Question

Analyze the U.S. term structure of interest rates. Your answer should include a “picture” of the current U.S. Treasurys yield curve (note the date you use), an exposition of the basic theories trying to explain the yield curve, and your composite explanation of what the current yield curve is predicting. Be sure to provide the reasoning/theory(ies) underlying the predictions you present.

Answer 1

Term structure of interest rates reflects relationship between the interest rate on the bond yield in an economy. it can reflect through the relationship between the short term bond yield and long term bond yields in relation with the change in the interest rates of an economy. This type of term structures are highly important in prediction of of long-term inclination of bond yields.

The current scenario of the interest rate regime in the United States economy is currently ranging between 0 to .25 which is the slashed interest rates reflected after Federal Reserve has discounted the fears of coronavirus and various shutdown in the economy. There is a complete environment of chaos leading to fears and uncertainty and experts are also expecting an impending recession amid all this fears.

There are different theories which advocates that ,yield curve movements are highly related with the interest rates.One of those theory is expectation theory which advocates that investor will be more inclined to invest in the shorter term bonds than in the longer term bonds because it is highly safe and they would want a premium to invest in the longer term bonds. Another theory is of market segmentation which divides different kinds of bond markets according to their risk exposure and investment demand.

In the present scenario,there was a warning through inversion of yield curve which is a symbol of an impending recession. An inverted yield curve in which the short term bond yields goes above the long term bond yields so,there is very little prediction of any growth in coming years and people often discount that through lower expectation in the form of compensation in bond yields.

The current yield curve is of flattening in nature.these kind of flattening of yield curve happens when the short term bond yields and long term bond yields are trading in the similar range, so people are not expecting any premium for investing in long term bonds because they are highly sceptical about any recovery in the future