Question

According to the liquidity premium theory of the term structure of interest rates, if the one-year bond rate is expected to be 3%, 6%, and 9% over each of the next three years, and if the liquidity premium on a three-year bond is 3%, then the interest rate on a three-year bond is _?

Answer #1

solution-

Interest rate = Liquidity premium +{[R1+R2+R3]/n}

= 3+ {[3+6+9]/3 }

= 3+ { 18/3}

= 3 + 6

= 9%

Using the Expectations Theory of the term structure,
calculate the interest rates in the term structure for maturities
of 1 to 5 years for the following paths of one year interest rates
over the next five years. Explain for each what the yield curve
would look like.
3% 4% 5% 6% 7%
3% 2% 1% 1% 2%

The table below shows current and expected future one-year
interest rates. Year One-Year Bond Rate 1= 3% 2= 4% 3.=5% 4.= 8% A.
Assuming that the expectations theory is the correct theory of the
term structure, calculate the current interest rate for a four-year
bond (predicted by that theory). Show your work and include a
one-sentence explanation. B. Assume now that the liquidity premium
theory is the correct theory of the term structure. If the actual
interest rate on a...

Show working please
Consider the same short-term interest rates as in problem 4
above. If the yield on a discount bond that matures in 4 years is
8.25%, then according to liquidity premium theory, the premium
attached to the 4 year discount bond is?
Ref. question
Analysts predict that short-term interest rates over the next 4
years will be as follows: 13%, 2%, 7%, and 10%, respectively.
According to expectations theory, the yield on a discount bond with
a three...

(b) (i) Short term (one year) interest rates over the next 6
years will be 0.5%, 0.6%, 0.7%,
0.76%, 0.80% and 0.84%. Using the expectation theory, what will be
the interest rates
on a three-year bond? [2 marks]
(ii) Predict the one-year interest rate three years from today
if interest rates are 4%,
4.5%, 4.75% and 5% for bonds with one to four years to maturity and
respectively
liquidity premiums are 0%, 0.1% , 0.15% and 0.2%. [3 marks]
(c)...

Analysts predict that short-term interest rates over the next 4
years will be as follows: 5.5%, 4%, 1.1%, and 10%, respectively.
According to expectations theory, the yield on a discount bond with
a three year maturity will be ____ and yield on bond with a four
year maturity will be ____.
Group of answer choices
3.05%; 5.55%
3.05%; 5.15%
3.53%; 5.55%
3.53%; 5.15%
Consider the same short-term interest rates as in problem 4
above. If the yield on a discount...

1-According to the expectations theory of the term structure of
interest rates,
A
a long-term interest rate is equal to the average of current and
expected future short-term interest rates.
B-
the yield curve is always flat.
C-
a short-term interest rate has no relation to long-term interest
rates.
D- a short-term interest rate is equal to the average of current
and expected future long-term interest rates.
2-The expectations theory of yield curves is not very realistic
because
A-
a...

Problem 6-11 Liquidity Premium Theory (LG6-7)
Based on economists’ forecasts and analysis, 1-year Treasury
bill rates and liquidity premiums for the next four years are
expected to be as follows:
R1
=
0.55
%
E(2r1)
=
1.70
%
L2
=
0.08
%
E(3r1)
=
1.80
%
L3
=
0.12
%
E(4r1)
=
2.10
%
L4
=
0.14
%
Using the liquidity premium theory, determine the current
(long-term) rates. (Do not round intermediate calculations.
Round your answers to 2 decimal places.)

Using the expectations hypothesis theory for the term structure
of interest rates, determine the expected return for securities
with maturities of two, three, and four years based on the
following data. (Input your answers as a percent rounded to
2 decimal places.)
Interest Rate
1-year T-bill at beginning of year 1
4
%
1-year T-bill at beginning of year 2
6
%
1-year T-bill at beginning of year 3
7
%
1-year T-bill at beginning of year 4
9...

If the expected path of one-year interest rates over the next
four years is 5 percent, 4 percent, 3 percent, and 2 percent. Draw
the yield curve under the expectations theory. Now, assume
liquidity premium are 0.25 for 2 year, 0.5 for 3 year and 0.75 for
4 year bonds, draw on the same graph (ideally in different color)
the yield curve under the liquidity premium theory.

a. (2 pts.) What is the fact number two that the term structure
of interest rates explains?
b. (6 pts.) Explain this fact using the liquidity premium
theory.

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