Question 1

Does the Expectations Hypothesis allow for people to have a preference for longer-term investments? Explain.

Accepted Answer

Not really, a key assumption of the Expectations Hypothesis is that bonds of different maturities are perfect substitutes, which basically implies that investors are indifferent between different maturities and that the yield of consecutive short-term investments will equal the yield of a long-term investment over the same investment horizon.

Question 2

Why can't the Expectations Hypothesis stand alone as an adequate theory to explain yield curves?

Accepted Answer

The Expectations Hypothesis does a good job of explaining why interest rates of different maturities move together and for explaining why short-term rates are more volatile than long-term rates.What it cannot do is explain why yield curves usually are upward sloping.To use only expectations hypothesis implies that investors usually expect short-term interest rates to rise, which certainly is not the case.

Question 3

An inverted yield curve is a valuable forecasting tool because:

Accepted Answer

A) the yield curve usually is inverted so it reflects a growing economy. 
B) the yield curve seldom is inverted and can signal an economic slowdown. 
C) investors are expecting higher short-term rates in the future, and this usually signals an economic slowdown. 
D) inverted yield curves signal better economic times are expected. 
A) the yield curve usually is inverted so it reflects a growing economy. 
B) the yield curve seldom is inverted and can signal an economic slowdown. 
C) investors are expecting higher short-term rates in the future, and this usually signals an economic slowdown. 
D) inverted yield curves signal better economic times are expected. B

Question 4

Please use the graphs to show what happens to the risk (yield) differential in each situation and why?

Accepted Answer

@#IMG-DLM& Assume the corporate and Treasury bonds

Question 5

As technology allows information regarding the financial health of corporations to become easier to obtain, we should expect:

Accepted Answer

A) the risk spread to decrease. 
B) the role of bond rating agencies to become more important. 
C) a decrease in the number of participants in the bond market. 
D) the risk spread to increase. 
A) the risk spread to decrease. 
B) the role of bond rating agencies to become more important. 
C) a decrease in the number of participants in the bond market. 
D) the risk spread to increase.

Question 6

Assume the Expectations Hypothesis regarding the term structure of interest rates is correct.Then, if the current two-year interest rate is 5% and the current one-year rate is 6%, then investors expect the future one-year rate to be:

Accepted Answer

A) 4%. 
B) 5%. 
C) 6%. 
D) 1%. 
A) 4%. 
B) 5%. 
C) 6%. 
D) 1%.

Question 7

Under the Liquidity Premium Theory a flat yield curve implies:

Accepted Answer

A) there is no risk premium for longer-term maturities. 
B) short-term interest rates are expected to remain constant. 
C) short-term interest rates are expected to decrease. 
D) long-term interest rates are higher than short-term interest rates. 
A) there is no risk premium for longer-term maturities. 
B) short-term interest rates are expected to remain constant. 
C) short-term interest rates are expected to decrease. 
D) long-term interest rates are higher than short-term interest rates.

Question 8

If the Federal Reserve surprises investors by announcing an easing of monetary policy:

Accepted Answer

A) it should have no impact on the slope of the yield curve. 
B) we should expect the yield curve to possibly become inverted. 
C) the yield curve would flatten. 
D) we should expect the yield curve to steepen. 
A) it should have no impact on the slope of the yield curve. 
B) we should expect the yield curve to possibly become inverted. 
C) the yield curve would flatten. 
D) we should expect the yield curve to steepen.

Question 9

The Expectations Hypothesis assumes each of the following, except:

Accepted Answer

A) long-term bond rates are equal to the average of current and expected future short-term interest rates. 
B) bonds of different maturities are not perfect substitutes. 
C) bonds of different maturities have the same risk characteristics. 
D) bonds of different maturities are perfect substitutes. 
A) long-term bond rates are equal to the average of current and expected future short-term interest rates. 
B) bonds of different maturities are not perfect substitutes. 
C) bonds of different maturities have the same risk characteristics. 
D) bonds of different maturities are perfect substitutes.

Question 10

Holding liquidity and default risk constant, an investor earning 6% from a tax-exempt bond who is in a 25% tax bracket would be indifferent between that bond and a taxable bond with a(n):

Accepted Answer

A) 8% yield. 
B) 4.5% yield. 
C) 6.25% yield. 
D) 7.5% yield. 
A) 8% yield. 
B) 4.5% yield. 
C) 6.25% yield. 
D) 7.5% yield.

Question 11

The U.S.Treasury yield curve:

Accepted Answer

A) shows the relationship among bonds with the same risk characteristics but different maturities. 
B) assumes maturities are constant, and reflects the difference in risk. 
C) always has a positive slope. 
D) always has a negative slope. 
A) shows the relationship among bonds with the same risk characteristics but different maturities. 
B) assumes maturities are constant, and reflects the difference in risk. 
C) always has a positive slope. 
D) always has a negative slope.

Question 12

A proposed increase in the federal income tax rates may actually be viewed favorably by many mayors of cities because:

Accepted Answer

A) it will allow them to also raise their tax rates. 
B) it will cause the demand for municipal bonds to increase and their yields to increase. 
C) people will pay less attention to local taxes. 
D) it will cause the price of municipal bonds to increase and their yields to decrease. 
A) it will allow them to also raise their tax rates. 
B) it will cause the demand for municipal bonds to increase and their yields to increase. 
C) people will pay less attention to local taxes. 
D) it will cause the price of municipal bonds to increase and their yields to decrease.

Question 13

The two best known bond rating services are:

Accepted Answer

A) the Federal Reserve and Moody's Investment Services. 
B) the Federal Reserve and the U.S.Treasury. 
C) Standard & Poor's and the Wall Street Journal. 
D) Standard & Poor's and Moody's Investment Services. 
A) the Federal Reserve and Moody's Investment Services. 
B) the Federal Reserve and the U.S.Treasury. 
C) Standard & Poor's and the Wall Street Journal. 
D) Standard & Poor's and Moody's Investment Services.

Question 14

Which of the following assigns widely followed bond ratings?

Accepted Answer

A) The Federal Reserve 
B) The U.S.Treasury 
C) The New York Stock Exchange 
D) Standard & Poor's 
A) The Federal Reserve 
B) The U.S.Treasury 
C) The New York Stock Exchange 
D) Standard & Poor's

Question 15

All of the following are true about the risk spread except it should:

Accepted Answer

A) be higher for highly speculative bonds than investment grade bonds. 
B) have a direct relationship with the bond's yield. 
C) have an inverse relationship with the bond's price. 
D) have a direct relationship with the bond's price. 
A) be higher for highly speculative bonds than investment grade bonds. 
B) have a direct relationship with the bond's yield. 
C) have an inverse relationship with the bond's price. 
D) have a direct relationship with the bond's price.

Question 16

A company that continues to have strong profit performance during an economic downturn when many other companies are suffering losses or failing should see:

Accepted Answer

A) an increase in the yield of their bonds and the price of the bond increases. 
B) their bond rating maintained or actually increase. 
C) the demand for their bonds decrease and their yields decrease. 
D) the demand and price for their bonds decrease. 
A) an increase in the yield of their bonds and the price of the bond increases. 
B) their bond rating maintained or actually increase. 
C) the demand for their bonds decrease and their yields decrease. 
D) the demand and price for their bonds decrease.

Question 17

Explain why most retired individuals are not likely to be heavily invested in municipal bonds.

Accepted Answer

Most retired individuals are not working

Question 18

According to the Expectations Hypothesis:

Accepted Answer

A) when short-term interest rates are expected to rise in the future, the long-term interest rates are equal to current short-term interest rates. 
B) when short-term rates are expected to remain constant in the future, the long-term interest rates are higher than current short-term interest rates. 
C) short-term bonds are perfect substitutes for long-term bonds. 
D) expectations of future short-term rates equal estimates of current short-term rates. 
A) when short-term interest rates are expected to rise in the future, the long-term interest rates are equal to current short-term interest rates. 
B) when short-term rates are expected to remain constant in the future, the long-term interest rates are higher than current short-term interest rates. 
C) short-term bonds are perfect substitutes for long-term bonds. 
D) expectations of future short-term rates equal estimates of current short-term rates.

Question 19

The presence of a term spread that is usually positive indicates that:

Accepted Answer

A) the yield curve always slopes upward. 
B) bonds of similar risk but with different maturities are not perfect substitutes. 
C) we should expect the yield curve to usually be flat. 
D) we should expect the yield curve to usually slope downward. 
A) the yield curve always slopes upward. 
B) bonds of similar risk but with different maturities are not perfect substitutes. 
C) we should expect the yield curve to usually be flat. 
D) we should expect the yield curve to usually slope downward.

Question 20

Any theory of the yield curve must be able to explain what three general conditions?

Accepted Answer

#1) The interest rates of different matu

Exam 7: The Risk and Term Structure of Interest Rates

Does the Expectations Hypothesis allow for people to have a preference for longer-term investments? Explain.

Why can't the Expectations Hypothesis stand alone as an adequate theory to explain yield curves?

An inverted yield curve is a valuable forecasting tool because:

Please use the graphs to show what happens to the risk (yield) differential in each situation and why?

As technology allows information regarding the financial health of corporations to become easier to obtain, we should expect:

Assume the Expectations Hypothesis regarding the term structure of interest rates is correct.Then, if the current two-year interest rate is 5% and the current one-year rate is 6%, then investors expect the future one-year rate to be:

Under the Liquidity Premium Theory a flat yield curve implies:

If the Federal Reserve surprises investors by announcing an easing of monetary policy:

The Expectations Hypothesis assumes each of the following, except:

Holding liquidity and default risk constant, an investor earning 6% from a tax-exempt bond who is in a 25% tax bracket would be indifferent between that bond and a taxable bond with a(n):

The U.S.Treasury yield curve:

A proposed increase in the federal income tax rates may actually be viewed favorably by many mayors of cities because:

The two best known bond rating services are:

Which of the following assigns widely followed bond ratings?

All of the following are true about the risk spread except it should:

A company that continues to have strong profit performance during an economic downturn when many other companies are suffering losses or failing should see:

Explain why most retired individuals are not likely to be heavily invested in municipal bonds.

According to the Expectations Hypothesis:

The presence of a term spread that is usually positive indicates that:

Any theory of the yield curve must be able to explain what three general conditions?

An Introduction to Money and the Financial System

Money and the Payments System

Financial Instruments, Financial Markets, and Financial Institutions

Future Value, Present Value, and Interest Rates

Understanding Risk

Bonds, Bond Prices, and the Determination of Interest Rates

Stocks, Stock Markets, and Market Efficiency

Derivatives: Futures, Options, and Swaps

Foreign Exchange

The Economics of Financial Intermediation

Depository Institutions: Banks and Bank Management

Financial Industry Structure

Regulating the Financial System

Central Banks in the World Today

The Structure of Central Banks: The Federal Reserve and the European Central Bank

The Central Bank Balance Sheet and the Money Supply Process

Monetary Policy: Stabilizing the Domestic Economy

Exchange-Rate Policy and the Central Bank

Money Growth, Money Demand, and Modern Monetary Policy

Output, Inflation, and Monetary Policy

Understanding Business Cycle Fluctuations

Modern Monetary Policy and the Challenges Facing Central Bankers

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