Question 1

According to expectations theory, the sudden expectation of lower interest rates in the future will cause investors to provide a ____ supply of short-term funds and a ____ supply of long-termfunds.
A) large; large
B) large; small
C) small; small
D) small; large

Accepted Answer

According to expectations theory, when there is an expectation of lower interest rates in the future, investors will provide a lower supply of short-term funds as they expect to earn less interest in the near future. However, they will provide a higher supply of long-term funds as they expect to earn relatively higher interest over a longer period of time. Therefore, the correct choice is D, which shows a small supply of short-term funds and a large supply of long-term funds.

Question 2

If research showed that all investors attempt to purchase securities that perfectly match the time for which they will have available funds, this would specifically support the argument madebythe
A) liquidity premium theory.
B) real interest rate theory.
C) expectations theory.
D) segmented markets theory.

Accepted Answer

The segmented markets theory states that investors only purchase securities that match their specific maturity needs, resulting in separate "segments" or markets for different maturities. If research showed that all investors attempted to purchase securities that perfectly match their available funds, it would support the idea of segmented markets and therefore support choice D.

Question 3

Assume that the current yield on one-year securities is 6 percent, and that the yield on a two-year security is 7 percent. If the liquidity premium on a two-year security is 0.4 percent, thentheone-year forward rate is
A) 8.0 percent.
B) 7.6 percent.
C) 3.0 percent.
D) 7.0 percent.

Accepted Answer

According to the Expectations Theory, forward rates should be equal to the expected future spot rates. 
Let x be the one-year forward rate.
Then, (1.06)(1+x) = (1.07)(1.004)
Solving for x, we get x = 0.076 or 7.6%.
Therefore, the answer is B.

Question 4

Assume that a yield curve is influenced by interest rate expectations and a liquidity premium. Assume the yield curve is initially flat. If liquidity suddenly was no longer important, the yieldcurve would now have a ____ (assuming no other changes).
A) slight downward slope
B) slight upward slope
C) steep upward slope
D) steep downward slope

Accepted Answer

The answer of Assume that a yield curve is influenced...

Question 5

Other things being equal, the yield required on A-rated bonds should be ____ the yield required on B-rated bonds whose other characteristics are exactly the same.
A) greater than
B) equal to
C) less than
D) All of the above are possible, depending on the size of the bond offering.

Accepted Answer

A-rated bonds are considered less risky than B-rated bonds, so investors would demand a lower yield (less return) for A-rated bonds compared to B-rated bonds with the same characteristics.

Question 6

If a yield curve is upward sloping, the investment strategy of buying long-term securities, then selling them after a short period (say, one year) is called
A) riding the yield curve.
B) liquidating the yield curve.
C) segmenting the yield curve.
D) a forward roll.
E) none of the above

Accepted Answer

Riding the yield curve involves buying long-term securities and holding them until they mature, taking advantage of the upward slope of the yield curve. It does not involve selling after a short period, as described in the other choices.

Question 7

The theory of the term structure of interest rates, which states that investors and borrowers choose securities with maturities that satisfy their forecasted cash needs, is the
A) pure expectations theory.
B) liquidity premium theory.
C) segmented markets theory.
D) liquidity habitat theory.

Accepted Answer

The segmented markets theory of the term structure of interest rates posits that the market for bonds is segmented based on their maturity, with investors and borrowers choosing securities that match their specific investment or borrowing needs. This theory suggests that the demand and supply for bonds of different maturities are determined independently of each other, leading to interest rates for various maturities being determined separately.

Question 8

If liquidity influences the yield curve, but is not considered when deriving the forward interest rate, the forward interest rate ____ the market's expectation of the future interest rate.
A) overestimates
B) accurately estimates
C) underestimates
D) is an unbiased forecast of (it has an equal chance of overestimating or underestimating)

Accepted Answer

Liquidity preferences can cause the yield curve to reflect higher interest rates for longer maturities, not solely due to expectations of higher future rates but also due to the demand for premium for longer-term investments. If liquidity is not considered when deriving the forward interest rate from the current yield curve, the forward rate may overestimate the market's expectation of future interest rates, as it includes a liquidity premium that is not directly related to expectations of future rate movements.

Question 9

According to the pure expectations theory of the term structure of interest rates, the ____ the difference between the implied one-year forward rate and today's one-year interest rate, the ____is the expected change in the one-year interest rate.
A) greater; less
B) less; greater
C) greater; greater
D) less; less
E) C and D

Accepted Answer

The answer of According to the pure expectations theory of...

Question 10

Assume that today, the annualized two-year interest rate is 12 percent, and the one-year interest rate is 9 percent. A three-year security has an annualized interest rate of 14 percent. Whatisthe one-year forward rate two years from now?
A) 12.67 percent
B) 113 percent
C) 195 percent
D) 15.67 percent
E) none of the above

Accepted Answer

The answer of Assume that today, the annualized two-year interest...

Question 11

According to the liquidity premium theory, the expected yield on a two-year security will ____ the expected yield from consecutive investments in one-year securities.
A) equal
B) be less than
C) be greater than
D) B and C are possible, depending on the size of the liquidity premium

Accepted Answer

The liquidity premium theory suggests that longer-term securities will have a higher yield than the expected yield from consecutive short-term investments due to the added liquidity risk of holding longer-term securities.

Question 12

If the liquidity premium exists, a flat yield curve would be interpreted as the market expecting ____ in interest rates.
A) no changes
B) a slight decrease
C) a slight increase
D) a large increase

Accepted Answer

The liquidity premium theory suggests that longer-term interest rates typically include a premium for holding longer-term bonds, due to their greater risk. If the yield curve is flat despite this, it implies that the market expects short-term interest rates to decrease slightly, offsetting the liquidity premium and resulting in a flat curve.

Question 13

In some time periods, there is evidence that corporations initially financed long-term projects with short-term funds. They planned to borrow long-term funds once interest rates were lower. Thisspecifically supports the ____ for explaining the term structure of interest rates.
A) liquidity premium theory
B) expectations theory
C) segmented markets theory
D) A and C

Accepted Answer

This evidence supports the expectations theory, which posits that long-term interest rates reflect investors' expectations of future short-term interest rates. If corporations plan to borrow long-term funds in the future when interest rates are lower, it suggests that they expect short-term rates to decrease in the future.

Question 14

Assume that the Treasury bond yield today is 2 percentage points higher than it was one year ago. Also assume that the credit (default) risk premium of an A-rated bond declined by 0.4 percentagepoint since one year ago. A newly issued A-rated bond will likely offer a yield today that is ____ the yield that was offered on an A-rated bond issued one year ago.
A) greater than
B) equal to
C) less than
D) A or B are both common

Accepted Answer

The yield on a newly issued A-rated bond would likely be higher than the yield on an A-rated bond issued one year ago because the increase in Treasury bond yield (which affects all bond yields) by 2 percentage points outweighs the decrease in the credit risk premium by 0.4 percentage point.

Question 15

If research showed that anticipation about future interest rates was the only important factor for all investors in choosing short-term or long-term securities, this would support the argumentmade by the
A) liquidity premium theory.
B) expectations theory.
C) segmented markets theory.
D) A and B

Accepted Answer

The expectations theory suggests that long-term interest rates are determined by the expected future short-term rates. If research showed that anticipation about future interest rates was the only important factor for all investors in choosing short-term or long-term securities, then it would support the expectations theory. It would suggest that investors make their decisions based solely on their expectations about future interest rates, rather than other factors like liquidity or market segmentation, which are emphasized in the liquidity premium theory and segmented markets theory, respectively. Therefore, the correct answer is B.

Question 16

The yield curve in a foreign country is
A) always downward sloping.
B) nonexistent.
C) the same as the United States at any point in time.
D) none of the above

Accepted Answer

The yield curve in a foreign country can take on any shape or slope, and it may be different from the yield curve in the United States.

Question 17

A theory states that while investors and borrowers may normally concentrate on a particular natural maturity market, conditions may cause them to change maturity markets. This theory is calledthe
A) liquidity premium theory.
B) efficient markets theory.
C) pure expectations theory.
D) preferred habitat theory.

Accepted Answer

The theory described is the preferred habitat theory, which suggests that investors have certain preferred maturity markets but may venture into other markets if conditions are favorable. The other options, liquidity premium theory, efficient markets theory, and pure expectations theory, do not directly address the concept of investors changing maturity markets.

Question 18

According to the segmented markets theory, if most investors suddenly preferred to invest in short-term securities and most borrowers suddenly preferred to issue long-term securities, there wouldbe
A) upward pressure on the price of long-term securities.
B) upward pressure on the price of short-term securities.
C) downward pressure on the yield of long-term securities.
D) A and C

Accepted Answer

The answer of According to the segmented markets theory, if...

Question 19

According to segmented markets theory, if investors have mostly short-term funds available and borrowers want long-term funds, there would be ____ pressure on the supply of short-term funds provided by investors and ____ pressure on the yield of long-term securities.
A) upward; upward
B) downward; downward
C) upward; downward
D) downward; upward

Accepted Answer

The answer of According to segmented markets theory, if investors...

Question 20

The degree to which the Treasury's debt management policy could affect the term structure of interest rates is greatest if
A) most debt is financed by foreign investors.
B) the Treasury's debt level is small.
C) maturity markets are segmented.
D) A and B

Accepted Answer

If maturity markets are segmented, the Treasury's debt management policy can have a greater impact on the term structure of interest rates. This is because investors in different maturity markets may not be able to transfer their holdings easily between markets, and therefore, changes in the supply and demand of Treasury securities in one market may not be fully reflected in the prices of securities in other markets. This can result in greater volatility in interest rates and can affect the overall level of interest rates in the economy. The other options are not relevant to the degree of impact of the Treasury's debt management policy on the term structure of interest rates.

Quiz 3: Structure of Interest Rates

According to expectations theory, the sudden expectation of lower interest rates in the future will cause investors to provide a supply of short-term funds and a supply of long-termfunds.

If research showed that all investors attempt to purchase securities that perfectly match the time for which they will have available funds, this would specifically support the argument madebythe

Assume that the current yield on one-year securities is 6 percent, and that the yield on a two-year security is 7 percent. If the liquidity premium on a two-year security is 0.4 percent, thentheone-year forward rate is

Assume that a yield curve is influenced by interest rate expectations and a liquidity premium. Assume the yield curve is initially flat. If liquidity suddenly was no longer important, the yieldcurve would now have a ____ (assuming no other changes) .

Other things being equal, the yield required on A-rated bonds should be ____ the yield required on B-rated bonds whose other characteristics are exactly the same.

If a yield curve is upward sloping, the investment strategy of buying long-term securities, then selling them after a short period (say, one year) is called

The theory of the term structure of interest rates, which states that investors and borrowers choose securities with maturities that satisfy their forecasted cash needs, is the

If liquidity influences the yield curve, but is not considered when deriving the forward interest rate, the forward interest rate ____ the market's expectation of the future interest rate.

According to the pure expectations theory of the term structure of interest rates, the the difference between the implied one-year forward rate and today's one-year interest rate, the is the expected change in the one-year interest rate.

Assume that today, the annualized two-year interest rate is 12 percent, and the one-year interest rate is 9 percent. A three-year security has an annualized interest rate of 14 percent. Whatisthe one-year forward rate two years from now?

According to the liquidity premium theory, the expected yield on a two-year security will ____ the expected yield from consecutive investments in one-year securities.

If the liquidity premium exists, a flat yield curve would be interpreted as the market expecting ____ in interest rates.

In some time periods, there is evidence that corporations initially financed long-term projects with short-term funds. They planned to borrow long-term funds once interest rates were lower. Thisspecifically supports the ____ for explaining the term structure of interest rates.

If research showed that anticipation about future interest rates was the only important factor for all investors in choosing short-term or long-term securities, this would support the argumentmade by the

The yield curve in a foreign country is

A theory states that while investors and borrowers may normally concentrate on a particular natural maturity market, conditions may cause them to change maturity markets. This theory is calledthe

According to the segmented markets theory, if most investors suddenly preferred to invest in short-term securities and most borrowers suddenly preferred to issue long-term securities, there wouldbe

According to segmented markets theory, if investors have mostly short-term funds available and borrowers want long-term funds, there would be pressure on the supply of short-term funds provided by investors and pressure on the yield of long-term securities.

The degree to which the Treasury's debt management policy could affect the term structure of interest rates is greatest if