Question 1

Suppose the yield on a 10-year T-bond is currently 5.05% and that on a 10-year Treasury Inflation Protected Security (TIPS) is 1.80%.Suppose further that the MRP on a 10-year T-bond is 0.90%,that no MRP is required on a TIPS,and that no liquidity premium is required on any T-bond.Given this information,what is the expected rate of inflation over the next 10 years? Disregard cross-product terms,i.e. ,if averaging is required,use the arithmetic average.

Accepted Answer

A)   2.66%
B)   1.88%
C)   2.35%
D)   2.00%
E)   2.49%F) B) and D)
G) C) and D)

Question 2

Which of the following statements is CORRECT?

Accepted Answer

A)   If inflation is expected to increase in the future,and if the maturity risk premium (MRP) is greater than zero,then the Treasury yield curve will have an upward slope.
B)   If the maturity risk premium (MRP) is greater than zero,then the yield curve must have an upward slope.
C)   Because long-term bonds are riskier than short-term bonds,yields on long-term Treasury bonds will always be higher than yields on short-term T-bonds.
D)   If the maturity risk premium (MRP) equals zero,the yield curve must be flat.
E)   The yield curve can never be downward sloping.F) A) and B)
G) B) and E)

Question 3

One of the four most fundamental factors that affect the cost of money as discussed in the text is the time preference for consumption.The higher the time preference,the lower the cost of money,other things held constant.

Accepted Answer

A) True 
 B)False

Question 4

Which of the following would be most likely to lead to a higher level of interest rates in the economy?

Accepted Answer

A)   Households start saving a larger percentage of their income.
B)   Corporations step up their expansion plans and thus increase their demand for capital.
C)   The level of inflation begins to decline.
D)   The economy moves from a boom to a recession.
E)   The Federal Reserve decides to try to stimulate the economy.F) B) and C)
G) A) and B)

Question 5

Koy Corporation's 5-year bonds yield 8.00%,and 5-year T-bonds yield 5.15%.The real risk-free rate is r* = 3.0%,the inflation premium for 5-year bonds is IP = 1.75%,the liquidity premium for Koy's bonds is LP = 0.75% versus zero for T-bonds,and the maturity risk premium for all bonds is found with the formula MRP = (t - 1)   0.1%,where t = number of years to maturity.What is the default risk premium (DRP) on Koy's bonds?

Accepted Answer

A)   2.16%
B)   2.10%
C)   2.12%
D)   2.48%
E)   2.18%F) A) and E)
G) None of the above

Question 6

Suppose the rate of return on a 10-year T-bond is 6.90%,the expected average rate of inflation over the next 10 years is 2.0%,the MRP on a 10-year T-bond is 0.9%,no MRP is required on a TIPS,and no liquidity premium is required on any Treasury security.Given this information,what should the yield be on a 10-year TIPS? Disregard cross-product terms,i.e. ,if averaging is required,use the arithmetic average.

Accepted Answer

A)   4.60%
B)   4.00%
C)   3.04%
D)   4.76%
E)   3.92%F) A) and B)
G) A) and C)

Question 7

Inflation is expected to increase steadily over the next 10 years,there is a positive maturity risk premium on both Treasury and corporate bonds,and the real risk-free rate of interest is expected to remain constant.Which of the following statements is CORRECT?

Accepted Answer

A)   The yield on 10-year Treasury securities must exceed the yield on 7-year Treasury securities.
B)   The yield on any corporate bond must exceed the yields on all Treasury bonds.
C)   The yield on 7-year corporate bonds must exceed the yield on 10-year Treasury bonds.
D)   The stated conditions cannot all be true - they are internally inconsistent.
E)   The Treasury yield curve under the stated conditions would be humped rather than have a consistent positive or negative slope.F) A) and E)
G) C) and E)

Question 8

Kay Corporation's 5-year bonds yield 5.90% and 5-year T-bonds yield 4.40%.The real risk-free rate is r* = 2.5%,the inflation premium for 5-year bonds is IP = 1.50%,the default risk premium for Kay's bonds is DRP = 1.30% versus zero for T-bonds,and the maturity risk premium for all bonds is found with the formula MRP = (t - 1)   0.1%,where t = number of years to maturity.What is the liquidity premium (LP) on Kay's bonds?

Accepted Answer

A)   0.23%
B)   0.25%
C)   0.19%
D)   0.20%
E)   0.17%F) A) and B)
G) C) and D)

Question 9

5-year Treasury bonds yield 4.4%.The inflation premium (IP) is 1.9%,and the maturity risk premium (MRP) on 5-year T-bonds is 0.4%.There is no liquidity premium on these bonds.What is the real risk-free rate,r*?

Accepted Answer

A)   2.10%
B)   2.39%
C)   2.21%
D)   2.58%
E)   1.91%F) B) and D)
G) C) and D) A

Question 10

Which of the following statements is CORRECT?

Accepted Answer

A)   The higher the maturity risk premium,the higher the probability that the yield curve will be inverted.
B)   The most likely explanation for an inverted yield curve is that investors expect inflation to increase.
C)   The most likely explanation for an inverted yield curve is that investors expect inflation to decrease.
D)   If the yield curve is inverted,short-term bonds have lower yields than long-term bonds.
E)   Inverted yield curves can exist for Treasury bonds,but because of default premiums,the corporate yield curve can never be inverted.F) B) and D)
G) C) and E)

Question 11

Because the maturity risk premium is normally positive,the yield curve must have an upward slope.If you measure the yield curve and find a downward slope,you must have done something wrong.

Accepted Answer

A) True 
 B)False

Question 12

Suppose 1-year T-bills currently yield 7.00% and the future inflation rate is expected to be constant at 2.00% per year.What is the real risk-free rate of return,r*? The cross-product term should be considered ,i.e. ,if averaging is required,use the geometric average.(Round your final answer to 2 decimal places. )

Accepted Answer

A)   4.51%
B)   4.85%
C)   4.90%
D)   3.87%
E)   3.77%F) D) and E)
G) B) and D) C

Question 13

The four most fundamental factors that affect the cost of money are (1)production opportunities, (2)time preferences for consumption, (3)risk,and (4)the skill level of the economy's labor force.

Accepted Answer

A) True 
 B)False

Question 14

The risk that interest rates will decline,and that decline will lead to a decline in the income provided by a bond portfolio as interest and maturity payments are reinvested,is called "reinvestment rate risk."

Accepted Answer

A) True 
 B)False

Question 15

Which of the following factors would be most likely to lead to an increase in nominal interest rates?

Accepted Answer

A)   Households reduce their consumption and increase their savings.
B)   A new technology like the Internet has just been introduced,and it increases investment opportunities.
C)   There is a decrease in expected inflation.
D)   The economy falls into a recession.
E)   The Federal Reserve decides to try to stimulate the economy.F) B) and E)
G) A) and B) B

Question 16

Short Corp just issued bonds that will mature in 10 years,and Long Corp issued bonds that will mature in 20 years.Both bonds promise to pay a semiannual coupon,they are not callable or corvertible,and they are equally liquid.Further assume that the Treasury yield curve is based only on the pure expectations theory.Under these conditions,which of the following statements is CORRECT?

Accepted Answer

A)   If the yield curve for Treasury securities is flat,Short's bond must under all conditions have the same yield as Long's bonds.
B)   If the yield curve for Treasury securities is upward sloping,Long's bonds must under all conditions have a higher yield than Short's bonds.
C)   If Long's and Short's bonds have the same default risk,their yields must under all conditions be equal.
D)   If the Treasury yield curve is upward sloping and Short has less default risk than Long,then Short's bonds must under all conditions have a lower yield than Long's bonds.
E)   If the Treasury yield curve is downward sloping,Long's bonds must under all conditions have the lower yield.F) A) and D)
G) B) and C)

Question 17

If the Treasury yield curve were downward sloping,the yield to maturity on a 10-year Treasury coupon bond would be higher than that on a 1-year T-bill.

Accepted Answer

A) True 
 B)False

Question 18

​Suppose the real risk-free rate is 3.25%,the average future inflation rate is 4.35%,and a maturity risk premium of 0.07% per year to maturity applies to both corporate and T-bonds,i.e. ,MRP = 0.07%(t) ,where t is the number of years to maturity.Suppose also that a liquidity premium of 0.50% and a default risk premium of 2.50% apply to A-rated corporate bonds but not to T-bonds.How much higher would the rate of return be on a 10-year A-rated corporate bond than on a 5-year Treasury bond? Here we assume that the pure expectations theory is NOT valid.Disregard cross-product terms,i.e. ,if averaging is required,use the arithmetic average.

Accepted Answer

A)   ​1.90
B)   ​3.05
C)   ​2.50
D)   ​2.60
E)   2.15​F) A) and C)
G) A) and B)

Question 19

Assume that the current corporate bond yield curve is upward sloping,or normal.Under this condition,we could be sure that

Accepted Answer

A)   Long-term interest rates are more volatile than short-term rates.
B)   Inflation is expected to decline in the future.
C)   The economy is not in a recession.
D)   Long-term bonds are a better buy than short-term bonds.
E)   Maturity risk premiums could help to explain the yield curve's upward slope.F) B) and C)
G) C) and E)

Question 20

The real risk-free rate is 3.05%,inflation is expected to be 3.60% this year,and the maturity risk premium is zero.Ignoring any cross-product terms,i.e. ,if averaging is required,use the arithmetic average,what is the equilibrium rate of return on a 1-year Treasury bond?

Accepted Answer

A)   8.18%
B)   6.65%
C)   5.72%
D)   5.32%
E)   5.52%F) None of the above
G) C) and D)

Exam 6: Interest Rates

Correct Answer
verified

Which of the following statements is CORRECT?

Correct Answer
verified

One of the four most fundamental factors that affect the cost of money as discussed in the text is the time preference for consumption.The higher the time preference,the lower the cost of money,other things held constant.

Correct Answer
verified

Which of the following would be most likely to lead to a higher level of interest rates in the economy?

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Inflation is expected to increase steadily over the next 10 years,there is a positive maturity risk premium on both Treasury and corporate bonds,and the real risk-free rate of interest is expected to remain constant.Which of the following statements is CORRECT?

Correct Answer
verified

Correct Answer
verified

5-year Treasury bonds yield 4.4%.The inflation premium (IP) is 1.9%,and the maturity risk premium (MRP) on 5-year T-bonds is 0.4%.There is no liquidity premium on these bonds.What is the real risk-free rate,r*?

Correct Answer
verified
A

Which of the following statements is CORRECT?

Correct Answer
verified

Because the maturity risk premium is normally positive,the yield curve must have an upward slope.If you measure the yield curve and find a downward slope,you must have done something wrong.

Correct Answer
verified

Correct Answer
verified
C

The four most fundamental factors that affect the cost of money are (1)production opportunities, (2)time preferences for consumption, (3)risk,and (4)the skill level of the economy's labor force.

Correct Answer
verified

The risk that interest rates will decline,and that decline will lead to a decline in the income provided by a bond portfolio as interest and maturity payments are reinvested,is called "reinvestment rate risk."

Correct Answer
verified

Which of the following factors would be most likely to lead to an increase in nominal interest rates?

Correct Answer
verified
B

Correct Answer
verified

If the Treasury yield curve were downward sloping,the yield to maturity on a 10-year Treasury coupon bond would be higher than that on a 1-year T-bill.

Correct Answer
verified

Correct Answer
verified

Assume that the current corporate bond yield curve is upward sloping,or normal.Under this condition,we could be sure that

Correct Answer
verified

The real risk-free rate is 3.05%,inflation is expected to be 3.60% this year,and the maturity risk premium is zero.Ignoring any cross-product terms,i.e. ,if averaging is required,use the arithmetic average,what is the equilibrium rate of return on a 1-year Treasury bond?

Correct Answer
verified

Exam 6: Interest Rates

Correct AnswerverifiedShow Answer

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

One of the four most fundamental factors that affect the cost of money as discussed in the text is the time preference for consumption.The higher the time preference,the lower the cost of money,other things held constant.

Correct AnswerverifiedShow Answer

Which of the following would be most likely to lead to a higher level of interest rates in the economy?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Inflation is expected to increase steadily over the next 10 years,there is a positive maturity risk premium on both Treasury and corporate bonds,and the real risk-free rate of interest is expected to remain constant.Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

5-year Treasury bonds yield 4.4%.The inflation premium (IP) is 1.9%,and the maturity risk premium (MRP) on 5-year T-bonds is 0.4%.There is no liquidity premium on these bonds.What is the real risk-free rate,r*?

Correct AnswerverifiedA

Which of the following statements is CORRECT?

Correct AnswerverifiedShow Answer

Because the maturity risk premium is normally positive,the yield curve must have an upward slope.If you measure the yield curve and find a downward slope,you must have done something wrong.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedC

The four most fundamental factors that affect the cost of money are (1)production opportunities, (2)time preferences for consumption, (3)risk,and (4)the skill level of the economy's labor force.

Correct AnswerverifiedShow Answer

The risk that interest rates will decline,and that decline will lead to a decline in the income provided by a bond portfolio as interest and maturity payments are reinvested,is called "reinvestment rate risk."

Correct AnswerverifiedShow Answer

Which of the following factors would be most likely to lead to an increase in nominal interest rates?

Correct AnswerverifiedB

Correct AnswerverifiedShow Answer

If the Treasury yield curve were downward sloping,the yield to maturity on a 10-year Treasury coupon bond would be higher than that on a 1-year T-bill.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Assume that the current corporate bond yield curve is upward sloping,or normal.Under this condition,we could be sure that

Correct AnswerverifiedShow Answer

The real risk-free rate is 3.05%,inflation is expected to be 3.60% this year,and the maturity risk premium is zero.Ignoring any cross-product terms,i.e. ,if averaging is required,use the arithmetic average,what is the equilibrium rate of return on a 1-year Treasury bond?

Correct AnswerverifiedShow Answer

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified
A

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified
C

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified
B

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified

Correct Answer
verified