The pure expectations theory, or the expectations hypothesis, asserts that long-term interest rates can be used to estimate future short-term interest rates.

Based on the pure expectations theory, is the following statement true or false?

a. A certificate of deposit (CD) for two years will have the same yield as a CD for one year followed by an investment in another one-year CD after one year.

True

False

b. The yield on a one-year Treasury security is 5.8400%, and the two-year Treasury security has a 7.8840% yield. Assuming that the pure expectations theory is correct, what is the markets estimate of the one-year Treasury rate one year from now? (Note: Do not round your intermediate calculations.)

9.9675%

8.4724%

11.3629%

12.6587%

c. Recall that on a one-year Treasury security the yield is 5.8400% and 7.8840% on a two-year Treasury security. Suppose the one-year security does not have a maturity risk premium, but the two-year security does and it is 0.25%. What is the markets estimate of the one-year Treasury rate one year from now? (Note: Do not round your intermediate calculations.)

10.7826%

8.0396%

12.0122%

9.4584%

d. Suppose the yield on a two-year Treasury security is 5.83%, and the yield on a five-year Treasury security is 6.20%. Assuming that the pure expectations theory is correct, what is the markets estimate of the three-year Treasury rate two years from now? (Note: Do not round your intermediate calculations.)

5.46%

6.45%

6.61%

6.69%