In 2016, when the interest rate on 10-year German government bonds became negative, an article in...
In 2016, when the interest rate on 10-year German government bonds became negative, an article in the Wall Street Journal noted that the interest rate on 10-year bonds depended in part on investors' expectations of future short-term interest rates. The article also noted that
open double quote“investors
don't seem to have changed their perception of ... [short-term] interest rates in the future
....close double quote”
Source: Jon Sindreu,
open double quote“Are
German Bonds Riding a
Bubble?close double quote”
Wall Street
Journal,
June 14, 2016.
Which of the following theories best explains the scenario described?
A.
The Inverted Outlook Theory.
B.
The Liquidity Premium Theory.
C.
The Segmented Markets Theory.
D.
The Expectations Theory.
Homework Answers
The expectations theory best explains the above-described scenario.
The Expectation theory attempts to predict what short-term interest rates will be in the future based on current long-term interest rates. The theory suggests that an investor earns the same amount of interest by investing in two consecutive one-year bond investments versus investing in one two-year bond today.
Here also, the interest rate on 10-year bonds depended in part on investor's expectations of future short-term interest rates.
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