Question
Judge the following statements in the context of the Vasicek model for the term structure. For each part below, indicate if the statement is true,
Judge the following statements in the context of the Vasicek model for the term structure. For each part below, indicate if the statement is true, false, or uncertain. Justify your answer by providing a brief explanation. (A few sentences should be sufficient.) Your explanation not your selection of true, false, or uncertain is the important aspect of your solution.
Part a. The local expectations hypothesis implies that the term structure of continuously compounded zero-coupon bond rates makes uniform shifts.
Part b. The change (in absolute value) in long-term rates is always less than or equal to the change (in absolute value) in short-term rates.
Part c. Under the Local Expectations Hypothesis, the term structure of continuously compounded zero-coupon bond rates is flat.
Part d. If the short-term rate is below rL, then interest rates are expected to increase.
Part e. If the yield curve is upward-sloping, then the expected returns on long-term bonds are higher than the expected returns on short-term bonds.
Part f. Consider a financial institution which borrows money by issuing short-term bonds and invests the money raised by buying long-term bonds. If the term structure is upward sloping, the institution should not anticipate more profit relative to the case where the term structure is downward sloping.
Part g. As the speed of mean reversion decreases, the more a change in the short-term rate will affect the long-term rate.
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