Match each of the following theories with its description. (Enter a value: 1-4.) Expectations theory Theory Preferred habitat Segmented markets ㅁㅁㅁ Description 1. The interest rate for each bond with a different maturity is determined by the supply of and demand for that bond, with no effects from expected returns on other bonds with other maturities. 2. The interest rate on a long-term bond will equal an average of the short-term interest rates that people expect to occur over the life of the long-term bond. 3. When short-term interest rates are low, yield curves are more likely to have an upward slope; when short-term interest rates are high, yield curves are more likely to slope downward and be inverted. 4. The interest rate on a long-term bond will equal an average of short-term interest rates expected to occur over the life of the long-term bond plus a liquidity premium (also referred to as a term premium) that responds to supply and demand conditions for that bond.

Suppose Ford Motor Company issues a five year bond with a face value of 5,000 that pays an annual coupon payment of $150. What is the interest rate Ford is paying on the borrowed funds? Suppose the market interest rate rises from 3 to 4 a year after Ford issues the bonds. Will the value of the bond increase or decrease?

Imagine that a local water company issued 10,000 ten-year bond at an interest rate of 6. You are thinking about buying this bond one year before the end of the ten years, but interest rates are now 9. Given the change in interest rates, would you expect to pay more or less than 10,000 for the bond? Calculate what you would actually be willing to pay for this bond.