Question #18
Reading: Reading 26 The Arbitrage-Free Valuation Framework
PDF File: Reading 26 The Arbitrage-Free Valuation Framework.pdf
Page: 9
Status: Incorrect
Correct Answer: A
Your Answer: B
Question
Jill Sebelius, editor-in-chief of a monthly interest-rate newsletter uses the following model to forecast short-term interest rates: For the current newsletter, Sebelius has issued the following expectations: a=0.40, b = 3%, r = 2%. Based on Sebelius's estimates, over a sufficiently long period of time, the expected value of the short-term interest rate is closest to:
Answer Choices:
A. 3%
B. 2.4%
C. 2%
Explanation
The long-term expected value of short-term rates is the mean reverting level (b) estimated
by Sebelius to be 3%.