Saving And Borrowing Flashcards
What are the 2 groups in the world of finance
Borrowers
Savers
What are savers
Individuals, companies or governments with surplus money
What are HNWIs
High net worth individuals
Individuals with substantial amounts of surplus money
The 3 main ways that financial markets provide a link between savers and borrowers
Banks - charge higher interest for borrowers than savers to generate a surplus from which costs need to be paid (left over is profit)
Equity - shares and stocks - only for companies - big companies occasionally sell large amounts of equity in IPOs (initial public offerings)
Bonds - borrowers issue IOUs called bonds - sell to people and have to pay certain amount of interest on the amount each year - then repay the original price of the bond at the end of a set period of time e.g. 10 years
What is a personal loan
Either money borrowed for a particular purpose e.g. mortgage or car loan
Or
Money borrowed for a consumer item e.g. washing machine, fridge
Example of a short term and a long term loan
Short term - overdraft - payed back almost immediately
Long term - mortgage may not be fully repaid for up to 30yrs
How and why do governments borrow
Why - if gov expenditure exceeds gov revenue
How - they tend to issue bonds rather than get bank loans - e.g. UK 2022, had £2.4 trillion value of outstanding bonds - this is known as national debt
The relationship between the level of risk and the prospect of reward
Is a straight line going through the origin e.g. y=x essentially
- there is always a direct link between the risk the investor is willing to take and the potential reward the investor may realise from the investment
While bonds may have higher interest payments, they can be more risky than bank deposit accounts as smaller businesses may issue the bonds and may not be able to pay it back when the time comes.
Bank deposit accounts also allow immediate access if the investor needs money earlier than planned
In this case, it depends on whether the investor is prioritising potential reward or wants to play it safe
How are equities different from bonds
Equities give the holder an ownership stake in the company. Bonds don’t
Equities don’t have a set date of repayment. Bonds typically do
Equities don’t pay interest. Bonds typically do pay specific interest each year
Why are some investors willing to put money into equities with no prospect of the issuing company buying the equities back in the future
They hope the company will perform well and generate profits - so they can get dividends
But ultimately holders of shares know they can sell to someone else for more money to get positive return
Facilities to sell equities are provided by the equity markets include
New York Stock Exchange - NYSE
London Stock Exchange - LSE
etc
How are bonds sold before their repayment dates
People can sell off the bonds before their maturity date via over the counter (OTC) facilities.
OTC is a term for trades arranged away from established exchanges?? Either between buyer and seller or with an intermediary like a bank or broker
Traditionally, facilities for selling equities has been more important as equities don’t have a maturity/repayment date
How does insurance work and why is it used
Used to control certain risks
Take out insurance from insurance companies - these firms will take on the risks in exchange for a series of premium payments
If the risk materialises, the company will pay out
What do insurance companies do when is sells insurance that is too big for them to be willing to bear alone
They may take out insurance themselves aka reinsurance
This allows risk taken on by insurance companies to be shared
How do insurance premiums differ for different people
If the risk is deemed higher for a certain group of people for a certain risk, their premium will be higher
E.g. life insurance will be very expensive for older people who have existing medical conditions
Car insurance will be very expensive for inexperienced young male drivers, who are more prone to crashing compared to more experienced middle aged women
