# chap 15 - 11/1/2010 Chapter 15 Financial Markets and...

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11/1/2010 1 Chapter 15 Financial Markets and Interest Rates Learning Objectives ` 1. List the three common characteristics of a bond and understand various types of financial instruments. 2 U d t d th i l ti hi b t th i ` 2. Understand the inverse relationship between the price of a bond and the interest rate, and distinguish between a primary and secondary financial market . ` 3. Explain the factors that underlie the demand for and supply of loanable funds and explain how the interaction of these two results in an equilibrium interest rate. ` 4. Recognize factors that can cause interest rates to change.

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11/1/2010 2 Financial market ` Market for “loanable funds” ` Lenders = “suppliers” Lenders suppliers ` Borrowers = “demanders” ` Price of loanable funds = interest rate ` Bond = any agreement to repay = any agreement to repay borrowed money Characteristics of a bond (maturity) ` 1) maturity = number of periods until a bond is repaid ` Maturity and bond prices ` Example: Consider a bond that pays \$100 two years from now ` \$100 paid in two years is worth less than \$100 today
11/1/2010 3 Present value ` Present value = how much one would be willing to pay today for a future payment ` i=interest rate n future value (FV) present value (PV) (1 i) = + ` n=number of periods into the future payment is paid or received ` Assume future value = \$100, i=10% (0.1), and n=2 Present value of \$100 received two years from today \$82.64 01 (1 100 lue present va 2 = + = 0.1) Put \$82.64 in the bank today , and in 2 years, you’d have \$100 Longer maturity (higher n) reduce Longer maturity (higher n) reduces present value

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11/1/2010 4 Interest rates and bond prices ` You would purchase a bond as long as the price is at or below its present value `
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## This note was uploaded on 02/26/2012 for the course ECON 210 taught by Professor Staff during the Fall '08 term at Purdue University.

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chap 15 - 11/1/2010 Chapter 15 Financial Markets and...

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