(4-1) • Define each of the following terms: 1. PV; I; INT; ; ; ; PMT; M; 2. Opportunity cost rate 3. Annuity; lump-sum payment; cash flow; uneven cash flow stream 4. Ordinary (or deferred) annuity; annuity due 5. Perpetuity; consol 6. Outflow; inflow; time line; terminal value 7. Compounding; discounting 8. Annual, semiannual, quarterly, monthly, and daily compounding 9. Effective annual rate (EAR or EFF%); nominal (quoted) interest rate; APR; periodic rate 10. Amortization schedule; principal versus interest component of a payment; amortized loan (4-2) • What is an opportunity cost rate? How is this rate used in discounted cash flow analysis, and where is it shown on a time line? Is the opportunity rate a single number that is used to evaluate all potential investments? (4-3) • An annuity is defined as a series of payments of a fixed amount for a specific number of periods. Thus, $100 a year for 10 years is an annuity, but $100 in Year 1, $200 in Year 2, and $400 in Years 3 through 10 does not constitute an annuity. However, the entire series does contain an annuity. Is this statement true or false? (4-4) • If a firm’s earnings per share grew from $1 to $2 over a 10-year period, the total growth would be 100%, but the annual growth rate would be less than 10%. True or false? Explain. (4-5) • Would you rather have a savings account that pays 5% interest compounded semiannually or one that pays 5% interest compounded daily? Explain. (5-1) • Define each of the following terms: 1. Bond; Treasury bond; corporate bond; municipal bond; foreign bond 2. Par value; maturity date; coupon payment; coupon interest rate 3. Floating-rate bond; zero coupon bond; original issue discount bond (OID) 4. Call provision; redeemable bond; sinking fund 5. Convertible bond; warrant; income bond; indexed bond (also called a purchasing power bond) 6. Premium bond; discount bond 7. Current yield (on a bond); yield to maturity (YTM); yield to call (YTC) 8. Indentures; mortgage bond; debenture; subordinated debenture 9. Development bond; municipal bond insurance; junk bond; investment-grade bond 10. Real risk-free rate of interest, ; nominal risk-free rate of interest, 11. Inflation premium (IP); default risk premium (DRP); liquidity; liquidity premium (LP) 12. Interest rate risk; maturity risk premium (MRP); reinvestment rate risk 13. Term structure of interest rates; yield curve 14. “Normal” yield curve; inverted (“abnormal”) yield curve (5-2) • “Short-term interest rates are more volatile than long-term interest rates, so short-term bond prices are more sensitive to interest rate changes than are long-term bond prices.” Is this statement true or false? Explain. (5-3) • The rate of return on a bond held to its maturity date is called the bond’s yield to maturity. If interest rates in the economy rise after a bond has been issued, what will happen to the bond’s price and to its YTM? Does the length of time to maturity affect the extent to which a given change in interest rates will affect the bond’s price? Why or why not? (5-4) • If you buy a callable bond and interest rates decline, will the value of your bond rise by as much as it would have risen if the bond had not been callable? Explain. (5-5) • A sinking fund can be set up in one of two ways. Discuss the advantages and disadvantages of each procedure from the viewpoint of both the firm and its bondholders.
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