Question #70
Reading: Reading 25 The Term Structure and Interest Rate Dynamics
PDF File: Reading 25 The Term Structure and Interest Rate Dynamics.pdf
Page: 28
Status: Unattempted
Correct Answer: A
Question
According to the pure expectations theory, how are forward rates interpreted? Forward rates are:
Answer Choices:
A. expected future spot rates
B. equal to futures rates
C. expected future spot rates if the risk premium is equal to zero
Explanation
The pure expectations theory, also referred to as the unbiased expectations theory,
purports that forward rates are solely a function of expected future spot rates. This
implies that long-term interest rates represent the geometric mean of future expected
short-term rates, nothing more.