Question

The three basic theories of the yield curve shape are still theories. What indicates that they are still theories?

Answer 1

Ans, I would like to explain the three theories of the yield curve shape in the following:

1.1. Pure Expectation theory: This theory depicts that yield curve is a outcome of expectations of short-term returns. The markets are expected to increase short term yield as per rising structure of rates.

1.2.Liquidity preferences theory: This theory depicts that Investers prefer high liquidity of the short term loans which is resulted from normal yield curve.

1.3.Market Segmentations theory:This theory depicts that yield curve is able to take any shape from decreasing to increasing or vice versa. The return on investments should be based on future predictions of curve not on markets sentiments.

Conclusion: these three theories explain the future yields of interest rates and helps us to understand that how yield curve changes on different occasions.