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compound interest

interest paid on an investment during the first period is added to the principal.

annuity

a series of equal dollar payments made for a specified number of years

annuity due

an annuity in which the payments occur at the beginning of each period

perpetuity

an annuity with an infinite life

amortized loan

loan that is paid off in equal periodic payments

risk

potential variability in future cash flows

standard deviation

statistical measure of the spread of a probability distribution calculated by squaring the difference between each outcome and its expected value, weighting each value by its probability, summing over all possible outcomes, and taking the square root of this sum.

company unique risk

unsystematic risk: related to an investment return that can be eliminated through diversification

market risk

systematic risk: related to an investment return that cannot be eliminated through diversification

holding period returns

the return an investor would receive from holding a security for a designated period of time.

beta

relationship between an investments returns and the markets returns. this is a measure of the investments non-diversifiable risk.

portfolio beta

relationship between a portfolios returns and the market returns. measure of the portfolios non-diversifiable risk.

asset allocation

identifying and selecting the asset classes appropriate for a specific investment portfolio and determining the proportions of those assets within the portfolio

required rate of return

minimum rate of return required necessary to attract an investor to purchase or hold a security

risk premium

additional return expected for assuming risk

capital asset pricing model (CAPM)

equation stating that the expected rate of return on a project is a function of the risk-free rate, the investments systematic risk, and the expected risk premium for the market portfolio of all risky securities.

security market line

return line that reflects the attitudes of investors regarding the minimum acceptable return for a given level of systematic rick associated with a security

bond

long term (10 year or more) promissory note issued by the borrower promising to pay the owner of the security a predetermined, fixed amount of interest each year.

debenture

any unsecured long term debt

subordinated debenture

a debenture that is subordinate to other debentures in terms of its payments in case of insolvency

mortgage bond

bond secured by a lien on real property

eurobond

bond issued in a country different from the one in which the currency of the bond is denominated

zero coupon bond

bond issued at a substantial discount from its $1000 face value and that pays little or no interest

junk bond

any bond rated BB or lower

convertible bond

debt security that can be converted into a firms stock at a prespecified price

par value

on the face of the bond the stated amount that the firm is to repay upon the maturity date

coupon interest rate

the interest rate contractually owed on a bond as a percent of its par value

maturity

length of time until the bond issuer returns the par value to the bondholder and terminates the bond

call provision

provision that entitles the corporation to repurchase its preferred stock from investors at stated prices over specified periods

indenture

legal agreement between the firm issuing bonds and the bond trustee who represents the bondholders, providing the specific terms of the loan agreement

book value

value of an asset as shown on the firms balance sheet. represents the historical cost of the asset rather than its current market value or replacement cost

liquidation value

dollar sum that could be realized if an asset were sold

market value

value observed in the marketplace

intrinsic value

present value of an assets expected future cash flows. this value is the amount the investor considers to be fair value, given the amount, timing and riskiness of future cash flows

yield to maturity

rate of return a bondholder will receive if the bond is held to maturity

current yield

the ratio f the bonds annual interest payment to its market price

interest rate risk

variability in a bonds value caused by changing interest rates.

discount bond

a bond that sells at a discount or below par value

premium bond

bond that is selling above par value