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26 Cards in this Set

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What is the definition of an interest rate?
interest rate is the price paid by a borrower to a lender for the use of resources during some interval
What is the risk free rate?
rate on a loan whose borrower will not default on any obligation
What is meant by short term?
rate on a loan that has one year to maturity
What is the marginal rate of time preference?
willingness to trade some consumption now for more future consumption
What is the marginal productivity of capital?
as investment grows, additional gains fall as more of the less profitable projects are undertaken
What is Fisher's theory?
i = r + p
i = nominal rate
r = real rate
p = expected percentage change in price level
What is the loanable funds theory of interest rates?
interest rate is determined by demand for funds (by firms, governments, individuals) and the supply of funds (from firms, governments, individuals)
What is liquidity preference theory?
developed by Keynes; at a low interest rate, people hold a lot of cash so its demand increases; at a high interest rate, people hold bonds they demand less money; the intersection determines interest rates; money supply is fixed
What is the liquidity effect?
money supply increases causes interest rate to fall
What is the income effect?
money supply increases, incomes increase, demand shifts up, interest rate increases
What is the price expectations effect?
if economy is producing at maximum capacity , then an increase in the money supply will raise prices causing demand to shift up driving interest rates up; income effect and price expectations effect work in same direction, liquid effect opposite
What is the principal value?
amount that the issuer agrees to repay the bondholder at the maturity date; aka par value, maturity value, redemption value, face value
What is the yield of a bond?
coupon interest + any capital gains + any capital losses; if market price is less than par value, then yield to maturity is greater than the coupon rate; vice versa
What is yield spread?
the difference in yield between two bonds
What are the two types of treasury securities?
discount- pay fixed amount at maturity
coupon- pay every 6 months + principal at maturity
What are Treasury bills (t-bills)?
security with a maturity of one year or less are sold as discount securities; greater than 2 years are issued as coupon securities
What are on-the-run or current coupon issues?
most recently auctioned treasury issues
What are off-the-run issues?
issues auctioned prior to the current coupon issues, not as liquid, have a higher yield than on-the-run issues
What is a base interest rate or a benchmark interest rate?
minimum interest rate that investors will demand for investing in a non-Treasury security
What are the possible candidates to replace the government as a benchmark?
1. other government enterprises
2. corporate bond issuers
3. interest rate swap spread
What are the 6 factors that effect spread or risk premium?
1. type of issuer
2. issuer's creditworthiness
3. maturity
4. are there options?
5. taxability
6. liquidity
What is the term structure of interest rates?
relationship between the yields on comparable securities but different maturities
What is a call provision?
issuer can retire bond (fully or partially) before maturity; hurts holder because issuer can replace an old bond with a lower interest cost issue should interest rates in the market decline
What is a put provision?
holder can sell back the issue at par value on designated dates; helps holder when interest rates rise resulting in a lower price
What is a convertible bond?
allows holder to exchange bond for company shares; good for holder especially when stock is doing well; demander will demand less of a spread for convertible bond, put provision then a call provision
What are municipal bonds?
issued by state and local governments; large majority are tax exempt; have less yield that treasury securities