4.1 Financial Assets

Financial assets, money, stocks, and bonds, differ in liquidity (how easily they convert to cash) and rate of return. Money is perfectly liquid but earns little or no interest; bonds and stocks pay more but are harder to spend. The interest you give up by holding money is the opportunity cost of holding it.

The tested relationship: bond prices and interest rates move inversely. A bond promises fixed payments, so when market interest rates rise, new bonds pay more and existing bonds with their lower fixed payments become less attractive, their price falls. When interest rates fall, existing bonds' prices rise.

On the exam, expect a quick logic check: 'the Fed's action raises interest rates, what happens to bond prices?' They fall. Anchor the inverse relationship rather than memorizing scenarios one by one.