Chapter 6
the economy is coming out of a recession
A Flat yield curve generally occurs when ______
are the same as short-term rates
A Flat yield curve means that long-term rates are ______
risk free
A Treasury instrument (Treasury bill, Treasury note, or Treasury bond) is considered to be ______ in that the federal government has the ability to service its debt at any market-determined interest rate or, failing that, the power to coin the currency (i.e., print money).
decrease increase
A _______ in the tax rate causes an ______ in the interest rate on tax-exempt bonds (municipals), which can be considered an increase in the risk premium on municipals.
increase raise
A bond with default risk will always have a positive risk premium, and an ______ in its default risk will _____ the risk premium
An increase
A decrease in the tax rate causes ____ in the interest rate on tax exempt bonds, such as municipal bonds.
increase
A decrease in the tax rate causes an increase in the interest rate on tax-exempt bonds (municipals), which can be considered an _____ in the risk premium on municipals.
rise in the near term and fall later on
A mound shaped yield curve indicates that short term interest rates are expected to _______
rise moderately in the near term and fall later on
A mound shaped yield curve indicates that the inflation rate is expected to ________
will rise in the future
An Upward-sloping yield curve means that interest rates _______
above short term rates
An Upward-sloping yield curve means that long-term rates are.....
left
An increase in default risk shifts the demand curve for corporate bonds to the _____
right
An increase in default risk shifts the demand curve for treasury bonds to the _____
will be low and continue to fall
An inverted yield curve mean that interest rates ________
below short-term rates end up in a recession,
An inverted yield curve means that long-term rates are ________. The economy will ________
more risky higher interest rate
Bonds that are _____ are less attractive, the seller has to offer incentives to make you buy them, normally the incentive would be the bond having a _____
positive
Bonds with default risk have a ______ risk premium.
time remaining to maturity
Bonds with identical risk, liquidity, and tax characteristics may have different interest rates because the ______ is different
higher
Bonds with longer yield to maturity have____ interest rates
" Default risk " Liquidity " Tax considerations
Bonds with the same maturity have different interest rates due to:
Interest rates spread
Concerning long term bond yields for Municipal, US government long term bonds, corporate Baa, and corporate Aaa bonds: " The _____ move together but they differ from one another slightly: so the _____ varies over time
unable or unwilling to make interest payments or pay off the face value
Default risk is the probability that the issuer of the bond is _________
falls left
If corporate bonds become less liquid, demand for corporate bonds ______, the Demand curve shifts to the ______, meaning price falls and interest rates increase
falls increase
If corporate bonds become less liquid, demand for corporate bonds falls, the Demand curve shifts to the left, meaning price _____ and interest rates _____
Increase
If the income tax exemption on municipal bonds were abolished, the interest rates on these bonds would _________
You would raise your predictions of future interest rates
If the yield curve suddenly becomes steeper, how would you revise your predictions of interest rates in the future?
less interest rate risk
In The SEGMENTED MARKETS THEORY If investors (more specifically, risk averse investors) generally prefer bonds with shorter maturities that have _______ then this explains why yield curves usually slope upward (fact 3).
opposite directions
In response to an increase in default risk on corporate bonds, The change in prices leads to a change in interest rates, they move in _______
lowers raises
In response to an increase in default risk on corporate bonds, the price of treasury bonds rise and the price of corporate bonds decrease. This _____ the interest rate on treasury bonds and _____ the interest rates on corporate bonds.
EXPECTATIONS THEORY
In the _______ the interest rate on a long-term bond will equal an average of the short-term interest rates that people expect to occur over the life of the long-term bond.
municipal bonds
Interest payments on _____ are exempt from federal income taxes.
together over time
Interest rates on bonds with different maturities move ________
an average of short-term interest rates expected to occur over the life of the long-term bond plus
Liquidity Premium Theory says that the interest rate on a long-term bond will equal ________ plus a liquidity premium that responds to supply and demand conditions for that bond.
liquidity premium that responds to supply and demand conditions for that bond.
Liquidity Premium Theory says that the interest rate on a long-term bond will equal an average of short-term interest rates expected to occur over the life of the long-term bond plus a ___________
partial (not perfect) substitutes.
Liquidity Premium Theory states that Bonds of different maturities are _________
not default free
Municipal bonds are _______: local governments have and do default on them unlike treasury bonds
tax exempt interest payments right. left
Municipal bonds are not as liquid as treasury bills but they also have lower rates than T-bonds, why? Municipal bonds have ______, making them more attractive to buyers. This leads to an increase in demand and the demand curve shifts _____ Relatively, demand curve for US treasury bonds shifts _____
lower
Municipal bonds have _____ interest rates than US Treasury bills.
expected inflation
Nominal rates and _______ move together
yield curves usually slope upward (fact 3)
The Expectations theory cannot explain why _________
move together over time (fact 1)
The Expectations theory explains why interest rates on bonds with different maturities _______
different times.
The Expectations theory explains why the term structure of interest rates change at ________
low high
The Expectations theory explains why yield curves tend to slope up when short-term rates are _____ and slope down when short-term rates are ______ (fact 2).
bonds with different maturities to be perfect substitutes
The Key assumption of the EXPECTATIONS THEORY is that Bond holders consider __________
interest rates
The RISK STRUCTURE OF INTEREST RATES is why different bonds with the same maturity have different ________
substitutes at all
The SEGMENTED MARKETS THEORY says that bonds of different maturities are not _______, there are segmented markets.
Risk premium
The ______ is the spread between the interest rates on bonds default risk and the interest rates on (same maturity) default free bonds Ex: Treasury bonds
Term Structure of Interest Rates
The _______ Is the relationship among interest rates on bonds with different terms to maturity There is no difference in liquidity, interest rates, etc.
Liquidity Premium Theory
The _________ combines the first two theories to explain all the facts.
SEGMENTED MARKETS THEORY
The _________ says that Investors have preferences for bonds with a specific holding period in mind. They have a specific demand for a specific type of bond
additional interest people must earn
The risk premium Indicates how much _______ to be willing to hold a more risky bond
default risk liquidity.
The spread between interest rates on corporate bonds and Treasury bonds reflect not only the _____ of a corporate bond but also ______
the risk premium
The spread between the corporate bonds and default free bonds = _________
Term premium
The spread between the interest rate on a one-year U.S. Treasury bond and a 20-year U.S. Treasury bond is known as the ____
difference between 2 interest rates
The spread is the ___________
term structure of interest rates for particular types of bonds
The yield curve describes the ________
higher
The yield from Municipal bonds are not subject to federal taxation. Therefore, their effective returns are ____ than that of Treasury bonds.
default free
U.S. Treasury bonds are considered ______ (Government can raise taxes)
Decrease
What will happen to interest rates on a corporation's bonds if the federal government guarantees today that it will pay creditors if the corporation goes bankrupt in the future? Interest rates on corporate bonds will _______
raises lowers
When an increase in default risk shifts the demand curve for corporate bonds to the left and shifts the demand curve for treasury bonds to the right, this ______ the price of treasury bonds and _____ the price of corporate bonds.
downward slope inverted.
When short term interest rates are high, yield curves are more likely to have a ______ and be _____
upward slope.
When short term interest rates are low, yield curves are more likely to have an _________
differing terms to maturity
Yield curve is a plot of the yield on bonds with ______ but the same risk, liquidity and tax considerations
upwards
Yield curves almost always slope _____
Corporate bonds
______ are not as widely traded as U.S. Government bonds, so they are not as liquid.
US Government Bonds
_______ are the most risk free bond
Corporate Aaa bonds
________ are the best corporate bonds
U.S. Government bonds
________ are the most liquid of all long-term bonds since they are the most widely traded, the cost of selling is low