Expectations theory of the term structure
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I am considering a 1 yr bond that has a current interest rate of 8 percent, the current rate on a 2-year bond is 10 percent, and the current rate on a 3-year bond is 12 percent. If the expectations theory of the term structure is correct, showing the computation what is the 1-year interest rate expected during Year 3?
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The expert calculates expected interest rate using expectations theory of the term structure.
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3 yr interest rate = 12%
2 yr interest rate = 10%
expected 1 yr interest rate in yr 3 = ((1+12%)^3 / (1+10%)^2)-1= 16.11%
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