Question

describe the yield curve and how it is constructed. What theories best explain the changes in the yield curve?

Answer 1

Yield curve is a graphical representation of yields of equal credit quality but different maturities. For example, a typical yield curve is that of the US government bonds which is plotted by starting with 1 month bond yield to 30 year bond yields.

Under normal circumstances, the yields increase with an increase in maturity. However, when the economists and market participants expect a recession, the yields curve invert as well, which means that the higher duration bond yields are lower than the lower duration bond yields.