What Is the One-Year Forward Rate in Year 2 for Government Bonds?

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Discussion Overview

The discussion revolves around calculating the one-year forward rate in year 2 for government bonds based on given yields. Participants explore the implications of the term structure of interest rates and engage with a specific problem related to bond yields and forward rates.

Discussion Character

  • Homework-related
  • Mathematical reasoning

Main Points Raised

  • One participant presents a problem involving the yields of government bonds and asks for help in calculating the expected return and the one-year forward rate.
  • Another participant requests that the original poster show their work to avoid deletion of the post.
  • A different participant humorously comments on the option to choose "I choose not to answer," suggesting it could be a valid response.
  • One participant proposes a calculation for the forward rate, assuming annual compounding, and provides a formula involving the yields for years 1, 2, and 3.
  • The same participant offers an alternative method to derive the forward rate using equations based on the yields.

Areas of Agreement / Disagreement

Participants do not reach a consensus on the correct answer to the forward rate question, and multiple approaches to the problem are presented without resolution.

Contextual Notes

Participants assume annual compounding for the calculations, but there may be limitations in the assumptions made regarding the term structure and the methods used to derive the forward rate.

Who May Find This Useful

Students or individuals studying finance, particularly those interested in bond yields and forward rate calculations, may find this discussion relevant.

monsmatglad
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hi. i have a problem. it's task 13. please help =)

12. Based on information about the yields of government bonds you have the
following term structure:
Time to maturity 1 year 2 years 3 years 4 years
Yield 5% 8% 9% 8%
What is the expected return on the bond if you buy it at time t=0 and sell it at
time t=4?
(a) 7.0%
(b) 8.0%
(c) 10.0%
(d) 11.0%
(e) I choose not to answer.


13. Based on the information given in question 12, what is the one-year forward rate
in year 2?
(a) 7.0%
(b) 8.0%
(c) 10.0%
(d) 11.0%
(e) I choose not to answer
 
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They actually let you choose "I choose not to answer"? I would always choose that and then argue that it is clearly the correct answer!
 
Well, assuming these are annual compound rates:

d. 11%

[1.09]^3/[1.08]^2-1=0.11028

But if you want, you can take the long way:

1. [0.05+x]/2=0.08
2. [0.05+x+y]/3=0.09

*where x is the one-yr forward rate after year 1
and y is your answer
 

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