Question

E6-2 The yields for Treasuries with differing maturities on a recent day were as shown in the table below. Maturity 3 months 6 months 2 years 3 years 5 years 10 years 30 years Yield 1.41% 1.71 2.68 3.01 3.70 4.51 5.25

Answer 1

A. The yield curve is given below.

b. We know that

Yield 6.00% 5.00% 4.00% 3.00% 2.00% 1.00% 0.00% 0.25 0.5 2 3 5 10 30

yield rate at t=e^rt

At 5 year, the yield rate is 3.7%. t is 5. Putting this in the formula, we get

3.7%=e^5r

Solving for r using e^x table, we get 5r=1.3%.

c. The compounding has to be ignored, so the rate would be same as 2 year maturity, which is 2.68%.

d. yes it is possible because there are 2 factors which contribute in the upward slope of a yield curve- actual increase in the rates and the compounding effect. The upward slope might entirely be due to compounding of the yield and not an actual rise in the interest rate.