# FINANCE

2. **Liquidity Premium Hypothesis** Based on economists’ forecasts and analysis, one-year Treasury bill rates and liquidity premiums for the next four years are expected to be as follows:

Using the liquidity premium hypothesis, what is the current rate on a four-year Treasury security?

A. 7.736%

B. 7.600%

C. 7.738%

D. 8.400%

33. **Interest rates** *The Wall Street Journal* reports that the rate on 3-year Treasury securities is 7.00 percent, and the 6-year Treasury rate is 7.25 percent. From discussions with your broker, you have determined that expected inflation premium is 1.75 percent next year, 2.25 percent in Year 2, and 2.40 percent in Year 3 and beyond. Further, you expect that real interest rates will be 3.75 percent annually for the foreseeable future. What is the maturity risk premium on the 6-year Treasury security?

A. 0.83%

B. 0.983%

C. 1.10%

D. 1.233%

34. **Interest rates** A corporation’s 10-year bonds are currently yielding a return of 7.75 percent. The expected inflation premium is 3.0 percent annually and the real interest rate is expected to be 3.00 percent annually over the next 10 years. The liquidity risk premium on the corporation’s bonds is 0.50 percent. The maturity risk premium is 0.25 percent on 2-year securities and increases by 0.10 percent for each additional year to maturity. What is the default risk premium on the corporation’s 10-year bonds?

A. 0.18%

B. 0.20%

C. 0.22%

D. 0.27%

35. **Unbiased Expectations Theory** Suppose we observe the following rates: _{1}*R*_{1} = 6%, _{1}*R*_{2} = 7.5%. 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*(_{2}*r*_{1})?

A. 6.75%

B. 7.50%

C. 9.02%

D. 13.5%

36. **Unbiased Expectations Theory** *The Wall Street Journal* reports that the rate on 4-year Treasury securities is 4.75 percent and the rate on 5-year Treasury securities is 5.95 percent. According to the unbiased expectations hypotheses, what does the market expect the 1-year Treasury rate to be four years from today, *E*(_{5}*r*_{1})?

A. 1.11%

B. 5.95%

C. 10.70%

D. 10.89%

37. **Liquidity Premium Hypothesis** *The Wall Street Journal* reports that the rate on 3-year Treasury securities is 4.75 percent and the rate on 4-year Treasury securities is 5.00 percent. The one-year interest rate expected in three years is *E*(_{4}*r*_{1}), 5.25 percent. According to the liquidity premium hypotheses, what is the liquidity premium on the 4-year Treasury security, *L*_{4}?

A. 0.0375%

B. 0.504%

C. 5.01%

D. 5.04%

38. **Liquidity Premium Hypothesis** Suppose we observe the following rates: _{1}*R*_{1} = 8%, _{1}*R*_{2} = 10%, and *E*(_{2}*r*_{1}) = 8%. If the liquidity premium theory of the term structure of interest rates holds, what is the liquidity premium for year 2, *L*_{2}?

A. 1.02%

B. 4.04%

C. 6.15%

D. 12.03%

39. **Forecasting Interest Rates** You note the following yield curve in *The Wall Street Journal.* According to the unbiased expectations hypothesis, what is the one-year forward rate for the period beginning one year from today, _{2}*f*_{1}?

A. 1.01%

B. 1.19%

C. 5.625%

D. 7.51%

40. **Forecasting Interest Rates** On May 23, 20XX, the existing or current (spot) one-year, two-year, three-year, and four-year zero-coupon Treasury security rates were as follows:

_{
}_{}

Using the unbiased expectations theory, what is the one-year forward rate on zero-coupon Treasury bonds for year four as of May 23, 20XX?_{
A. 5.925%
}_{B. 6.45%
}_{C. 7.05%
}_{D. 10.32%}

41. **Interest rates** *The Wall Street Journal* reports that the current rate on 10-year Treasury bonds is 6.75 percent, on 20-year Treasury bonds is 7.25 percent, and on a 20-year corporate bond is 8.50 percent. Assume that the maturity risk premium is zero. If the default risk premium and liquidity risk premium on a 10-year corporate bond is the same as that on the 20-year corporate bond, what is the current rate on a 10-year corporate bond.

A. 7.50%

B. 8.00%

C. 8.50%

D. 8.75%

42. **Interest rates** *The Wall Street Journal* reports that the current rate on 5-year Treasury bonds is 6.50 percent and on 10-year Treasury bonds is 6.75 percent. Assume that the maturity risk premium is zero. Calculate the expected rate on a 5-year Treasury bond purchased five years from today, E(_{5}*r*_{1)}.

A. 6.625%

B. 6.75%

C. 7.00%

D. 7.58%

43. **Unbiased Expectations Theory** Suppose we observe the three-year Treasury security rate (_{1}*R*_{3}) to be 6 percent, the expected one-year rate next year *E*(_{2}*r*_{1}) to be 3 percent, and the expected one-year rate the following year *E*(_{3}*r*_{1}) to be 5 percent. If the unbiased expectations theory of the term structure of interest rates holds, what is the one-year Treasury security rate, _{1}*R*_{1}?

A. 3.00%

B. 10.13%

C. 14.00%

D. 19.88%

44. **Unbiased Expectations Theory** *The Wall Street Journal* reports that the rate on 3-year Treasury securities is 6.25 percent and the rate on 5-year Treasury securities is 6.45 percent. According to the unbiased expectations hypotheses, what does the market expect the 2-year Treasury rate to be three years from today, *E*(_{4}r_{2})?

A. 6.35%

B. 6.75%

C. 7.25%

D. 7.45%

45. **Forecasting Interest Rates** Assume the current interest rate on a one-year Treasury bond (_{1}*R*_{1}) is 5.00 percent, the current rate on a two-year Treasury bond (_{1}*R*_{2}) is 5.75 percent, and the current rate on a three-year Treasury bond (_{1}*R*_{3}) is 6.25 percent. If the unbiased expectations theory of the term structure of interest rates is correct, what is the one-year interest rate expected on Treasury bills during year 3, _{3}*f*_{1}?

A. 5.00%

B. 5.67%

C. 7.26%

D. 8.00%