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CFA Level I · CFA Level I Exam

Fixed-Income Cash Flows and Types for CFA Level I

This chapter explains how a bond is built: issuer, maturity, principal, coupon, currency and contingency provisions. To solve questions, lay out the cash flows by date, identify who holds any option, and decide how that option changes value or yield for the investor and the issuer.

What this chapter covers

This chapter is the vocabulary and structure layer of fixed income. It covers the features of a bond (issuer, maturity, par value, coupon rate, frequency, currency), how bonds are classified in markets, how law and tax shape them, and how principal and coupons can be paid in different ways.

The second half focuses on variations. Principal can be repaid at maturity (bullet), through a sinking fund, or through amortisation, fully or partially. Coupons can be fixed, floating, step-up, zero, deferred or payment-in-kind. Contingency provisions add options such as calls, puts, conversions and warrants, plus protective covenants.

The chapter connects to the rest of the paper in three ways. Bond pricing and yield measures in later fixed-income chapters depend on knowing the cash flow pattern. Credit analysis uses covenants and legal structure. Derivatives and portfolio chapters reuse the idea that an embedded option belongs to either the issuer or the investor, and that its owner determines who pays for it through yield.

Fixed Income carries a topic weight of 11-14% on the 2027 Level I exam, and this chapter feeds almost every later fixed-income question. The questions are mostly conceptual and three-option, so a clean grasp of definitions earns marks quickly without long calculations. If you know who benefits from each feature, you can eliminate two options fast, and you will find pricing, duration and credit chapters much easier.

Fixed-Income Cash Flows and Types: topics in the order to study them

  1. 1Fixed-Income Instrument FeaturesStart here because every other topic uses its terms: issuer, maturity, par value, coupon rate, frequency and currency.
  2. 2Yield Measures and Fixed-Income Market SegmentsOnce you know the features, learn how yield is described and how markets are segmented by issuer, credit quality, maturity and currency.
  3. 3Legal, Regulatory and Tax ConsiderationsThis shows how the bond contract, indenture, issuer type and tax treatment shape the features you have just learned.
  4. 4Principal Repayment StructuresLearn how principal is returned before coupons, because the outstanding balance sets what each coupon is paid on.
  5. 5Coupon Payment StructuresWith principal patterns clear, you can layer on fixed, floating, step-up, zero, deferred and payment-in-kind coupons.
  6. 6Contingency Provisions: Embedded OptionsDo this last, as it combines everything: options change cash flows, and you must say who holds each option and how it affects yield and value.

How to prepare Fixed-Income Cash Flows and Types

Aim to understand the logic of each feature, then drill recognition, because the exam asks short conceptual items and rewards precise reading.

  1. Read the features topic and write a one-line definition for each term, including par value, coupon rate and maturity.
  2. Build a table in your notes for repayment types: bullet, fully amortising, partially amortising and sinking fund. Note what the balance does over time.
  3. Sketch a cash flow timeline for each coupon type. Mark dates and amounts so you can see how the cash flows differ.
  4. For each embedded option, note the holder, when it is likely to be exercised, and whether it raises or lowers the required yield.
  5. Practise the legal and tax material by asking who is protected: the lender, the issuer or neither.
  6. Do timed three-option questions at about 90 seconds each and write down why each wrong option fails.
  7. Revise using the quick list below a few days before the exam, then once more on the last day.

Common mistakes in Fixed-Income Cash Flows and Types

  • Confusing who owns the option in callable and putable bonds.

    Fix: Ask who can act. The issuer holds a call, the investor holds a put. The option holder benefits, so the other side is paid through yield or price.

  • Treating coupon rate as the same as yield.

    Fix: The coupon rate sets the cash paid on par value. Yield reflects the return implied by the price. Keep the two apart in every question.

  • Mixing up amortising and sinking fund structures.

    Fix: Amortisation is built into scheduled payments to all holders. A sinking fund obliges the issuer to retire a portion of the issue, often by repurchase or selected redemption.

  • Assuming a floating-rate coupon is the reference rate alone.

    Fix: Write the coupon as reference rate plus spread, and check whether the question asks about the rate or the spread.

  • Mixing up affirmative and negative covenants.

    Fix: Affirmative means the issuer must do something. Negative means it must not. Test each example with that question.

  • Rushing the stem and answering from a half-remembered rule.

    Fix: Read the stem fully, find the key feature, and eliminate the two options that contradict it before choosing.

Last-day revision: Fixed-Income Cash Flows and Types

  • A bond's basic features are issuer, maturity, par value, coupon rate and frequency, and currency.
  • A bullet bond repays all principal at maturity; an amortising bond repays principal over its life.
  • A fully amortising bond has a balance of zero at maturity; a partially amortising bond leaves a balloon payment.
  • A sinking fund provision requires the issuer to retire part of the issue on a schedule.
  • A floating-rate note pays a reference rate plus a spread.
  • A step-up coupon rises on a preset schedule; a zero-coupon bond is issued at a discount and pays par at maturity.
  • A payment-in-kind coupon pays interest with additional bonds rather than cash.
  • A callable bond gives the option to the issuer, so investors require a higher yield.
  • A putable bond gives the option to the investor, so it is worth more than an otherwise identical straight bond.
  • A convertible bond lets the investor swap into the issuer's shares; a warrant is a separate right to buy shares.
  • Affirmative covenants require actions; negative covenants restrict actions.
  • The bond indenture or trust deed is the legal contract between issuer and bondholders.

Fixed-Income Cash Flows and Types practice questions

Fixed-Income Cash Flows and Types in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Fixed-Income Cash Flows and Types: frequently asked questions

Is this chapter calculation-heavy?

No. Most questions test definitions and the effect of features on cash flows, yield or value. You may need simple cash flow reasoning, but long calculator work is rare here.

How should I study embedded options for the exam?

Learn each option by holder, trigger and effect on yield. For every option, state who benefits and how the bond's price compares with an otherwise identical straight bond. That lets you eliminate wrong options quickly.

Why does this chapter matter for later fixed-income topics?

Pricing, yield, duration and credit analysis all start from the cash flow pattern and any options. If you misread the structure, every later calculation goes wrong.

Do I need a calculator for this chapter?

Rarely. The TI BA II Plus or HP 12C matters more in later pricing and yield chapters, but you can use it to check a simple amortisation or cash flow if a question needs one.