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Financing
lending and borrowing
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What are the factors that affect whether someone can afford to buy a house?
- -housing price
- -Income
- -Tax considerations
- -availability of financing (most important)
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Typical mortgage financing
- -loan cover much of price
- -downpayment is from buyer's own resources
- -purchased property serves as collateral
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Principal
-amount of loan; amount borrowed
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Interest
cost of borrowing money
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If the lien isn't repaid as agreed, the lien created by the mortgage or deed of trust gives the lender the right to __________.
foreclose
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Return
-the interest (profit) made by lender
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The availability of affordable mortgage financing fluctuates with general ___________ conditions.
economic
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The national economy--the system of businesses, industries, and trade that provides us with jobs, income, place to live, and goods and services--is driven in part by _______ _______, which is simply money that's used to fund business enterprises and other ventures, projects, and transactions.
Investment capital
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How is investment capital funded?
-by lenders/investors
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What is the difference between return of investment and return on investment?
- -return of investment is the recapture of amount originally lent or invested
- -return on investment is the interest collected (investor's profit).
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An investor's return may take various forms, including interest, appreciation, rents, or dividends.
true
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What are two general categories of investments?
- -ownership investments: investor purchases an asset of a property interest in an asset; real estate purchases, stock purchases
- -debt investments: investor provides money to an entity that will eventually repay it.
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A return on an ownership investment may be received by net income and/or appreciation. What is the difference between them?
- -net income is income monies produced during the investor's period of ownership.
- -appreciation is increase in value (appreciate) over time, maybe by inflation or an increase in demand. The return on appreciation is not realized until the asset is sold.
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inflation
-increase in price due to economic forces
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How is corporate stock a form of ownership investment?
-buy shares of the company which if successful can give returns in dividends (a share of the profits) and/or the share is appreciate.
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How do debt investments make money?
-through interest of loans, bonds and savings accounts
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What are bonds?
- -a certificate of indebtedness issued by a governmental body or business entity.
- -generates a return for the bondholder in the form of periodic payments of interest until the principal is repaid in a lump sum.
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What is a coupon rate and face amount?
- -coupon rate is the amount of interest that is paid on the bond.
- -face amount is the bondholder original lump sum that is paid back on the maturity date.
- -so you make money by the coupon rate (period interest payments) until the issuer pays you face amount.
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What is a certificate of deposit (CD)?
- A savings arrangement in which a depositor agrees to leave money on deposit for the use of the financial institution for a specified period, or pay a penalty for earlier withdrawal.
- -CDs with longer periods have higher interest rates
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How can you make profit off of a savings account?
-is not much you will make back. Put money in the bank, bank uses to give loans, you earn a small interest fee, whereas the bank will keep more of the interest b/c that is how they make money.
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Securities may be either ownership investments or debt investments; stocks and bonds are the most prominent examples.
true
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Securities
- -are investment instruments that: give the holder an interest or right to payment, do not give the holder direct managerial control
- -are liquid assets that can be sold easily in established financial markets
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What is a key characteristic of securities?
-they can be bought or sold easily in financial markets established for that purpose; stocks be traded for stocks, bonds be traded for bonds; sold in that category for liquid asset (cash)
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Mutual Funds
-say you want to invest in stocks and bonds, but don't have the time to research the market or have little experience in investing. You hire an investor who is a professional in the market. They take your money and invest it in securities to make you money.
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Securities and Exchange Commission (SEC)
regulates securities trading to protect investors; financial disclosures requires, no insider trading (hiding info from public)
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In what two ways does security trading affect mortgages?
- -has an impact on mortgage interest rates and the availability of funds for home loans
- -mortgages can be pooled together and "securitized" for sale to investors.
- ***Investment opportunities compete for available investment funds
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What are the three potential advantages investors look for in an investment opportunity?
- -safety; low risk of losing amount originally invested; count on a return of the investment.
- -Liquidity; investment can quickly be converted into cash.
- -Yield; investor's rate of return; investments that are both safe and liquid typically off the lowest yields. * for higher yields an investor take a more riskier investment; "higher yields for long-term investments; **yields are not necessarily fixed; change with market; rise or fall in interest rates
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What is an example of an illiquid investment?
-real estate; although it can be sold for cash, it is not quick cash
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An investor with a _________ _________ is less likely to face a serious net loss.
-diversified portfolio
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What risks can lender's face in mortgage lending?
- -Risk of Default; borrower fails to make the payments as scheduled; loan application screening; higher risk, higher interest rate lenders will charge.
- -Risk of Loss; lenders take steps to limit the risk of loss in the event that a borrower eventually does default; appraising property (see the worth), mortgage insurance on loan (when necessary), borrowers get property insurance.
- -Interest Rate Risk; after the lender has loaned money to a borrower at a certain interest rate, market interest rates will rise (fixed interest rate over a period of time). Interest rate risk increases with the length of the loan term. Lenders will try to get around this risk by lending at adjustable-rate mortgages and selling loans on the secondary market.
- -Prepayment Risk; paying back all or part of the principal before it is due; market interest rates fall, easier for borrowers to pay back loan; less return for lender; borrowers can refinance when interest rates are low; some loan agreements allow the lender to charge the borrower a penalty if the loan is prepaid.
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Market Interest Rate
-typical rate charged for a certain type of loan in the current market.
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High mortgage rates cause a ________, whereas low rates ______ the market.
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If supply exceeds demand, prices (rates) go _______; if demand exceeds supply, prices (rates) go _______.
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Stocks and bonds are the primary examples of
a. ownership investments
b. securities
c. collateral
d. all of the above
b; stocks and bonds are examples of securities, stocks are ownership investments, but bonds are debt investments
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A company that invests in a diversified portfolio of stocks and bonds on behalf of its investors/owners is called a
mutual fund
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Stevenson borrowed money from Acme Savings to buy a rental house. He paid 15% down. Which of the following is true?
a. Acme has made a debt investment
b. Stevenson has made an ownership investment
c. Both of the above
d. Neither of the above
c
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When market interest rates are rising, a lender making a 30-year loan at a fixed interest rate will probably be most concerned about...
interest rate risk
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