Copyright ? 2009 Pearson Prentice Hall. All rights reserved. Chapter 6 Interest Rates And Bond Valuation Copyright ? 2009 Pearson Prentice Hall. All rights reserved. 6-2 Learning Goals 1. Describe interest rate fundamentals, the term structure of interest rates, and risk premiums. 2. Review the legal aspects of bond financing and bond cost. 3. Discuss the general features, yields, prices, popular types of corporate bonds. 4. Understand the key inputs and basic model used in the valuation process. Copyright ? 2009 Pearson Prentice Hall. All rights reserved. 6-3 Learning Goals (cont.) 5. Apply the basic valuation model to bonds and describe the impact of required return and time to maturity on bond values. 6. Explain the yield to maturity (YTM), its calculation, and the procedure used to value bonds that pay interest semiannually. Copyright ? 2009 Pearson Prentice Hall. All rights reserved. 6-4 Interest Rates & Required Returns ? The interest rate or required return represents the price of money. ? Interest rates act as a regulating device that controls the flow of money between suppliers and demanders of funds. ? The Board of Governors of the Federal Reserve System regularly asses economic conditions and, when necessary, initiate actions to change interest rates to control inflation and economic growth. Copyright ? 2009 Pearson Prentice Hall. All rights reserved. 6-5 Interest Rates & Required Returns: Interest Rate Fundamentals ? Interest rates represent pensation that a demander of funds must pay a supplier. ? When funds are lent, the cost of borrowing is the interest rate. ? When funds are raised by issuing stocks or bonds, the cost pany must pay is called the required return, which reflects the suppliers expected level of return. Copyright ? 2009 Pearson Prentice Hall. All rights reserved. 6-6 Interest Rates & Required Returns: The Real Rate of Interest ? The real interest rate is the rate that creates an equilibrium bet