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Lecture Money and capital markets: Chapter 6 – Peter S. Rose, Milton H.Marquis

Chapter 6 Measuring and Calculating Interest Rates and Financial Asset Prices. In this chapter, you will understand the relationship between bond prices and interest rates, understand that supply and demand in the bond market determine bond prices, and understand why bonds are risky. | Chapter 6 Measuring and Calculating Interest Rates and Financial Asset Prices Learning Objectives To explore the important relationships between the interest rates on bonds and other financial instruments and their market value or price. To look at the many different ways lending institutions may calculate the interest rates they charge borrowers for loans. To determine how interest rates or yields on deposits in banks, credit unions, and other depository institutions are figured. Introduction Many different interest-rate measures attached to different types of financial assets have been developed, leading to considerable confusion, especially for small borrowers and savers. In this chapter, we will examine the methods most frequently used to measure interest rates and the prices of financial assets in the money and capital markets. Units of Measurement For Interest Rates and Asset Prices The interest rate is the price that is charged to a borrower for the loan of money. Interest | Chapter 6 Measuring and Calculating Interest Rates and Financial Asset Prices Learning Objectives To explore the important relationships between the interest rates on bonds and other financial instruments and their market value or price. To look at the many different ways lending institutions may calculate the interest rates they charge borrowers for loans. To determine how interest rates or yields on deposits in banks, credit unions, and other depository institutions are figured. Introduction Many different interest-rate measures attached to different types of financial assets have been developed, leading to considerable confusion, especially for small borrowers and savers. In this chapter, we will examine the methods most frequently used to measure interest rates and the prices of financial assets in the money and capital markets. Units of Measurement For Interest Rates and Asset Prices The interest rate is the price that is charged to a borrower for the loan of money. Interest Fee required by the lender for rate on = the borrower to obtain credit 100 loanable Amount of credit made funds available to the borrower Interest rates are usually expressed as annualized percentages. However, both 360-day and 365-day years are commonly used. The compounding terms may also differ. Units of Measurement For Interest Rates and Asset Prices A basis point equals 1/100 of a percentage point. Example 10.5% = 10% + 50 basis points, or 1050 basis points Units of Measurement For Interest Rates and Asset Prices The prices of common and preferred stock are measured today in many markets in terms of dollars and decimal fractions of a dollar (or some other currency unit). Example $40.25 per share (versus $40 1/4 in the recent past) Units of Measurement For Interest Rates and Asset Prices Bond prices are usually expressed in points and fractions of a point, with each point representing $1 on a $100 basis or $10 for a $1000 bond. Example A bond priced at 97 is selling for $97 on a