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Using the expectations hypothesis theory for the term structure of interest rates, determine the expected return for securiti


Using the expectations hypothesis theory for the term structure of interest rates, determine the expected return for securiti
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Answer #1

Given,

1 year rate at beginning of year 1, f(0,1) = 6%

1 year rate at beginning of year 2, F(0,1,2) = 7%

1 year rate at beginning of year 3, F(0,2,3) = 10%

1 year rate at beginning of year 4, F(0,3,4) = 11%

to calculate, f(0,2) = ((1+f(0,1))*(1+F(0,1,2)))^(1/2) - 1 = (1.06*1.07)^0.5 - 1 = 6.5%

F(0,3) = (((1+f(0,2))^2)*(1+F(0,2,3)))^(1/3) - 1 = ((1.065^2)*1.1)^(1/3) - 1 = 7.65%

F(0,4) = (((1+f(0,3))^3)*(1+F(0,3,4)))^(1/4) - 1 = ((1.0765^3)*1.11)^(1/4) - 1 = 8.48%

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