The term structure for zero-coupon bonds is currently:

Maturity (Years)

YTM (%)

1

4.9%

2

5.9

3

6.9

Next year at this time, you expect it to be:

Maturity (Years)

YTM (%)

1

5.9%

2

6.9

3

7.9

a.

What do you expect the rate of return to be over the coming year on a 3-year zero-coupon bond?

b.

Under the expectations theory, what yields to maturity does the market expect to observe on 1- and 2-year zeros at the end of the year?

c.

Is the market's expectation of the return on the 3-year bond greater or less than yours?