Term Structure of Interest Rates. For 9.220, Term 1, 2002/03 02_Lecture7.ppt. Outline. Introduction Term Structure Definitions Pure Expectations Theory Liquidity Premium Theory Interpreting the term structure Projecting future bond prices Summary and Conclusions. Introduction.
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Term Structure of Interest Rates
For 9.220, Term 1, 2002/03
The term structure of interest rates is the relation between different interest rates for different term-to-maturity loans.
If we observe r1 = 8%,
r2 = 9%, r3 = 9.5%,
r4 = 9.75% and
r5 = 9.875% then the current term structure of interest rates is represented by plotting these “spot rates” against their terms-to-maturity.
The curve plotted through the above points is also called the “yield curve”
1 + fn = (1+rn)n / (1+rn-1)n-1
1+n-tfn = [(1+rn)n / (1+rn-t)n-t]1/t