EIFM Seminar 4 – week commencing Nov 1st 2021

Question 1: “According to the expectations theory of the term structure, it is better to invest in one-year bonds, reinvested over two years, than to invest in a two-year bond if interest rates on one-year bonds are expected to be the same in both years.” Is this statement true, false, or uncertain?

Question 2: If bond investors decide that 30-year bonds are no longer as desirable an investment as they were previously, predict what will happen to the yield curve, assuming (a) the expectations theory of the term structure holds; and (b) the segmented markets theory of the term structure holds.

Question 3: Suppose the interest rates on one-, five-, and ten-year U.S. Treasury bonds are currently 3%, 6%, and 6%, respectively. Investor A chooses to hold only one-year bonds and Investor B is indifferent with regard to holding five- and ten-year bonds. How can you explain the behavior of Investors A and B?

Question 4: Read the first two pages of the article “Signals from Unconventional Monetary Policy” by Michael Bauer and Glenn Rudebusch and answer the questions below

Why did the Fed start LSAPs? What securities did the Fed buy in the first two phases of the LSAPs and in what quantity?

What is the estimated impact of LSAPs on long-term interest rates? Give an example.

What are the two components of long-term interest rates?

What does the portfolio balance channel assume for investors’ preference? Which component of long-term interest rates is the portfolio balance channel supposed to affect? How is LSAPs supposed to affect long-term interest rates through portfolio balance channel?

What does the signalling channel assume for investors’ preference? Which component of long-term interest rates is the signalling channel supposed to affect? How is LSAPs supposed to affect long-term interest rates through signalling channel?