Week 4

Question 1

Interest Rates

Answer 1

Can be defined as a charge for the use of money.
It is expressed as a percentage of the orignal principle or compound value for a given period.

Principal + Interest = Compound Value

What determines Interest Rates:
Positive relationship with the rate of inflation in any economy.
The Central Bank is responsible for monitoring and directing the rate of interest in any economy, this is done by the use of monetary policy which is implemented via ‘Open Market Operations’ e.g quantitative easing.

Question 2

Simple vs Compound Interest

Answer 2

Simple Interest- interest payments are based off the original deposit. e.g £1000 at 10% for 3 years would return £1300

Compound Interest- interest payments are based off all money in the account. same values would return £1331

For all practical purposes, interest rates are mentioned as compound interest.

Question 3

Compounding and APR

Answer 3

Is the process of calculating interest accrued up to a given time and adding it too the principal. The interest for next compounding period then calculated on the total compound value.

The smaller the period of compounding is, the more interest will be accrued. Due to this reason, there is a need to express interest rates in a standardised form. This is known as AER- Annual Equivalent Rate.

Question 4

Annuity

Answer 4

When same amount of cash is received/paid in different periods.

Question 5

What is a Security in Finance terms?

Answer 5

A security is a financial instrument, typically any financial asset that can be traded.

Types of Securities:
Equity Securities - refers to stocks and a share of ownership in a company (which is possessed by the shareholder). Equity securities usually generate regular earnings for shareholders in the form of dividends. An equity security does, however, rise and fall in value in accord with the financial markets and the company’s fortunes

Debt Securities - involve borrowed money and the selling of a security. They are issued by an individual, company, or government and sold to another party for a certain amount, with a promise of repayment plus interest. They include a fixed amount (that must be repaid), a specified rate of interest, and a maturity date (the date when the total amount of the security must be paid by).

Derivatives - value is based on an underlying asset that is then purchased and repaid, with the price, interest, and maturity date all specified at the time of the initial transaction.

Question 6

What is a Money Market?