Chapter 7- Interest Rates and Bond Valuation

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Key vocabulary terms from Chapter 7 for Dr. Richard's Principles of Business Finance Class at Auburn University.

Coupon

The stated interest payment made on a bond.

Face Value

The principal amount of a bond that is repaid at the end of the term. (Also called par value.)

Coupon Rate

The annual coupon divided by the face value of a bond.

Maturity

The specified date on which the principal amount of a bond is paid.

Yield To Maturity (YTM)

The rate required in the market on a bond.

Bond Value =

Present value of the coupons + present value of the face amount.

Current Yield

A bond's annual coupon divided by its price.

Indenture

The written agreement between the corporation and the lender detailing the terms of the debt issue.

Registered Form

The form of bond issue in which the registrar of the company records ownership of each bond; payment is made directly to the owner of record.

Bearer Form

The form of bond issue in which the bond is issued without record of the owner's name; payment is made to whomever holds the bond.

Debenture

An unsecured debt, usually with a maturity of 10 years or more.

Note

An unsecured debt, usually with a maturity under 10 years.

Sinking Fund

An account managed by the bond trustee for early bond redemption.

Call Provision

An agreement giving the corporation the option to repurchase a bond at a specified price prior to maturity.

Call Premium

The amount by which the call price exceeds the par value of a bond.

Deferred Call Provision

A call provision prohibiting the company from redeeming a bond prior to a certain date.

Call-Protected Bond

A bond that, during a certain period, cannot be redeemed by the issuer.

Protective Covenant

A part of the indenture limiting certain actions that might be taken during the term of the loan, usually to protect the lender's interest.

Zero Coupon Bond

A bond that makes no coupon payments and is thus initially priced at a deep discount.

Bid Price

The price a dealer is willing to pay for a security.

Asked Price

The price a dealer is willing to take for a security.

Bid-Ask Spread

The difference between the bid price and the asked price.

Clean Price

The price of a bond net of accrued interest; this is the price that is typically quoted.

Dirty Price

The price of a bond including accrued interest, also known as the full or invoice price. This is the price the buyer actually pays.

Real Rates

Interest rate or rates of return that have been adjusted for inflation.

Nominal Rates

Interest rates or rates of return that have not been adjusted for inflation.

Fisher Effect

The relationship between nominal returns, real returns, and inflation.

Term Structure of Interest Rates

The relationship between nominal interest rates on default-free, pure discount securities and time to maturity; that is, the pure time value of money.

Inflation Premium

The portion of a nominal interest rate that represents compensation for expected future inflation.

Interest Rate Risk Premium

The compensation investors demand for bearing interest rate risk.

Treasury Yield Curve

A plot of the yields on Treasury notes and bonds relative to maturity.

Default Risk Premium

The portion of a nominal interest rate or bond yield that represents compensation for the possibility of default.

Taxability Premium

The portion of a nominal interest rate or bond yield that represents compensation for unfavorable tax status.

Liquidity Premium

The portion of a nominal interest rate or bond yield that represents compensation for lack of liquidity.

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