Question: The four most fundamental factors that affect the cost of money are (1) production opportunities, (2) time preferences for consumption, (3) risk, and (4) weather conditions.
Answer Choices:
a. True
b. False
Answer: False
Question: Suppose the U.S. Treasury issued $50 billion of short-term securities and sold them to the public. Other things held constant, what would be the most likely effect on short-term securities’ prices and interest rates?
Answer Choices:
a. Prices and interest rates would both rise.
b. Prices would rise and interest rates would decline.
c. Prices and interest rates would both decline.
d. Prices would decline and interest rates would rise.
e. There is no reason to expect a change in either prices or interest rates.
Answer: d
Question: In the foreseeable future, the real risk-free rate of interest, r*, is expected to remain at 3%, inflation is expected to steadily increase, and the maturity risk premium is expected to be 0.1(t − 1)%, where t is the number of years until the bond matures. Given this information, which of the following statements is CORRECT?
Answer Choices:
a. The yield on 2-year Treasury securities must exceed the yield on 5-year Treasury securities.
b. The yield on 5-year Treasury securities must exceed the yield on 10-year corporate bonds.
c. The yield on 5-year corporate bonds must exceed the yield on 8-year Treasury bonds.
d. The yield curve must be “humped.”
e. The yield curve must be upward sloping.
Answer: e
Question: If the Treasury yield curve is downward sloping, how should the yield to maturity on a 10-year Treasury coupon bond compare to that on a 1-year T-bill?
Answer Choices:
a. The yield on a 10-year bond would be less than that on a 1-year bill.
b. The yield on a 10-year bond would have to be higher than that on a 1-year bill because of the maturity risk premium.
c. It is impossible to tell without knowing the coupon rates of the bonds.
d. The yields on the two securities would be equal.
e. It is impossible to tell without knowing the relative risks of the two securities.
Answer: a
Question: Which of the following statements is CORRECT, other things held constant?
Answer Choices:
a. If companies have fewer good investment opportunities, interest rates are likely to increase.
b. If individuals increase their savings rate, interest rates are likely to increase.
c. If expected inflation increases, interest rates are likely to increase.
d. Interest rates on all debt securities tend to rise during recessions because recessions increase the possibility of bankruptcy, hence the riskiness of all debt securities.
e. Interest rates on long-term bonds are more volatile than rates on short-term debt securities like T-bills.
Answer: c
Question: Which of the following statements is CORRECT?
Answer Choices:
a. The yield on a 2-year corporate bond should always exceed the yield on a 2-year Treasury bond.
b. The yield on a 3-year corporate bond should always exceed the yield on a 2-year corporate bond.
c. The yield on a 3-year Treasury bond should always exceed the yield on a 2-year Treasury bond.
d. If inflation is expected to increase, then the yield on a 2-year bond should exceed that on a 3-year bond.
e. The real risk-free rate should increase if people expect inflation to increase.
Answer: a
Question: Assume that interest rates on 20-year Treasury and corporate bonds are as follows: T-bond = 7.72% AAA = 8.72% A = 9.64% BBB = 10.18% The differences in these rates were probably caused primarily by:
Answer Choices:
a. Tax effects.
b. Default and liquidity risk differences.
c. Maturity risk differences.
d. Inflation differences.
e. Real risk-free rate differences.
Answer: b
Question: Which of the following would be most likely to lead to a higher level of interest rates in the economy?
Answer Choices:
a. Households start saving a larger percentage of their income.
b. Corporations step up their expansion plans and thus increase their demand for capital.
c. The level of inflation begins to decline.
d. The economy moves from a boom to a recession.
e. The Federal Reserve decides to try to stimulate the economy.
Answer: b
Question: The real risk-free rate is expected to remain constant at 3% in the future, a 2% rate of inflation is expected for the next 2 years, after which inflation is expected to increase to 4%, and there is a positive maturity risk premium that increases with years to maturity. Given these conditions, which of the following statements is CORRECT?
Answer Choices:
a. The yield on a 2-year T-bond must exceed that on a 5-year T-bond.
b. The yield on a 5-year Treasury bond must exceed that on a 2-year Treasury bond.
c. The yield on a 7-year Treasury bond must exceed that of a 5-year corporate bond.
d. The conditions in the problem cannot all be true—they are internally inconsistent.
e. The Treasury yield curve under the stated conditions would be humped rather than have a consistent positive or negative slope.
Answer: b
Question: The four most fundamental factors that affect the cost of money are (1) production opportunities, (2) time preferences for consumption, (3) risk, and (4) inflation.
Answer Choices:
a. True
b. False
Answer: True
Question: One of the four most fundamental factors that affect the cost of money as discussed in the text is the risk inherent in a given security. The higher the risk, the higher the security’s required return, other things held constant.
Answer Choices:
a. True
b. False
Answer: True
Question: Assume that the current corporate bond yield curve is upward sloping. Under this condition, then we could be sure that
Answer Choices:
a. Inflation is expected to decline in the future.
b. The economy is not in a recession.
c. Long-term bonds are a better buy than short-term bonds.
d. Maturity risk premiums could help to explain the yield curve’s upward slope.
e. Long-term interest rates are more volatile than short-term rates.
Answer: d
Question: A bond trader observes the following information: The Treasury yield curve is downward sloping. Empirical data indicate that a positive maturity risk premium applies to both Treasury and corporate bonds. Empirical data also indicate that there is no liquidity premium for Treasury securities but that a positive liquidity premium is built into corporate bond yields. On the basis of this information, which of the following statements is most CORRECT?
Answer Choices:
a. A 10-year corporate bond must have a higher yield than a 5-year Treasury bond.
b. A 10-year Treasury bond must have a higher yield than a 10-year corporate bond.
c. A 5-year corporate bond must have a higher yield than a 10-year Treasury bond.
d. The corporate yield curve must be flat.
e. Since the Treasury yield curve is downward sloping, the corporate yield curve must also be downward sloping.
Answer: c
Question: Which of the following statements is CORRECT?
Answer Choices:
a. If the maturity risk premium (MRP) is greater than zero, the Treasury bond yield curve must be upward sloping.
b. If the maturity risk premium (MRP) equals zero, the Treasury bond yield curve must be flat.
c. If inflation is expected to increase in the future and the maturity risk premium (MRP) is greater than zero, the Treasury bond yield curve must be upward sloping.
d. If the expectations theory holds, the Treasury bond yield curve will never be downward sloping.
e. Because long-term bonds are riskier than short-term bonds, yields on long-term Treasury bonds will always be higher than yields on short-term T-bonds.
Answer: c
Question: One of the four most fundamental factors that affect the cost of money as discussed in the text is the time preference for consumption. The higher the time preference, the lower the cost of money, other things held constant.
Answer Choices:
a. True
b. False
Answer: False
Question: Assume the following: The real risk-free rate, r*, is expected to remain constant at 3%. Inflation is expected to be 3% next year and then to be constant at 2% a year thereafter. The maturity risk premium is zero. Given this information, which of the following statements is CORRECT?
Answer Choices:
a. The yield curve for U.S. Treasury securities will be upward sloping.
b. A 5-year corporate bond must have a lower yield than a 5-year Treasury security.
c. A 5-year corporate bond must have a lower yield than a 7-year Treasury security.
d. The real risk-free rate cannot be constant if inflation is not expected to remain constant.
e. This problem assumed a zero maturity risk premium, but that is probably not valid in the real world.
Answer: e
Question: Which of the following statements is CORRECT?
Answer Choices:
a. The yield on a 3-year Treasury bond cannot exceed the yield on a 10-year Treasury bond.
b. The yield on a 2-year corporate bond should always exceed the yield on a 2-year Treasury bond.
c. The yield on a 3-year corporate bond should always exceed the yield on a 2-year corporate bond.
d. The yield on a 10-year AAA-rated corporate bond should always exceed the yield on a 5-year AAA-rated corporate bond.
Answer: b
Question: Which of the following statements is CORRECT?
Answer Choices:
a. If inflation is expected to increase in the future, and if the maturity risk premium (MRP) is greater than zero, then the Treasury yield curve will have an upward slope.
b. If the maturity risk premium (MRP) is greater than zero, then the yield curve must have an upward slope.
c. Because long-term bonds are riskier than short-term bonds, yields on long-term Treasury bonds will always be higher than yields on short-term T-bonds.
d. If the maturity risk premium (MRP) equals zero, the yield curve must be flat.
e. The yield curve can never be downward sloping.
Answer: a