Duration Matching immunization 15-2 - UNIVERSITY OF...

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UNIVERSITY OF ILLINOIS College of Business - Department of Finance Finance 300 (Financial Markets) Duration Matching & Immunization A yield curve provides a snapshot of the relationship of long-term and short-term bond interest rates at a particular point in time. Historically, investment analysts and economists have also used yield curves to forecast the outlook for the securities markets and the economy in general. The shape of the yield curve gives indications of investors’ analysis of future economic and market conditions. There are three general shapes to the yield curve: positive, flat, and negative. A positive curve sloping upward to the right — also known as a normal yield curve — indicates that interest rates are higher as the maturities of equivalent bonds lengthen. Analysts have traditionally considered a positive curve a sign of a healthy and expanding economy. A flat yield curve may reflect widespread uncertainty about the future of interest rates and the economy as a whole. Negative yield curves may emerge when the market anticipates a deteriorating economic situation accompanied by falling interest rates. Changes in investor expectations about future economic conditions and the fixed income market exposes fixed income investors to risk due to changing prices and yields of debt securities. There are two main theories for interpreting the economic and social forces that shape the yield curve — the Expectations Theory and the Liquidity Preference Theory. There is also a minor theory related to the segmented supply and demand
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