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59 Cards in this Set
- Front
- Back
Required rate of return (r)
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r = (r* + IP) + DRP + LP + MRP
r* - real risk-free rate of interesst IP - inflation premium DRP - default risk premium LP - liquidity risk premium MRP - maturity risk premium |
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Risk free rate (rf)
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rf = (r* + IP)
- usually 3-month T-bills r* - real risk-free rate of interesst IP - inflation premium |
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Nominal (=)
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nominal = r* + IP + [(r*)(IP)]
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Pure Expectations Hypothesis (PEH)
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yield curve depends on investors expecations about future interest rates
- if interest rates are expected to increase: L-T rates will be higher than S-T rates |
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Treasury Securities MRP
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MRP = 0
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Risks associated with overseas investing
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- exchange rate risk
- country risk |
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bond
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long term debt instrument in which a borrower agrees to make payments of principle and interest to holders of bond (> 12 months)
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Par value (of a bond)
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face amount of the bond which paid at maturity
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coupon interest rate
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nominal stated contract rate (annual) - what you'll get for year based on payment incraments
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maturity date
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years until bond must be repaid
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issue date
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date when the bond was issued
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yield to maturity
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rate of return earned on bond held until maturity
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accrued interest
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interest owed of due from the last interest payment due (based on last paid)
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callable bond
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company can buy it back (call it back)
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sinking fund
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forces trustee to pay off a percentage of bonds per year (reduces risk of default)
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convertible bond
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when stock goes up owners buy stock -> automatically move from debt to equity
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warrant
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L-T option to buy stated # of shares at specified price (sweeten to buy debt)
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putable bond
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allows holder to sell the bond back to the company prior to maturity (low quality company)
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income bond
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only pays interest if the company earns interest
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indexed bond
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interest rate paid based upon a specific index
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catastrophic bond (cat bond)
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amount paid at maturity is a function of some defined contingency
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zero coupon bond
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no interest and at end of bond like get back principle (really high rate of return)
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discount rate (rd)
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the rate that could be earned on alternative investments of equal risk
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value of financial assets
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value paid based on expected return
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value bond with calculator
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par value - FV
coupon - PMT _______ - PV t - I/YR time held - N |
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bond values over time (if rd remains constant)
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- value of a premium bond would decrease until par value
- value of a discount bond would increase until par value - value of par bond remains consistant |
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Expected total return - Yield to maturity (YTM)
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YTM = [expected CY] + [expected CGY]
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YTM on calc
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N - time held
I/YR - __________ PV - sells for (neg) PMT - par value (coupon) FV - par value |
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Current Yield (CY)
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Capital gains yield (CGY)
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Semiannual bonds
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- multiply years by 2 # of pds = 2N
- divide nominal rate by 2: periodic rate (I/YR) = rd/2 - divide annual coupon by 2: PMT = annual coupon/2 |
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Semiannual bond's effective rate
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rate of return on investment
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- number is a percentage
- rate that you are earning money |
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Investment risk
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degree of variability of possible outcomes (greater variability - greater risk)
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Expected rate of return (ȓ)
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standard deviation (σ)
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coefficient of variation (cv)
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high CV - in order to get high rate of return you are taking on a high level of risk
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risk aversion
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investors dislike risk (require higher rates of return for risks)
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risk premium
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the difference between return on a risky asset and a riskless asset
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weight average (ȓp)
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CVp
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σp - decreases as stocks added
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market risk
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part of the total risk you can't get rid of
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diversifible risk
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part of the total risk you can get rid of
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capital asset pricing model (CAPM)
& security market line |
draws a line (security market line that describes rate of return you should get (risk after diversification)
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beta
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measures of securities reaction
- beta = 1, security just as risky as market - beta > 1, security riskier than market - beta < 1, security is less risky than market |
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common stockk
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represents ownership; source of money to supply cash
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intrinsic value
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estimate of what it is worth vs. the marketplace
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dividend growth model
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constant dividend growth stock
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stock whose dividends are expected to grow forever at a constant rate
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if growth is constant
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Constant growth rate model can only be used if...
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- rs > g
- g is expected to be constant forever |
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dividend yield
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capital gains yield
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total return (rs)
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growth is zero
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price
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Corporate Value Model (CVM) - MV of equity
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MV of equity = MV of firm - MV of debt - MV of preferred
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Corporate Value Model (CVM) - value per share
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MV of equity / # of shares
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Preferred stock
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hybrid security
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