EBK CFIN
6th Edition
ISBN: 9781337671743
Author: BESLEY
Publisher: CENGAGE LEARNING - CONSIGNMENT
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Chapter 5, Problem 9PROB
(a)
Summary Introduction
Introduction:
Treasury bonds (T-bonds):
These bonds involve earning periodic interest up to maturity (greater than 20 years) and consider government debt securities that are issued by the Federal government of the country.
Expectations theory:
Based on long-term (current) interest rates this theory
To determine: The expected one-year interest rates in the second year by using the expectation theory when the interest rate on one-year treasury bonds is 0.4%, 0.8% on two-year bonds, and 1.1% on three-year T-bonds.
(b)
Summary Introduction
Introduction:
Treasury bonds (T-bonds):
These bonds involve earning periodic interest up to maturity (greater than 20 years) and consider government debt securities that are issued by the Federal government of the country.
Expectations theory:
Based on long-term (current) interest rates this theory forecasts the short-term interest rates for the future where an investor receives the same amount of interest by investing in two (one-year bond and two-year bond), one after the other year. It is useful to calculate the expected returns and differentiate the investment returns in business.
To determine: The expected one-year interest rates in the third year by using the expectation theory when the interest rate on one-year treasury bonds is 1%, 0.9% on two-year bonds, and 0.8% on three-year T-bonds.
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The interest rate on one-year Treasury bonds is 0.4 percent, the rate on two-year T-bonds is 0.8 percent, and the rate on three-year T-bonds is 1.1 percent. Using the expectations theory, compute the expected one-year interest rates in (a) the second year (Year 2 only) and (b) the third year (year 3 only).
Today, interest rates on 1-year T-bonds yield 1.2%, interest rates on 2-year T-bonds yield 2%, and interest rates on 3-year T-bonds yield 3.3%. a. If the pure expectations theory is correct, what is the yield on 1-year T-bonds one year from now? Be sure to use a geometric average in your calculations. Do not round intermediate calculations. Round your answer to four decimal places.
1) Suppose that today's one-year interest rate is 5%. Consider the following one-year interest rates expected to occur over the next four years: 6%, 7%, 8% and 9%.a. Calculate the interest rate for two-year bonds, based on the expectations theory.b. What about five-year bonds?
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