Question 1

The risk that funds may have to be reinvested at a lower rate in the future is the _______________. It is generally _____________ than the ___________________.

Accepted Answer

A) reinvestment risk, less, liquidity premium. 
B) liquidity risk, less, reinvestment premium. 
C) reinvestment risk, more, liquidity premium. 
D) liquidity premium, more, reinvestment risk.

Question 2

What happens to the shape of the yield curve if expectations about future interest rates change such that future short term interest rates are expected to be lower than previously expected?

Accepted Answer

A) the slope (shape) of the yield curve remains the same but the curve shifts down. 
B) the differences among various yield curves narrows. 
C) If positively sloped, the yield curve becomes flatter; if negatively sloped, the yield curve becomes more negatively sloped. 
D) Both a and b are correct.

Question 3

__________ is the probability of a debtor not paying the principal and/or interest due on an outstanding debt

Accepted Answer

A) Risk premium 
B) Liquidity premium 
C) Credit risk 
D) Liquidity risk

Question 4

The yield curve is a graphical relationship between

Accepted Answer

A) the spreads among interest rates and their tax treatment. 
B) interest rates (yields) on a particular security and its risk. 
C) interest rates (yields) on a particular structure and its after-tax return. 
D) interest rates (yields) on a particular security and its term to maturity.

Question 5

Credit-rating agencies do which of the following?

Accepted Answer

A) evaluate a borrower's probability of default 
B) assign the borrower to a particular risk class 
C) help lenders determine the credit worthiness of a borrower 
D) All of the above are correct.

Question 6

According to the expectations theory, if next year's expected short-term rate is below the current short-term rate, the yield curve will be

Accepted Answer

A) horizontal. 
B) vertical. 
C) upward sloping. 
D) downward sloping.

Question 7

The sweetener or bribe required to induce lenders to abandon their preferred habitats is referred to as

Accepted Answer

A) a risk premium. 
B) a habitat premium. 
C) taxability. 
D) a liquidity premium.

Question 8

Assume a corporate marginal tax rate of 38%. What yield on a municipal bond would leave a corporation indifferent between a 9% corporate bond and a municipal bond?

Accepted Answer

A) 4.8% 
B) 5.58% 
C) 6.03% 
D) 7.2%

Question 9

Which of the following is/are primarily responsible for determining the relationships among interest rates?

Accepted Answer

A) term to maturity 
B) credit risk 
C) liquidity 
D) tax treatment 
E) All of the above are correct.

Question 10

What is the major characteristic distinguishing one type of Treasury security from another?

Accepted Answer

A) term to maturity 
B) yield curve 
C) inflationary index 
D) Both b and c are correct.

Question 11

-Refer to Figures A, B, and C. According to expectations theory, which of the figures above reflects expectations of a fall in the interest rate on short-term securities?

Accepted Answer

A) Figure A 
B) Figure B 
C) Figure C 
D)  Both a and b

Question 12

A liquidity premium is used to

Accepted Answer

A) lure lenders to lend short term. 
B) lure lenders to lend long term. 
C) lure lenders to lend greater amounts. 
D) None of the above

Question 13

A sweetener offered to a lender to increase the term of a loan is called a

Accepted Answer

A) liquidity preference. 
B) liquidity premium. 
C) segmented market. 
D) preferred habitat.

Question 14

When the yield curve is upward sloping, this means which of the following?

Accepted Answer

A) Short-term securities yield more than long-term securities. 
B) Short-term securities yield less than long-term securities. 
C) Short-term securities yield the same as long-term securities. 
D) None of the above are correct.

Question 15

If security purchasers found the after-tax yield on municipal bonds higher than that of corporate bonds, leading to an increase in municipal bond purchases and an increase in corporate bond sales, this would cause the

Accepted Answer

A) yields on municipals to increase. 
B) prices on corporate bonds to increase. 
C) yields on corporate bonds to decrease. 
D) yields on municipals to decrease.

Question 16

Generally, the relationship between the liquidity premium and term to maturity is

Accepted Answer

A) inverse. 
B) direct. 
C) negative. 
D) None of the above

Question 17

During the late part of the business expansion, interest rates will most likely do which of the following?

Accepted Answer

A) fall 
B) rise 
C) remain the same 
D) fall slightly, then plateau

Question 18

The current long-term interest rate is a function of which of the following?

Accepted Answer

A) the current short-term rate. 
B) the short-term rates expected in the future. 
C) the liquidity premium. 
D) All of the above are correct.

Question 19

The pattern or spread among interest rates determined by the term to maturity, credit risk, and tax treatment is best described as the

Accepted Answer

A) term structure of interest rates. 
B) geometric average theory. 
C) expectations theory. 
D) preferred habitat theory.

Question 20

Which is most responsible for the fact that yield curves have been generally upward sloping over the past 50 years?

Accepted Answer

A) the preferred habitats modification to the expectations theory 
B) market segmentation 
C) the liquidity premium 
D) All of the above are correct.

Exam 6: The Structure of Interest Rates

The risk that funds may have to be reinvested at a lower rate in the future is the _________. It is generally _ than the _____________.