Saving and Borrowing Flashcards
3 ways to borrow and save?
1) Loans via banks, 2) equities (by owning a company), and 3) bonds (known as I owe you - IOU)
What is the role of banks?
1) Link between savers and borrowers.
2) Savers deposit their money and receive interest; 5% interest on £100 pays £5 interest each year from the bank.
3) Borrowers borrow from the bank and pay interest. Suppose the bank charges them 8% interest so they pay the bank £8 at the end of the year.
4) The bank then makes a surplus of £3 for each £100.
What is equity?
This is when companies raise money by offering a stake or part ownership of the company. There is no interest paid on equity but is hoped that the company does well and then the individual will benefit when they later sell their stake.
What is a bond?
Borrowers issue an IOU. A form of debt where the borrower pays interest and the debt needs to be repaid.
The borrower agrees to pay the amount back in 10 years and pay interest each year.
Who are the savers and borrowers?
Savers are those with surplus cash.
Borrowers are those that have insufficient cash.
Examples of different types of loans?
- Personal loans are for general purposes.
- Mortgages are specific to buy a house; often for long periods.
- Overdrafts are short term when the bank can ask the borrower to repay immediately.
- Governments tend to issue bonds when they need to borrow money.
What is risk and reward?
You normally get a greater return / reward when the risk is greater. Investing in Apple is likely to be less risky than NewCompany.com.
Investing in equities is generally more risky than bonds. There are no sets times for payment in equities and if the company is in financial trouble equity holders are the last to be paid.
Characteristics of equities
- The holder is a part owner in the business. They own shares in the company.
- No set repayment date.
- Do not pay interest each year.
- Investors hope the company will make profits in the future.
- Shareholders can receive a share of the profit in the form of a dividend.
- Selling the shares in future for a higher price, hopefully.
What are equity exchanges?
- Trade (buy and sell) shares.
2. Examples are the London Stock Exchange (LSE) or the New York Stock Exchange (NYSE).
What do insurance providers do?
- Insurance providers allow risks to be controlled.
2) insurance companies take on a risk for a specified premium.
3) Examples are life insurance (insurance company pays out if the insured dies), car insurance etc.
How are insurance premiums set?
1) Depend on the risk.
2) A more expensive car costs more to insure.
3) A young driver is a bigger risk so the premium is higher.
What is foreign exchange?
1) Also known as FX or Forex.
2) Need FX when buying from another country.
3) if you travel to France then you need to buy Euros.
4) FX traders buy and sell different currencies.
5) They earn fees by setting different rates for buying and selling currencies.
