James is a rational investor wishing to maximize his return over a 20-year period.The current yield curve is inverted with one-year rates at 5.00% and 20-year rates at 3.50%.James will invest in the lower-rate 20-year bonds if ________.
A)he thinks rates will fall in the future and locking in long-term rates today may provide the highest long-run average return
B)he thinks rates will rise in the future and locking in long-term rates today may provide the lowest long-run average return
C)he thinks rates will remain flat at 5% in the future and locking in long-term rates today will prevent him from appearing greedy to those without this investment opportunity
D)he thinks rates will rise in the future and locking in long-term rates today may provide the highest long-run average return

Question

Quizplus · Accepted Answer

James believes that rates will fall in the future, as an inverted yield curve is often an indicator of a future economic slowdown. In this case, locking in long-term rates today may provide the highest long-run average return, as rates will likely decrease in the future. Therefore, James will invest in the lower-rate 20-year bonds.

James Is a Rational Investor Wishing to Maximize His Return