Assume the pure expectation theory holds: If thereturn on 6 years maturity treasury bill (TB) is 8%, thereturn on 1-year maturity TB is 6%, the return on a 2years maturity (TB) is 7%, X is the return on a 3-yearmaturity bond.a. Calculate X, the forward rate, the return on a3-year maturity bond, 3 years from today.b.Graph the yield curvec. Based on the yield curve you just derived, whatare your expectations of the future performance of theeconomy?

Rate of return for different maturities have been given. Based on the information, we have derive…

Assume the pure expectation theory holds: If the return on 6 years maturity treasury bill (TB) is 8%, the return on 1-year maturity TB is 6%, the return on a 2 years maturity (TB) is 7%, X is the return on a 3-year maturity bond. Calculate X, the forward rate, the return on a 3-year maturity bond, 3 years from today. b. Graph the yield curve c. Based on the yield curve you just derived, what are your expectations of the future performance of the economy?

Assume the pure expectation theory holds: If the return on 6 years maturity treasury bill (TB) is 8%, the return on 1-year maturity TB is 6%, the return on a 2 years maturity (TB) is 7%, X is the return on a 3-year maturity bond. Calculate X, the forward rate, the return on a 3-year maturity bond, 3 years from today. b. Graph the yield curve c. Based on the yield curve you just derived, what are your expectations of the future performance of the economy?

Intermediate Financial Management (MindTap Course List)

13th Edition

ISBN:9781337395083

Author:Eugene F. Brigham, Phillip R. Daves

Publisher:Eugene F. Brigham, Phillip R. Daves

Chapter2: Risk And Return: Part I

Section: Chapter Questions

Problem 4MC: What is the stand-alone risk? Use the scenario data to calculate the standard deviation of the bonds...

See similar textbooks

Similar questions

Suppose you are given the following information about the default-free, coupon-paying yield curve: Maturity (years) Coupon rate (annual payment) YTM a. Use arbitrage to determine the yield to maturity of a two-year zero-coupon bond. b. What is the zero-coupon yield curve for years 1 through 4? Note: Assume annual compounding. a. Use arbitrage to determine the yield to maturity of a two-year zero-coupon bond. The yield to maturity of a two-year, zero-coupon bond is %. (Round to two decimal places.) b. What is the zero-coupon yield curve for years 1 through 4? The yield to maturity for the three-year and four-year zero-coupon bond is found in the same manner as the two-year zero-coupon bond. The yield to maturity on the three-year, zero-coupon bond is %. (Round to two decimal places.) %. (Round to two decimal places.) The yield to maturity on the four-year, zero-coupon bond is Which graph best depicts the yield curve of the zero-coupon bonds? (Select the best choice below.) O A. 8- 7- 6-…
Suppose 2-year Treasury bonds yield 4.1%,while 1-year bonds yield 3.2%. r* is 1%, and the maturity risk premium is zero.a. Using the expectations theory, what is the yield on a 1-year bond, 1 year from now?Calculate the yield using a geometric average.b. What is the expected inflation rate in Year 1? Year 2?
Suppose that y is the yield on a perpetual government bond that pays interest at the rate of $1 per annum. Assume that y is expressed with simply com- pounding, that interest is paid annually on the bond, and that y follows the process dy = a(y0 −y)dt + oydWt, where a, y0, and o are positive constants and dWt is a Wiener process. (a) What is the process followed by the bond price? (b) What is the expected instantaneous return (including interest and capital gains) to the holder of the bond?
Suppose that x is the continuously compounded yield to maturity on a zero-coupon bond that pays off $1 at time T. Assume that x follows the process: dx = a (x₁ - x) dt + sx dz where a, x0, and s are positive constants and dz is a Wiener process. What is the process followed by the bond price? Solutions:
Assume that the real risk-free rate is 2% and that the maturityrisk premium is zero. If a 1-year Treasury bond yield is 5% and a 2-year Treasury bondyields 7%, what is the 1-year interest rate that is expected for Year 2? Calculate this yieldusing a geometric average. What inflation rate is expected during Year 2? Comment onwhy the average interest rate during the 2-year period differs from the 1-year interestrate expected for Year 2.
Assume that thr nominal interest rate is 14%, the risk premium is 4% and real interest rate is 3%, find the inflation rate and the risk free interest rate.
Assume the real risk-free is 1% and the average annual expected inflation rate is 4%. The DRP and LP for bond A are each 3%, and the applicable MRP is 3%. What is Bond A's interest rate?
Suppose you are given the following information about the default-free, coupon-paying yield curve: Maturity (years) Coupon rate (annual payment) YTM 1 0.00% 2.587% a. Use arbitrage to determine the yield to maturity of a two-year zero-coupon bond. b. What is the zero-coupon yield curve for years 1 through 4? Note: Assume annual compounding. 2 11.00% 4.008% a. Use arbitrage to determine the yield to maturity of a two-year zero-coupon bond. The yield to maturity of a two-year, zero-coupon bond is %. (Round to two decimal places.) b. What is the zero-coupon yield curve for years 1 through 4? The yield to maturity for the three-year and four-year zero-coupon bond is found in the same manner as the two-year zero-coupon bond. The yield to maturity on the three-year, zero-coupon bond is %. (Round to two decimal places.) The yield to maturity on the four-year, zero-coupon bond is %. (Round to two decimal places.) Which graph best depicts the yield curve of the zero-coupon bonds? (Select the…
Assume that the real risk-free rate is 1% and that the maturity risk premium is zero. If a 1-year Treasury bond yield is 6% and a 2-year Treasury bond yields 7%, what is the 1-year interest rate that is expected for Year 2? Calculate this yield using a geometric average. Do not round intermediate calculations. Round your answer to two decimal places. What inflation rate is expected during Year 2? Do not round intermediate calculations. Round your answer to two decimal places.
Consider the zero coupon Treasury bond yield curve. Suppose a 1 year bond has a yield of 2.13%. The yield curve slopes downwards between maturities of 1 year and 3 years, and then slopes upwards. Which of the following must be true? Group of answer choices A) The yield of a zero coupon bond with maturity 5 years is higher than 2.13%. B) A 1 year positive coupon bond must have a lower price than the zero coupon bond with the same maturity. C) Bond purchasers believe the Fed will decrease rates in the short run, and then increase them in the long run. D) The economy will be in a recession within 2 years. E) C and D.
Assume that the real risk-free rate is 2.4% and that the maturity risk premium is zero. If a 1-year Treasury bond yield is 5.6% and a 2-year Treasury bond yields 6.3%. Calculate the yield using a geometric average. What is the 1-year interest rate that is expected for Year 2? Do not round intermediate calculations. Round your answer to two decimal places. % What inflation rate is expected during Year 2? Do not round intermediate calculations. Round your answer to two decimal places. % Comment on why the average interest rate during the 2-year period differs from the 1-year interest rate expected for Year 2. The difference is due to the inflation rate reflected in the two interest rates. The inflation rate reflected in the interest rate on any security is the average rate of inflation expected over the security's life. The difference is due to the real risk-free rate reflected in the two interest rates. The real risk-free rate reflected in the interest rate on any security is the…
Assume that the real risk-free rate is 1.9% and that the maturity risk premium is zero. If a 1-year Treasury bond yield is 5.6% and a 2-year Treasury bond yields 6.3%. Calculate the yield using a geometric average. What is the 1-year interest rate that is expected for Year 2? Do not round intermediate calculations. Round your answer to two decimal places. % What inflation rate is expected during Year 2? Do not round intermediate calculations. Round your answer to two decimal places. % Comment on why the average interest rate during the 2-year period differs from the 1-year interest rate expected for Year 2. The difference is due to the fact that the maturity risk premium is zero. The difference is due to the fact that we are dealing with very short-term bonds. For longer term bonds, you would not expect an interest rate differential. The difference is due to the fact that there is no liquidity risk premium. The difference is due to the inflation rate reflected in the two interest…