3) If the yield curve is downward sloping, which of the following statements is

Question

3) If the yield curve is downward sloping, which of the following statements is correct? (hint: graph the yield curves for a T- bond, a AAA bond, and a B bond)

a) The yield on the 10-year T-bond must be less than the yield on a 2-year T-bond.

b) The yield on the 5-year T-bond must exceed the yield on the 10-year AAA corporate bond.

c) The yield on the 5-year AAA corporate bond must exceed the yield on 5-year B corporate bond.

d) The yield on the 5-year AAA corporate bond must be lower the yield on the 5-year T-bond.

e) The yield on the 5-year T-bond must exceed the yield on the 5-year AAA corporate bond.

Explanation / Answer

Yield curve represents different interest rates at different point of time. Year is taken on horizontal axis and interest rates are taken on vertical axis. Then the line graph is constructed by joining the points on the graph. Since it is mention that the yield curve is downward sloping thus this means that interest rate in earlier years is more than interest rate in later years. Thus, the correct option is Option A, The yield on the 10-year T-bond must be less than the yield on a 2-year T-bond.

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