finance test 2

interest rate

cost of using money

real rate of interest

return required by an investor for delaying consumption. Nominal int rate minus the inflation rate.

interest rate

real rate of interest, inflation premium, default risk premium, liquidity premium, maturity risk premium.

risk free rate

The theoretical rate of return of an investment with zero risk. The risk-free rate represents the interest an investor would expect from an absolutely risk-free investment over a specified period of time.

Term structure of interest rates

The relationship between yield to maturity and time to maturity among bonds having similar risk.

yield curve

plots interest rates against time to maturity.

upward

typically yield cuves slope

expected inflation, liquidity preference, interest rate risk

Factors that affect the shape of the yield curve

PV of expected cash flows

Value of any asset

bond

a long-term debt instrument. the borrower (corporation) agrees to make payments of interest and principal on specific dates to the holders of the bond.

bond indenture

a legal document that spells out all of the terms and conditions of the bond.

Bond sinking fund

provision in bond indenture that requires the bond issuer to retire a portion of the bond issue each year

call provision

condition in the bond indenture that gives the issuer the right to redeem bonds under pre-specified terms before the normal maturity date.

bond rating

an evaluation by a rating company of the probability that a particular bond issue will default

par value

the same as face amount.

coupon interest rate

the stated annual interest rate on a bond.

maturity date

the date on which a financial obligation must be repaid

interest rate risk

The risk that changes in market interest rates will cause fluctuations in a bond's price. Also, the risk of suffering losses as a result of unanticipated changes in market interest rates.

yield to maturity

The rate required in the market on a bond

current yield

the coupon interest payment divided by the current market price of the bonds.

corporate bond

certificate indicating that a corporation has borrowed a certain amount of money from an institution or an individual and promises to repay it in the future under clearly defined terms.

municipal bond

a bond issued by a state or local government or municipality to finance such improvements as highways, state buildings, libraries, parks and schools

u.s. government bond

Short-term IOUs issued by the U.S. Treasury; considered the risk-free asset.