Chapter 3 Bonds and Loanable Funds
Bond: A written legal contract that is a promise to repay with interest; issued by a
corporation, government or
... [Show More] government agency.
Coupon payment: Savers buy these bonds and, in most cases, get paid interest in
return —usually every six months.
Coupon rate: The stated rate of interest that will be paid to the holder of the bond.
Face value (of a bond): The original amount of money borrowed by a bond issuer. This is
also sometimes called the bond principal.
Secondary bond market: The market for bonds or other debt instruments that were
previously issued.
Rate of Return = Amount get back / Amount put in
Market price of a bond: The present value of the cash flow the owner of the bond can
expect to receive over the life of the bond.
PBOND = PVBOND =
C 1
(1+k )
1 +
C 2
(1+k )
2 +…+
Cn+Face
(1+k )
n
Par: Market price of a bond equals the face value of the bond. (when the market interest
rate equals the bond’s coupon rate)
Discount: When the market price is below the face value. (when the market interest rate
above the bond’s coupon rate) below par
Premium: When the market price of a bond is above the face value. (when the market
interest rate below the bond’s coupon rate) above par
Change in supply versus change in quantity supplied: Change in supply is a change in the
price and quantity relationship from a seller’s perspective, whereas a change in quantity
supplied comes about from a change in the price of the good or service.
Change in demand versus change in quantity demanded: Change in demand is a change in
the price and quantity relationship from a buyer’s perspective, whereas a change in
quantity demanded comes about from a change in the price of the good or service.
Primary market: The initial sale of a bond.
As the price of bonds increases, or their yields decrease, these issuers will want to
issue more bonds because the yield, or the interest rate the issuers have to pay to
bondholders, the borrowing costs of bond issuers decline.
Thus, in the primary market, as the bond prices increase, the quantity of bonds
in demand increases; that is, the supply curve of bonds slopes upward.
Secondary bond market: The market for bonds or other debt instruments preciously
issued.
As the price of bonds increases in the secondary market, we have an increase in
the quantity supplied of bonds. [Show Less]