Question

Suppose we observe the following rates: 181- 4.9%, 182 - 6.3%. If the unbiased expectations theory of the term structure of interest rates holds, what is the one-year interest rate expected one year from now, E(2r1)? (Do not round intermediate calculations. Round your answer to 2 decimal places. (e.g., 32.16)) Expected one-year interest rate

Answer 1

Based on unbiased expectations theory,

(1 + 2 Yr Rate)² = (1 + 1 Yr Rate) * (1 + 1 Yr Rate 1 Yr from now)

(1 + 6.3%)² = (1 + 4.9%) * (1 + 1 Yr Rate 1 Yr from now)

1.129969 = 1.049 * (1 + 1 Yr Rate 1 Yr from now)

(1 + 1 Yr Rate 1 Yr from now) = 1.0772

1 Yr Rate 1 Yr from now = 0.0772

1 Yr Rate 1 Yr from now = 7.72%