12 . Factors that impact the yield curve

There are three factors that can affect the shape of the Treasury yield curve (r*tr*t, IPtIPt, and MRPtMRPt) and five factors that can affect the shape of the corporate yield curve (r*tr*t, IPtIPt, MRPtMRPt, DRPtDRPt, and LPtLPt). The yield curve reflects the aggregation of the impacts from these factors.

Suppose the real risk-free rate and inflation rate are expected to remain at their current levels throughout the foreseeable future. Consider all factors that affect the yield curve. Then identify which of the following shapes that the U.S. Treasury yield curve can take. Check all that apply.

A. Downward-sloping yield curve

B. Inverted yield curve

C. Upward-sloping yield curve

Identify whether each of the following statements is true or false.

Statements	True	False
All else equal, the yield on new bonds issued by a leveraged firm will be less than the yield on the new bonds issued by an unleveraged firm.
The yield curve for a BBB-rated corporate bond is expected to be above the U.S. Treasury bond yield curve.
If inflation is expected to decrease in the future and the real rate is expected to remain steady, then the Treasury yield curve is downward sloping. (Assume MRP = 0.)
Yield curves of highly liquid assets will be lower than yield curves of relatively illiquid assets.

A U.S. Treasury yield curve is plotted in the following graph:

Based on an upward-sloping normal yield curve as shown, which of the following statements is correct?

A. There is a positive maturity risk premium.

B. Inflation must be expected to increase in the future.

C. Pure expectations theory must be correct.

D. If the pure expectations theory is correct, future short-term rates are expected to be higher than current short-term rates.