In mid-2019, Herbert Avocado come up with an idea for a new type of financial intermediary, which was designed to take advantage of the opportunity presented by an inverted yield curve (i.e., downward sloping yield curve), such as the one that existed in 1981 or between 2007-2009 (Great Recession) when one-year bonds were yielding higher than 30-year bonds. When the yield curve becomes inverted, Avocado's firm is going to issue long-term bonds and uses the proceeds to buy one- year instruments that have higher yields and are less risky. 

Due to COVID-19 pandemic, the yield curve became inverted in early 2020. As such in early 2020, Avocado exercised his strategy; that is, he issued long-term bonds and used the proceeds to buy one- year instruments. 

In the last few weeks as a result of the discovery of COVID-19 vaccines, it is expected that majority of population in Canada and the US gets vaccinated by mid-2021 and the North American and world economies start to recover going forward. 

a. What would be the shape of the yield curve going forward? Why? 

b. What do you think of his plan, assuming that the yield curve is flattening and becoming upward slopping? Is Avocado going to make money and profit? Why? Explain in detail. 

c. How would your answer to Part b change, if it is known that the just-discovered vaccines are not effective at all and the pandemic is going to get much worse?

Answer rating: 100% (QA)

Yield Curve Yield is the return that can be generated from some investments or activities Yield curve is one that depicts the return that is created from bonds that has different maturity period This ... View the full answer