Question: Assume the yield to maturity on a one year zero coupon bond is eight percent. The yield to maturity on a two year zero coupon bond is ten percent. Answer the given questions [use semiannual compounding]:
[A] According to the Expectations Hypothesis, determine the expected one-year rate in the market place for year 2?
[B] Consider a one-year investor who expects the yield to maturity on a one-year bond to equal 6 percent next year. How should this investor arrange his or her portfolio today? Suppose 100 dollar face value for the above bonds.
[C] If all investors behave like the investor in [b], what will happen to the equilibrium term structure according to the Expectations Hypothesis?