Question

The pure expectations theory, or the expectations hypothesis, asserts that long-term interest rates can be used to estimate future short-term interest rates. Based on the pure expectations theory, is the following statement true or false? The pure expectations theory assumes that a one-year bond purchased today will have the same return as a one-year bond purchased five years from now. False True The yield on a one-year Treasury security is 5.3800%, and the two-year Treasury security has a 8.0700% yield. Assuming that the pure expectations theory is correct, what is the market's estimate of the one-year Treasury rate one year from now? 9.2055% 12.3462% 13.7541% 10.8300%

Answer 1

Given statement is True. One-year Treasury rate one year from now 10.83% =((1+8.07%)^2/(1+5.38%))-1 One-year Treasury rate one year from now 10.52% =((1+8.07%-0.15%)^2/(1+5.38%))-1 Three-year Treasury rate two years from now 6.45% =((1+6.2%)^5/(1+5.83%)^2)^(1/3)-1

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