Capital Market presentation from UMBC reporting. The struucture of rates and return. and others Capital Market presentation from UMBC reporting. The struucture of rates and return. and others Capital Market presentation from UMBC reporting. The struucture of rates and return. and others Capital Market presentation from UMBC reporting. The struucture of rates and return. and others. It will p[ublich and increase as youy pick category and add more atgs

1. STRUCTURE OF RATES OF
RETURN
ULYSSES R. SIMAN JR.

2. WHAT IS AN INTEREST RATE?
• It is the proportion of a loan that is charged as interest to the borrower or
simply, the cost of borrowing.
• It is determined by factors such as length of time to maturity, credit or
default risk, and liquidity.
• There are two common types of interest rate: simple interest rate and
compound interest rate.

3. TERM STRUCTURE OF INTEREST
RATES
• Term structure of interest rates is the relationship between interest rates or
bond yields and different terms or maturities.
• Yield curve is the graphical representation of the term structure of interest
rates. Constructing the yield curve involves measuring the length of time
maturity or the term of the instrument on the horizontal axis or x-axis
and the yield to maturity or interest rate on the vertical axis or y-axis.
• Three main types of yield curves: upward sloping, downward sloping, and
flat.

4. UPWARD SLOPING YIELD CURVE
• The long-term yields are higher than short-term yields. This is
considered to be the "normal" slope of the yield curve and signals that the
economy is in an expansionary mode.

5. DOWNWARD SLOPING YIELD CURVE
• The short-term yields are higher than long-term yields. Dubbed as an
"inverted" yield curve and signifies that the economy is in, or about to enter, a
recessive period.

6. FLAT YIELD CURVE
• There is very little variation between short and long-term yields. This
signals that the market is unsure about the future direction of the economy.

7. THEORIES OF TERM STRUCTURE
There are four basic theories related to the term structure of interest rates.
These are:
• Pure or unbiased expectations theory
• Liquidity/term premium theory
• Segmented markets theory
• Preferred habitat theory

8. PURE OR UNBIASED EXPECTATIONS
THEORY
• It attempts to predict what short-term interest rates will be in the future based
on current long-term interest rates.
• The theory suggests that an investor earns the same interest by investing in
two consecutive one-year bond investments versus investing in one two-year
bond today.
• The theory uses long-term rates, typically from government bonds, to
forecast the rate for short-term bonds. In theory, long-term rates can be used
to indicate where rates of short-term bonds will trade in the future.

9. LIQUIDITY/TERM THEORY
• The theory was introduced by John Maynard Keynes.
• The liquidity preference theory implies that investors prefer and will pay a
premium for more liquid assets.
• It explains the term structure of interest rates as a reflection of the higher rate
demanded by investors for longer-term bonds.
• According to this theory, investors have a preference for short investment
horizons and would rather not hold long term securities which would expose
them to a higher degree of interest rate risk. To convince investors to
purchase the long-term securities, issuers must offer a premium to
compensate for the increased risk.

10. SEGMENTED MARKETS THEORY
• The theory was introduced by John Mathew Culbertson.
• It states that long and short-term interest rates are not related to each other.
It also states that the prevailing interest rates for short, intermediate, and
long-term bonds should be viewed separately like items in different markets
for debt securities.
• It further asserts that the buyers and sellers who make up the market for
short-term securities have different characteristics and motivations than
buyers and sellers of intermediate and long-term maturity securities.

11. PREFERRED HABITAT THEORY
• The theory was introduced by Franco Modigliani and Richard Sutch.
• The preferred habitat theory postulates that short-term bonds and long-term
bonds are not perfect substitutes, and investors have different preferences
and are only willing to buy bonds outside of their maturity preference if risk
premia for other maturity ranges are available.
• Risk Premia- refers to the amount by which the return of a risky asset is
expected to outperform the known return on a risk-free asset.
• This theory also suggests that, if all else is equal, investors prefer to hold
shorter-term bonds in place of longer-term bonds and that is the reason why
yields on longer-term bonds should be higher than shorter-term bonds.

12. THANK YOU!!!