Final answer:
The cost of equity is different from the interest paid on debt; it's the expected return for equity investors and is usually higher due to greater risk. Bonds and bank loans are similar forms of borrowing but differ in tradeability and payment structure. Home equity calculation starts with the down payment, which represents the initial equity value owned by the purchaser.
Step-by-step explanation:
The cost of equity is not the same as the interest a firm pays to its debt holders. The cost of equity refers to the return that equity investors expect on their investment in the firm. Debtholders are paid interest on the bonds or loans they extend to a firm, and this interest payment is known as the cost of debt. The cost of equity is often perceived to be higher than the cost of debt since equity investors take on more risk as they are repaid after debt holders in the case of bankruptcy.
Bond Similarities and Differences to a Bank Loan
Bonds and bank loans are similar in that they both represent a form of borrowing for the firm. However, they are different in that a bond is a formal security with standardized terms that is typically traded on the secondary market, whereas a bank loan is generally a private agreement between the bank and the firm and is not traded. Additionally, bonds pay periodic interest and return the principal at maturity, while bank loans might have a different structure for repayment.
Equity Calculation in a Home
When it comes to calculating home equity, if someone like Eva or Fred puts a 10% down payment on a $200,000 house, they start with an equity of $20,000 since a 10% of $200,000 is $20,000. The rest of the property value is covered by a mortgage loan. As they pay down the mortgage, their equity in the home increases.