College Finance

1.A recent edition of The Wall Street Journal reported interest rates of 10.75 percent, 11.10 percent, 11.48 percent, and 11.75 percent for 3-, 4-, 5-, and 6-year Treasury security yields, respectively. According to the unbiased expectation theory of the term structure of interest rates, what are the expected 1-year forward rates for years 4, 5, and 6? (Do not round intermediate calculations and round your answers to 2 decimal places.)

2. The Wall Street Journal reports that the current rate on 5-year Treasury bonds is 2.50 percent and on 10-year Treasury bonds is 4.65 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(5r5). (Do not round intermediate calculations and round your answer to 2 decimal places.)

3. Nikki G’s Corporation’s 10-year bonds are currently yielding a return of 6.75 percent. The expected inflation premium is 1.15 percent annually and the real interest rate is expected to be 2.50 percent annually over the next ten years. The liquidity risk premium on Nikki G’s bonds is 0.25 percent. The maturity risk premium is 0.10 percent on 4-year securities and increases by 0.06 percent for each additional year to maturity. Calculate the default risk premium on Nikki G’s 10-year bonds. (Round your answer to 2 decimal places.)

4.A 2-year Treasury security currently earns 1.71 percent. Over the next two years, the real interest rate is expected to be 1.00 percent per year and the inflation premium is expected to be 0.45 percent per year. Calculate the maturity risk premium on the 2-year Treasury security. (Round your answer to 2 decimal places.)

5. The Wall Street Journal reports that the rate on 2-year Treasury securities is 2.10 percent and the rate on 4-year Treasury securities is 3.05 percent. According to the unbiased expectations hypothesis, what does the market expect the 2-year Treasury rate to be two years from today, E(2r2)? (Do not round intermediate calculations and round your answer to 2 decimal places.)

6. One-year Treasury bills currently earn 1.50 percent. You expect that one year from now, 1-year Treasury bill rates will increase to 1.70 percent. If the unbiased expectations theory is correct, what should the current rate be on 2-year Treasury securities? (Round your answer to 2 decimal places.)

7. The Wall Street Journal reports that the rate on 5-year Treasury securities is 1.80 percent and the rate on 6-year Treasury securities is 2.35 percent. According to the unbiased expectations hypotheses, what does the market expect the 1-year Treasury rate to be five years from today, E(6r1)? (Do not round intermediate calculations and round your answer to 2 decimal places.)

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  1. I am not going to solve all the problems, since it is all the same thing with different numbers.I will solve number 5:

    {(1.0305)^4) / (1+0.0210)^2)}^0.50) -1

    Answer: 4% Market expected rate.

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  2. Number 1:

    1 + 1R4 = {(1 + 1R3)(1 + 4f1)}1/4
    1.111 = {(1.1075)3(1 + 4f1)}1/4
    (1.111)4 = (1.1075)3(1 + 4f1))
    (1.111)4 / (1.1075)3 = 1 + 4f1
    1 + 4f1 = 1.12157
    4f1 = 12.16%

    1 + 1R5 = {(1 + 1R4)4(1 + 5f1)}1/5
    1.1148 = {(1.111)4(1 + 5f1)}1/5
    (1.1148)5 = (1.111)4(1 + 5f1)
    (1.1148)5 / (1.111)4 = 1+5f1
    1 + 5f1 = 1.13013
    5f1 = 13.01%

    1 + 1R6 = {(1 + 1R5)5(1 + 6f1)}1/6
    1.1175 = {(1.1148)5(1 + 6f1)}1/6
    (1.1175)6 = (1.1148)5(1 + 6f1)
    (1.1175)6 / (1.1148)5 = 1 + 6f1
    1 + 6f1 = 1.13110
    6f1 = 13.11%

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