Cyberproblem

The Financial Environment - FRED

The yield curve is a graph of the term structure of interest rates, which is the relationship of yield and maturity for securities of similar risk. When we think of the yield curve we typically think of the Treasury yield curve as found each day in financial publications such as Wall Street Journal. The yield curve changes in both level and shape due to a variety of monetary, economic, and political factors that were discussed in Chapter 4. The Federal Reserve is a useful site for obtaining actual economic and monetary data. Along with other data, you can obtain historical interest rates at this site to construct a yield curve and analyze changes in interest rates.

To access information from the Federal Reserve, you will be using FRED (the Federal Reserve Economic Database). First, you must connect to the Federal Reserve Bank of St. Louis website, which can be found at http://www.stls.frb.org. From this web page, click on the link to FRED II ^®(Federal Reserve Economic Data), and then select "Interest Rates" from the list of database categories. On this page and those that follow, you will find links to all of the information needed for this cyberproblem. Upon finding the interest rates of interest, you will need to click on the "View Data" link to find the interest rates for the appropriate dates. As you search for data, be sure to remember that you are looking for monthly constant maturity rates.

1. Construct four distinct Treasury yield curves using monthly interest rate data for February of the years 1982, 1988, 1993, and 1998. Use the Constant Maturity Interest rates for maturities of 3-months, 6-months, 1-year, 5-years, 10-years, and 30-years.
   
   
2. Examine the yield curves you have constructed. Knowing what the components of the 3-month Treasury bill are, what could explain the large variation in the 3-month risk-free rate over the different time periods?
   
   
3. (1) Contrast the slopes of the February 1982 yield curve with that of February 1993. What do we call a yield curve that possesses the shape of the 1982 yield curve? (2) Why might the 1982 yield curve be downward sloping? What does this indicate? (3) What does the 1993 yield curve say about long-term versus short-term interest rates?
   
   
4. Contrast the yield curves of 1993 and 1998. Notice that the 1998 yield curve is almost flat, it has very little slope, while the 1993 yield curve has a very steep slope. What could account for this difference in slopes?
   
   
5. Pretend that you are an investor back in 1988, and you have no knowledge of future rates, except that information given in the yield curve. Use the yield information above to determine the expected yield on 5-year Treasury bonds five years from 1988 (or, the 5-year bond rate in 1993). Then, compare that figure to the actual 5-year bond rate in 1993. Did investors under or overestimate future inflation in 1988?