Chp 6-10, Finance

Real-risk free rate of interest interest rate that would exist on rissoles security if no inflation were expected
Nominal Risk-free Rate of Interest the real risk free rate plus a premium for expected inflation
Inflation Premium a premium equal to expected inflation that investors add to the real risk-free rate of return; premium added to the real risk free rate to compensate for a decline in purchase power over time
Default Risk Premium a difference between the interest rate on U.S. treasury bond and a corporate bond of equal maturity and market ability; premium added as compensation for risk that an investor will not get paid in full
liquidity premium premium added to the equilibrium interest rate on a security, if that security cannot be converted to cash on short notice and at close to its “fair market value”
interest rate risk risk of capital losses to which investors are exposed because of changing interest rate
Maturity Risk Premium premium that reflects interest rate risk, the higher, the longer the loan is
Reinvestment Rate Risk risk that a decline in interest rates will lead to lower income when bonds mature and funds are reinvested
Yield Curve shows relationship between bond yields and maturities
fisher effect higher inflation, causes higher inflation premium
real risk-free rate rate for a short term risk less security when inflation is zero
Maturity because interest rate of changes are uncertain, this premium is added for uncertainty
nominal risk-free rate on a treasury bill/bond
liquidity risk premium based on bond’s marketability and frequency, the less frequently the security is traded the higher the premium is added, increased interest
Valuation value of any financial asset; present value of cash flows the asset is expected to produce
bond long term contract in which a borrower agrees to make payments of interest
Treasury bonds bonds issued by federal government
corporate bonds bonds issued by corporations
municipal bonds bonds issued by state and local governments, interest rate is lower that corporate bond of equivalent risk
Par value the face value of a bond
coupon interest rate stated annual interest rate on a bond
maturity date specified date on which the par value of a bond must be repaid
original maturity # of years to maturity at the time a bond is issued
Call Provision a provision in a bond contract that gives the issuer the right to redeem the bonds under specified terms prior to the normal maturity date
Sinking Fund Provision a provision in a bond contract that requires the issuer to retire a portion of the bond issue each year
Convertible Bonds bonds that are exchangeable at the option of the holder for the issuing firm’s common stock
income bond a bond that pays interest only if it is earned
yield to maturity the rate of return earned on a bond if it is held to maturity
mortgage bond a bond backed by fixed assets
indenture a formal agreement between the issuer and the bondholders
debenture a long-term bond that is not secured by a mortgage on specific property
subordinated debenture bonds having a claim on assets only after the senior debt has been paid in full in the event of liquidation
zero coupon bonds bonds that pay no annual interest but are sold at a discount below par, thus compensating investors in the form of capital appreciation
probability distribution a list of all possible outcomes and their associated probabilities
standard deviation measure of variability ,can be used as a measure of risk
expected value the “average outcome”, not a measure of risk
risk the chance that some unfavorable event will occur
diversification combining assets into a portfolio, helps get rid of some risk, and investing in different types of companies, not just similar companies
portfolio group of assets; 2 or more
beta shows the extent to which a given stock’s returns move up and down with the stock market, measures market risk
nondiversifiable risk measured by beta,
security market line an equation that shows the relationship between risk as measured by beta and the required rates of return on individual securities
proxy a document giving one person the authority to act for another, typically the power to vote shares of common stock
absolute priority holders of preferred stock have precedence over common shareholders
common stock basic unit of ownership in a corporation
preferred stock gets preference in comparison to common stockholders
cumulative feature if company skips paying a dividend, then the company will have to pay it in the future
participating feature Allows preferred stockholders to share on a percentage basis in the distribution of an abnormally large dividends
classified stock common stock that is given a special designation such as Class A or Class B to meet the special needs of the company
underwriting The process by which investment bankers raise investment capital from investors on behalf of corporations and governments that are issuing securities (both equity and debt).
underwriting syndicate a group of investment banking firms formed to spread the risk associated with the purchase and distribution of a new issue of securities
selling group Group of dealers appointed by the syndicate manager of an UNDERWRITING GROUP, as AGENT for the other underwriters, to market a new or secondary issue to the public.
best efforts arrangement agreement for the sale of securities in which the investment bank handling the transaction gives no guarantee that the securities will be sold
private placement A private market sale of debt or equity.
cost of capital the costs of debt, preferred stock, and common equity
Wd wight of a long-term debt in the capital structure
Wp weight of preferred stock in the capital structure
Wc weight of common equity in the capital structure
break point where you run out of retained earnings, amount of capital raised beyond which new common stock must be issued
flotation cost The costs incurred by the firm when it issues securities to raise funds

Leave a Reply

Your email address will not be published. Required fields are marked *