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Unformatted text preview: Nominal Yields are made up of 3 components:-Rea! Risk Free Rate-Expected Inflation- Yield Spread - Compensation for Risk The rea! risk free rate is not constant and depends on the state of the economy Inflation depends on the state of the economy Expected loss (EL) and risk premia depend on the state of the economy. Regression Approach Forecasl yield (y) with lagged variables E)(p/flin yield (y) with concurrent variables What are the benefits end drawbacks for each? 2 Levels or Changes? We are ultimately interested in changes in yields, ie returns. Forecasting levels is easier, but should be focused on changes. Can use previous 2 methods and replace levels with % change in each variable....
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- Fall '11