Chapter 15 Financial Markets and Interest Rates Flashcards
What is a bond?
Any agreement to repay borrowed money
What is maturity?
number of periods until a bond is repaid
What is Present value?
how much one would be willing to pay today for a future payment
What is the PV equation?
PV = FV/ (1+i)^n
Higher (n) means?
Longer maturity
When would you purchase a bond?
as long as the price is at or below its present value
What do interest rates to do a bond’s present value?
higher interest rates reduce a bond’s present value so there is an inverse relationship between interest rates and bond prices
Higher risk
higher rate of return
What are the characteristics of bonds?
maturity
risk –> likelihood of default
tax status of earnings
(tax free = lower rate of return)
What are the primary and secondary markets?
primary market = initial issue of bonds
Secondary market = trading of previously issued bonds
What is the nominal interest rate? How is it determined?
nominal interest rates are a combination of inflation and “real” interest rate
They are determined by the equilibrium price in the market for loanable funds
Who are suppliers of loanable funds?
households, foreigners and depository institutions (banks)
who are demanders of loanable funds
firms, government
