Question

The chapter opener noted that in​ mid-2016 you could earn an interest rate of​ 0.25% by buying a​ 3-month Treasury bill or an interest rate of​ 2.6% by buying​ 30-year Treasury bond. How is the Treasury able to find buyers for​ 3-month Treasury bills when investors could earn an interest rate 10 times as high by buying​ 30-year Treasury​ bonds? A. Treasury discounts the price of​ 3-month Treasury bills to increase yield and demand. B. The​ interest-carry-trade strategy drives the sale of​ 3-month Treasury bills. C. Investors see bonds of different maturities as being perfect substitutes for each other. D. The markets for bonds of different maturities are separate or segmented.

Answer 1

Answer:

The correct option is D,the markets for bonds of different maturities are separate or segmented

Explanation:

Market segmentation theory is of the view that market for short-term and long-term bonds are segmented from each other,wherein investors with different preferences investing in different markets.

Banks for instance are short-term position takers due to their preference for liquidity and would favor investing short-term instruments like the 3-month Treasury bill such that at every point in time, there is enough cash liquidity to meet customers' request for withdrawal of funds.

On the flip side, pension fund administrators take a long-term position on investment, hence would prefer the 30-year Treasury bill since their payment of retirement benefits is usually a low portion of their total contributions received from contributors to their pension funds.