The ________ of the term structure states the following: 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 term premium that responds to supply and demand conditions for that bond.
A)segmented markets theory
B)expectations theory
C)liquidity premium theory
D)separable markets theory

Question

Quizplus · Accepted Answer

This definition describes the liquidity premium theory, which suggests that long-term bonds carry a higher yield than short-term bonds due to the increased risk and uncertainty associated with holding the bond for a longer period of time. The term premium reflects this risk, as well as supply and demand factors specific to the bond market. The segmented markets theory suggests that the short-term and long-term markets for bonds are completely separate and do not affect each other, while the expectations theory suggests that long-term interest rates are determined by investors' expectations of future short-term interest rates. The separable markets theory suggests that investors can easily switch between investing in short-term and long-term bonds based on their preferences.

The ________ of the Term Structure States the Following: the Interest