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| The value of money today is different from the value of money in the past or future |
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| Present Value (definition) |
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| The value of financial assets (such as cash, stocks, bonds, etc.) as of today or present time. |
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| The value of financial assets as of future time. The present value will always grow over time due to interest (rate) and inflation. |
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| A financial reward for postponing one’s consumption of present money until the future time. |
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| An interest payment on preceding period’s interest payment. This a typical way of deriving a market interest rate in the economy. |
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PV = Present Value
FV N = Future Value after N periods I = Interest Rate
I/YR = I/Y = Interest Rate per Year N = Number of Periods |
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| Loans that need to be paid in equal amounts on a regular basis (monthly, quarterly, or yearly) until all the interests and principal are paid in full. |
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| A long term financial contract/promise made between lender and borrower |
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| Treasury, Corporate, Municipal, Foreign |
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| Treasury Bond (Definition) |
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Issued by the FEDERAL govt.
AKA govt bond or treasury bond |
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| Treasury Bond (Key Characteristics) |
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No default: DRP = 0
The interest returns on the bonds are exempt from state income tax
More liquid |
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| Corpoate Bonds (definition) |
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| Corpoate Bonds (Key Characteristics) |
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Have default risk premium
Level of risks are rated by rating agencies such as S&P and Moody's
Lower ratings -> Lower credibility -> Higher DRP -> Higher interest rate
The lower the ratings, the higer the interest rate |
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| Municipal Bonds (Definition) |
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Bonds Issued by state or local gov't
AKA Munis |
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| Municipal Bonds (Key Characteristics) |
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Some default risks (not as much as corporate bonds)
Returns are exempt from federal income tax, and are more reliable than the corresponding corp bonds |
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Bonds issued by foreign governments or foreign corporations.
Exposed to credit risk and risky foreign exchange rate |
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Face value of a bond
AKA Face Value |
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An interest payment on the bond
Once a year = Annual
Twice a year = Semi-annual |
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Annual interest rate on the bond
Obtained by dividing annual total coupon payments by the face value
Coupon rate is fixed |
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| Specific date when th principal (or face value)must be repaid to the bondholder(s) |
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Does not pay any coupons until maturity
Price way below face value |
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| When the interest rate keeps declining. Firms can save interest payment by replacing existing high coupon rate (or high yield) bonds with new local coupon rate (or low-yield) bonds |
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| makes bond uncallable until several years after it is issued |
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| Exchangeable by the bondholder forthe firm's common stock at a fixed price |
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| Indexed (or purchasing power) bond |
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Interest rate on the bond (yield rate) is based on an inflation index, such as CPI.
Protects bondholders against future inflation
EX: TIPS |
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| Treasury Inflation Protected Securities |
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Any bond whose bond price is below the FV
Happens when the market interest rate is greater than the coupon rate
Buyers compensated |
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Any bond whose price is above the FV
Happens when the market interest rate is lower than the coupon rate
Issuers compensated |
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INT = Interest payment OR coupon payment (PMT)
Rd = Yield to maturity (of bond) or maket interest rate (I/Y)
N = Number of years before the maturity (N)
M = Bond's face value of par value (FV) |
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