Financial Sector

Financial Sector Overview

• Comprises institutions linking borrowers and lenders (e.g. banks, mutual funds, pension funds).
• Assets: Tangible or intangible items with value.
• Interest Rate: Cost charged by lenders to borrowers for loans.
• Interest-bearing Assets: Assets that generate interest over time (e.g. bonds).

Personal Finance

• Involves budgeting, saving, and spending by individuals/families.
• Investment in economics refers to business spending on tools/machinery.
• Low interest rates can boost investment.

Risks in Asset Buying

• Market Risk: Loss from price fluctuations.
• Default Risk: Failure of companies/individuals to meet payment obligations.
• Inflation Risk: Decreased investment value due to inflation.

Liquidity

• The ease of converting an asset into a medium of exchange.
• Generally, higher liquidity equates to lower returns.

Bonds vs. Stocks

• Bonds: Loans (IOUs) requiring repayment; bondholders receive interest but no ownership.
• Stocks: Represent ownership in a corporation; stockholders can receive dividends.

Bond Prices and Interest Rates

• Bonds issued at fixed interest rates ($1000 face value, 5% interest = $50 annually).
• Interest rates inversely affect bond prices: as rates fall, existing bonds with higher rates become more valuable.