Assume that yields on U.S. Treasury securities were as follows: TERM RATE 6 months 1 year 4.87% 5.46 5.62 5.75 2 years 3 years 4 years 5 years 5.86 6.04 6.18 10 years 20 years 30 years 6.46 6.72 a. Select a correct yield curve based on these data. Interest Rate (%) 8 7 1 10 15 20 25 Years to Maturity B Interest Rate 3 1 5 -11 10 15 20 25 Years to Maturity Interest Rate (%) 5 -1 10 15 20 25 Years to Maturity D Interest Rate (%) 3 2 1 5 -1 10 15 20 25 Years to Maturity The correct sketch is -Select- :................. b. What type of yield curve is shown? -Select- c. What information does this graph tell you? Select- d. Based on this yield curve, you needed to borrow money for longer than 1 year, would it make sense for you to borrow short term and renew the loan or borrow long term? Explain. I. Even though the borrower reinvests in increasing short-term rates, those rates are still below the long-term rate, but what makes the higher long- term rate attractive the rollover risk that may possibly occur if the short-term rates go even higher than the long-term rate (and that could be for a long time!). II. Generally, it would make sense to borrow short-term because each year the loan is renewed the interest rate would be higher. III. Generally, it would make sense to borrow short-term because each year the loan is renewed the interest rate would be lower. IV. Generally, it would make sense to borrow long-term because each year the loan is renewed the interest rate would be lower. 5 20 -1 10 15 25 Years to Maturity The correct sketch is -Select- C b. What type of yield curve is shown? -Select- C. What information does this graph tell you? -Select- d. Based on this yield curve, if you needed to borrow money for longer than 1 year, would it make sense for you to borrow short term and renew the loan or borrow long term? Explain. I. Even though the borrower reinvests in increasing short-term rates, those rates are still below the long-term rate, but what makes the higher long- term rate attractive is the rollover risk that may possibly occur if the short-term rates go even higher than the long-term rate (and that could be for a long time!). II. Generally, it would make sense to borrow short-term because each year the loan is renewed the interest rate would be higher. III. Generally, it would make sense to borrow short-term because each year the loan is renewed the interest rate would be lower. IV. Generally, it would make sense to borrow long-term because each year the loan is renewed the interest rate would be lower. V. Differences in yields that may exist between the short-term and long-term cannot be explained by the forces of supply and demand in each market. -Select
