The Wall Street Journal reports that the current rate on 5-year Treasury bonds is 2.20 percent and on 10-year Treasury bonds is 4.05 percent. Assume that the maturity risk premium is zero. Calculate the expected rate on a 5-year Treasury bond purchased five years from today, E (5r5). (Do not round intermediate calculations. Round your answer to 2 decimal places.)

E (5r5) = 0.06

Explanation:

The expected rate (which is the the projected return on a monetary investment) on the treasury bonds at 4.05% can be calculated as seen below:

Rate on 5-year Treasury Bonds, E (r5) = 2.20%

Rate on 10-year Treasury Bonds, E (r10) = 4.05%

(1 + E (r5)) ^5 * (1 + E (5r5)) ^5 = (1 + E (r10)) ^10

1.0220^5 * (1 + E (5r5)) ^5 = 1.0405^10

1.11495 * (1 + E (5r5)) ^5 = 1.48738

(1 + E (5r5)) ^5 = 1.33403

1 + E (5r5) = 1.05933

E (5r5) = 0.05933

E (5r5) = 0.06