Economics: Yield Curve
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Questions and Answers

What does an upward-sloping yield curve typically suggest?

  • Recession in the future.
  • Stronger economic growth and potentially higher inflation in the future. (correct)
  • Slower economic growth and potentially lower inflation in the future.
  • No change in economic growth and inflation in the future.

    • What is the relationship between a bond's price and yield according to the duration property?

  • If yields increase, price increases.
  • If yields increase, price decreases. (correct)
  • If yields decrease, price increases.
  • If yields decrease, price decreases.

    • What can be inferred from an inverted yield curve?

  • Investors expect interest rates to rise in the future.
  • Investors expect stronger economic growth and potentially higher inflation in the future.
  • Investors expect slower economic growth or a recession in the future. (correct)
  • Investors expect no change in economic growth and inflation in the future.

    • What is the relationship between Dmac and TTM?

    <p>The higher the TTM, the higher the Dmac.</p> Signup and view all the answers

    What is the relationship between Dmac and YTM?

    <p>The higher the YTM, the lower the Dmac.</p> Signup and view all the answers

    What can be said about the convexity of a bond?

    <p>It captures the non-linear relationship between a bond's price and yield.</p> Signup and view all the answers

    What is the relationship between Dmac and Coupons?

    <p>The higher the Coupons, the lower the Dmac.</p> Signup and view all the answers

    What is true about the properties of Dmac?

    <p>Dmac is higher for bonds with lower Crate and YTM.</p> Signup and view all the answers

    Which of the following statements is true about an upward-sloping yield curve?

    <p>It indicates that market participants expect interest rates to rise in the future.</p> Signup and view all the answers

    Which of the following bonds will have a higher duration?

    <p>A 20-year bond with a coupon rate of 5% and a YTM of 6%</p> Signup and view all the answers

    What is the effect of an increase in yields on a bond's price?

    <p>The bond's price decreases.</p> Signup and view all the answers

    Which of the following statements is true about the convexity of a bond?

    <p>It captures the non-linear relationship between a bond's price and yield.</p> Signup and view all the answers

    Which of the following bonds will have a lower Dmac?

    <p>A 10-year bond with a coupon rate of 7% and a YTM of 6%</p> Signup and view all the answers

    What is the relationship between a bond's duration and its sensitivity to changes in interest rates?

    <p>The higher the duration, the higher the sensitivity to changes in interest rates.</p> Signup and view all the answers

    Which of the following statements is true about an inverted yield curve?

    <p>It suggests that investors expect lower inflation and slower economic growth in the future.</p> Signup and view all the answers

    Which of the following bonds will have a higher Dmac?

    <p>A 10-year bond with a coupon rate of 5% and a YTM of 5%</p> Signup and view all the answers

    What is the effect of a decrease in yields on a bond's price?

    <p>The bond's price increases.</p> Signup and view all the answers

    Which of the following statements is true about the relationship between a bond's duration and its maturity?

    <p>The higher the maturity, the higher the duration.</p> Signup and view all the answers

    What is the primary reason why investors demand higher yields for long-term bonds in an upward-sloping yield curve?

    <p>Because they expect stronger economic growth and potentially higher inflation in the future</p> Signup and view all the answers

    What is the impact of an increase in yields on a bond's duration?

    <p>It decreases the duration</p> Signup and view all the answers

    Which of the following statements is true about the relationship between Dmac and Coupons?

    <p>There is an inverse relationship between Dmac and Coupons</p> Signup and view all the answers

    What is the purpose of convexity in bond analysis?

    <p>To capture the non-linear relationship between a bond's price and yield</p> Signup and view all the answers

    What is the impact of a decrease in yields on a bond's price?

    <p>It increases the price of the bond</p> Signup and view all the answers

    What is the primary difference between an upward-sloping and an inverted yield curve?

    <p>The expectations of market participants about future economic growth</p> Signup and view all the answers

    What is the relationship between Dmac and YTM, all else being equal?

    <p>There is an inverse relationship between Dmac and YTM</p> Signup and view all the answers

    What is the primary purpose of using duration in bond analysis?

    <p>To measure the sensitivity of a bond's price to changes in interest rates</p> Signup and view all the answers

    What is the impact of an increase in TTM on a bond's Dmac, all else being equal?

    <p>It increases the Dmac</p> Signup and view all the answers

    What is the primary difference between duration and convexity in bond analysis?

    <p>Duration measures linear relationships, while convexity measures non-linear relationships</p> Signup and view all the answers

    Study Notes

    Yield Curve

    • An upward-sloping yield curve exists when short-term yields are lower than long-term yields, indicating expectations of stronger economic growth and higher inflation in the future.
    • Long-term bonds have higher yields compared to short-term bonds in an upward-sloping yield curve, as investors demand higher returns for taking on higher uncertainty and inflation risk.

    Inverted Yield Curve

    • An inverted yield curve exists when short-term bonds have higher yields compared to long-term bonds, indicating expectations of slower economic growth or a recession in the future.
    • Investors prefer long-term bonds in an inverted yield curve, as they expect interest rates to fall and want to lock in current yields.

    Duration

    • Duration measures a bond's sensitivity to changes in interest rates (yields), with higher duration indicating higher price risk.
    • Duration increases as Time to Maturity (TTM) increases, exposing the bond to higher price risk.
    • Duration is lower for bonds with higher coupon rates or yields.

    Macaulay Duration (Dmac)

    • Dmac is a measure of a bond's sensitivity to changes in interest rates, related to its time to maturity.
    • Dmac is higher for bonds with lower coupon rates or yields, and shorter TTM.
    • Dmac is less than or equal to TTM.

    Convexity

    • Convexity measures the non-linear relationship between a bond's price and yield, accounting for the curvature of the price-yield relationship.
    • Convexity is higher for bonds with lower coupon rates or yields, and higher TTM.
    • Convexity helps estimate price changes in response to interest rate movements, with higher convexity resulting in less price change when yields increase and more price change when yields decrease.

    Yield Curve

    • An upward-sloping yield curve exists when short-term yields are lower than long-term yields, indicating expectations of stronger economic growth and higher inflation in the future.
    • Long-term bonds have higher yields compared to short-term bonds in an upward-sloping yield curve, as investors demand higher returns for taking on higher uncertainty and inflation risk.

    Inverted Yield Curve

    • An inverted yield curve exists when short-term bonds have higher yields compared to long-term bonds, indicating expectations of slower economic growth or a recession in the future.
    • Investors prefer long-term bonds in an inverted yield curve, as they expect interest rates to fall and want to lock in current yields.

    Duration

    • Duration measures a bond's sensitivity to changes in interest rates (yields), with higher duration indicating higher price risk.
    • Duration increases as Time to Maturity (TTM) increases, exposing the bond to higher price risk.
    • Duration is lower for bonds with higher coupon rates or yields.

    Macaulay Duration (Dmac)

    • Dmac is a measure of a bond's sensitivity to changes in interest rates, related to its time to maturity.
    • Dmac is higher for bonds with lower coupon rates or yields, and shorter TTM.
    • Dmac is less than or equal to TTM.

    Convexity

    • Convexity measures the non-linear relationship between a bond's price and yield, accounting for the curvature of the price-yield relationship.
    • Convexity is higher for bonds with lower coupon rates or yields, and higher TTM.
    • Convexity helps estimate price changes in response to interest rate movements, with higher convexity resulting in less price change when yields increase and more price change when yields decrease.

    Yield Curve

    • An upward-sloping yield curve exists when short-term yields are lower than long-term yields, indicating expectations of stronger economic growth and higher inflation in the future.
    • Long-term bonds have higher yields compared to short-term bonds in an upward-sloping yield curve, as investors demand higher returns for taking on higher uncertainty and inflation risk.

    Inverted Yield Curve

    • An inverted yield curve exists when short-term bonds have higher yields compared to long-term bonds, indicating expectations of slower economic growth or a recession in the future.
    • Investors prefer long-term bonds in an inverted yield curve, as they expect interest rates to fall and want to lock in current yields.

    Duration

    • Duration measures a bond's sensitivity to changes in interest rates (yields), with higher duration indicating higher price risk.
    • Duration increases as Time to Maturity (TTM) increases, exposing the bond to higher price risk.
    • Duration is lower for bonds with higher coupon rates or yields.

    Macaulay Duration (Dmac)

    • Dmac is a measure of a bond's sensitivity to changes in interest rates, related to its time to maturity.
    • Dmac is higher for bonds with lower coupon rates or yields, and shorter TTM.
    • Dmac is less than or equal to TTM.

    Convexity

    • Convexity measures the non-linear relationship between a bond's price and yield, accounting for the curvature of the price-yield relationship.
    • Convexity is higher for bonds with lower coupon rates or yields, and higher TTM.
    • Convexity helps estimate price changes in response to interest rate movements, with higher convexity resulting in less price change when yields increase and more price change when yields decrease.

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    Understand the characteristics of an upward-sloping yield curve, including the relationship between short-term and long-term yields, and the implications for economic growth and inflation.

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