Ngân hàng, tín dụng - Chapter 4: Interest rate measurement and behavior

1Copyright © 2009 Pearson Addison-Wesley. All rights reserved. Chapter 4 Interest Rate Measurement and Behavior Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-2 Learning Objectives • Describe present value and the mechanics of calculating interest rates • Comprehend the different types of bonds and loans and how their structure influences their present value • Understand interest rate determination and the supply and demand causes of interest rate fluctuations Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-3 Introduction • INTEREST RATES SERVE AS A YARDSTICK FOR COMPARING DIFFERENT TYPES OF SECURITIES AND MATURITIES – Cannot compare amount of total earning between different securities – Must consider the amount of funds in the initial investment to compute the rate of return (interest) on the different securities 2Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-4 Calculating Interest Rates • Simple Interest – Interest earned on the principle in one year’s time. – Time is worth money – A dollar today is worth more than a dollar in the future – A dollar due in the future is worth less than a dollar today Interest earned = principal × rate × time (in years) Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-5 Calculating Interest Rates (Cont.) • Compound Interest – Interest that accumulates during a year is added to the principal at year’s end, thereby earning more interest in the following year – Banks automatically add interest earned to the principle at specified time intervals – Future Value [FV]—amount today’s principle will be worth in “n” years after adding compounded interest of rate “r”. FV = principle(PV) × (1 + r)n Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-6 Calculating Interest Rates (Cont.) • Compound Interest (Cont.) – Present Value [PV]—amount a future sum of money in “n” years will be worth today after discounting back to the present at rate “r” Future value/(1 + r)n = present value 3Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-7 Calculating Interest Rates (Cont.) • Coupon Rate on Bonds – Amount printed on the face of the bond – Annual (semiannual) interest payment (coupon payment) – Return based on face value of the bond, not amount paid for the bond • Current Yield – Yield on annual interest received based on purchase price of bond – Ignores capital gain—difference between purchase price and amount when redeemed at maturity (face value) Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-8 Calculating Interest Rates (Cont.) • Yield to Maturity – Most accurate and widely used measure of interest rates – Assume the bond is held to maturity – Includes capital gains between purchase and sales prices of the bond – Interest rate (rate of discount) which makes sum of present values of all expected future payments (annual interest plus face value) equal to purchase price Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-9 n nn )r( FC..... )r( C )r( CP + ++++++= 111 2 21 Calculating Interest Rates (Cont.) • Yield to Maturity (Cont.) Where: P = Purchase price of bond C = Annual coupon payment Fn = Face value at maturity r = rate of discount 4Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-10 n)r( ValueFaceP + = 1 Calculating Interest Rates (Cont.) • Zero-Coupon Bonds – Bond holder received no coupon interest payments, only the face value of the bond when it matures – Rate of discount (return on the bond) equates discounted face value (n—number of years to maturity) with purchase price Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-11 Calculating Interest Rates (Cont.) • Inverse Relationship Between Yields and Bond Prices – Higher interest rates mean lower bond prices and vice versa – If either the interest rate or price is known, the other can be computed – If either the rate of interest or purchase price changes, the other will automatically change in the opposite direction Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-12 Calculating Interest Rates (Cont.) • Why Long-Term Bonds are Riskier than Short-Term – For long-term securities, a small change in interest rates involves a large change in price – For short-term securities, even a big change in yield involves only a small change in price – Longer a bond’s maturity, the more its price will be affected by a change in the general level of interest rates 5Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-13 Calculating Interest Rates (Cont.) • Why Long-Term Bonds are Riskier than Short- Term (Cont.) – Long-term bonds are riskier because threat of potential loss is greater provided the bonds must be sold prior to maturity – Greater likelihood with long-term bonds of needing to sell before maturity – Owners who can hold bonds until maturity will have temporary paper losses but eventually receive face value upon redemption at maturity Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-14 Real interest rate = Nominal rate – Inflation rate Calculating Interest Rates (Cont.) • Nominal Versus Real Interest Rates – Nominal Interest Rates—Money amount of interest received – Real Interest Rates—Purchasing power of interest received – Real interest rate is the nominal interest adjusted for inflation Where: • “ex-anti” is based on the expected rate of inflation • “ex-post” is based on the actual or realized rate of inflation Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-15 Return= sales price−purchase price+ coupon purchase price Calculating Interest Rates (Cont.) • Return Versus Yield to Maturity – Rate of return measures the cash flows received during a period relative to the amount invested at the beginning – For a bond held for one year, the return is computed as follows: 6Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-16 What Determines the Level of Interest Rates • Supply/Demand Determine Interest Rate (Figure 4.1) – Interest rate is price of credit or borrowing money – Market for Credit or Loanable Funds ([Interest rate vs. Quantity of funds) • Supply of Funds—Upward sloping, lenders are willing to extend more credit at higher interest rates • Demand for Funds—Downward sloping, borrowers are willing to borrow less at higher interest rates • Equilibrium—Intersection of supply and demand, no tendency to change • Financial Markets—Competitive so supply and demand pressures will result in interest rate changes Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-17 FIGURE 4.1 Supply and demand determine the interest rate. Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-18 What Determines the Level of Interest Rates (Cont.) • Why Does the Interest Rate Fluctuate – U.S. Treasury bond yields change day to day (Figure 4.2) – Movement along a single curve—Changes in the interest rate results in a movement along a single demand or supply curve (Figure 4.3) – Shifts of a Curve—Change in determinants of supply or demand (other than interest rate) causes the respective curve to shift (Figure 4.4) – Changes in Equilibrium—Shift of either the supply or demand curve will reflect a change in the equilibrium interest rate 7Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-19 FIGURE 4.2 U.S. Treasury bond yields fluctuate from day to day (2007). Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-20 FIGURE 4.3 Movement along a demand curve versus a shift in demand. Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-21 FIGURE 4.4 Shifts in demand (1) or supply (2) curves can change the equilibrium interest rate. 8Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-22 What Determines the Level of Interest Rates (Cont.) • Behind Supply and Demand – Borrowing (demand) • Business firms—finance inventory or buy capital equipment • Households—buy cars, consumer goods, or homes • State and local government—provide infrastructure or public services • Federal government—finance Federal Budget Deficit • INCREASES IN BORROWING—SHIFT DEMAND TO RIGHT AND RAISE INTEREST Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-23 What Determines the Level of Interest Rates (Cont.) • Behind Supply and Demand (Cont.) – Lending or Credit (supply) • Financial institutions or individuals lend to market • Government authorities may restrict lending by banks • Ability of individuals to lend depends on their savings— less savings results in lower amount of lending • DECREASES IN LENDING—SHIFT SUPPLY TO LEFT AND RAISE INTEREST Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-24 What Determines the Level of Interest Rates (Cont.) • The Importance of Inflationary Expectations – Effect of a change in expectations of increasing inflation • Demand—Borrowers increase demand since they will be repaying in depreciated dollars and desire to purchase before the prices increase • Supply—Lenders decrease supply since they will be repaid with money of diminished purchasing power • SHIFTS OF THE DEMAND AND SUPPLY CURVE WILL CAUSE THE INTEREST RATE TO INCREASE 9Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-25 What Determines the Level of Interest Rates (Cont.) • The Importance of Inflationary Expectations (Cont.) – Self-fulfilling Prophesies—If individuals and institutions expect inflation and interest rates to increase, they will alter behavior that causes the higher rates that were anticipated Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-26 What Determines the Level of Interest Rates (Cont.) • Cyclical and Long-term Trends in Interest Rates (Figure 4.5) – Level of interest rates tends to rise during cyclical expansion and fall during recessions. During economic expansion: • Firms and households increase borrowing—demand curve right • FED usually tightens credit during expansion—supply curve left Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-27 What Determines the Level of Interest Rates (Cont.) • Cyclical and Long-term Trends in Interest Rates (Figure 4.5) (Cont.) – Level of interest rates on upward long-term trend between 1950 and 1981 • Large federal budget deficit forced US Treasury to increase borrowing—pushing up interest rates • Expectations of increasing inflation – Since early 1980s rates have trended downward • Federal deficits continued to increase in 1980’s • Expectations of lower inflation has been major reason for fall of interest rates. 10 Copyright © 2009 Pearson Addison-Wesley. All rights reserved. 4-28 FIGURE 4.5 Trends in interest and inflation rates since 1960.