The term structure for zero coupon bonds is currently:
|
Maturity (Years) |
YTM |
|
1 |
4% |
|
2 |
5 |
|
3 |
6 |
Next year at this time, you expect it to be:
|
Maturity (Years) |
YTM |
|
1 |
5% |
|
2 |
6 |
|
3 |
7 |
a. What do you expect the rate of return to be over the coming year on a 3 year zero coupon bond?
b. Under the expectations theory, what yields to maturity does the market expect to observe on 1 and 2 year zeros next year? Is the market’s expectation of the return on the 3 year bond greater or less than yours?