Slides 10-11 Flashcards
The four elements of the quantity demanded of an asset are ___, ___, ___ and ___.
Wealth, Expected Return, Risk and Liquidity
At lower prices, bonds must have (lower/higher) interest rates, and the quantity supplied of bonds is (lower/higher), a ___ relationship.
Higher interest rates, Qty supplied is lower, A positive relationship
The supply of bonds is a function of ___, ___, ___ and ___.
- Government Deficits: Increased budget deficits shift the supply curve to the right, 2. Alternative Cost of Financing: Internally Generated Cash Flow, Money Market Rates, Generating Funds via the Equity Market, 3. Expected Profitability: Investment opportunities, 4. Expected Inflation: An increase in expected inflation shifts the supply curve for bonds to the right
An increase in inflation shifts the bond Dx curve ___ and Sx ___, driving bond prices (up/down) and yields (up/down).
Increase in Expected Inflation, Shifts Demand Inward and Supply Out, Driving Bond Prices Down and Yields Up
The Cumulative Effect of Deficits Is a Swelling of ___.
Federal (Treasury Debt Outstanding)
Other Things Equal An Increase In Treasury Debt Outstanding Would Make Bond Prices ___, Interest Rates ___.
Bond Prices Fall, Interest Rates Rise
Even if the deficit were to fall to zero, the Treasury would have to issue new debt to ___.
Redeem maturing debt
The four types of bids are ___, ___, ___ and ___.
Competitive, Noncompetitive, Foreign International Monetary Authority (FIMA)—Noncompetitive, and System Open Market Account (SOMA) –roll over bid
If bond prices fall, stock prices (rise/fall).
Rise
The risk premium for bonds is ___.
The spread between the interest rates on bonds w/ default risk and the interest rates on T-bonds.
T-bills are (short/long) term securities maturing in ___. T-notes have a fixed maturity of ___.
Short, <1 year, Fixed maturity of not less than 1 year
If the yield curve is upward sloping, then long term rates are ___ short-term rates. If the curve is flat, then short and long term rates are ___. If the curve is inverted, then long term rates are ___ short-term.
Upward Sloping=Long-Term above Short-Term, Flat=Short&Long Term Rates are the Same, Inverted=Long-Term Rates are Below Short Term Rates
When short-term rates are low, yield curves are more likely to have a ___ slope; when short-term rates are high, yield curves are more likely to slope ___ and be ___
Upward, Slope downward and be inverted
The 3 yield curve theories are the ___, ___ and ___.
1) Expectations theory, 2) Segmented markets theory and 3) Liquidity premium theory
The Expectations theory states that the interest rate on long-term bonds will equal ___.
The average of expected short-term rates over the life of the bond. Example: Let the current rate on one-year bond be 6%. You expect the interest rate on a one-year bond to be 8% next year. Then the expected return for buying two one-year bonds averages (6% + 8%)/2 = 7%.
The interest rate on a two-year bond must be 7% for you to be willing to purchase it.
The expectations theory explains why ___ and (fact 1) why ___.
Why the term structure of interest rates changes at different times and (fact 1) why interest rates on bonds with different maturities move together over time.
The expectations theory explains why (fact 2) ___ but cannot explain why (fact 3) ___.
Why yield curves tend to slope up when short-term rates are high, but cannot explain why yield curves usually slope upward
The segmented markets theory claims that bond of different maturities are not ___, and that the interest rate for each bond is determined by ___.
Are not substitutes at all, determined by the demand for and supply of that bond.
An assumption of the segmented markets theory is that investors have preferences for ___, and that yield curves usually slope upward because investors have ___ holding periods and generally prefer bonds with ___ maturities that have ___ interest rate risk.
Investors have preferences for bonds of one maturity over another, Investors have short desired holding periods, prefer bonds with shorter maturities that have less interest-rate risk
The liquidity premium theory states that the interest rate on a long-term bond will equal ___ of short-term rates expected to occur over the life of the bond plus a ___ that responds to supply and demand conditions for that bond.
Will equal an average of, Plus a liquidity premium
An assumption of the liquidity premium theory is that bonds of different maturities are ___.
Are substitutes but not perfect substitutes.
The preferred habitat theory is that investors have a ___ for bonds of one maturity over another, and that they are likely to prefer ___ bonds over ___ bonds.
Have a preference, prefer short term bonds over longer term bonds
The preferred habitat theory states that investors would be willing to buy bonds of different maturities only if they ___.
Can earn a somewhat higher expected return
Operation Twist in 1961 was an ___ type of policy aimed at ___ aggregate demand, and a ___ type of policy aimed at ___ aggregate demand (thereby reducing demand for ___).
An expansionary policy to increase aggregate demand, and a contradictory policy aimed at reducing aggregate demand (reducing demand for imports/for BoP deficit).
Operation Twist was engaged by buying ___ and selling ___. The Treasury thus issued more ___ and less ___, inducing (higher/lower) short term rates in support of the BoP.
Buying longer-term securities, and selling short-term securities, The Treasury issued more bills and less longer-term securities thereby inducing higher short-term rates.
When the coupon bond is priced at its face value, the YTM equals ___.
The coupon rate
The price of a coupon bond and the YTM are ___ related.
Negatively
If the YTM is greater than the coupon rate, then the bond is priced ___ face value or par.
Priced below
The more distant a bond’s maturity, the (lower/higher) the rate of return that occurs as a result of the interest rate.
The lower
The security with the larger Duration provides the (larger/smaller) percentage change in price for a given change in yield.
The larger
