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Money, Banking, and Financial Markets Practice Test: Risk and Term Structure of Interest Rates
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The risk and term structure of interest rates is the relationship between the interest rates of bonds with different varieties but similar maturity structures. The risk structure, also known as the risk premium, explains the probability of a borrower being able to service their debts. The term structure of interest rates is the market interest rates on bonds with different lengths of time to maturity but with the same or similar risk.  The risk structure of interest rates is made up of three main components that affect interest rates: Default, Liquidity, and Taxes.  The risk structure of... Show more
Money, Banking, and Financial Markets Practice Test: Risk and Term Structure of Interest Rates
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25 Questions

1. In actual practice, short-term interest rates and long-term interest rates usually move together; this is the major shortcoming of the
2. An inverted yield curve
3. The preferred habitat theory of the term structure is closely related to the
4. An increase in the liquidity of corporate bonds will ________ the price of corporate bonds and________ the yield of Treasury bonds, everything else held constant.
5. The segmented markets theory can explain
6. An increase in the riskiness of corporate bonds will ________ the price of corporate bonds and________ the price of Treasury bonds, everything else held constant.
7. If 1-year interest rates for the next three years are expected to be 4, 2, and 3 percent, and the-year term premium is 1 percent, than the 3-year bond rate will be
8. If the probability of a bond default increases because corporations begin to suffer large losses, then the default risk on corporate bonds will ________ and the expected return on these bonds will ________, everything else held constant.
9. An increase in default risk on corporate bonds ________ the demand for these bonds, but________ the demand for default-free bonds, everything else held constant.
10. During a ʺflight to qualityʺ
11. According to the expectations theory of the term structure
12. If a corporation begins to suffer large losses, then the default risk on the corporate bond will
13. The U-shaped yield curve in the figure above indicates that the inflation rate is expected to
14. As default risk increases, the expected return on corporate bonds ________, and the return becomes ________ uncertain, everything else held constant.
15. The collapse of the subprime mortgage market increased the spread between Baa and default-free U.S. Treasury bonds. This is due to
16. The mound-shaped yield curve in the figure above indicates that short-term interest rates are expected to
17. According to the liquidity premium theory of the term structure, a downward sloping yield curve indicates that short-term interest rates are expected to
18. If you have a very low tolerance for risk, which of the following bonds would you be least likely to hold in your portfolio?
19. Which of the following statements are true?
20. Which of the following bonds would have the highest default risk?
21. The Bush tax cut reduced the top income tax bracket from 39% to 35% over a ten -year period. Supply and demand analysis predicts the impact of this change was a ________ interest rate on municipal bonds and a ________ interest rate on Treasury bonds.
22. When short-term interest rates are expected to fall sharply in the future, the yield curve will
23. Typically, yield curves are
24. A key assumption in the segmented markets theory is that bonds of different maturities
25. A decrease in the liquidity of corporate bonds, other things being equal, shifts the demand curve for corporate bonds to the ________ and the demand curve for Treasury bonds shifts to the________.

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