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Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977
Textbook Problem

EXPECTATIONS THEORY One-year Treasury securities yield 5%. The market anticipates that 1 year from now, 1-year Treasury securities will yield 6%. If the pure expectations theory is correct, what is the yield today for 2-year Treasury securities? Calculate the yield using a geometric average.

Summary Introduction

To identify: The yield of 2-year treasury securities today.

Expectation Theory:

Expectation theory estimates the future interest without taking the maturity risk into consideration. According to the expectation theory, the yield curve of investment totally depends upon the future expectation of investors.

Explanation

Solution:

Given,

Treasury securities yield for 1st year is 5% or 0.05.

Treasury securities yield for 2nd year is 6% or 0.06.

Formula to calculate the yield of 2-year treasury securities today,

((1+Yieldtodayfor2-yearTreasurySecurities)2)=((1+Yieldof1-yearTreasurySecurities)×(1+Yieldof2-yearTreasurySecurities))

Substitute 0

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