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Terms in this set (18)
1. Required Rate of Return
2. Discount Rates
3. Opportunity Costs
3 ways to view Interest Rates:
1. Inflation Premium
2. Default Risk Premium
3. Liquidity Premium
4. Maturity Premium
Interest Rate (r) includes: the real risk free interest rate plus:
Real risk-free interest rate
This is the single period interest rate for a completely risk-free security if no inflation were expected.....it reflects the time preferences of individuals for current versus future real consumption.
Nominal risk free rate
this is the sum of the real risk free interest rate and the inflation premium....in the U.S. this is reflected by the US T-Bill.
Default risk premium
this compensates investors for the possibility that the borrower will fill to make a promised payment at the contracted time and in the contracted amount.
this compensates investors for the risk of loss relative to an investment's fair value if the investment needs to be converted to cash quickly.
This compensates investors for the increased sensitivity of the market value of debt to change in market interest rates as maturity is extended.
Interest rate times the principal
We can add amounts of money only if they are ________________ at the same point in time.
For a given _________ ____________, the future value increases with the number of periods.
Number of periods
For a given ______________ ______________________, the future value increases with interest rates.
has a first cash flow that occurs one period from now (indexed at t=1)
has a first cash flow that occurs immediately (indexed at t = 0)
smaller the present value
For a given discount rate, the farther in the future the amount to be received.....
Larger the discount rate
Holding time constant, the larger this is, the smaller the present value of a future amount.
this can be seen as equivalent to an annuity
This can be seen as an equivalent to its future value
Cash flow additivity principle
the idea that amounts of money indexed at the same point in time are additive.
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