In: Finance
Consider the following $1,000 par value zero-coupon
bonds:
Bond | Years until Maturity |
Yield to Maturity | |
A | 1 | 7.25 | % |
B | 2 | 8.25 | |
C | 3 | 8.75 | |
D | 4 | 9.25 | |
a. According to the expectations hypothesis, what
is the market’s expectation of the one-year interest rate three
years from now? (Do not round intermediate
calculations. Round your answer to 2
decimal places.)
b. What are the expected values of next year’s
yields on bonds with maturities of (a) 1 year; (b) 2 years; (c) 3
years? (Do not round intermediate calculations. Round your
answer to 2 decimal places.)
Part (a):
YTM on Zero coupon bonds represents Spot rates.
One year interest rate 3 years from now is the forward rate for 1 year, after 3 years( F3,4).
F3,4= 10.76% as follows:
Part (b):
Next year yield on zero coupon bond is the YTM of the corresponding maturity.
Hence, from the given data,
Next year yield of 1 year maturity= 7.25%
Next year yield of 2 year maturity=8.25%
Next year yield of 3 year maturity=8.75%