumb
Coupon vs yield tells you premium or discount before you compute anything.