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103 Cards in this Set
- Front
- Back
i is.. |
inversely related to Pbonds |
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PV = |
CF/(1+i)^n |
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CF = |
stream of future cash payments |
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i = |
yield to maturity |
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R = |
C + Pt+1 - Pt/Pt C/Pt + Pt+1 - Pt/Pt |
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R = (another) |
ic + g |
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how much of an asset people will want to hold in their portfolios |
Theory of Portfolio Choice |
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the total resources owned by the individual, including all assets |
Wealth |
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Everything else held constant... |
an increase in the wealth will increase the quantity demanded of an asset |
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Two points for wealth |
stock at a particular period in time |
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is the probability weighted average of all the possible returns of an asset |
Expected returns |
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Investors want... |
R to be big |
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E[R] = |
Ra(Proba) + Rb(Probb) |
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All else held constant... |
an increase in an asset's expected return relative to that of an alternative asset raises the quantity demanded of the asset |
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____ ______ affect the rate of return on bonds |
Bond prices |
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Changes in the price of bonds... |
affects bond buyers and sellers differently |
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an asset where the return is very uncertain |
Risk |
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What is risk averse?
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someone who stays away from risk |
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What is risk neutral |
Indifferent about risk |
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What is risk lover? |
someone who likes risks |
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Most people are... |
risk averse |
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All else held constant... |
an increase in the riskiness of an asset relative to other assets, its quantity demanded will decrease |
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What is liquidity? |
how quickly and cheaply can we turn an asset into cash |
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The more liquid an asset is relative to an alternative asset, all else held constant... |
the greater the quantity demanded |
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supply and demand of bonds are described in terms of stocks, not in terms of flows |
Asset market approach |
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Each bond price is associated with... |
a particular level of the interest rate |
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Bond prices and interest rates are... |
inversely related so as a bond's price goes up, its interest rate falls |
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For one year discount bonds... |
YTM = R |
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YTm |
Yield to Maturity |
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R = |
Rate of Return |
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Bond demand (3) |
Investors (people who BUY bonds) want a high R want to buy bonds when their price is lower |
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Pbond went up... |
rate of return and YTM went down |
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Bond Supply (6) |
Borrowers Supply Bonds The cost of borrowing is the interest rate As Pbonds goes up, the interest rate goes down Thus, the cost of borrowing goes down Want to borro more because it is cheaper Supply of bonds increases |
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Each bond price is associated with... |
a set interest rate |
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All interest rates... |
move together |
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Lenders... |
demand bonds |
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Quantity Demanded (supplied) changes as a result of... |
a change in the price (or the interest rate) (movement along the demand (supply) curve) |
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A change in demand (supply) occurs when the... |
quantity demanded changes at ever possible price (interest rate) (a shift in the demand (supply) curve) |
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One point of Wealth |
If we have an increase in our wealth, demand for bonds will increase, which is represented by Shifting Bd up and to the right |
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Wealth regarding Expansions |
wealth is increasing; Bd increase (shifts upward and to the right) |
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Wealth regarding recessions |
Wealth is decreasing; Bd decreases (shifts down and to the left) |
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What is the marginal propensity to save increases? |
shifts up and to the right; Increase in Bd |
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What is MPS? |
every dollar given to me, I will save the MPS of it. |
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Expected return for a one year discount bond and a one year holding period... |
the expected return and the interest rate are identical |
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If maturity is greater than one year... |
then interest rates and returns are not identical |
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Higher expected future interest rates _____ expected future returns for long-term bonds |
lower |
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Higher expected future interest rates lower expected future returns for long-term bonds, I expect... |
smaller capital gains or capital loss, so I won't buy the bonds |
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Three points for Higher expected future interest rates |
shift the demand curve down and to the left expect the price of the bond to be lower in the future don't know what a future return will be, but I can expect something |
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g<0 |
capital loss |
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R = |
C/Pt + Pt+1 - Pt/Pt |
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R = (another_ |
ic + g |
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C/Pt |
Coupon payment/current bond price |
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Demand for bonds: Who? Slope? |
the lenders "investors" As the price of the bond goes up, quantity demanded goes down |
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Supply for bonds: Who? Slope? |
Borrowers As the price of a bond goes up, quantity supplied goes up |
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interest rate = |
cost of borrowing |
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P3>P* QD |
Excess Supply (Surplus) |
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What happened with excess supply |
Price will go down until we hit P* interest rate increases until we hit i* |
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P2 Qs |
Excess demand (shortage) |
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Three points for Excess demand |
buyers bid the price up Price increases until we hit equilibrium interest decreases until we hit i* and P* |
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Over time.. |
the market will correct itself |
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Changing Qd or Qs is... |
a movement along the demand (supply) curve |
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What changes Qd or Qs? |
Only price |
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Anything else changing is... |
a shifting of the entire curve |
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Increase in expected return on alternative assets... |
that will lower the demand for bonds (Shift Bd down and to the left) |
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Increase in the expected rate of inflation... |
physical assets; that will lower the demand for bonds and shifts Bd down and to the left |
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What does an expected rate of inflation regard? |
physical assets like houses, land, etc. look more appealing |
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What two things are closely related? |
risk and liquidity |
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What do we assume regarding risk? |
Risk aversion |
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Factors that shift the demand for bonds: |
wealth expected returns Risk Liquidity |
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An increase in the riskiness of a bond will... |
decrease the demand for bonds (shift down and to the left) |
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What is liquidity? |
how quickly and cheaply an asset can be converted to cash |
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An increase in the liquidity of a bond will... |
increase the demand for that bond |
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What is an example of something that can change the liquidity of a bond? |
the brokerage fees |
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As risk rises... |
liquidity decreases |
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Four Factors that shift the supply of bonds |
expected profitability of investment opportunities expected inflation government budget deficits Open Market-Operations |
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Why do borrowers supply bonds?
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to raise funds for investment opportunities |
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what is the cost of borrowing? |
The real interest rate |
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An increase in profitable investment opportunities will... |
increase the supply of bonds (shifts down and to the right) |
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What happens in an expansion regarding expected profitability of Investment Opportunities? |
increase supply (more investment opportunities) |
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What happens in a recession regarding expected profitability of Investment Opportunities? |
decrease supply (less investment opportunities) |
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Real interest rate (r) = |
i - pi(e) |
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An pi(e) increases... |
real rate of interest goes down |
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If r decreases, this is... |
good for borrowers, which will increase bond supply |
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What is a Federal Government Budget Deficit? |
government spends a lot more money than they brought in |
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What is one point for Government Budget Deficits? |
U.S. treasury issues bonds to finance deficit |
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Higher government deficit... |
increase the supply of bonds |
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Why do treasury bills never default?
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because they can just print more money or raise taxes |
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An increase in the inflation rate will cause the demand for bonds to... |
decrease (shift left) and the supply of bonds to increase (shift right). This drives the price of bonds down and nominal interest rates up. |
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If pi(e) increases....then |
Bs increases, P decreases, Quantity Increases (positively related) Bd decreases, P decreases, Quantity decreases; negatively related |
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When are Open Market purchases done? |
during recessions |
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What happens in an open-market purchase? |
the fed purchases bonds from the public |
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Three points for Open-Market purchases |
give you funds which increases the money supply lowers interest rates supply of bonds decrease (shifts bond curve up and to the left |
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One point for lower interest rates |
encourages more spending |
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One point of supply of bonds decreases |
P increases so interest rates fall |
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What are open market sales? |
the fed sells bonds to the public |
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Three points for open market sales |
supply of bonds increases money supply goes down Pbonds decreases, so interest rate rises |
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R = |
C/Pt + Pt+1 - Pt/Pt |
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Demand is... |
desirability |
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Supply is... |
Availability |
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When demand increases... |
Price increases and quantity increases |
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When demand decreases... |
Price decreases and quantity decreases |
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When supply increases... |
Price decreases and quantity increase |
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When supply decreases... |
Price increases and quantity decreases |