TRADING CASE B06
Private information and the term structure
LEARNING OBJECTIVE
Apply informational-efficiency ideas when traders receive different information about future short-term rates.
KEY CONCEPTS
Term structure | Private information | Market efficiency | Expectations
HOW THE CASE WORKS
The three bonds, monthly trading schedule, and interest-rate tree are the same as in B05. The difference is that traders may receive private information about the next change in the one-month spot rate.
BOND PAYMENTS
| Bond | Month 1 | Month 2 | Month 3 |
|---|---|---|---|
| GKO-1 | 100 | 0 | 0 |
| GKO-2 | 0 | 100 | 0 |
| GKO-3 | 0 | 0 | 100 |
INTEREST RATES
The first one-month rate is 6.5% (not annualized). Future rates follow the B05 tree. At each step, the rate can make a high (x), middle (y), or low (z) move.
TRADING RULES
- A message such as 'Not y' rules out one possible next rate move.
- Private messages are assigned so the market together knows more than one trader.
- Borrowing and short selling are allowed.
- Students set prices by entering bids and asks.
AFTER TRADING CLOSES
The realized one-month rate is applied to closing cash.
Any bond maturing that month pays 100.
The next month's market opens and new information may arrive.
PERFORMANCE: Trading bonus (grade cash) per trial = 0.0001 x closing market cash. Positive wealth adds grade cash; negative wealth subtracts it. Results accumulate across independent trials.