Question

According to the liquidity preference theory of the term structure of interest rates, an increase in the yield on long-term corporate bonds versus short-term bonds could be due to _______.
a) declining liquidity premiums
b) an expectation of an upcoming recession
c) a decline in future inflation expectations
d) an increase in expected interest rate volatility

Answer 1

Answer: Option D    

     

Explanation: In simple words, The theory of liquidity preference is a hypothesis that indicates that an investor will demand a higher interest rate or premium on long-term bonds with higher risk because, with all other factors being equal, investors prefer money or other highly liquid capital over other fixed securities.

This phenomenon occurs due to the fact that the interest rate in the market fluctuates heavily on daily basis due to it dependence on various different factors one of which is durability.

Hence from the above we can conclude that the correct option is D .