Chapter 8 · Mission 5 · 1977–1986
Interest rates and bonds
The central bank (in the US, the Federal Reserve) sets short-term interest rates. It raises them to cool inflation and cuts them to support the economy.
Goes with Mission 5: Interest rates and bonds.
The idea
In short
- 1The central bank (in the US, the Federal Reserve) sets short-term interest rates. It raises them to cool inflation and cuts them to support the economy.
- 2Bond prices move opposite to interest rates. When rates rise, existing bonds with lower coupons are worth less; when rates fall, they are worth more.
- 3Duration: the longer a bond, the more its price moves when rates change. A 10-year bond moves much more than a 3-month T-bill.
- 4The money market follows rates almost immediately, so it gains when rates rise and loses appeal when they fall.
- 5Locking in a high rate: buying a long bond when rates are very high gives you that rate for years, and a price gain if rates later fall.
In the data
What history shows
The 10-year US government bond yield, 1928–1949
Real data, January 1928 to December 1949: years before any mission, so nothing is given away. Monthly returns from Robert Shiller and Aswath Damodaran.
Real figures
The numbers
Finish missions 2, 4 and 5 to see these real figures.
Finish missions 4 and 5 to see these real figures.
Remember
Takeaways
Finish missions 2 and 5 to see the takeaways.
Practice, not scored
Quiz
1. The central bank raises rates. What happens to the price of a 10-year bond you own?
Finish missions 2 and 5 to see this question.
Finish Mission 4 to see this question.