Investment Theory
COMM 371
Lecture IV : Part I
Yield to Maturity and Term Structure of Interest Rate
Dr. Farid Novin

Investment Theory, COMM 371, Dr. Farid Novin
Lecture 4: part I
Outline
•
Why Should Investors Pay Attention to the Yield Curve?
•
Theories of the Term Structure of Interest Rates
•
Expectations theory,
•
Liquidity preference theory
•
The market segmentation theory
•
The preferred habitat theory
•
The Expectations Theory and the Yield Curve
•
Deriving Spot Rates
•
Bond Valuation Using Zero-Coupon Bonds
•
No Arbitrage and The Law of One Price
•
Synthetic Replication of portfolio
•
Bootstrapping

Investment Theory, COMM 371, Dr. Farid Novin
The term structure of interest rates
•
The term structure of interest rates measures the
relationship among the yields on default-free
securities that differ only in their terms to maturity.
•
This relationship between the terms of securities and
their market rates of interest is known as the yield
curve.
•
The yield curve displays the term structure of interest
rates on securities at a particular point in time.

Investment Theory, COMM 371, Dr. Farid Novin
Why Should Investors Pay Attention to the Yield Curve?

Investment Theory, COMM 371, Dr. Farid Novin
Theories of the Term Structure of Interest Rates
•
By offering a complete
schedule of interest rates
across time, the term structure embodies the market's
anticipation of future events .
•
An explanation of the term structure provides a way
to extract this information and to predict how changes
in the underlying variables will affect the yield curve.

Investment Theory, COMM 371, Dr. Farid Novin
Theories of the Term Structure of Interest Rates
•
Economists have offered different theories
about the
determinants of the shape of the yield curve.
I.
Expectations theory,
II.
Liquidity preference theory
III.
The market segmentation theory
IV.
The preferred habitat theory