Ch 5 - Interest Rate

Question 1

effective annual rate (EAR) or annual percent- age yield (APY)

Answer 1

The total amount of interest that will be earned at the end of one year.

Question 2

annual percentage rate (APR)

Answer 2

Indicates the amount of interest earned in one year without the effect of compounding.

Question 3

simple interest

Answer 3

Interest earned without the effect of compounding

Question 4

amortizing loan

Answer 4

A loan on which the borrower makes monthly payments that include interest on the loan plus some part of the loan balance.

Question 5

nominal interest rates

Answer 5

Interest rates quoted by banks and other financial institutions that indicate the rate at which money will grow if invested for a certain period of time

Question 6

real interest rate

Answer 6

The rate of growth of purchasing power after adjusting for inflation

Question 7

term structure

Answer 7

The relationship between the investment term and the interest rate.

Question 8

yield curve

Answer 8

A plot of bond yields as a function of the bonds’ maturity date.

Question 9

risk-free interest rate

Answer 9

The interest rate at which money can be borrowed or lent without risk over a given period.

Question 10

federal funds rate

Answer 10

overnight loan rate charged by banks with excess reserves at a Federal Reserve bank (called federal funds ) to banks that need additional funds to meet reserve requirements.

Question 11

opportunity cost of capital or cost of capital

Answer 11

The best available expected return offered in the market on an investment of comparable risk and term to the cash flow being dis- counted; the return the investor forgoes on an alternative investment of equivalent risk and term when the investor takes on a new investment.