When the growth rate of the economy slows we would expect:
A) The risk to increase for U.S. Treasury securities
B) The risk spread to increase more between U.S. Treasury Securities and Aaa securities than between Aaa and Baa securities
C) The risk spread to increase more between Aaa and Baa securities than U.S. Treasuries and Aaa securities
D) Investors to purchase more junk bonds in search of a higher yield

Question

Quizplus · Accepted Answer

When the growth rate of the economy slows, the risk spread between Aaa and Baa securities tends to increase more than the risk spread between U.S. Treasuries and Aaa securities. This is because investors become more cautious and demand higher yields to compensate for the increased risk of default by lower-rated companies (represented by Baa securities). The risk to increase for U.S. Treasury securities (choice A) is unlikely, as Treasuries are considered a safe haven and their yield may decrease in times of economic uncertainty. The increase in risk spread between U.S. Treasuries and Aaa securities (choice B) may occur, but not as much as the increase in the spread between Aaa and Baa securities. Investing in junk bonds (choice D) is riskier and may not be a preferred option for conservative investors.

When the Growth Rate of the Economy Slows We Would