principal

Examples of principal in the following topics:

• Loans and Loan Amortization

  • When paying off a debt, a portion of each payment is for interest while the remaining amount is applied towards the principal balance and amortized.
  • In order to pay off a loan, the debtor must pay off not only the principal but also the interest.
  • Since interest accrues on both the principal and previously accrued interest, paying off a loan can seem like a dance between paying off the principal fast enough to reduce the amount of interest without having huge payments.
  • There is an incentive to paying off the loan ahead of schedule (lower total cost due to less accrued interest), but there is also a disincentive (less use of the principal).
  • A portion of each payment is for interest while the remaining amount is applied towards the principal balance.

• Defining Agency Conflicts

  • Agency conflicts can occur when the incentives of the agent do not align with those of the principal.
  • The principal–agent problem or agency dilemma, developed in economic theory, concerns the difficulties in motivating one party (the "agent"), to act on behalf of another (the "principal").
  • The two parties have different interests and asymmetric information (the agent having more information), such that the principal cannot directly ensure that the agents are always acting in its (the principals') best interests, particularly when activities that are useful to the principal are costly to the agent, and where elements of what the agent does are costly for the principal to observe.
  • Examples of agency costs include that borne by shareholders (the principal), when corporate management (the agent) buys other companies to expand its power instead of maximizing the value of the corporation's worth; or by the constituents of a politician's district (the principal) when the politician (the agent) passes legislation helpful to large contributors to their campaign rather than helpful to voters.
  • Principal-agent problems - which arise when managers act on the behalf of a firm and its investors - include potential conflicts of interest.

• Zero-Coupon Bonds

  • Zero-coupon bonds may be created from fixed rate bonds by a financial institution separating ("stripping off") the coupons from the principal.
  • In other words, the separated coupons and the final principal payment of the bond may be traded separately.
  • Investment banks or dealers separate coupons from the principal of coupon bonds, which is known as the "residue," so that different investors may receive the principal and each of the coupon payments.
  • "STRIPS" stands for Separate Trading of Registered Interest and Principal Securities.

• Multi-Period Investment

  • The first concept of accruing (or earning) interest is called "simple interest. " Simple interest means that you earn interest only on the principal.
  • Since simple interest is paid only on your principal ($100), you earn 5% of $100, not 5% of $105.
  • In simple interest, it is only how much the principal is that matters.
  • Simple interest earns you 5% of your principal each year, or $5 a year.
  • Simple interest is when interest is only paid on the amount you originally invested (the principal).

• Other Types of Bonds

  • The bondholder receives the full principal amount on the redemption date.
  • In other words, the separated coupons and the final principal payment of the bond may be traded separately .
  • Inflation linked bonds (linkers) are those in which the principal amount and the interest payments are indexed to inflation.
  • However, as the principal amount grows, the payments increase with inflation.
  • Interest payments, and the principal upon maturity, are sent to the registered owner.

• Maximizing Shareholder and Market Value

  • In large firms where there is a separation of ownership and management and no controlling shareholder, the principal–agent issue arises between upper-management (the "agent") and shareholders (the "principals").
  • Thus, one interpretation of proper financial management is that the agents are oriented toward the benefit of the principals - shareholders - in increasing their wealth by paying dividends and/or causing the stock price or market value to increase.

• Maturity Date

  • In finance, maturity date or redemption date, refers to the final payment date of a loan or other financial instrument, at which point the principal (and all remaining interest) is due to be paid.
  • However, it is important to note that bonds are sometimes "callable,"which means that the issuer of the debt is able to pay back the principal at any time.
  • Bonds can also be puttable, meaning that the holder has the right, but not the obligation, to demand early repayment of the principal.

• Coupon Interest Rate

  • The bondholder receives the full principal amount on the redemption date.
  • Inflation linked bonds (linkers), in which the principal amount and the interest payments are indexed to inflation.
  • However, as the principal amount grows, the payments increase with inflation.

• Conflicts of Interest Between Shareholders and Bondholders

  • The agency view of the corporation posits that the decision rights (control) of the corporation are entrusted to the manager (the agent) to act in the principals' interests.
  • The deviation from the principals' interests by the agent is called 'agency costs', which are often described as existing between managers and shareholders; but conflicts of interest can also exist between shareholders and bondholders.

• Managers, Shareholders, and Bondholders

  • These three parties have different interests and asymmetric information, such that the principals cannot directly ensure that the agents are always acting in its (the principals') best interests.