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Essentials Of Investments
Found in: Page 398
Essentials Of Investments

Essentials Of Investments

Book edition 9th
Author(s) Zvi Bodie, Alex Kane, Alan Marcus, Alan J. Marcus
Pages 748 pages
ISBN 9780078034695

Short Answer

You have $5,000 to invest for the next year and are considering three alternatives:

a. A money market fund with an average maturity of 30 days offering a current

annualized yield of 3%.

b. A one-year savings deposit at a bank offering an interest rate of 4.5%.

c. A 20-year U.S. Treasury bond offering a yield to maturity of 6% per year.

What role does your forecast of future interest rates play in your decision?


a. Good to keep the money a for a short duration before reinvesting this after rate increase.

b. Better return than money market

c. Best for those who want to speculate on decrease in rates

See the step by step solution

Step by Step Solution

Step by Step Solution Step 1: Explanation on future forecast decision ‘a’

Since the maturity is very small i.e. 30 days, this will be good to keep the money for a very small time and reinvest when an increase in rates is foreseen. Once the rate is increased, the $5000 can be re-invested.

Step 2: Explanation of future forecast decision ‘b’

The one year saving deposit in a bank may provide a higher return and less interest rate risk exposure hence it is better than the money market unless rates rise considerably.

Step 3: Explanation of future forecast decision ‘c’

The long-term bond is best suited for those who want to speculate on the decrease in rates.

Most popular questions for Business-studies Textbooks

Use the following case in answering Problems 26 – 28:

Institutional Advisors for All Inc., or IAAI, is a consulting firm that primarily advises all types of institutions such as foundations, endowments, pension plans, and insurance companies. IAAI also provides advice to a select group of individual investors with large portfolios. One of the claims the firm makes in its advertising is that IAAI devotes considerable resources to forecasting and determining long-term trends; then it uses commonly accepted investment models to determine how these trends should affect the performance of various investments. The members of the research department

of IAAI recently reached some conclusions concerning some important macroeconomic trends. For instance, they have seen an upward trend in job creation and consumer confidence and predict that this should continue for the next few years. Other domestic leading indicators that the research department at IAAI wishes to consider are industrial production, average weekly hours in manufacturing, S&P 500 stock prices, M2 money supply, and the index of consumer expectations.

In light of the predictions for job creation and consumer confidence, the investment advisers at IAAI want to make recommendations for their clients. They use established theories that relate job creation and consumer confidence to inflation and interest rates and then incorporate the forecast movements in inflation and interest rates into established models for explaining asset prices. Their primary concern is to forecast how the trends in job creation and consumer confidence should affect bond prices and how those trends should affect stock prices.

The members of the research department at IAAI also note that stocks have been trending up in the past year, and this information is factored into the forecasts of the overall economy than they deliver. The researchers consider an upward-trending stock market a positive economic indicator in itself; however, they disagree as to the reason this should be the case.

The researchers at IAAI have forecast positive trends for both job creation and consumer confidence. Which, if either, of these trends, should have a positive effect on stock prices?


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