& Aasume that the expectations theory holds, and that liquidity and maturity risk premiums are zero. If the 2-year Treasury bond rate is 10.5% and the 1-year Treasury bond rate is 12% , what does the market expect the 1-year Treasury bond rate one year from now will be? The real risk-free rate is 3 % Inflation is expected to be 4 % this coming year, jump to 5% next year, and increase to 6% the year after. What should be the interest rate on 3-year, risk-free securities today? 9. 18% a b. 12% 6% 8% 10% 10. If the Treasury yield curve is downward sloping, how would the yield to maturity on a 10-year Treasury coupon bond compare to that on a 1-year T-bill? Why do you think so? Explain briefly. 11. Suppose a company wants to finance a project with an up-front cost of $80. Bondholders will provide $25 of debt financing and shareholders will purchase $55 worth of equity. Project's payoffs depend on the state of the economy: there is 60 % probability that markets will be strong (payoff will be $100) and 40% probability that they will be weak (payoff will be $70) next year. Find the payoff to bondholders if debt has a 4% interest rate and matures in one year. a. Find the payoff to shareholders in one year. b. 4 4 4